Energy giant ExxonMobil (XOM 1.15%) takes a different approach than many of its peers when it comes to its capital allocation program that sets the company apart from others in the integrated oil and gas industry, such as Chevron (CVX 1.54%) and BP (BP 1.58%), which pay higher dividend yields than ExxonMobil. ExxonMobil offers a 3% dividend yield, below Chevron's 3.9% yield and far behind BP's 6% yield. Instead of paying a higher dividend yield, ExxonMobil prefers to spend more of its cash flow buying back its own shares. But this does income investors a disservice.
ExxonMobil should consider raising its dividend. With oil prices crashing over the past several months, the integrated majors continue to cut back on capital expenditures. Over the first nine months of 2014, ExxonMobil's capital expenditures declined by $1.2 billion from the same period last year. In light of the diminishing profitability of large, new projects, ExxonMobil should increase its dividend to keep shareholders happy. Its dividend yield is the lowest among the biggest global integrated majors, which could incentivize income investors to own one of its rival's stock.
ExxonMobil's unique policy
ExxonMobil is widely known as a strong dividend stock, which is certainly true. It has a long track record of paying quarterly dividends and even raising its dividend every year, thanks to its steady cash flows. Indeed, ExxonMobil is a cash machine. The company generated $13.6 billion of free cash flow through the first nine months of the year, according to the company's SEC filings. This was impressive 44% growth year over year, resulting from higher operating profits and reduced capital spending on new projects.
With such huge cash flow, ExxonMobil has paid uninterrupted dividends for more than 100 years, and it has increased its dividend for 31 years in a row. But underneath the surface of the impressive streak, ExxonMobil has room for improvement when it comes to its capital allocation program. That's because ExxonMobil distributes a relatively low percentage of its profits as a dividend. ExxonMobil's payout ratio stands at just 34% of trailing-12-month earnings per share.By comparison, Chevron's and BP's payout ratios stand at 40% and 80%, respectively. Instead, ExxonMobil prefers to use more of its cash to buy back its own shares. For example, management repurchased $9.8 billion of its own stock over the first three quarters, more than the $8.6 billion spent on dividends.
This is a different mix of buybacks and dividends than most other stocks in the integrated space. Chevron and BP pay much higher dividend yields than ExxonMobil, mostly because they do not buy back nearly as much of their own stock as ExxonMobil does. Over the first nine months of the year, Chevron and BP spent $3.75 billion and $4 billion, respectively, on share repurchases.
ExxonMobil should increase its dividend
ExxonMobil distributes a very low percentage of its profits and offers one of the lowest dividend yields of the integrated majors, which makes it an ideal candidate for a dividend increase. Moreover, since oil prices have collapsed all the way to $70 per barrel in the United States, it's likely ExxonMobil won't need to utilize as much cash for capital expenditures. That means there is plenty of room for ExxonMobil to increase its dividend, which will help keep shareholders happy while the company endures the difficult climate for oil and gas production.
Even if management was uncomfortable with the prospect of ExxonMobil's payout ratio increasing, the company could always change its capital allocation mix. ExxonMobil spends the majority of its free cash flow on share repurchases, which is fairly unlike most of its industry peers. This doesn't do much for income investors, who presumably hold ExxonMobil for its dividend. ExxonMobil is a great stock with a solid dividend, but it can do more for income investors. Because of this, ExxonMobil can, and should, increase its dividend.
