ExxonMobil, unlike most of its peers and competitors, has decided to ramp up spending and drilling on large-scale projects, to the dismay of its shareholders and Wall Street.
The oil supermajor has been struggling with flat production for several years and it has also had trouble finding new reserves to replace the oil it extracts each year. Earlier this year, ExxonMobil outlined plans to right the ship, but it has faced its share of skeptics.
Wall Street has demanded that oil companies stop spending recklessly on growth, and instead redirect profits back to shareholders in the form of dividends and share buybacks. Repeatedly over the past year, investors have told oil executives to focus on cash flow, not production growth. That message has become loud and clear as companies that follow that script have been rewarded with higher share prices.
Now, while many other oil companies are buying back shares or hiking dividends, Exxon’s CEO said buybacks would only occur if there is extra cash left over after the list of projects are pursued. “Everyone, if they had the investment opportunities that we have, they would be progressing those investment opportunities,” Woods told Bloomberg in an interview. “The thing that I won’t do is compromise these advantaged value accretive investments to buy back shares.”
Exxon’s has outlined aggressive plans to step up spending and boost production. In March, Exxon said it would hike capital expenditures to $24 billion this year, $28 billion in 2019, and $30 billion between 2023 and 2025. All told, the company could spend $200 billion through 2025. “Capex is the price you pay for cash flow,” Exxon CEO Darren Woods said at the time.
Wall Street is clearly not impressed with the strategy. Exxon’s share price is off 11 percent since the start of 2017, while Chevron is up roughly 7 percent and Shell is up 27 percent. “(Exxon’s) underlying upstream fundamentals appear to have suffered a structural deterioration, due in large part to two massive, ill-timed, low margin and extremely expensive investments,” Barclays analysts said a few weeks ago, referring to costly investments in Canadian oil sands and the acquisition of shale gas driller XTO Energy.
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But Exxon may not have much of a choice other than to increase spending. Its production base has eroded, dipping five of the last six years. There are three core areas of focus Exxon cited earlier this year, which justify higher levels of spending: Offshore Guyana, shale drilling in the Permian basin, and downstream petrochemical and refining assets. Add in offshore Brazil and some LNG projects in Papua New Guinea and Mozambique, and Exxon says it could add 1 million barrels of oil equivalent per day by 2025.
Meanwhile, there is growing scrutiny over the long-term viability of the reserves on the books of the oil majors. For years, the volume of reserves was one of the main factors determining the value of an oil company, and any increase or decrease in that figure heavily influenced the performance of a firm’s stock.
The oil majors have not done well since the collapse of prices a few years ago. A Reuters analysis found that the combined reserves of the largest publicly-traded oil companies – Exxon Mobil, Royal Dutch Shell, Chevron, ConocoPhillips, Total, BP, Equinor (formerly Statoil) and Eni – fell to 91 billion barrels in 2017, or the lowest total since 2005. That is equivalent to 11.7 years of production, the lowest reserve life in two decades.
However, because peak oil demand is possible within that timeframe, or thereabouts, investors are increasingly focused on the profitability of the reserves, not the sheer volume. “The quality of reserves and the commercial viability of reserves has eclipsed the quantity of reserves by far in recent years,” Adi Karev, Global Leader for Oil and Gas at EY, told Reuters earlier this month.
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The threat that a shrinking oil market could leave some assets stranded also explains the pivot that some companies have taken in the past few years. The majors have retreated from Canada’s high cost oil sands and focused on shale drilling. Shell purchased BG Group a few years ago and is increasingly prioritizing natural gas production. It has also acquired some renewable energy firms and is building a presence in the European utility industry. Total has also stepped up renewable energy investments. Eni has focused on natural gas. Statoil is diversifying into renewable energy, among other energy sources, which is why it recently changed its name to Equinor.
ExxonMobil has declined to enter the clean energy space in any real way, but its heavy focus on shale drilling and downstream processing is part of its strategy to plan for any upheaval in the oil market in the years ahead. Still, the company is moving forward on some costly megaprojects, even as Exxon’s Darren Woods said any upstream project it greenlights needs to breakeven at $40 per barrel. Based on the selloff in its share price in March when it revealed its spending plans, Exxon has yet to convince Wall Street of the wisdom of its strategy.
By Nick Cunningham of Oilprice.com
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