Because XOM has not made many major acquisitions since the late 1990s and its reserves and production are the same, it is basically the same company today that it was in the early part of this decade. Earnings per share may be higher, but that comes courtesy of massive stock buybacks. Also, costs have increased substantially. The cost of finding new oil doubled from 2003, and getting oil out of the ground is up 40% from 2003. These two factors cancel out each other.
To estimate XOM's earning power at today's prices, let's look what it made when oil prices were in the 30s and 40s. In 2003 and 2004, when oil prices averaged $28 and $38, XOM made about $3 and $4 a share, respectively. Since XOM's reserves are not growing, it is reasonable to expect no growth of production in the future. Don't deceive yourself: XOM is just an operationally leveraged proxy for oil (and natural gas).
If oil stays where it is today XOM's earnings will be around $3 or $4. It is trading at 20 to 25 times these earnings. This is a very high valuation for today's environment, where companies with similarly strong balance sheets, with pricing power (XOM is a price taker), and whose cash flows are increasingly independent of what commodities are doing (non-cyclical) pay higher dividend yields and trade 10 or 12 times true earnings. Yes, there is a 50% downside in XOM's stock.
Let's call today's $30-$40 oil the seminormal case, though it could get worse. But what if oil prices go to $150? It is an unlikely scenario, at least while the global economy is in a recession, but in this case XOM has an upside of about 20%, as this summer it traded in the 90s when oil went to $147.
Investors who own Exxon are gambling on oil and natural gas prices, and the odds are stacked against them: tails (high probability) you are down 50%, heads (low probability) you are up 20%.
No comments:
Post a Comment