Exxon’s Stellar 2Q’17 Earnings Fail To Impress Investors; High Cash Outflows In 2H’17 Could Weigh On Dividends

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Exxon Mobil

Despite posting a remarkable improvement in its June quarter earnings, Exxon Mobil (NYSE:XOM), the world’s largest publicly traded oil company, failed to please its investors. The integrated energy company’s 2Q’17 earnings almost doubled to 78 cents compared to the same quarter of the previous year, but fell short of the market expectations of 84 cents, which caused the stock to drop  about 2% post the announcement of the results. In addition to this, the company has reiterated its capital and exploration spending guidance for the year, unlike its counterparts, such as Chevron, Anadarko, and ConocoPhillips, who have pulled back their capital investment for the year in the light of the uncertainty in the commodity markets. We believe that this move is likely to weigh on the company’s cash flows in the second half of the year, which could in turn force the company to resort to asset sales or raising debt to sustain its dividend payments going forward.

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Operational Highlights

  • Exxon’s upstream operations recovered sharply in the June quarter backed by higher price realizations compared to the last year. However, this rebound was partially offset by a reduction in the company’s upstream production. While the company’s upstream earnings improved drastically from $294 million in 2Q’16 to $1.2 billion in the current quarter, the market is viewing the fall in Exxon’s production volumes as a negative sign. This is because the company’s closest competitors, Chevron and Royal Dutch Shell, recently reported strong production growth for the second quarter. This has also put the company behind its targeted output of 4.0-4.4 million barrels of oil per day (MBOED) by 2020, which has become a cause of worry for the investors.

  • The company’s downstream continued to perform well, driven by strong refining margins and higher volumes. As a result, Exxon’s downstream earnings came in at $1.4 billion, 68% higher on a year-on-year basis.
  • However, unlike its peers, the oil and gas major witnessed softness in its chemicals business due to planned maintenance work, lower volumes, and declining margins. Thus, the earnings from its chemical division dropped to $985 million, 19% lower than the same quarter of last year.

  • During the quarter, the integrated company continued to acquire new high-quality acreage in offshore Australia, Equatorial Guinea, and Suriname. Further, the company made a final investment decision (FID) to proceed with the first phase of development for the Liza field, located offshore Guyana. The project is expected to cost $4.4 billion and is expected to produce its first oil in 2020. The Phase 1 will have a production capacity of 120,000 barrels per day, with a unit development cost of under $10 per barrel. This will allow Exxon to generate double-digit returns from this project, which will boost its value in the long term.
  • In terms of Exxon’s Permian operations, the company has expanded its acreage in the coveted region through its acquisition of Bass family assets last year. The company is operating in two of the most economical oil plays in the Permian Basin – Midland Basin and the Delaware Basin – where the unit development cost is around $7 per barrel. The company is currently operating 16 rigs in the region and is producing more than 165,000 barrels of oil equivalent per day. Going forward, the company expects to increase the activity in this region and add another 3 rigs by the end of August 2017.

  • On the financial front, Exxon generated cash flows of $16 billion from its operations (including assets sales) in the first half of the year, which were sufficient to meet its capital and exploration expenditure and dividend payment during the same period. However, as mentioned earlier, the company has reiterated its capital investment plans of $22 billion for the year. Interestingly, it has spent only $8.1 billion in capital expenditure in the first six month of the year. Having spent less than half of the proposed capital investment funds, we expect Exxon’s cash outflows, in the form of capital and exploration expenditure, to surge in the second half of the year. This could lead to a situation where the company is pushed into a cash deficit, if it does not generate enough cash flows from its operations. In such as case, the oil and gas company may be forced to move to divestment or even raising additional debt  in order to keep up its dividend payments for the rest of the year.

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