One of the more disturbing trends in the oil industry over the past few years has been the number of large, major oil and gas companies that have seen their production go down. The reason that this is so disturbing is that these companies primarily make their money by extracting oil and gas from the ground, which they then sell. If the production of any given company declines then that means that it has less product to sell so in order to grow its topline revenue, it must receive higher prices for the oil and gas that it sells. Unfortunately, many of these very same companies have been unable to secure higher prices for their oil and gas due to the environment that has been present in the commodities market over the past few years. This has resulted in declining topline revenues for some of these companies, depending on various factors, such as the magnitudes and timings of each company's production decline.
Platts, a unit of McGraw Hill Financial specializing in the energy industry, provided a partial list of those oil and gas companies that have seen their production decline over the 2009 to 2013 period. I have reproduced this chart here:
Source: Platts, Company Statements
As the chart shows, all six of the supermajor oil companies, along with Italian oil and gas giant Eni (NYSE:E), have seen their production decline over the 2009 to 2013 period. As mentioned in the introduction, this has resulted in declining revenues at most, but not all, of these companies. For example, here are Exxon Mobil's (NYSE:XOM) revenues over the past three years:
Source: Yahoo! Finance
The company's first quarter 2014 results showed no improvement here, with the company reporting lower revenues than in any of the quarters of the previous year (although net income was higher than in any of these quarters). Exxon Mobil's production also decreased in the first quarter by 5.5% or by 2.9% if the company's concession in Abu Dhabi is excluded.
The same trend is present at another large oil company that has also seen its production decline since 2009, Chevron (NYSE:CVX). Here are Chevron's annual revenues over the past three years:
Source: Yahoo! Finance
Like Exxon Mobil, Chevron had lower revenues in the first quarter than in any other quarter in the past year. Unlike Exxon Mobil however, Chevron's net income has also been falling. Here is the company's net income over the past three years:
Source: Yahoo! Finance
Chevron's net income also fell further in the most recent quarter with the company reporting a lower net income than in any of the other quarters in the past year.
Not all of these companies have seen their topline revenues decline, which tells us that the timing of the production declines also has an impact on a company's topline revenues. For instance, it has less of an impact if production falls when oil prices are low than it does when oil prices are high. In addition, oil and gas companies also bring in money through their refining and trading operations, a fact which has helped to prevent BP's (NYSE:BP) profits from falling as much over the past few years as they would have in the absence of the positive results from its refining operations. BP is the only company out of all the ones in the table above that has managed to grow its revenues over the past three years.
Source: Yahoo! Finance
Like Exxon Mobil however, BP's production in the first quarter fell from the prior year quarter. Only in this case, it fell by 8.5%, clearly much more than Exxon Mobil's fell over the same period.
Readers may note that the above production declines are tracked from 2009-2013. However, the revenue numbers provided are only from 2011-2013. There is a reason for this. As many of you can likely recall, oil prices were much lower in 2009 and 2010 than in the 2011-2013 period. As a result, rising oil prices would be increasing all of these companies' revenues sufficiently to completely offset the impact of lower production. Although oil prices have fluctuated over the 2011-2013 period as well, prices have overall been much more range bound than over the 2009-2013 period.
Clearly, this is very much a worrying trend. The production of oil and gas is the lifeblood of these companies as it generates the lion's share of their revenues. While some companies such as Exxon Mobil have been buying back their own stock and making cost cuts in order to boost their earnings per share, there is ultimately a limit as to how much can be done if revenues are declining.
That is not to say that none of these companies can turn around their fortunes. Eni, for example, has a tremendous opportunity to become a major supplier of natural gas to the rapidly growing markets of Southeast Asia through the development of the Mamba field in Mozambique. Exxon Mobil has a number of projects in Russia that offer it some growth opportunities. In fact, despite the company's growth prospects in areas such as the Canadian oil sands and Papua New Guinea, a sizable percentage of the company's forward growth is likely to come from Russia. Exxon Mobil, in partnership with Rosneft (OTC:RNFTF), recently approved the exploration and development of four oil rich projects in the Russian Arctic. The two companies also have a variety of other projects in Russia. Thus, Exxon Mobil can be viewed as somewhat of a play on Russia. Not a pure play perhaps, but a play nonetheless.
However, by looking at Russian oil and gas companies, we can see several other ways to play the development of Russia's vast oil and gas resources. Many of these companies have not experienced the same problems of declining production that the western oil companies have. In addition, many of these companies trade at much more attractive valuations than the western oil companies and in some cases, they pay higher dividends. Here are three companies that may be appealing:
Gazprom is one of the largest energy companies in the world, producing more barrels of oil equivalent per day than any company except Saudi Aramco. The company also has tremendous reserves, boasting 9.3 times the proven natural gas reserves of Exxon Mobil. Gazprom is also extremely well positioned as the monopoly supplier of natural gas to several European countries and provides roughly 1/3 of all the natural gas consumed by the continent.
Source: Zero Hedge
Unlike most of the western oil companies, Gazprom has been increasing its revenue. Here are the company's revenues for the 2011 to 2013 time period:
December 31, 2013
December 31, 2012
December 31, 2011
Revenue (in millions of Russian Roubles)
Source: Company Statements
Admittedly, Gazprom's production of natural gas has been declining for quite some time. However, it is up over the 2009-2013 period that was provided for the western oil companies. In 2009, Gazprom produced 461.5 billion cubic meters of natural gas. This figure has risen to 487.4 billion cubic meters in 2013. Both of these figures are below the 549.76 billion cubic meters of natural gas that Gazprom produced in 2009 and the 513.2 billion cubic meters of natural gas that the company produced in 2011. Overall though, Gazprom's production is up over the 2009 to 2013 period and it has clearly not been steadily declining. This is a better performance than many of its western peers managed.
In addition to natural gas, Gazprom also produces oil and it has been steadily increasing its production of such over the past few years. In 2009, Gazprom produced 31.6 million tons of crude oil, down slightly from the 32 million tons that it produced in 2008. By 2013, Gazprom had managed to increase its production of crude oil to 33.8 million tons per year. Clearly, this is also a much better trend than the western majors have managed.
Gazprom also has significant growth prospects due, at least in part, to the massive deals with China that the company has recently entered into. Under these deals, Gazprom will provide a total of 68 billion cubic meters of gas per year to China with the first 30 bcm per year being provided by 2015 and the second 38 bcm per year coming online by 2018. The second part of this deal is being valued at more than $400 billion over a thirty-year period. Gazprom will be increasing its production of gas to meet the terms of this deal. Therefore, this represents a near guarantee of forward growth. China also has the option to increase its purchases to 90 billion cubic meters of gas later on, which would provide further growth.
Gazprom may be one of the cheapest stocks in the world at its present level. Despite the run-up that the stock has seen over the past two months, it still trades at a remarkably low P/E of just 2.74 at the time of writing. Gazprom also yields a solid 4.90% which is higher than most of the western companies listed above.
Rosneft was already mentioned earlier as a partner with Exxon Mobil on several Russian projects. However, the largest oil company in Russia could also prove to be a good investment in its own right. Rosneft is comparable in size to Exxon Mobil, producing an average of 4.6 million barrels of oil equivalent per day in 2013 compared to Exxon Mobil's 5.3 million barrels of oil per day in the same year. However, Rosneft has substantially larger reserves. At the end of 2013, Rosneft's proved reserves consisted of 25.1 billion barrels of crude oil and 46.9 billion cubic feet of natural gas. This is a total of approximately 33 billion barrels of oil equivalent compared to Exxon Mobil's 25.2 billion barrels of oil equivalent proved reserves. Exxon Mobil's reserves are much more weighted towards natural gas than Rosneft's are, however. At the end of 2013, Exxon Mobil's proved reserves totaled 7.5 billion barrels of crude oil, 3.6 billion barrels of bitumen, and 579 million barrels of synthetic oil. All of Exxon Mobil's remaining proved reserves are either natural gas or natural gas liquids. Therefore, it should be immediately obvious that Rosneft has much more crude oil in the ground than Exxon Mobil.
Despite this, Exxon Mobil has a much higher market cap than Rosneft. At the time of writing, Rosneft trades with a market cap of approximately $77.9 billion. This is much lower than Exxon Mobil's market cap of $441.2 billion. Admittedly, part of this difference can be explained by Exxon Mobil's significantly higher profitability. In the first quarter, Rosneft had a net income of approximately $2.55 billion compared to Exxon Mobil's $9.10 billion. However, Rosneft still has a significantly lower price/earnings ratio than Exxon Mobil. At the time of writing, Exxon Mobil trades at a P/E of 13.20 and Rosneft trades at a P/E of 5.78.
Rosneft carries this much lower P/E despite the fact that its recent historical operating performance has been much better than Exxon Mobil's. In 2009, Rosneft produced an average of 2.18 million barrels of crude oil per day, generating $46.8 billion in revenues. By 2013, the company was producing an average of 4.2 million barrels of oil per day and it also produced 38.17 billion cubic meters of natural gas over the course of the year, generating $136.6 billion in revenue. In other words, Rosneft has nearly doubled its production and nearly tripled its revenues over the same period that Exxon Mobil and other western oil companies have seen their production decline.
As already discussed, Rosneft's P/E is considerably lower than that of the western oil majors. Its dividend is higher too. Rosneft stated that it intends to pay a dividend of RUB 12.86 per share for the 2013 fiscal year. This is approximately $0.371 at the current exchange rate which gives the stock a 5.07% yield at the current price.
Surgutneftegas is another giant Russian oil company that has not experienced the same production declines that the western oil companies have. To the contrary, it has managed to grow its oil production at a respectable rate. In 2009, Surgutneftegas produced a total of 59.6 million tons of crude oil and 13.6 billion cubic meters of natural gas. By 2013, the company's oil production had grown to 61.45 million tons of crude oil although its production of natural gas had decreased to approximately 12 billion cubic meters. This production level is similar to or slightly higher than that of ConocoPhillips (NYSE:COP), which produces less crude oil but more natural gas.
However, unlike ConocoPhillips, Surgutneftegas has seen its topline revenues grow over the past few years. In 2011, Surgutneftegas had total revenues of approximately $21.9 billion. This compares to approximately $23.7 billion in revenue in 2013. This represents growth of 8.2% over the 2011-2013 period. Here's how that compares to ConocoPhillips' revenues over the same period.
Source: Yahoo! Finance
As the chart shows, Surgutneftegas has delivered better historical results than ConocoPhillips or its other western peers. However, it did have lower profits than ConocoPhillips. In 2013, Surgutneftegas reported a total net income of approximately $7.46 billion. ConocoPhillips reported $9.156 billion in the same period. However, excluding gains on discontinued operations, ConocoPhillips had a net income of just over $8 billion, which represents a lower profit margin than Surgutneftegas had in the same period considering the Russian company's $23.7 billion in revenue compared to ConocoPhillips' revenues of $54.4 billion.
In some ways, Surgutneftegas may be the riskiest company of any discussed in this article. This is due partly to the opaque nature of the company's balance sheet. Surgutneftegas has a number of assets on its balance sheet that investors cannot be certain exactly what they are; therefore, the risks associated with these assets are virtually impossible to analyze and price appropriately. In addition, there are long-standing rumors regarding the voting control of the company's stock. Vladimir Bogdanov, Surgutneftegas's CEO, is rumored to control the majority of the company's outstanding stock through several offshore companies. Mr. Bogdanov denies these rumors and says that he only owns 2% of the company's outstanding stock. Mr. Bogdanov is notoriously unfriendly to the rights of majority shareholders so if he does indeed control the majority of the company's shares then this creates some risks that other shareholders will never be able to have any say in the running of the company or the use of its tremendous cash hoard. This would present additional risks to the minority shareholder.
These risks mean that Surgutneftegas should be priced at a discount to its peers. However, it may still be priced too low at its current level. At the time of writing, Surgutneftegas trades at a forward P/E of 4.05. However, unlike the other Russian companies discussed here, Surgutneftegas pays a lower dividend than its American peers. The stock currently yields 2.19%.
Disclosure: The author is long BP. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
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