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Using the Value Line Page: Exxon Mobil’s Big Bet – March 11, 2011
The first sentence of the Business Description for Exxon Mobil (XOM – Free Value Line Research Report) states that it is the largest publicly traded oil company. This is, without a doubt, true. In fact, the energy giant produced about 2.4 million barrels of oil a day in 2010—a similar amount to the oil it pulled from the ground in 2009. On the natural gas front, meanwhile, Exxon produced about 12 billion cubic feet per day in 2010. That number, however, is up over 30% from the previous year.
That jump shouldn’t be surprising, since the company purchased natural gas driller XTO Energy in mid-2010. This acquisition is also a factor behind the company’s reserve profile, which was 47% oil and 53% gas at the end of 2010. Reserves are the resources still in the ground that have a high probability of being profitably extracted. Despite the recent announcement of a renewed corporate focus on oil, the acquisition represents a major bet on natural gas as a fuel choice in the coming ten years.
As Robert Mitkowski explains in the Analyst Comment section of the Value Line report, Exxon has been accumulating natural gas assets because management believes that demand for that fuel will “outstrip all others in the decades ahead.” Although that quote is from Mitkowski, a quick visit to Exxon’s website to view some recent investor presentations will demonstrate that accuracy of this assessment. In fact, Exxon has gone to great lengths to explain the decision to investors, highlighting the benefits of natural gas over oil, coal, and other energy sources.
In short, gas is cleaner burning than other energy sources, its use is increasing, and demand should, thus, spike in the years ahead. Add this outlook to the currently depressed price of natural gas and it seems like a ripe time for the company to invest—an observation highlighted by Mitkowski. But, as the old saying goes, the market can remain irrational for longer than you can remain solvent. Can Exxon stay the course and turn this push into a money gusher for shareholders?
The first question to ask is about natural gas pricing. Why is oil so dear and natural gas so unloved? Over the last couple of years, new technology has developed that allows previously difficult and expensive natural gas reserves to be profitably tapped—even at currently depressed prices. The addition of these reserves, which are vast, has changed the landscape in the energy industry, with implications that extend far beyond extraction. For example, when examining the cost/benefit analysis of building a coal or natural gas plant, many more utilities are likely to select the gas plant. When looking at the cost/benefit analysis of buying a delivery vehicle that runs on conventional gas or natural gas, the natural gas engine is becoming an increasingly desirable choice. Essentially, demand is building and not just because natural gas is “cheap;” it has environmental benefits, too.
So the underlying story for Exxon’s shift toward natural gas looks reasonable (note, too, that the company is a long way from giving up its strength in oil). The next question to answer is, “Can the company see this bet through?” This is a question of management and financial strength.
With regard to management, Exxon Mobil has one of the best management teams in the industry, and, more broadly speaking, in the world. The company has a history of selecting a course of action and not just seeing it through, but delivering on its promises. A recent example of this is the Canadian oil sands, where Exxon continued to invest through the recession, despite a material drop in oil prices that made the oil produced from oil sands far less profitable. With oil prices higher today, management looks prescient, even though this outcome had more to do with determination and persistence.
As for the company’s financial health, it is top notch. The oil giant earns the best possible Rank Value Line awards for Safety (1). This proprietary Rank can be found in the Ranks box at the top left of every Value Line report and takes Value Line’s assessment of Financial Strength and Stock Price Stability into account. These two Value Line measures put Exxon at the top of the pack, as well, as can be seen in the Ratings box at the bottom right of each report.
Taking a more specific look at Exxon Mobil’s fundamentals reveals a similarly sparkling picture. Reviewing the Capital Structure box, for example, shows that debt makes up less than 10% of the company’s capital structure and long-term interest expense is covered by earnings by an impressive 25 times. For a company that has to tie up material resources in land and equipment, such a strong balance sheet is noteworthy.
In addition, the company has over $8 billion in cash. A quick review of the Current Position box (located directly below the Capital Structure box), however, will reveal that despite the impressive dollar figure, this sum is down from over $32 billion in 2008. The decline, however, stems more from investing in the future and returning value to shareholders than a reckless abandon with corporate money. Share buybacks are an example of the commitment to shareholders. For example, although the share count is higher today than in 2008 due to the XTO merger, it is materially lower than the over 6.930 billion shares that were outstanding in 1999. This comparison can be made by examining the historical portion of the Statistical Array.
Also in the Statistical Array is a clear demonstration of the company’s commitment to dividend payments. This distribution has been increased in each of the 16 years presented in the Value Line report—and for many years beyond the data shown. Moreover, Mitkowski estimates that increases will take place in 2011 and 2012 (Value Line provides estimates for two years in addition to the historical data shown). Moreover, Mitkowski’s projections out to 2014-2016 call for an annualized growth in the dividend of 8%. The actual projected dividend figure can be seen to the right of the Statistical Array labels, with the annualized figure shown in the Annual Rates box to the left of the report.
Clearly, Exxon Mobil has the financial strength, business determination and acumen, and shareholder focus to see its investment through. Assuming you believe the natural gas story, these shares are a relatively safe way to invest for this natural resource’s coming boom.
At the time of this article's writing, the author did not have positions in any of the companies mentioned.