The price of crude oil officially fell into a bear market this week – defined as a fall of more than 20% in a period of six months – after non-OPEC countries Nigeria and Libya showed signs of increased output which added to the supply glut.
The Santos Ltd (ASX: STO) share price plumbed fresh 52-week lows on Wednesday after the price of crude oil crashed to the low US$40's (a barrel) mark. Although fellow oil and gas majors on the S&P/ASX 200 Index (ASX: XJO), Oil Search Limited (ASX: OSH), Woodside Petroleum Limited (ASX: WPL) and Origin Energy Ltd (ASX: ORG) all stumbled lower over the course of the week, none of the latter trio came close to breaching their 52-week lows like Santos.
Accordingly, I thought it wise to revisit Santos as an investment proposition.
Santos' sentiment
Unfortunately for Santos shareholders, momentum just isn't going Santos' way at the moment.
The once all mighty South Australian oil and gas producer's shares have lost 78.5% of their value in the space of three years as the worst oil slump ever bites Santos' bottom line.
Despite management conducting numerous asset sales and multiple capital raisings to rationalise and strengthen Santos' core business, it appears the company just can't catch a break as the dwindling price of crude oil sinks Santos' profits faster than management can cut costs.
Based on Thursday's close of $2.95, it appears the market has all but written off Santos' future prospects by pricing-in earnings attrition to perpetuity.
I, for one, don't think Santos' fortunes are as bad as the market suggests.
Is this the bottom?
As announced in its 2016 full-year results, Santos' cost efficiency programs has meant that Santos is able to generate free cash flow whenever crude oil prices are above US$36.50/barrel.
Although Thursday's prevailing crude oil price of just over US$42/barrel leaves little headroom for Santos' free cash flow generation, I believe the end of plummeting crude oil prices is nigh. This is because ructions and ruminations amongst OPEC members suggests the oil cartel is likely to impose deeper production cuts if the oil sell-off worsens. (After all, most OPEC nation's economies are reliant on higher oil prices).
If this eventuates, I believe the oil price should stabilise over the short-term and bottom out.
Long term view
Obviously Santos' share price isn't going to miraculously recover to its 2013 all-time high of $13.76 based on deeper production cuts by OPEC. However, I do believe investors that take a long-term view of Santos' prospects are likely to be handsomely rewarded years from now.
This is because management is currently taking the hard-road by continuing cost reductions, cutting dividends and paying down debt to ensure Santos' balance sheet remains in robust shape to capitalise on rising oil prices, if and when they occur.
Foolish takeaway
Given oil is an essential ingredient for production and has finite resources, the long-term trend of crude oil prices should almost certainly be up.
Indeed, economic influences like stagnant global growth, geopolitical conflict and deflationary pressures can result in oil prices going backwards at times. However, by the very fact that oil is a commodity (aka a limited resource) means its price will almost invariably be higher 10 to 20 years from now.
Whilst 10 to 20 years may be a very long timeframe for some investors, savvy investors should always remember that long-term investment is about picking stocks which have sound growth prospects, strong business fundamentals and are simply down on their luck today.
In my mind, Santos fits that bill perfectly based on current prices.
