ExxonMobil (XOM) is my oldest current holding, and was one of the very first, if not the very first stock I ever purchased, way back in 1998. When I first bought in, Exxon had not yet purchased Mobil, Celine Dion's "My Heart Will Go On" was topping the charts, people were in love with tech stocks, and dinosaurs roamed the Earth.
My original investment in mid-1998 has just crushed the market, up around 130%, not including all of the dividend reinvestment, as opposed to the S&P, which is up around 28.5%, again not including dividends. For the first time since 1998, I added in 2010-2011, mostly in the $59-$70 range. Today the stock is at $84. As with all of my recent articles, I am reevaluating my current holdings to see whether I think XOM is a buy, a hold, or a sell. I conclude that XOM is a monster, is awesome, and it's still a buy. Just not quite yet.
I should begin with a note on my generalized assumptions. If you don't agree with more than one or two of these, it's possible XOM is not for you, no matter the apparent valuation:
- Oil and oil-derived products are likely to provide a massive portion of energy, especially for vehicles, for at least the next twenty years, notwithstanding increasing efficiency, and the increasing use of alternative energy.
- Natural gas will come into increasing but limited use in vehicular transportation, starting with trucks, and possibly making the transition to locomotives and cars.
- Natural gas will slowly replace coal in many though not all power plants, with some being replaced by nuclear, and many continue to operate as coal plants for the next twenty years or so.
- World economic growth with continue, albeit in fits and starts.
- Insufficient oil will be discovered to push oil much below $60/barrel ever gain, and it will average around $80-90 or more.
- Prices for natural gas will eventually normalize in the U.S. at least at the $4 or $5/mcf level.
That's all based on my general view of the world, my reading of history, my review of the work of other analysts, and my best guesses about the future. Where are we in pure value terms though? As always, I use a discounted cash flow analysis and I try to keep it fairly simple. My latest sheet for XOM is here.
The top of the sheet shows historical free cash flow for the last nine years. XOM generated a 10.61% annualized increase in free cash flow over the last nine years. This disguises a much larger increase through 2008, followed by a huge drop during and after the financial crisis (and the purchase of XTO Energy) from which XOM still has not quite recovered. So if you only look at it from the top of the latest 2007/2008 cyclical peak, XOM is actually cash flow growth negative over the past four years. Looked at even more closely, XOM shows significant growth in the past two years.
I always use a company's WACC for my discount rate nowadays. BofA/ML in its rather reputable analysis uses a meager 8% WACC for XOM. I have calculated it at over nine, and this website says it is 10%. I am compromising by using a 9% WACC. If that is either too high or too low, watch out, my valuation could be way off. I think I'm in the ballpark though.
I am assuming 7% annualized growth in FCF over the next decade, followed by 2% perpetuity growth, which is all I assume in perpetuity for any company. 7% annualized growth is significantly lower than XOM showed in the last nine years, and I view it as a reasonable growth amount for a company this size, given my generally "bullish" view on oil and natural gas. Because I have this generally "bullish" view on old-line energy, I suspect this growth assumption is likely to prove if anything too conservative.
Using these assumptions, XOM is likely worth around $100 per share today, and trades at about a $16% discount to its fair value. I would rate it a strong buy below $80/share. This is all calculated in the above sheet.
My enthusiasm is tempered because I think XOM is more likely than not to be at or near another cyclical high. At the very least, it is safe to say XOM is not currently in a cyclical earnings trough! (See 2009 for one of those.) As I stated above, I "re-upped" my investment, by more than 100%, in the $58-$70 range in 2010 and 2011, mostly in the low-to-mid $60s if memory serves. I also set the stock up for an automatic monthly investment and DRIP plan. When the stock broke about $80 I stopped the new money investments, though I continue to reinvest all dividends, as I have for more than a decade.
I will add new money if it goes below $80 again, or upon further evaluation. If it goes below $70 that will likely mean we are in a recession, at which point I may just back up the truck again for a larger amount of the stock -- again subject to events and analysis at that time.
XOM stock is not going to be a quick ten bagger for anybody, but I think another double, or slightly better, over the next decade is exceedingly possible, even from today's price level. XOM is a powerful, dividend-producing anchor for one's portfolio. It is an excellent cyclical stalwart.
I have a few other miscellaneous notes. XOM is one of the most long-term oriented companies in existence. It is betting heavily on natural gas over the next thirty year period, which has hurt its returns and profitability in the short term. It has wonderful executive compensation policies, including claw-back provisions on executive bonuses, and long vesting periods. I think they are making the correct decision to remain such a vertically integrated company, as the downstream and upstream businesses are to a certain extent countercyclical.
XOM has generally superior financial metrics to all of its peers. (Just compare all of the key metrics.) As of now, size-wise, I consider Chevron (CVX) and Royal Dutch Shell (RDS.A) to be the only true peers. From a performance standpoint, CVX is the true peer. While CVX has outperformed XOM in the last year or two from a performance/profitability standpoint, again I view this as temporary, relating in part to XOM's absorption of the XTO acquisition, its largest in over a decade, and to its increasing focus on natural gas. BP (BP) I consider to be a wounded company, though it may be a value play, and in the long term its competitive position is not as strong, given its disadvantage in both proved reserves and in their locales.
ConocoPhillips (COP) is no longer in the same league as the above companies. I never understood why Buffett bought into that company when he did (it seemed like an elementary error of buying a cyclical stock at a cyclical high). I certainly wasn't buying any oil stocks at he 2007-2008 cyclical highs. And I never understood why he thought it was superior to CVX, let alone to XOM, in the first place. Frankly, though, all of these companies are solid investments, even COP. I just think XOM, in addition to being the largest, actually is the cream of the crop. If it goes under $80, nab some, and if it goes back under $70, nab a lot, and if it goes back under $60, back the truck up for a great buy on a super-long-term hold.