Harbour Energy (LSE:HBR), the oil and gas producer, hasn’t had the best run recently. It was booted out of the FTSE 100 and relegated to the FTSE 250 last year due to a double-digit cut in its valuation. I mainly attributed this to the announcement of a windfall tax on oil and gas companies. I’m no stranger to market panic, and I think there’s a chance the stock may have been oversold toward the end of 2022. But year to date it’s up almost 10%. So, the question for me is: can this positive momentum continue in the long run? I’m not convinced it can, despite some good points.
The stock in focus
Regular readers will know that I love my dividends. Harbour Energy, Britain’s largest oil and gas producer, is one of the FTSE’s biggest payers. Its production output is above and beyond the notable oil majors like Shell and BP. So I think it warrants me taking a closer look.
For a stock that’s one of the highest yielding in the index, it’s trading on a dirt cheap valuation. Its price-to-earnings ratio of 2.4 times compares to its UK peer average of 13.9 times.
When a situation like this occurs, I ask myself two questions. Have investors missed a trick? And is the stock cheap for a reason? The cheap valuation is partly down to the UK’s Energy Profits Levy on oil and gas companies, one of the highest rates in the world. Clearly, it’s fairly damaging to the company’s profitability — its headcount has been cut this year as a direct result.
The positives
Dividends are an important source of income for me, but the health of the business is crucial to maintaining those dividends. So it’s important I check whether the dividend payments are covered by earnings, and if those earnings are growing.
I note that the dividends are more than adequately covered. Its dividend cover (earnings over dividends paid) is 3.8 times. This is very conservative and leaves plenty of breathing space in the case of adverse events, as well as a future increase in the dividend payment. The company confirmed in its last trading statement that it retains. flexibility over an increase to its $200 million dividend plan.
However, when I look at the company’s earnings, they’ve been growing, but a little too slowly for my ambitions. Sub-1% year-on-year growth simply doesn’t cut it for my portfolio.
Is this an attractive long-term play?
However, it’s not just the anaemic earnings growth that concerns me. Harbour Energy’s earnings are forecast to decline by an average of nearly 20% per year for the next three years. I think it’s a very worrying backdrop.
Moreover, it has a high level of debt, and higher interest rates will drive up borrowing costs. I also think the company has a relatively unstable dividend track record. I can’t necessarily bank on a reliable level of income from the stock.
Despite my appeal of the stock’s cheap valuation and high dividend yield — the long-term picture doesn’t look favourable to me.
The company has a challenging period ahead. In my view, it’s a FTSE value trap, not a bargain, so I’m not buying.
The post Is this stock the FTSE’s biggest bargain right now? appeared first on The Motley Fool UK.
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Henry Adefope has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.