Exxon Mobil: The king is back (NYSE:XOM)

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Thesis Article

Exxon Mobil Corporation (New York Stock Exchange:XOM) reported its third-quarter earnings results on Friday morning. The company easily beat estimates and reported very impressive results overall. With higher shareholder returns, production growth and new offshore discoveries Guiana, the company appears to be fundamentally well positioned. Stocks are not ultra cheap after their strong performance this year, but with a beneficial oil price environment, XOM could go even higher going forward.

What happened?

On Friday morning, Exxon Mobil released its third-quarter earnings results. The headline numbers looked like this:

XOM results

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Exxon Mobil not only beat estimates, but basically destroyed them. Revenue was about 10% higher than expected, while earnings per share beat the consensus estimate of $3.80 by 17%. The pace of sales was also outstanding in absolute numbers – I don’t remember ever seeing a company beat/beat quarterly revenue estimates at $9 billion. But aside from these headline numbers, there were a lot of big items in the report, so let’s dive into the details.

Exxon Mobil is a winner in this environment

The world is experiencing an energy crisis right now. Rising demand post-pandemic, supply disruptions caused by the Russia-Ukraine war, underinvestment due to ESG mandates and due to companies focusing more on generating free cash, and moves OPEC’s recent moves have led to a very tight market. Oil prices are off the highs reached earlier this year, but remain well above the average seen over the last two years. Natural gas markets are also tight, due to the fact that Europe is looking to diversify its natural gas imports away from Russia, meaning more supply will come from the US, among others. Last but not least, the closure of many refineries in the US and some other markets in recent years has resulted in limited refining capacity, which is why refiners can generate above-average margins ( crack differentials) in the current environment.

For a company like Exxon Mobil, active in oil production, natural gas production, LNG and refining, this is a great environment. And given that not a lot of additional oil supply is coming to the market anytime soon, in fact given that SPR releases are likely to end in the foreseeable future, the opposite could happen, this beneficial macro environment could hold for a lot of time. , which would allow Exxon Mobil to generate massive profits and cash flows not only this year but beyond.

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During the third quarter, Exxon Mobil was able to increase its production by 50,000 barrels per day, relative to the previous year. Exxon Mobil is one of the few oil companies to achieve significant production growth, as many oil companies had underinvested during the pandemic, and some even before that. However, Exxon Mobil’s heavy investments in new production in the Permian Basin and offshore Guyana are paying off now, as the company is experiencing production growth at the perfect time, when it is most profitable to do so. , as the markets are tight.

Thanks to high sales with attractive margins, Exxon Mobil was able to generate outstanding cash flows during the period:

XOM Cash Flow

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$24 billion in cash from operations is one of the highest quarterly cash flows reported by any company. For reference, mighty Apple (AAPL) has generated $118 billion in cash over the past year, or $29.5 billion per quarter; Exxon Mobil is not far behind. For those who want to include proceeds from divestitures, the figure is even better, $27 billion, although the unique nature of asset sales leads me to believe that they are best left out of the cash flow picture.

Exxon Mobil has spent $4.9 billion on capital expenditures, which is slightly below guidance of ~$5.5 billion per quarter for the current year. This resulted in free cash generation of $19.5 billion, or $78 billion annualized. For a company that is currently valued at $450 billion, that’s a strong level of cash generation. Annualized, the third quarter pace results in a free cash flow (“FCF”) return of 17%. It should be noted that the first and second quarter free cash flows were lower, but even when we annualize the year-to-date average, we get free cash flows of $62 billion (FCF totaled $46.6 billion in the first and third quarters), which would result in a free cash flow return of 14% at current prices. That’s pretty convincing, though it should be noted that there are energy stocks trading with even higher free cash flow returns today, so XOM isn’t the cheapest among oil and gas stocks. Among others, Shell plc (SHEL) and BP plc (BP) offer even higher free cash flow yields right now.

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Companies have several ways to spend free cash flows, where organic capital investments are already accounted for. They can opt for acquisitions, they can return cash to their owners through dividends and/or share buybacks, and they can opt for net debt reduction, either by paying down debt or accumulating cash on the balance sheet. Many companies choose to go for a mix of these, and that goes for Exxon Mobil as well. The company has declared a dividend for the fourth quarter of $0.91 per share, which is an increase of $0.03 compared to the previous level and will lead to annual dividend expenses of about $15 billion. . With shares trading at $108 at time of writing, Exxon Mobil’s new dividend results in a pretty solid 3.4% dividend yield and about twice the yield of the broader market, but by far not the highest dividend yield in the energy space. .

Since the dividend costs XOM $15 billion a year, and XOM is likely to generate over $60 billion in free cash this year, there’s plenty of excess cash on top of the dividend, of course. Exxon Mobil is returning some of that to its owners through share buybacks, as the company is currently working on a $30 billion share buyback program that was announced earlier this year. So far, the company has spent $10.5 billion of that year this year, including $4.5 billion during the third quarter. At an annualized rate of $18 billion, XOM will repurchase about 4% of its shares per year, which will have a very significant impact on cash flow per share growth and long-term earnings per share growth. Apple’s famous buybacks, for perspective, have also generally been in the 3% to 4% per year range.

But even with $15bn spent on dividends and $18bn for buybacks, the company has an additional ~$30bn for other purposes, calculated using the pace of year-to-date free cash flow. Exxon Mobil has, so far, decided to use these additional cash resources to improve its balance sheet, which makes sense. Historically, the company has been operating with a very strong balance sheet: for a very long period (67 years), it had an AAA credit rating, but lost it in 2016. After the oil price crash around that time. , XOM’s balance sheet worsened as debt levels increased due to the company’s investments, for example, in its Guyana asset base.

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Now that those investments are paying off, it makes sense for the company to work on its balance sheet. And Exxon Mobil has made a lot of progress so far this year: With $30 billion in cash, $6 billion in short-term debt, and $39 billion in long-term debt, XOM now has a net debt position of $15 billion. billion, equal to less than the FCF the company generated in the third quarter alone. At the beginning of the year, Exxon Mobil’s net debt stood at $40 billion, so in three quarters the net debt position has improved by $25 billion. At that rate, Exxon Mobil will have a net cash position at the end of the second quarter. At that point, a credit rating upgrade might be possible, but even if that didn’t happen, it’s likely that XOM would begin to shift its use of cash flow, either through mergers and acquisitions or by increasing returns for its shareholders, for example, through special dividend payments. or by increasing their repurchase rate.

Is XOM a good investment?

Exxon Mobil shares are up 70% year to date while the broader market is down 20% year to date, so much so that the “old economy” is not investable as some thought middle of the pandemic.

Exxon Mobil’s operating performance is excellent: production is growing, margins are high, cash flow generation is huge, and the company is increasing returns for its shareholders while improving its balance sheet.

The only problem I see here is that XOM trades at a higher valuation than many other energy names. It’s not expensive in absolute terms, but many other energy names are even cheaper. TotalEnergies SE (TTE), for example, trades at less than half the EV/EBITDA of Exxon Mobil (2.2 vs. 4.7, respectively). XOM is king in the energy industry and its underlying performance is excellent, but others might be better investments due to even lower valuations.

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