<p>The decline in the Exxon Mobil (NYSE: XOM) share has been breathtaking. Ever since the beginning of January, the Exxon Mobil share has lost more than half of its value. The shares are traded on a 16-year basis.
Source: Jonathan Weiss / Shutterstock.com
For some investors, such a decline may seem like a buying opportunity. I’m sympathetic to that case. I have argued, if anything cautiously, for XOM shares earlier as recently as September. The Exxon Mobil dividend now gives almost incomprehensible now almost 10%.
Throwing oil prices will beat profits upstream (ie exploration and production). But the segment downstream (refinery and retail) and chemicals can get some help from lower input costs.
In fact, it is precisely the internal hedge that has led to the share underperforming during previous raw meetings. It’s just obvious that it should outperform when the price drops.
But unbelievably, the Exxon Mobil share has outperformed. The energy in 2020 has been so intense. It is a path that it takes Exxon Mobil years to recover from. And that suggests that the lower price is not an unjustified sale but a somewhat logical response from the market.
In a case of absolutely horrific time, Exxon Mobil held its investor day 2020 on Thursday 5 March. On that day, Exxon reiterated its recent optimism about its long-term growth.
In its presentation (see Figure 149), the company said that its profit potential could be doubled from 2017 levels, even with relatively low energy prices. That outlook is consistent with predictions made by CEO Darren Woods in the past.
Although grants were expected from downstream and chemical companies, growth was largely expected to come from upstream. An important driving force was higher production. Exxon Mobil targeted 5 million mboed (million barrels of oil equivalent per day) in 2025, an increase of 28% compared to 2019 levels.
Even with 2019 oil and gas prices, upstream revenues (excluding non-recurring items) would increase from just over $ 10 billion in 2019 to approximately $ 20 billion. Exxon Mobil also hoped to make a couple of billion in profits from its other companies.
Of course, just four days later, Saudi Arabia launched an “all-inclusive price war.” Exxon’s profit assumptions, including the goal of 100% growth, were based on the average price of Brent crude oil in 2019 – approximately $ 64.
As of this writing, Brent is trading just over $ 30.
The answer from Exxon Mobil
And in four days, the Investor Day presentation became completely obsolete. The performance targets are obviously out the window. Exxon’s images included a potential drop in Brent prices – to $ 50. In that model, upstream profits would in principle remain flat, with the company increasing some growth thanks to the other companies.
At $ 30, the profit will then decrease – and possibly sharply. But it is difficult to guess how much given that it is unclear how Exxon will respond. Undoubtedly, production will see significant cuts. Many of the projects expected to drive growth are no longer economic.
Examination expenses will be limited. And as attractive as the dividend looks, it is very likely that it will be lowered. Thanks to a huge increase in expenses, Exxon’s free cash flow came nowhere near covering dividend payments for 2019.
Even with spending cuts, what is likely to be dramatically lower revenues means that the company will have the same issue in the future. If investors believe that such a massive company will not cut its dividends during a difficult time, they only need to look at General Electric (NYSE: GE), Anheuser-Busch InBev (NYSE: BUD) and Kraft Heinz (NASDAQ: KHC). for example.
But the exact figures play out, blocking a huge rise in oil prices. Exxon Mobil will see significantly lower cash flow and significantly lower results. After all, prices do not fall by half. Exxon’s costs will not decrease that much. And with the upstream generation of about two-thirds of the adjusted result for 2019, potential help to the other companies will not save the dividend – or necessarily the XOM share.
Is XOM stock a valuable rebound game?
To be sure, Exxon Mobil does not go bankrupt. Revenue will decrease, but the company will not spend $ 40 per barrel to drill for oil, it can only sell for $ 30. Downstream operations will have a short-term hit, as what increasingly looks like a nationwide self-quarantine will limit driving and petrol use. But they will remain profitable over time.
But if Brent stays in the $ 30s, it’s reasonable to believe that XOM shares will do the same. Earnings per share will decrease dramatically from around USD 4 (excluding non-recurring items) in 2019. If adjusted EPS is within the $ 2 range, it is similarly reasonable to see $ 40 as something close to the ceiling on the Exxon Mobil share.
Of course, it is possible for oil, and even natural gas, to bounce back. US natural gas prices have actually stabilized, if at a low level for several years.
Investors who bet that the decline in oil will be short-lived, however, have no shortage of options. More aggressive investors should look to a producer like Apache (NYSE: APA) or, for uber-bulls willing to take a huge risk, Occidental Petroleum (NYSE: OXY). These stocks have fallen further: unbelievably, both have fallen by over 80% from the January peaks.
Investors who want to nibble can see XOM as a cautious step – and it makes sense. Exxon Mobil can and will respond to this new pricing environment. But it will potentially take years before that answer plays out and for the company to return to growth. Meanwhile, Exxon Mobil shares can hold on.
Vince Martin has been covering the financial industry for nearly a decade for InvestorPlace.com and other stores. He has no positions in any of the mentioned securities.