Exxon Mobil: An Onshore Plays Champ?

Nov.24.13 | About: Exxon Mobil (XOM)

Exxon Mobil (XOM) is focusing its operations on exploration and production, especially in the U.S. onshore shale formations of the Permian basin. The company operates on around 1.5 million net acres in the Permian basin. According to the Texas Railroad Commission, or RRC, the production from the Permian basin shale formations surpassed the production from the Eagle Ford shale formations in June of this year. The oil production from the Permian basin in October of this year was around 1,292,000 barrels per day, or bpd, while that from the Eagle Ford was around 1,069,000 bpd. Exxon Mobil plans to operate eight rigs in the region and plans to drill around 100 wells by the end of this year.

During its third quarter earnings release this year, Exxon Mobil discussed its plans to develop the Wolfcamp, Wolfbone, Wolfberry, and Bone Spring shale reservoirs in the Permian basin. Among these shale reservoirs, one of the most productive within the Permian basin is the Wolfcamp shale formation. The Wolfcamp shale is a stack pay formation. Stack pay is a type of formation that has hydrocarbon deposits available in multiple layers. The Wolfcamp shale formation has four geological layers of shale. The Wolfcamp shale formation is estimated to be around 3,500 - 4,000 feet, or ft, and is expected to hold as much as 50 billion barrels of oil equivalent, or bboe. The estimated ultimate recovery, or EUR, from a vertical Wolfcamp well could be around 140,000 barrels while that for a horizontal Wolfcamp well could be around 450,000 barrels. The horizontal wells increases because of multiple frac stages. Frac stages are oil producing intervals within the horizontal wells.

Occidental Petroleum (OXY), a major player in the Permian basin, holds around 2.5 million net acres in the region. The company's landholdings contain some of the major shale formations like the Wolfcamp, Avalon, Bone Spring, Cline, and Delaware. The company produces around 20 million barrels from the region. It plans to increase development in the Permian basin by introducing four rigs into operation in the Wolfcamp, Wolfbone, and Bone Spring shale formations. To increase the productivity from this region, the company is planning to increase the share of horizontal wells out of the total wells from 10% this year to 50% next year.

More to expect from the Bakken shale

During the third quarter of this year, Exxon Mobil was able to increase its production from the Bakken formation to around 65,000 boepd, which is an 81% rise over the third quarter of last year. The Bakken shale formation is expected to grow in production of oil and natural gas in the coming quarters due to a better understanding of well spacing and the multilayer formation of the Bakken shale. Exxon Mobil has acreage of around 600,000 in the region with huge potential for downspacing. Downspacing is the process of reducing the distance between two wells to increase the productivity of the reservoirs in the Bakken.

In general, well spacing is typically 1,280 acres between two wells. In the Bakken, various players in the region have carried out well downspacing tests at distances of 640 acre spacing, 320 acre spacing, and 160 acre spacing. The downspacing tests at various distances help identify the optimum distance between wells to increase well productivity. According to Goldman Sachs, well spacing of 160 acres is effective at 20% of the Bakken reservoirs. So, we expect that a downspacing program by Exxon Mobil could potentially increase the productivity of its Bakken reservoirs.

In addition to the downspacing, the Bakken formation is multi-layered. These layers are known as Upper Bakken, Middle Bakken, and Lower Bakken. Among the three layers, the Middle Bakken is the oil containing layer. We expect the company to carry out its major production from this layer of the Bakken because the crude oil margin is higher than natural gas margin for the company. During the third quarter of this year Exxon Mobil realized $2.85 per barrel of crude oil sale while $0.56 per thousand cubic feet of natural gas. So a higher margin in crude oil combined with a higher production of crude will increase the company's profitability.

Exxon Mobil is also carrying out pad drilling in the Bakken to increase the efficiency of well drilling. Pad drilling is a method in which a rig can drill multiple wells from the same location in multiple directions, saving time. While transporting a rig to multiple well locations can take few days, the rig for pad drilling is stationed on another well within a few hours.

Another major player in the Bakken Continental Resources (CLR) has around 1.2 million net acres in the region, making it one of the major landholders in the Bakken formation. The company plans to add an additional rig, bringing the total to 21 rigs, by the end of this year and plans to drill around 300 net wells next year. Net wells include the number of wells in which the company has total interest in as well as those wells in which it has partial interest. Continental Resources is carrying out its development program in both the Bakken and the Three Forks formations. The Three Forks formation is underneath the Bakken formation. The company's pilot density program to increase productivity of the oil field consisted of four tests, and the first of the four tests was successful. During the third quarter, the company was able increase oil production from the Bakken by around 7% to 94,500 boepd, which constituted around 67% of the company's total production.

Generating cash flow

Year

2010

2011

2012

Cash Flow from operations ($ billion)

48.41

55.35

56.17

Dividend ($)

1.76

1.88

2.28

Click to enlarge

Source: MarketWatch/Nasdaq

With the increase in production and cost savings the company is poised to provide a long term distribution of cash to its investors. As can be seen from the table, the company has been able to increase cash flow and has provided a growth in its dividend payment. The growth in cash flow could be one of the reasons it attracted long term investor Warren Buffet, who invested around $3.45 billion to increase his stake holding to around 40.09 million shares. The increase in cash flow of the company has also enabled the company to increase dividend payments over last year. Exxon Mobil increased its quarterly dividend for this year to $0.63 from $0.57 last year, showing a growth of around 10%. In addition to the cash flow, this buy will give Warren Buffet an exposure to the growing potential of the U.S. onshore plays like the Permian and Bakken.

Production growth from the U.S. onshore

The U.S. onshore plays in the Permian Basin and the Bakken have huge reserves of hydrocarbon that are available for extraction. The Permian basin, with its multiple shale formations, will provide Exxon Mobil the opportunity for production growth for multiple years. We expect that the Wolfcamp shale formation will be a major growth area for Exxon Mobil. The Bakken still has potential for hydrocarbon extraction, especially oil extraction from the Middle Bakken.

In addition to the reserves in these regions, the company is also leveraging itself on efficient technology to extract hydrocarbons, which would result in cost savings for Exxon Mobil. Currently the company's stock trades at a P/E of 12.14, and its forward P/E is around 11.65, which gives it an attractive valuation. We expect that Exxon Mobil's projects in the Permian basin and Bakken will increase production and earnings for the company in the coming quarters.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: Fusion Research is a team of equity analysts. This article was written by Madhu Dube, one of our research analysts. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.