Exxon’s New Roadmap: Flat Ground and Dragons

(Bloomberg Opinion) -- The day after Exxon Mobil Corp.'s 2020 analyst day, where it mapped out its next five years, Russia put a match to the map. Then Covid-19 stomped on the ashes. By the end of the year, Exxon was fending off an activist campaign.

In truth, investors sold off the stock that day last March even before OPEC+ ruptured and the pandemic took hold. They just didn't like Exxon's high-spending ways. This year's effort, hosted virtually on Wednesday, was Exxon's attempt to redraw the map. And it did a good job — albeit leaving a lot of space marked “here be dragons” around the edges.

Exxon's main message directly addressed last year's offense: It has retooled for lower oil prices. At $50 oil in real terms, Exxon expects to generate about $200 billion of cash over the next five years, leaving about $15 billion for reducing debt after capex and dividends. That pays off about a fifth of Exxon's net debt but also implies flat dividends for another five years — hardly compelling.

Ten bucks makes a big difference, though. At $60 oil, projected excess cash jumps to $45 billion, enough to pay off $20 billion of debt plus, say, raise the dividend by 2% a year and reinstate buybacks to the tune of more than $20 billion. Earnings, meanwhile, would be north of $30 billion — something not seen since 2014, when oil last traded in triple digits.

With oil trading north of $60 and forecast to stay around there, Exxon has probably done enough to justify the rally in the stock since it first reset the capex budget (and activists showed up) in early December. That $10 difference between merely existing and really living emphasizes the uncomfortable leverage to oil prices, though. And once again, there's an OPEC+ meeting marked by tensions going on.

The critical element for Exxon is forgoing the growth impulse that got it into trouble in the first place. Last year's projected 5% annual increase in oil and gas was replaced with a flat line.

"You have to raise returns/profitability first to lower your market implied cost of capital before you can justify ANY growth investment,” writes analyst Paul Sankey, who raised the prospect of activists targeting Exxon three years ago and runs his own firm, Sankey Research LLC. His comments apply to all the oil majors, and not just their conventional business — which brings us to the other big issue hanging over Exxon's outlook.

Last year, CEO Darren Woods surprised me by saying “the long-term horizon is clear.” That is, shall we say, a highly questionable take in the face of climate change. Since Exxon's last analyst day, the proportion of global emissions coming from countries covered by some sort of net-zero target has jumped from about a third to more than half.

This was all evident in the shift in Exxon's own messaging Wednesday; uncharacteristically forgoing in-house demand forecasts in favor of the Intergovernmental Panel on Climate Change's more bearish projections and touting its own efforts at carbon capture.

Exxon resists the idea of jumping into renewable energy and electric-vehicle infrastructure, however, as some European peers are doing. The company points out the vast majority of cleantech capital is piling into mobility, compressing potential returns. Nor do oil companies have any special skills in that area. Instead, Exxon points to the less buzzy, and more difficult, types of emissions abatement, such as from heavy industry. 

But there's a flipside. While much of that capital targeting mobility may end up vaporized, the investment bubble is doing wonders for electrified vehicles anyway. That's how bubbles often work, to the detriment of incumbents still focused on things like paying dividends.

Indeed, Exxon saw this play out before in shale. As the company slowly delves into carbon capture and hydrogen, the surge of dollars into electric vehicles — and not just from startups — is heading straight at its core business. And as the experience with shale demonstrated, even Exxon struggles to model disruption.

As Sankey said, oil majors have to win back some kudos, and reduce their cost of capital, before they can credibly deploy any into growth of any kind, be it barrels or gigawatts. Exxon is finding its footing on that first, necessary step. The path beyond, toward that long-term horizon, remains treacherous and murky as ever.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Liam Denning is a Bloomberg Opinion columnist covering energy, mining and commodities. He previously was editor of the Wall Street Journal's Heard on the Street column and wrote for the Financial Times' Lex column. He was also an investment banker.

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