Exxon Faces Reality

Rockefeller John DExxon is like the government. It’s constitutionally unable to face reality. This has been the case for some years now, and has been reflected in their refusal to accept that spending billions annually would not result in any appreciable growth in their oil reserves. I’ve been snickering for years at XOM’s stuck-in-time approach. Here’s a snippet of a post of mine from a year ago, Advice to Major XOM.

Like sands through the hourglass, so are the days of ExxonMobil. Each year brings a new promise to grow production and build reserves “the old fashioned way.” They spend 20 billion. They spend 40 billion. The CEO is interviewed, and gives his patient outlook on the price of oil. (has no idea). Cash builds up on the balance sheet. The company is praised, for not being aggressive. The company is criticized, for not being aggressive. More cash builds up on the balance sheet. Investor groups become alarmed, at an apparent lack of strategy. Production stays flat, year after year. Reserve replacement flattens.

When Rex Tillerson was made CEO of ExxonMobil a few years ago he was asked for his outlook on the price of oil. Rex stated that was not his job, and that frankly he didn’t care. Now, that’s probably the kind of attitude that caused the Rockefeller heirs to probe the board, for a new strategy. While misunderstood as a push for investment in Alternative Energy, the Rockefeller group was correctly identifying the fact that Exxon was led by an intellectually incurious CEO, and that the company was sleepwalking its way into a paradigm shift in energy supply. Spending 20 billion a year just to keep production and reserves flat does, indeed, indicate a state of denial.

Whether Exxon’s corporate culture of denial has changed or not is unclear. However, Exxon today has purchased for itself one of the best run Natural Gas producers in the United States, with its all stock deal for XTO. (they should have paid cash and de-hoarded some of their dollars). XTO, Run by Bob Simpson, has assembled a fine collection of shale NG properties and conventional oil production in the continental US over the past five years, and is quite the prize. One wonders if XOM will have to compete a bit further, however, before the deal is actually closed.

A more poignant and broader question however is as follows: does Exxon see a shift coming, finally, to energy policy in the US that would favor natural gas? Given XOM’s devotion to doing things the old-fashioned way, I say maybe. But unlikely. I doubt very much Exxon would make a deal that would depend on the whims of future policy decisions, out of Washington. No, Exxon makes deals based on the hard-bitten truths and laws that oilmen of old would live by. So while I can’t give them credit for having any vision, they do know history. And that’s what you get with Exxon, visionless management–but safe, disciplined management.

Perhaps this is an apt moment to post the most recently updated chart of Non-OPEC crude oil production. Because that’s the real reason for today’s deal. Developing new oil production here in the West, except on a small scale, is tough. Exxon is too big to add reserves therefore on the oil side through development. Indeed, in recent years, Exxon has not been able to boost its annual reserve replacement ratio above 100% via oil. So instead, it obtains reserves of BTU’s another way, via natural gas. Needless to say, but this puts a finer point on how all the global majors will add to reserves in the years ahead: through more acquisitions of North American NG.

Non-OPEC Supply 2001-2009

-Gregor

Photo: John D. Rockefeller

Further Reading:

Rockefeller’s descendants tell Exxon to face the reality of climate change, The Independent UK.

Exxon, The Chase for Reserves and the Sands, Steve Levine.

  • http://twitter.com/wood83 Jason Wood

    Gregor, the question I have for you is whether this is really much different? XTO went on a spending spree before the credit crisis, as you know, leveraging up to buy lots of shale assets, and arguing that it was time for a change of strategy. The bottom fell out of natty gas shortly thereafter and the incremental reserve/FCF benefits from the spending spree seemed elusive.

    Any thoughts on why XTO and not one of its brethren?

  • gregor.us

    The map of the XTO (serial) acquisitions compared to say, CHKs stuff, is generally imo more easily plugged into the existing NG grid. CHK has huge resources now but alot of it is in the middle of nowhere. Plus XTO took some good Bakken oil in some of those deals.

    I think with XTO, XOM can get more immediate production and can smother problems in the XTO balance sheet more easily. XTO's hedge book has also been more simple–again–compared to the highly complex hedge book of CHK.

    I suppose the other strategy that XOM might have taken would be to take 2-3 NG producers at a time. Like UPL and PXD.

    Agree that XTO was drinking the cool-aid though.

    G

  • Jeff DiStanlo

    how do you interpret that coal stocks appear to be up strong on this news (stronger than market)? markets don't seem to interpret this deal as a bet that natural gas will steal market share in the domestic energy generation business.

  • gregor.us

    If I were to put meaning into just today's stock price reaction, I would say that XOM signals to market that NG and Coal are what we have to work with in the US. But you know my view: if US transitions further to NG, and uses less coal, that just frees up coal to be shipped elsewhere.

    G

  • Tom

    I dont understand shale or this deal. Any dummy running an E&P with shale acreage can grow, and grow fast. XOM's expertise is in complex megaprojects, not banging out thousands of 4 bcf wells. Shale is a game changer for the worse. This is like when clone PC makers figured out how to reverse engineer IBM's BIOS in the 1980's, and look how that turned out – a wasteland of manufacturers, perpetually lower prices, while consumers were the real winners.

    So we've got all of these E&P companies, who are all highly incentivized to grow (particularly the public ones) and continually jam production no matter how bad prices are. I get the loooong-term story here which I agree with 100% , but the short and medium term for US natural gas looks downright awful…like, epically bad. I still cant figure out whether this XOM/XTO deal is confirmation of this or a rebuttal. So confused right now.

  • Militiades

    Though I think the move is a good one even a retard like myself could see the time to buy an oil company was last winter. Everything was cheap and Exxon had a lot of dough. Foolishly I bought some of their stock thinking they would make a smart move. It has been my worst performer. Their CEO out to get the boot for sleeping on the job.

    Glad I bought a lot of other oil and gas related company stocks when prices were good. Guess I ought to run Exxon.

    Love your website Gregor. I've recommended it to a few of my more curious friends.

  • Militiades

    Though I think the move is a good one even a retard like myself could see the time to buy an oil company was last winter. Everything was cheap and Exxon had a lot of dough. Foolishly I bought some of their stock thinking they would make a smart move. It has been my worst performer. Their CEO out to get the boot for sleeping on the job.

    Glad I bought a lot of other oil and gas related company stocks when prices were good. Guess I ought to run Exxon.

    Love your website Gregor. I've recommended it to a few of my more curious friends.

  • Mac

    Gregor,

    I can't seem to reconcile your Non-OPEC supply data with EIA data. I look at the EIA data on Bloomberg ( OPCBTNON <Index> <GO> )and it has Non-OPEC crude supply at 49.2mbpd. It also has its high number at 49.6 mbpd in March 09. Your graph shows a much different picture. A current level of 41.5 and a peak way back in 2004….Can you explain the difference please? Bye the way, love your blog!

  • gregor.us

    They are using the All Liquids measure, which includes natural gas liquids, and biofuels. Yes, I know that it's very surprising to learn that a popular number used by many (but not all) media outlets is not composed only of crude oil, but it's a legacy measure that began back when natural gas liquids were a much, much smaller part of the whole.

    I use the EIA Crude Oil measure, just like many other analysts.
    http://www.eia.doe.gov/emeu/mer/inter.html

    Hope this helps. Like I said, it's very surprising to people when they understand the nature of the difference between the two measures. But if using natural gas liquids is a distortion to a measurement of crude oil, consider how unhelpful it is to include ethanol and biofuels. All of that is included, in All Liquids.

    G

  • gregor.us

    XOM is a safe investment however it's been a very poor performer this decade, especially when measured in terms of other currencies. This is part of the problem of carrying so much USD cash on the balance sheet. XOM is like a USD based bank.

    People will often cite, however, how their grandfather's XOM stock that they inherited has a cost basis of 5 cents. Point taken. But, this only serves to highlight that XOM's golden era was long ago.

    I've never owned the stock, and doubt I ever will, FWIW.

    Best,

    G

  • gregor.us

    It's the only way XOM can replace reserves. They've gone from an oil replacement measure to a boe measure (barrels of oil equivalent). XOM will become an NG company like most other oil companies in the West, because that's the energy source we have now.

    Best,

    G

  • bobsagetfanatic

    In fairness, the purchase price is a 30% discount to the 2008 high.

  • bobsagetfanatic

    In fairness, the purchase price is a 30% discount to the 2008 high.