Exxon May Be Running on Empty
05/22/2008 12:00 am EST
Jim Jubak, senior markets editor for MSN Money, explains why the world's largest oil company appears to be headed towards slow self-liquidation.
Are we witnessing the death of ExxonMobil (NYSE: XOM)?
Production of oil and natural gas was down almost 6% [in the first quarter]. All the evidence argues that the company will report lower oil and natural-gas production for 2008. Looking just at oil, the company's production will not grow at all through 2012.
[Meanwhile,] proven oil and gas reserves fell by 3.1% at year-end 2007 from the end of 2006, according to Standard & Poor's.
Part of the problem is access to new places to drill. National oil companies control about 80% of the world's proven and probable reserves. Western oil companies simply don't have enough places to put their cash to work. [And those] are among the world's most hostile environments. [So], the cost of exploration has exploded. Oil-field inflation is estimated at 15% or more in 2007.
Could ExxonMobil reinvest more in the business of finding oil? Absolutely. The company spent $8 billion in the first quarter of 2008 alone.
But in management's estimation, such investments would not generate the high level of return the company targets in its investment decisions, based always on the return on invested capital.
ExxonMobil's return on capital is a whopping 23.5%, when the average for major oil and gas companies is 17.7% and the average for the companies in the Standard & Poor's 500 Index is just 10.7%.
Instead of investing in projects that don't meet its target, ExxonMobil continues to buy back stock-$32.6 billion worth in 2006, $31.8 billion in 2007 and $8 billion in the first quarter of 2008 alone.
Where does ExxonMobil go from here? I see three possible scenarios:
- The company uses all the shares it's been buying up as treasury stock to do a really big acquisition like the $80 billion all-share deal to acquire Mobil in 1998 (when oil was selling for $11.28 a barrel).
- ExxonMobil gets the collapse in oil prices it seems to be planning for and can pick up the assets it needs on the cheap. Many oil analysts speculate the company is using a planning price of somewhere between $30 and $50 a barrel as its long-term price of oil.
- ExxonMobil continues [to buy] back stock and pay out dividends to shareholders until, some time around 2015 to 2018, it goes private or, having turned itself into a trust years earlier, liquidates and disappears.
None of these alternatives should deter investors from holding ExxonMobil stock. In fact, ExxonMobil's conservative approach means these shares are the least risky you can own in the sector if [there's] a major correction.
In the long run, the world needs oil from Canada's oil sands and from deep-water drilling in the South Atlantic, but the companies that have invested in those areas have taken the biggest risks.
ExxonMobil hasn't. That makes it a haven in any energy storm. And there are worse things than collecting the returns from owning shares of the oil industry's most efficient cash-generating machine as it gradually disappears. (The stock closed below $94 Wednesday-Editor.)