Exxon In The Permian: High Costs And Poor Results May Drag The Stock Down

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About: Exxon Mobil Corporation (XOM), Includes: CDEV, CXO, EOG, ESTE, PE, PNRG, PXD, XOP
by: Josh Young
Summary

Exxon is ramping up its Permian drilling activity.

Exxon's Permian well results have been bottom tier.

Exxon cost savings have not kept pace with competitors.

Will high costs and poor results drag Exxon stock down?

Exxon Mobil (XOM) recently held an analyst day, at which it announced significantly increased Permian basin drilling activity and expected oil production growth by 2025. The increased forecast can be seen in the below slide from its presentation:

Exxon Permian As an investor in upstream oil and gas company shares, this is intriguing, and it should be concerning for Exxon shareholders. When I saw this chart, I immediately thought of many Permian well productivity tables I've seen in various research reports and in articles on websites such as Seeking Alpha. Here is one such report, from RSEG, a well-known engineering and analysis group:

Exxon Permian wells This chart is consistent with other data sets and shows that Exxon (identified by its stock ticker XOM in the chart) wells have the lowest initial production rates. Other data sources show cumulative production, which does not always correlate with initial production but, in this case, correlates with disappointing Exxon well productivity.

In all 122 pages of Exxon's analyst day presentation, a large portion of which are dedicated to its Permian activity, there is no well type curve presented, and the single data point regarding well economics shows up on the slide earlier in this article, claiming a 10% return at $35 oil, with no data to substantiate it.

It gets worse. There is another slide showing Exxon's cost evolution over the past 5 years.

Exxon Cost Environment

Closely following other upstream oil and gas companies, as well as service providers across the industry, a very slight drop in land rig costs from 2013 until 2018 is inconsistent with the experience of competitors and the providers of land oil and gas services. Here is a chart of various shale-related services stocks, which can be used as a proxy for day rates and well costs (also, reference almost any upstream focused company's investment presentation to see the significant costs in land rigs, completions, and related services since WTI oil prices (USO) fell from over $100 to the current ~$55 environment).

Chart Data by YCharts

The above chart is not comprehensive, but it does include the oil services index (OIH), Halliburton (HAL), which offers comprehensive services, including significant pressure pumping and related services, Patterson-UTI Energy (PTEN), which offers drilling services, and Calfrac (OTCPK:CFWFF), which offers completion services. Many pure plays were not available as share price reference points because they have filed for bankruptcy since 2014 (Basic, Key, C&J, etc.) or went public after the start of that time frame.

Exxon highlights its five "competitive advantages" in another slide in its presentation:

Exxon Competitive Advantages Noteworthy is the absence of the two factors most often cited by competitor successful upstream companies, including Permian focused mid-caps like EOG (EOG), Pioneer (PXD), and Concho (CXO): well productivity leadership and low cost advantage. If EOG is the low cost and well productivity leader, that means another company must not be. And, as seen on that well productivity chart from RSEG, while EOG routinely drills high initial production rate wells in the Permian, Exxon does the opposite.

This calls into question the forecast from Exxon's presentation of expected earnings and cash flow from the Permian:

Exxon Permian Earnings and Cash Flow With higher-than-average well costs and lower-than-average well productivity, it is hard to reconcile hockey stick like projections of earnings and cash flow. It takes many "supplemental information" slides to do so at the back of the presentation, and it is not presented in a manner that facilitates such reconciliation.

Even if it fully reconciled, advertising "breakeven after capex in 2021" isn't exactly earth shattering. Permian and other upstream-oriented equities have seen their share prices fall materially if they aren't already cash flow neutral or positive after capex in 2019, not to mention 2021. I wrote an article about this recently, and there has been meaningful share price differentiation between companies that can carry their capex programs within cash flow versus those that can't. Here is a chart showing a share price performance, with obvious performance differentiation between those funded within cash flow and those not - including PrimeEnergy (PNRG), Parsley (PE), Centennial (CDEV), and Earthstone (ESTE) - the differentiation among large caps is there as well, but with smaller caps, it is more visually apparent:

Chart Data by YCharts

And, as a broader point, Exxon's shares have meaningfully outperformed the upstream-focused index (XOP) over the past five years, as most upstream companies outspent cash flow for the sake of growth. With Exxon now pushing forward aggressively despite high costs and low well productivity, there is risk of Exxon stock catching up to the downside going forward:

Chart Data by YCharts

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.

Additional disclosure: Disclaimer: Opinions expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment adviser capacity. This is not an investment research report. The author's opinions expressed herein address only select aspects of potential investment in securities of the companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies' SEC filings, and consult a qualified investment adviser. The information upon which this material is based was obtained from sources believed to be reliable but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author's best judgment as of the date of publication and are subject to change without notice.