Exxon Mobil (XOM) and Rosneft (OTC:RNFTF) signed a joint venture to explore the prospect of tight oil formation in Western Siberia. In the joint venture, Rosneft will hold around 51% with Exxon Mobil holding the remaining 49%. The joint venture between the two companies will start a pilot program to develop the Bazhenov and the Achimov formation from now to 2015. Under the pilot program, the companies will drill horizontal wells and revive old wells. The pilot project consists of 20 blocks in the Bazhenov formation and 17 blocks in the Achimov formation, located in Western Siberia, where Exxon Mobil plans to invest around $300 million. These blocks could yield 15 billion to 20 billion barrels of crude. The Bazhenov formation is expected to have around 285 trillion cubic feet, or tcf, of technically recoverable natural gas and 74.6 billion barrels of technically recoverable oil. The Bazhenov formation could yield around 3 billion to 143 billion metric tons of oil. The cost of drilling a horizontal well in the Bazhenov formation may be $8 million to $10 million. The lifting cost of oil from the Bazhenov formation is estimated to be around $40 per barrel. Lifting cost is the cost of oil production from a well.
The potential of the Bazhenov formation is attracting other Russian oil and gas producers, which are collaborating with other major oil companies to develop the Bazhenov formation. Gazprom Neft (OTCQX:GZPFY) and Royal Dutch Shell (RDS.A) (RDS.B) have formed a joint venture, Salym Petroleum Development, or SPD, for the Upper Salym field of the Bazhenov formation. Currently SPD is carrying out a pilot project in the Bazhenov formation. This pilot yielded a model that showed the Upper Salym field of the Bazhenov formation is the most promising for oil production.
In addition to the operations in the tight oil formations, the Russian government is providing tax incentives to oil companies operating in these formations. The tax incentives could be as high as $21 per barrel of oil. This incentive from the Russian government is given to boost output from tight oil formations, which will make up around 0.2% of total Russian oil output this year to around 11% by 2020. Generally, the tax burden of oil production from the Russian fields is high, with the government getting around 90% of the revenue from each barrel of crude export. So the tax breaks provided by the Russian government will help increase profitability of the oil companies operating in the Bazhenov formation. The production cost coupled with the tax breaks may increase Exxon Mobil's margins.
Cutting Capex next year a possibility
Exxon Mobil estimates a total capital expenditure of around $41 billion for 2013, having spent around $32.6 billion for the past nine months of the year. Over the last five years, Exxon spent around $155.6 billion to develop projects across the world that should provide volume growth. Capital expenditure is expected to peak next year with free-cash-flow-generation expected to rise starting in 2015.
Four major projects -- the Kearl sand, Kashagan, Papua New Guinea (PNG) LNG, and Kipper Tunna Turrum, or KTT, projects -- are expected to increase volume of production next year. The Kearl sands produce around 100,000 barrels per day, or bpd, with Exxon and Imperial Oil as its operator; the Kashagan project produces around 180,000 bpd with Exxon Mobil's share of 16.81%; the PNG-LNG produces around 6.9 million tonnes per annum, or mtpa, of natural gas with its share of 33.2%; and the KTT project contains reserves of around 1.6 tcf and 140 million barrels of oil, in which it has 32.5% share. These four projects are likely to bring more than 190 boepd of production per day next year. As these projects come into production, Exxon Mobil will likely have a lower capital expenditure budget, which will likely increase free cash flow.
This cash flow could be used for more cash distribution to the shareholders. During the fourth quarter, the company plans to make a share purchase of around $3 billion. As of the third quarter, the company repurchased around $12.7 billion in shares. This would make the expected share repurchase around $15.7 billion for this year.
Reduction in capital expenditure is also likely to enable the company to provide future dividends. The following table shows the quarterly dividend from 2008 to present.
The table shows that Exxon Mobil increased the dividend at a compounded average growth rate, or CAGR, of around 9.51%. Looking at the company's cash-flow-generation ability in the coming quarters, Exxon Mobil will likely increase the quarterly dividend payout.
Realizing more production
Exxon Mobil's venture into Russia to develop one of the prolific plays in the Bazhenov formation could result in long-term production output growth from Russia. Further tax breaks from the Russian government will provide Exxon Mobil better operating margins in developing shale gas from the Bazhenov formation.
It also plans to bring several upstream projects into production that is likely to create incremental production and result in cash flow. Further, as the company brings more projects into operation capital expenditures will be reduced next year, generating free cash flow. Thus, the company will have more cash for distribution to its shareholders 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.