Background - Many investors have a favorite stock, a stock that made money for them, a stock that they have a great deal of confidence in, or the stock of a company that sells their favorite product. My favorite stock is ExxonMobil (XOM). It is my favorite stock because I believe it is the best run company in the world and because I believe XOM's products (oil, natural gas, chemicals and refined products) are, and will remain, indispensable.
I first bought XOM in the spring of 2004 for an average price of $44.00. I remember thinking at the time that oil prices were on the rise and if China and the other emerging countries really started to grow, the world would need a lot more oil. I selected XOM because it was the biggest oil company with the most reserves. I held the stock through May 2008, when I sold it for $88.83, a gain of more than 100%. I sold it because the world economy was slowing and I wanted to book a profit before the stock fell further, having already fallen from the mid-90s. However, I always knew at some point I would buy it back.
In late 2009, I started buying blocks of XOM because I felt the mid-60s price was a long term bargain. Because the market was chaotic I did not want to buy a full position, so I started buying 25 share blocks. After XOM bought XTO in December 2009, the price fell into the 50s and I increased my buying. I have continued buying XOM when I see what I think are bargain prices, even buying a small block of shares two weeks ago on January 3rd when the price fell to $85.89. Currently, XOM is my largest position at an average price of $65.00.
Macro Reason - Part of my process of selecting a stock to buy involves analyzing the macro-environment around the product or service the company sells. In Exxon's case, the analysis is relatively easy. The world population is growing and requiring more energy, many countries have a growing middle-class who are demanding comforts like heating, refrigeration, and transportation, all of which requires energy. The International Energy Agency in their World Energy Report, released last November, stated that world energy demand would grow over 30% by 2035 and fossil fuels would still be the dominant energy source. The report stated "Growth in oil consumption in emerging economies, particularly for transport in China, India and the Middle East, more than outweighs reduced demand in the OECD, pushing oil use steadily higher in the New Policies Scenario. Oil demand reaches 99.7 mb/d in 2035, up from 87.4 mb/d in 2011,"
In June of 2012, the IEA released its Medium Term Energy Report which forecast strong growth in natural gas use. The report stated "China will become the third-largest natural gas importer behind Europe and Asia Oceania, driving a 2.7% average annual growth in global gas demand through 2017 (up from the 2.4% annual growth predicted in last years report) During the period, North America will become a net LNG exporter, while Japanese imports will increase, although by how much hinge on the country's nuclear policies."
A person can agree or disagree with the IEA projections of continued increases in worldwide oil and natural gas use, but no one can argue that oil and natural gas use is going away anytime soon. Exxon with its large reserves and global footprint is sure to benefit from this long term energy story.
Oil and Natural Gas Production - Exxon has 24.9 billion oil equivalent barrels of resource and has replaced all of its production for 19 straight years. XOM's production the last few years has been flat or slightly down due to production limits in some countries and aging fields. However, XOM has a long list of projects that should ramp up production over the next several years. These projects include:
· Kearl Oil Sands in Canada is one of Canada's largest and highest quality oil sands deposits with 4.6 billion barrels of recoverable bitumen resource, Production is scheduled to begin this month with initial production of 110,000 barrels a day, eventually ramping up to 345,000 a day.
· Hadrian field in the Gulf of Mexico contains over 700,000 million barrels of resource.
· Kizomba Satellites in Angola is expected to ultimately produce 100,000 barrels of oil per day, and recover a total of approximately 250 million barrels.
· Joint venture with Rosneft to develop three fields in the Arctic with recoverable hydrocarbon reserves estimated at 85 billion barrels in oil-equivalent terms
· Point Thomson in Canada is believed to contain hugely valuable reserves of natural gas, estimated at 8 trillion cubic feet and 200 million barrels of condensate, a light liquid hydrocarbon associated with natural gas. Exxon and its partners plan on piping the natural gas to a LNG plant along the Alaskan coast for shipment to Asia.
· Hebron oil field offshore eastern Canada has over 700 million barrels of oil, XOM plans on beginning production in 2017
These are just a few of the projects XOM has in development. There are many more, but it is safe to say XOM has decades of quality long-life production ahead. More information on XOM production can be found here.
Power of the Check Book -XOM will also use their check book to purchase smaller production companies or add acreage when appropriate. Recently XOM bought 196,000 net acres in the Bakken from Denbury Resources (DNR) with expected production of 15,000 oil equivalent barrels a day production.
XOM also recently bought Celtic Exploration, acquiring 545,000 net acres in the liquids-rich Montney shale, 104,000 net acres in the Duvernay shale and additional acreage in other areas of Alberta. The acreage provides 72 million cubic feet per day of natural gas and 4,000 barrels per day of crude, condensate and natural gas liquids. The assets were estimated to include an estimated 128 million oil equivalent barrels of proved plus probable reserves, of which 24 percent are crude, condensate and natural gas liquids and 76 percent natural gas.
Exxon with its excellent balance sheet and huge positive cash flow can purchase entire companies or acreage whenever it makes economic sense for the company. In 2009 Exxon bought XTO for $41 billion in an all-stock deal, by the first quarter of 2012, XOM had bought back all the shares it issued for XTO. The power of XOM's balance sheet will allow it to purchase the production, acres, or entire companies that it needs to keep it on top of the energy world.
Refining and Chemicals - XOM is the world's biggest refiner, as well as the largest producer of polyolefins, benzene and paraxylene in the world. Since 1995, XOM has added about 0.5% per year to its refining capacity, the equivalent of building an average-sized refinery every three years.
XOM has an ownership interest in 36 refineries with 6.22 million barrels per day of distillation capacity. XOM's refineries are 60% larger than the industry average. In addition, over 75% of the refining capacity is integrated with the company's chemical and lubes division. By using their own refined product in the chemical and lubes division XOM has a cost advantage over some of its chemical competitors.
XOM's Chemical segment manufactures and sells petrochemicals, supplying olefins, polyolefins, aromatics, and a wide variety of other petrochemicals. XOM has chemicals complex capacity of 22.1 million metric tons per year. XOM prefers to produce the higher margined specialty chemicals
Although the majority of XOM's profits come from its upstream exploration division, refining and chemicals is a profitable business for XOM.
Stock buybacks and dividends - In 2011, XOM returned $29 billion to shareholders in the form of dividends and share buybacks. Of that total, $20 billion was in the form of share buybacks. Some shareholders have questioned the benefit of share buybacks, but I do not. For several years now XOM has been buying back $5 billion in shares every quarter, slowly reducing the share count. If XOM continues with this share buyback program the benefits to the shareholder are obvious to see.
Exxon has approximately 4.5 billion shares outstanding. Assuming an average price of $90 a share, XOM buys back approximately 222,222,222 shares a year ($20 billion/90 = 222,222,222). Below, I have a chart that shows over a five year period how the share count would decrease and how the Earnings per Share (EPS) would increase. For the sake of simplicity, I used XOM's 2011 earnings of $41 billion ($9.46 per share) and assumed they never changed over the five year period.
|Year||Share count||Share Buyback||Remaining Shares||EPS|
As you can see from the chart, if XOM maintains its current buyback program of $20 billion a year and maintains its 2011 earnings of $41 billion, the EPS grows by 28%. If you put a 10 multiple (XOM's P/E is currently 9) on the $12.10 earnings you get a stock price of $121.00, a 33% increase from the $90.00 it trades at now. Now I know Exxon's earnings will not remain stable at $41 billion and you cannot be sure the buyback will continue, but the chart above does show the benefit of stock buybacks for shareholders.
When it comes to dividends, XOM is a dividend champion, having raised its dividend 30 straight years. In 2012, XOM raised the dividend 21% and has averaged 9% annual increases over the last five years. XOM's payout ratio is 23% leaving plenty of room for increases. An owner of XOM can be assured that an annual dividend increase is on the way.
Financials - ExxonMobil has a very solid balance sheet and maintains a very disciplined investment strategy. XOM's Return on Capital Employed (ROCE) is approximately 24%, highest of the major integrated oil companies. XOM has the best free cash flow of the majors, generating $146 billion in free cash from 2007 through 2011, more than Chevron (CVX), Royal Dutch Shell (RDS) and BP (BP) combined. In the most recent third quarter XOM generated $14 billion in free cash. Debt is not a concern with XOM as it has more cash than debt.
In 2011, XOM earned $34 billion in upstream exploration, $4 billion in downstream refining and $4 billion from chemicals. To give you some idea how big XOM is, XOM's 2011 chemical earnings were more than Dow Chemicals (DOW) ($2.5 billion) and XOM's refining earnings were more than Valero's (VLO) ($2 billion).
Conclusion - If I were to use one word to describe XOM it is disciplined. Everything they do is well thought out and calculated based on long term, not short term, projections. Exxon has everything I want in a company, best in class operations, solid balance sheet, product that will be needed far into the future, growing dividends, stock buybacks, and the financial muscle to make acquisitions when they make sense. If I could own only one stock, I would own ExxonMobil.
Disclosure: I am long XOM.