(Idea) Ecopetrol

By: Jon Costello

Latin American oil and gas have been in the news after the U.S. intervention in Venezuela. We don’t expect to see any disruption in Colombia. Apparently, the stock market doesn’t, either. Shares of Ecopetrol (EC) are up 8.7% over the past month versus the XOP’s negative 4.6% return over the same period.

Ecopetrol is Colombia’s state-controlled integrated energy company. It has a market cap of $23.3 billion and an enterprise value of $48.1 billion. Of its 2.1 billion shares outstanding, 11.5% are traded publicly on the NYSE, and the remaining 88.5% are owned by the Colombian Ministry of Finance and Public Credit. At the current share price of $10.87, Ecopetrol shares yield a seemingly attractive 10.1%.

If the surge in Ecopetrol’s share price reflects its improving prospects and its dividend is sustainable, the shares may outperform on a total return basis amid an oil price recovery.

Unfortunately, the picture is not encouraging. While a sum-of-the-parts valuation implies the company’s share price reflects a fair value, Ecopetrol is at high risk of failing to replace its dwindling crude oil reserves over the coming years. Much of the value may prove illusory if domestic onshore crude oil reserves aren’t increased. The risk of declining reserves and production renders moot an analysis of its free cash flow and dividend yield. They are sufficiently high that equity investors should avoid the shares until the company’s prospects improve.