Canadian Oil Sands Ltd.: Consider the 9.4% Dividend Gone

After crunching the numbers, it’s obvious. Canadian Oil Sands Ltd. (TSX:COS) can’t afford its dividend. But maybe you should buy the stock anyway.

The Motley Fool

As oil continues to plummet, investors everywhere are being enticed by cheap energy stocks with eye-popping dividend yields.

Canadian Oil Sands Ltd. (TSX:COS) is one such stock. As I write this, the company currently pays investors $0.20 per share on a quarterly basis just to hold the stock, which is a yield of 9.4%. That’s a pretty attractive incentive to buy the stock now and wait for a recovery. After all, oil most likely won’t stay at this level forever, and recoveries in the commodity are often quick. Just look at the most recent declines in the energy sector in 2011 and 2009 for evidence.

The company even crunched the numbers for investors when it released its capital budget in December, which made the future not look too bad. The company plans to produce around 103,000 barrels of oil per day from its Syncrude project, which works out to $1.51 per share in cash flow. Subtract capital expenditures of $1.15 per share, and the company has $0.36 per share available to pay out to shareholders.

Over the long term, a company can’t maintain that kind of shortfall. Borrowing $0.44 per share isn’t the end of the world for a year, but after that it gets dicey. Doing that would deteriorate the company’s balance sheet pretty quickly.

The reality now

I intentionally left a number out of my analysis of Canadian Oil Sands’ dividend strength, and that’s the price of oil. In early December, the company was still optimistic enough to assume oil would average $75 per barrel in 2015.

Just a month later, reality is much different. Oil currently sits under $50 per barrel, with seemingly no bottom in sight. Pundits and market observers everywhere are predicting the price of crude to go down, not up.

Let’s take another look at those numbers, but this time assume crude spends 2015 at $50 per barrel.

Based on production of 103,000 barrels per day of crude, cash flow from operations looks to be $1.00 per share in 2015. Capital expenditures would continue to be $1.15 per share, giving us a loss already of $0.15 per share. If we add in an $0.80 per share dividend, the company’s shortfall comes to nearly $1.00 per share.

Management has stated that the company’s comfortable debt level is around $2 billion. Currently, debt stands at $1.9 billion, as the company spent aggressively on upgrades to some of its key systems over the past two years.

The bottom line? At $50 per barrel, the dividend is toast. The next dividend is due to be paid on February 19, which means the announcement of a dividend suspension is likely to come at the end of January.

Should you still buy?

Oil at $50 per barrel isn’t good for any company in the sector, Canadian Oil Sands included. But for long-term investors, the depressed market is giving you the opportunity to buy oil reserves at ridiculously low prices.

Based on current production, the company has enough oil in the ground to continue operations for 45 more years. This is a plus, considering how many companies struggle with acquiring reserves.

This oil in the ground has value. Based on the company’s enterprise value of $6 billion and its reserves of 1.6 billion barrels, investors are paying just $3.75 per barrel of oil in the ground, and nothing for all the equipment needed to upgrade it. Sure, the company’s operations aren’t so attractive with oil at $50 per barrel, but investors won’t be saying that once oil rises again.

Canadian Oil Sands is a good buy if you’re looking to pick up mispriced assets. But for dividend investors, the stock is a bad deal.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Nelson Smith owns shares of CANADIAN OIL SANDS LIMITED.

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