Avoid at All Costs: This Stock Is Portfolio Poison

A mid-cap stock commits to return more to shareholders, but some investors remember the suspension of dividends a few years ago.

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Bad apple with good apples

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TSX’s energy sector is back in its familiar place after a sluggish performance in 2023. As of this writing, the year-to-date gain is 14.3%, besting 10 primary sectors.

Industry heavyweights Canadian Natural Resources, Enbridge, Suncor Energy, and Imperial Oil, as well as some smaller players, continue to outperform and seem unstoppable. However, Vermilion Energy (TSX:VET) has yet to pick up steam, and it would be best to avoid this mid-cap energy stock now.

Financial results

Declining crude oil prices put pressure on energy stocks, leading to the sector’s underperformance or negative returns in 2023. Vermilion Energy was not spared, as evidenced by the stock’s 32.2% loss last year. It has trimmed down the losses, as at $15.93 per share, the year-to-date loss is 0.25%.

Still, after two consecutive years of profits, the $2.6 billion petroleum and natural gas company incurred a loss in 2023. In the 12 months ending December 31, 2023, total sales declined 41.8% year over year to $2 billion. Net loss reached $237.5 million compared to the $1.3 billion net income in 2022.

The favourable business highlights include the 19.5% year-over-year net debt reduction to $1.1 billion and the return of $160 million to shareholders through share buybacks ($95 million) and dividends ($65 million). The Board also approved a 20% increase in the quarterly dividend versus Q3 2023 and the current yield is 2.97%.

Growth forecast

Market analysts forecast Canada’s oil and gas industry to grow 5.5% in the next three years. For Vermilion Energy, their growth forecast on average is 1.3% per annum. However, its President and CEO, Dion Hatcher, said that the under $1.1 billion net debt at year-end 2023 was Vermilion’s lowest in 10 years, while the $1.1 billion fund flow was the strongest ever.

Lars Glemser, Vice President and CFO of Vermilion, notes the continued operational momentum from 2023. The investments in the Montney battery and Croatia, both key projects, are the new growth catalysts. Moreover, because of the progress made in washing down debt, Vermilion plans to accelerate its return on capital.

Glemser said the initial plan was to increase the return of capital target to 50% of excess free cash flow (FCF) starting April 1. Instead, management will apply that 50% target against the full-year excess FCF. Thus far, in 2024, the company has bought 1.4 million shares and will increase the pace going forward.

Compelling option

Vermilion Energy plans to enhance its asset base to increase resiliency, deliver long-term profitability, and stand by its commitment to shareholders. According to Glemser, Vermilion Energy believes that share buybacks represent a very compelling return of capital option.

With the latest strip pricing and projected $1.3 billion in annual funds flow from operations plus approximately $650 million FCF, Vermilion could return around $250 million to shareholders through the base dividend and share buybacks in 2024, or roughly 10% of the current market cap.

However, some investors remember April 2020 when the oil and gas producer suspended dividends due to lower commodity prices and the global pandemic. Vermilion Energy reinstated the quarterly dividends in Q1 2022, but hopefully, a dividend suspension won’t happen again.  

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 Christopher Liew has no position in any of the stocks mentioned. The Motley Fool recommends Canadian Natural Resources, Enbridge, and Vermilion Energy. The Motley Fool has a disclosure policy.

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