What is the investment value of Occidental Petroleum, which Buffett is optimistic about

Warren Buffett's investment in Occidental Petroleum began amidst a fierce acquisition battle in 2019. When Vicki Hollub, the CEO of Occidental Petroleum, faced Chevron's rival offer of $33 billion, she decisively traveled to Omaha to seek support from "the Oracle of Omaha," Warren Buffett. Buffett saw the business opportunity and generously invested $10 billion to aid Occidental's bid of $38 billion to acquire Anadarko. This strategic move granted Berkshire Hathaway not only substantial returns—a $10 billion worth of preferred stock with an 8% fixed dividend—but also warrants to purchase 80 million common shares, thus marking the beginning of Buffett's investment in Occidental Petroleum.

Given Futu Research's focus on discovering profitable opportunities, this article will explore Occidental Petroleum's current investment value from two perspectives:

1. The logic behind Buffett's investment in Occidental Petroleum;

2. Occidental Petroleum's current financial status, valuation, and investment opportunities;

**I. Buffett's Logic Behind Investing in Occidental Petroleum**

In the full text of Buffett's letter to shareholders where Occidental Petroleum is mentioned, we can distill the logic of his investment by breaking it down into parts:

1. Although Berkshire Hathaway greatly appreciates its ownership and options, it has no intention to acquire or manage Occidental Petroleum. We are particularly optimistic about Occidental's vast oil and gas assets in the United States and its leading position in carbon capture technology, despite the economic feasibility of the latter being yet to be fully validated. Both activities align well with our national interests. Not long ago, the US was heavily dependent on foreign oil, and there were few significant proponents for carbon capture technology.

Logic 1: Sufficient hydrocarbon reserves + advanced carbon capture technology;

2. In fact, in 1975, US oil production stood at 8 million barrels of oil equivalent per day (BOEPD), which fell far short of domestic demand. America's energy situation, once advantageous during World War II, had deteriorated, leaving the country heavily reliant on potentially unstable foreign suppliers. It was predicted that oil production could further decline alongside increasing future usage.

Logic 2: Long-term tight supply-demand relationship for oil;

3. For a considerable period, this pessimistic outlook seemed accurate, reaching a low of 5 million barrels/day by 2007. Concurrently, the US government established the Strategic Petroleum Reserve (SPR) in 1975 to mitigate the erosion of self-sufficiency, although this did not entirely resolve the issue. Hallelujah! Shale economics became viable in 2011, ending our dependence on energy. Today, US oil production exceeds 13 million barrels/day, rendering OPEC less dominant. Annual oil production by Occidental in the US alone approximates the entire inventory of SPR. Had the US continued producing merely 5 million barrels/day and remained heavily dependent on non-US oil sources, the country's resources would now be extremely strained; under such circumstances, the SPR would likely be depleted within months if foreign oil supplies were disrupted.

Logic 3: Breakthrough in shale oil technology;

4. Under the leadership of Vicki Hollub, President and CEO of Occidental Petroleum, the company is doing the right things for both the US and its shareholders. No one knows how oil prices will fluctuate over the next month, year, or decade. However, Vicki possesses the extraordinary talent of separating oil from rock, which is highly valuable to her shareholders and her nation.

Logic 4: Vicki's strong professional capabilities;

Synthesizing these points made by Buffett, the logic behind investing in Occidental Petroleum revolves around:

Company level: Sufficient hydrocarbon reserves + advanced carbon capture technology + competent management

Industry perspective: Long-term tight oil supply-demand balance + technological breakthroughs;

Macro perspective: Increased reliance on domestic energy production for security purposes;

Therefore, overall, Buffett's investment in Occidental Petroleum reflects his confidence in the company's long-term value. Let's now examine Occidental's current financial status and valuation.

**II. Occidental Petroleum's Current Financial Status and Valuation**

Following Buffett's thinking, we view this investment as whether buying the company is worthwhile. Currently, Occidental Petroleum's total market capitalization is $531.83 billion. First, let's look at its asset situation:

Liquid Assets:

1. Occidental currently holds approximately $1.426 billion in cash on its balance sheet;

2. Accounts receivable amount to about $3.195 billion, with a potential cash recovery of $900 million through securitization in 2023;

3. Inventories are valued at around $2.22 billion, which are not difficult to sell;

4. Other current assets stand at $1.732 billion;

Overall, the size of liquid assets totals $8.375 billion.

Illiquid Assets:

1. Hydrocarbon reserves valued at around $109.214 billion, which represent Occidental's most valuable assets;

2. Chemical reserves worth $8.27 billion;

3. Investments and advance payments amounting to approximately $3.224 billion;

So, when Buffett invested in Occidental Petroleum, the most valuable part of the deal was these resource reserves, totaling around $109.214 + $8.27 = $117.484 billion.

According to annual report disclosures, Occidental Petroleum's assets in the United States include:

1. Permian Basin: Spanning western Texas and southeastern New Mexico, it is one of the largest and most active oil basins in the US, contributing over 45% of the country's total oil production in 2023.

2. Rockies and Other Domestic Areas:

- Over 300,000 net acres of land rights in Powder River Basin, primarily located in Converse and Campbell counties, Wyoming. The field contains Turner, Niobrara, Mowry, and Parkman formations rich in liquids and natural gas.

- About 4.6 million net acres of land across other regions in the US, including areas outside Occidental's core operating zones in Arkansas, Colorado, Louisiana, Texas, West Virginia, and Wyoming.

- DJ Basin (including North DJ Basin), with a total net area of around 700,000 acres, provides competitive economic returns, lower breakeven costs, and free cash flow generation due to Occidental's contiguous acreage positions and royalty enhancements.

3. Offshore Domestic Assets – Gulf of Mexico:

- The fourth-largest oil and gas producer, operating ten strategically positioned deepwater floating platforms, more than any other deepwater operator, with production across 18 active fields and working interests in 261 blocks, covering a net area of approximately 900,000 acres.

Occidental Petroleum's overseas assets include:

1. Middle East/North Africa Assets:

- Algeria:

Rights to develop and produce in 18 fields within Blocks 404a and 208 in the Berkine Basin of the Algerian Sahara Desert, governed by agreements between Western Oil, Sonatrach, and other partners. Western takes on 35% of development and production costs. El Merk Central Processing Facility in Block 208 handles produced oil, LNG, and gas, while Hassi Berkine South and Ourhoud Central Processing Facilities in Block 404a handle produced oil. Production rights in the 404a and 208 block fields became effective May 3, 2023, and will continue until 2048 under the new development agreement.

- Oman:

Occidental is the operator in Blocks 9, 27, 53 (Mukhaizna Field), 62, and 65, and has additional interests in exploration Blocks 30, 51, and 72. Each block's production sharing contracts and expiration years are detailed in a table. Occidental owns 6 million acres of land with a potential inventory of 10,000 wells. In 2023, Occidental's production share was 66 Mboe/d.

- Qatar:

Participation in the Dolphin Energy Project, consisting of two separate economic interests. Occidental has a 24.5% equity interest in the upstream business, developing and producing LNG, gas, and condensate from the North Field until mid-2032. Occidental also holds a 24.5% equity interest in Dolphin Energy Limited (DEL), which operates a pipeline discussed further in the midstream and marketing segment under Item 10-K. In 2023, Occidental's net share of Dolphin production was 39 Mboe/d.

- UAE:

A 40% participating interest in the Shah Gas Field (Al Hosn Gas) with Abu Dhabi National Oil Company, expiring in 2041. In 2023, Occidental's net share of Al Hosn Gas production was 267 MMcf/d of gas and 38 Mbbl/d of NGL and condensate.

In terms of daily hydrocarbon production in 2023:

(1) The production structure for the year is 52% crude oil, 23% NGL (natural gas liquids), and 25% natural gas;

(2) Total production amounts to approximately 1.22 million barrels per day, with 220,000 barrels produced outside the US, while 1 million barrels of hydrocarbon liquids are produced domestically every day (including 534,000 barrels/day of crude oil, 248,000 barrels/day of NGL, and 218,000 barrels/day of natural gas).

Therefore, Occidental Petroleum's current assets are widely and intricately distributed across multiple countries, primarily concentrated in the United States, with a significant emphasis on its oil and gas holdings. From a security perspective, Warren Buffett's investment in Occidental Petroleum can be considered a very safe asset from the standpoint of US national security.

After dissecting the asset portion, we proceed to examine the liability section, revealing total liabilities of approximately $43.659 billion. Accounts payable and accounts receivable are of similar scale, with the main components being:

1. Short-term borrowings and lease liabilities amounting to around $1.648 billion;

2. Long-term borrowings and lease liabilities totaling approximately $19.263 billion;

Occidental Petroleum's overall free cash flow peaked at about $12.213 billion in 2022, dropping to $6.038 billion in 2023, with a low point during the dramatic drop in oil prices in 2020, estimated at $1.42 billion.

Following Buffett's logic, if oil prices stabilize at the current level, and Occidental were to use its free cash flow to pay off debt, it could potentially clear its debts within 3-4 years. However, oil companies place greater importance on reserve quantities.

According to the 2023 annual report, Occidental has been producing an average of about 430 million barrels per year over the past three years. Its existing reserves are estimated to last for about 9-10 years. If the cash flow generated by the current crude oil price were to continue, it would take approximately 10 years to generate enough cash to buy out Occidental's proven reserves, with additional unproven reserves providing future investment returns.

At the Berkshire Hathaway Annual Shareholders Meeting in 2023, Buffett stated, "We are particularly fond of Occidental Petroleum's resources, industry position, and technological expertise in the Permian Basin. They possess many high-quality wells and have accomplished many beneficial things, making them a distinct player in the oil business."

Would Berkshire Hathaway hold onto Occidental Petroleum and Chevron for the long term?

Charlie Munger: Owning these two companies is equivalent to owning the oil and gas resources in the Permian Basin.

Based on a November 2016 report released by the United States Geological Survey, a massive oilfield was discovered in the Wolfcamp formation of the Permian Basin, estimated to contain 20 billion barrels of crude oil reserves, along with 16 trillion cubic feet of natural gas and 16 billion barrels of liquefied petroleum gas resources. Occidental Petroleum is the largest owner of oil and gas resources in the Permian Basin.

Consequently, our comprehensive assessment indicates that investing in Occidental Petroleum at the current oil price means that the currently proven reserves are sufficient to recover the investment costs. Just the reserves in the Permian Basin alone could theoretically purchase several entire Occidental companies.

Thus, regarding the investment strategy for Occidental Petroleum, given its sensitivity to oil price fluctuations, we can propose the following assumptions:

1. If there is a rapid decline in oil prices but a forecasted recovery, one could invest boldly in Occidental Petroleum; conversely, if the oil price is not expected to recover, there would be a risk involved.

2. If oil prices can be maintained at the current level, investing in Occidental Petroleum can also fully recover the initial investment cost.

3. If oil prices steadily increase, holding Occidental Petroleum would represent a very secure and substantial return on investment.

Combining Buffett's earlier assessments with Munger's views, we understand that Buffett anticipates scenario number three to occur, which is why he intends to hold onto Occidental Petroleum for the long term.

Our integrated conclusion is that investing in Occidental Petroleum is likely to continuously generate profits as long as oil prices do not experience a prolonged downturn.