From Russia, With Love - How Exxon Mobil Made The Right Move In Moscow

Jul.30.14 | About: Exxon Mobil (XOM)

Summary

Exxon's decision to continue operations in Russia, despite U.S. sanctions, shows the company's promise to shareholders. XOM has been careful in that it has not "officially" breached the U.S. sanctions.

Sakhalin-1 project in Far East Russia accounts for 1% of XOM's annual production.

XOM would find it hard to re-enter the Russian market if they abandoned their oil exploration and production in response to U.S. sanctions.

Exxon Mobil (NYSE:XOM), the most valued oil company in the world, is not a stranger to sidestepping U.S. policies in pursuit of the company's own interests. XOM invested in Kurdistan, Iraq a couple of years ago, despite angering both Washington and Baghdad, is one such example. By sending its drilling rig West Alpha to Kara Sea for joint operation with Rosneft (OTC:RNFTF), despite U.S. imposing sanctions on Russia owing to the latter's maneuvers in Ukraine, XOM has manifested its commitment to Moscow and its desire to play its part in unearthing the rich oil and gas reservoirs beneath the Arctic.

Dodging the Sanctions

XOM isn't exactly breaching U.S. sanctions as things stand, since Washington has designed them to have maximum influence on Moscow, while restricting any impact on American companies, which are involved with Russia. Even so, XOM is still breaching the U.S. foreign policy rule book, since a top American company being involved in Russia would raise more than a fair share of diplomatic eyebrows.

Clearly, the Russian sanctions were a litmus test of the American oil companies' resolve and commitment to their interests, as the divide between the West and Russia grows. And XOM seems fully focused on enhancing its oil production and revenue, even if it comes at the cost of a diplomatic backlash back home.

Russian Oil Hegemony

Moscow is now the leading oil producer in the world, producing more oil than Saudi Arabia. While it might not be politically correct to collaborate with Russia right now, and might alienate a few voices domestically, for an oil behemoth like XOM to bid Moscow - and the Arctic - it would be nothing short of business suicide. The Arctic is believed to possess 20% of recoverable oil and gas resources underneath it, and animosity with Russia would mean losing access to that opulent region.

If XOM does abandon Russia in these tricky times, it would find it impossible to make a comeback later on. For, Vladimir Putin isn't permanent. The Ukrainian crisis isn't permanent. However, the oil beneath the Arctic most definitely is.

Old Ties

XOM has been doing business in Russia for over two decades. Its Neftegas subsidiary possesses 30% of one of the leading foreign direct investment projects via Sakhalin-1 project in Far East Russia. Sakhalin-1 is responsible for around 182,000 barrels of oil equivalent per day (boepd), making Exxon's stake 54,000 boepd.

As things stand, Sakhalin is the sole Russian asset for XOM, and is responsible for 1% of the company's annual production, according to 2013 figures. While these figures aren't exactly daunting, XOM's expected Russian exploration budget of $3 billion would result in around 2.3 billion barrels of oil and 485 billion cubic feet of gas.

Also, as the anti-fracking hullabaloo engulfs the U.S., with American and Canadian Arctic no longer being within the proximity of oil and gas companies thanks to a plethora of lawsuits, and of course the ISIS orchestrated crisis in Iraq, Russia continues to be pivotal for XOM's long-term goals. XOM simply has too much to lose in Russia.

XOM Needs More Oil

Last Friday, XOM was downgraded by Barclays' equities researchers to "underweight" from the earlier "equal-weight". The company's quarterly earnings report on May 1 showcased revenue worth $106.77 billion, which fell significantly short of the $109.76 billion estimate. XOM's revenue was down 1.5% year over year. Over the last two years, XOM's revenue has plunged by almost $60 billion. And as the numbers slide in the short term, the company needs to have a long-term strategy in place to overcome the recent slump in oil production and revenue. Hence, it clearly needs to eye new avenues to extract more oil - Russia being the obvious destination.

But the Menace Looms

The U.S. sanctions on Russia as things stand might not be hampering XOM's maneuvers with Moscow, but there is a chance that the West might want to hit Russia's energy nerve harder if the Ukraine crisis further exacerbates. There are numerous funds and companies that are shifting capital away from Moscow owing to the tragic Malaysia Airlines flight MH17 incident, in which many believe Russia was involved. If the Russian image continues to deteriorate, XOM will definitely feel the heat back home for its partnership with Moscow. The company might have some explaining to do, as it gets ready to announce Q2 earnings on July 31.

Investment Verdict

There are murmurs that Kazakhstan's Kashagan oil project - that's within geographical proximity of Russia - where Exxon has an 18% stake might be delayed till next year. The project is said to bring in 1.5 million barrels of oil every day. This clearly suggests that there is apprehension and uncertainty with regards to XOM's projects especially those that have a Russian subplot.

Even so, XOM's steadfastness vis-à-vis Russia suggests that the company is in there for the long haul and is willing to slug it out against any political crises that might hamper its progress in the near future. XOM quite clearly isn't an ideal investment if you are looking for short-term gains. But like XOM, if you're willing to dig in for a long period, XOM has massive dividends in store for its backers.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.