Exxon Punished By Wall Street For Spending Strategy

ExxonMobil plans to ramp up spending on multiple oil ventures over the next few years, an aggressive gambit to increase oil production and fatten profits. Wall Street, however, isn't so sure it's a great idea.

It was a busy week for the oil majors. Exxon and Chevron put on their 2019 "Investor Day" presentations to lay out their medium-term strategic plans aimed at courting Wall Street and convincing the investing world of the wisdom of their multi-year spending plans.

There were a few key themes that jumped out. First and foremost, both oil majors are going all-in on the Permian basin, with both Chevron and Exxon each aiming to produce about 1 million barrels per day from West Texas and New Mexico over the next five years. The majors - with their hands in everything from offshore production, refining, petrochemicals and LNG - are increasingly becoming shale players.

But Exxon went further, unveiling aggressive plans to spend even more than it had previously aimed to on ramping up oil production. Exxon said it will increase spending by $4 billion this year to $30 billion. In 2020, spending will rise again to $33-$35 billion, and stay within a $30 to $35 billion range through 2025. Exxon's leadership gushed over its plans, arguing that profits and production growth look better than at anytime in recent memory.

The spending plans are targeting higher production in several different areas. The oil major is developing the dozen oil discoveries in offshore Guyana, which could result in 750,000 bpd of output by the middle of the 2020s. It is beginning to develop its offshore acreage in Brazil. It gave the greenlight on a major LNG export terminal on the coast of Texas. And then, of course, there is the Permian. Related: Should We Rethink Nuclear Power?

Exxon's size alone means that it has to spend heavily to avoid production declines. In fact, the oil supermajor has struggled with flat output for the better part of a decade. "Exxon is so big it has to replace a lot of barrels every year. They're probably thinking with a longer-term focus than most" Stewart Glickman, an energy analyst at CFRA, told CNBC.

But it's new spending plans are billed as a way to pull out of that dynamic. Yet, Wall Street was not convinced. Exxon's share price fell more than 2.5 percent immediately following the announcement, although it regained some lost ground as the day wore on. The same scenario played out a year ago. When Exxon announced plans to ratchet up spending, aimed at boosting production, its share price dropped.

It doesn't help matters that some of Exxon's peers are using their additional cash flow to dish out higher payouts to shareholders, either in the form of share buybacks or dividends. Just a few weeks ago, Chevron announced a $25 billion share buyback program.

Exxon says that the spending will result in higher profits in the future when all the new oil and gas comes online. The company says earnings potential will rise by about 140 percent through 2025. Related: Bloomberg Launches Alternative To Green New Deal

There may be a logic to it, but Exxon's outlook and its spending plans stand diametrically opposed to a scenario in which oil demand reaches a peak and enters decline. Exxon sees oil consumption rising through 2040, and likely thereafter. It argues that a rising global population, GDP and burgeoning middle class in emerging markets ensures demand will continue. Consumption will increase in transportation and petrochemicals. At the same time, depletion at existing oil fields requires hefty investments in new supply.

The skeptical response on Wall Street suggests that not everyone is as convinced as Exxon's leadership in the longevity and stability of oil demand. If demand were to peak, say, in 2030 or so, that would call into question the multi-billion-dollar investments in projects that have time horizons measured in decades. If the world ever gets serious about the climate crisis, Exxon's projects could become stranded assets.

It wouldn't even take a precipitous decline in consumption to kneecap some of these projects. A plateau in demand growth, or even a deceleration, could upend Exxon's (and the oil industry's) aggressive growth plans. And that's exactly why shareholders are increasingly demanding payouts and punishing hefty spending.

By Nick Cunningham of Oilprice.com

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