- Exxon Mobil has dramatically underperformed Chevron, mostly due to its inability to grow its production for a whole decade.
- However, Exxon Mobil recently announced a major shift in its strategy. The company will greatly boost its capital expenses from now on in order to grow its output.
- Given the upcoming dividend hike, Exxon Mobil is offering a 4.3% dividend yield, which is the highest yield it has offered in the last two decades.
By Aristofanis Papadatos
Exxon Mobil (NYSE:XOM) has remarkably underperformed Chevron (NYSE:CVX) during the last two years. To be sure, it has lost 13% whereas Chevron has rallied 23%. It is really rare to see such a great divergence between these two oil majors. Therefore, the big question is whether the pain will continue for Exxon Mobil or the time has come for a reversion to the mean.
Exxon Mobil and Chevron are both high-yield Dividend Aristocrats, meaning they have increased their dividends for 25+ consecutive years. You can see all 53 Dividend Aristocrats here.
This article will compare these two Big Oil dividend growth stocks.
All the oil majors were severely hit by the downturn of the oil market, which began almost four years ago. Before the downturn, all the oil majors were generating about 90% of their earnings from their upstream segments; i.e., the production of oil and gas. However, as the price of oil began to collapse, this segment was severely hit due to its leverage to the price of oil.
On the other hand, while the price of oil was falling, the price of oil products fell more slowly thanks to the resultant improvement in their demand. As a result, the refining margins greatly improved and hence the downstream segments of the oil majors partly offset the bleeding of their upstream segments. Nevertheless, the impressive performance of the downstream segments of the oil majors was not sufficient to save their overall earnings from plunging.
Exxon Mobil exhibited the most resilient performance among the oil giants. More precisely, its earnings per share [EPS] in 2016 and 2017 were 74% and 37% lower, respectively, than those in 2014. The bleeding was much more dramatic for Chevron, as it posted losses of $0.27 per share in 2016 and its 2017 EPS was 52% lower than it was in 2014.
The superior performance of Exxon Mobil has resulted, at least in part, from its more integrated structure and its lower exposure to the price of crude oil. Last year, Exxon Mobil generated 57% of its earnings from its upstream segment, 24% from its downstream segment and the remaining 19% from its chemicals whereas Chevron generated 61% of its earnings from its upstream segment and 39% from its downstream segment. Moreover, Exxon Mobil produced crude oil and natural gas at a 57/43 ratio whereas Chevron produced them at a 63/37 ratio.
This is the most striking difference between the two oil giants. Chevron increased its production by 5% last year, from 2.59 to 2.73 M barrels/day. Even better, it expects to grow its output by 4-7%, this year thanks to Australian LNG and the acceleration of development activities in the Permian. It is also remarkable that the company expects its Permian production to approximately double until 2021, from 181,000 barrels/day in 2017 to 300,000-400,000 barrels/day in 2021.
Furthermore, it expects to keep growing its output for years thanks to the ramp-up of a series of major projects, such as Gorgon, Angola LNG and Jack/St. Malo, which have only recently begun to bear fruit and thus have ample room for output growth.
These growth prospects are exciting, particularly given that Chevron had failed to grow its output for a whole decade. It is critical for investors to realize that it takes many years for oil projects to start bearing fruit. This means that there is a multi-year lag between capital expenses and the resultant cash flows of the projects and this lag makes the evaluation of oil stocks hard. Fortunately for the shareholders of Chevron, after several years of excessive capital expenses and no output growth, the company has finally reached the positive phase of its cycle, with significant growth and lower capital expenses.
In addition, due to the downturn of the oil market in recent years, Chevron has reduced its operation expenses by 20% in the last three years and has made its screening process for growth projects much stricter, as it now approves only of projects that are profitable at oil prices around $40. As a result, the company expects to increase its high-margin reserves by more than 200 million barrels this year.
On the other hand, Exxon Mobil has completely failed to grow its output during the last decade. To be sure, it produced 3.99 M barrels/day last year, which is essentially the same production rate as the one it reported in 2008. Even worse, the management has repeatedly promised that it would grow the production volumes during the last decade but has failed to deliver so far.
Fortunately, the management recently announced that it was going to completely change its strategy and begin to aggressively invest on growth projects from now on. To this end, it intends to raise its capital expenses from $15.4 B in 2017 to $24 B this year, $28 B next year and about $30 B per year during 2023-2025. In this way, it aims to raise the output by 25% in the next 7 years, from 4.0 M to about 5.0 M barrels/day. Thanks to this expected growth, the management expects to more than double the earnings until 2025, as shown in the chart below.
According to the management, the earnings will increase 135% at an oil price around $60 and will more than triple if the oil price climbs to $80 until 2025.
When Exxon Mobil announced its major shift in its strategy, the market reacted in a markedly negative way due to its concerns on the hefty capital expenses and sent the stock down 3%. Since then the stock has dropped an additional 2%. However, this development is most likely positive for the stock, as the latter cannot offer attractive long-term returns without production growth. If the management is careful in the execution of the investment projects, this shift is likely to be a game changer for the stock.
Both stocks are Dividend Aristocrats, with exceptional dividend records. Exxon Mobil has raised its dividend for 35 consecutive years and has paid uninterrupted dividends for more than a century. Chevron has raised its dividend for 31 consecutive years. Exxon Mobil currently offers a 4.2% dividend yield, which is close to the 4.0% yield that Chevron offers.
In addition, Exxon Mobil will announce its next dividend hike this month whereas Chevron has already raised its dividend this year. Nevertheless, due to the downturn of the oil market and its absence of growth, Exxon Mobil has drastically reduced its dividend growth rate in recent years, with a 6% raise in 2015 and a 3% raise in each of the last two years. Therefore, as a similar hike is expected this year, the yield of Exxon Mobil is likely to rise to 4.3%. Consequently, the two stocks do not seem to differ much in their dividend proposition, at least on the surface.
However, Exxon Mobil has a much healthier payout ratio than Chevron (66% vs. 89%). Moreover, it has a stronger balance sheet than Chevron. More precisely, its net debt (as per Buffett, net debt = total liabilities – cash – receivables) currently stands at $132.2 B, which is just 6.5 times its annual earnings. On the contrary, the net debt of Chevron stands at $85.5 B, which is 9 times its annual earnings. Therefore, Exxon Mobil currently offers a slightly higher dividend yield and seems to have more room for future dividend hikes than Chevron.
Finally, the upcoming dividend hike of Exxon Mobil will raise its dividend yield to 4.3%, which is the highest dividend yield that the stock has offered in the last two decades, as shown in the chart below.
Therefore, thanks to the underperformance of the stock, investors are given a unique opportunity to purchase the stock at a 20-year high dividend yield while they can rest assured that they will not incur a dividend cut for years.
In terms of valuation, according to ValueLine, Exxon Mobil and Chevron trade at price-to-earnings ratios of 17.7 and 19.2, respectively. These valuations are using analyst estimates for 2018 earnings. Thus, it is evident that Exxon Mobil is more cheaply valued than Chevron right now. However, as mentioned above, Exxon Mobil has failed to grow its production for a whole decade whereas Chevron is finally beginning to grow its output. Therefore, due to the different growth prospects of the two oil giants, the difference in their valuation seems to be reasonable.
If the shift in the strategy of Exxon Mobil bears fruit, the stock will be rewarded with a richer valuation. However, as it takes years for oil projects to begin yielding cash flows, it will probably take some years for this strategy to bear tangible results. Moreover, the above-mentioned defensive behavior of Exxon Mobil during downturns is a two-edged sword. On the one hand, Exxon Mobil is less leveraged to the price of oil than Chevron and hence it exhibits stronger results during downturns. On the other hand, the price of oil has strongly rebounded thanks to the support of OPEC and Russia and is now trading near a 3-year high. In addition, it is likely to remain supported for the foreseeable future. As a result, Chevron is likely to exhibit superior performance thanks to its increased leverage. Therefore, Chevron is likely to continue to enjoy a higher P/E ratio than Exxon Mobil for the foreseeable future.
Oil and Gas Reserves
Exxon Mobil increased its estimate of its reserves from 18.5 to 21.2 billion barrels of proved oil equivalent reserves last year. The increase mostly resulted from the rally of the oil price last year, which rendered many reserves economically viable. At the current production rate of the oil giant, these reserves are sufficient for approximately 14.5 years.
Chevron has achieved a satisfactory average reserve replacement ratio of 107% during the last five years. Thus the company has increased its proved reserves to 11.7 billion barrels of oil equivalent, which are sufficient for 11.7 years of production, given the current production rate of about 1 B barrels/year. Therefore, Exxon Mobil seems to be in a slightly better position than Chevron in terms of proved reserves.
Exxon Mobil has dramatically underperformed Chevron and the broad market for a good reason, as the oil major has failed to grow its production for a whole decade. However, the company recently announced a major shift in its strategy, with a drastic increase in its investment projects. This move is likely to be a game changer for the company.
Therefore, as the stock is reasonably valued, has an exceptional dividend growth record and currently offers its highest dividend yield in the last two decades, it is likely to greatly reward those who purchase it now. Overall, from a contrarian point of view, Exxon Mobil seems more attractive than Chevron right now. Nevertheless, investors should always remember that contrarian views require great patience until they materialize.
This article was written by
Analyst’s Disclosure: I am/we are long XOM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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