These are tough times for energy giant ExxonMobil (XOM 0.51%). This is particularly true when it comes to the downstream side of its integrated business model, where shrinking margins between domestic crude and the international benchmark crushed refining profits last year. Management expects only moderate progress in global refining conditions this year, which makes upstream performance even more important in 2014, on into future years.
ExxonMobil's production fell last year, and going forward, management expects only modest production growth. That's a troubling sign, and since the company isn't counting on aggressive acquisitions in the near future, maximizing existing projects will be critical to ExxonMobil's future profits.
A trimmed budget and field declines are cause for concern
ExxonMobil expects to allocate $39.8 billion to capital expenditures this year, which would represent a decline from last year's spending level. A meaningful portion of the capital spending reduction will affect the level of spending on upstream exploration and discovery. From there, spending will drop even further to less than $37 billion per year from 2015-2017. Additionally, management states that after considerable resource acquisitions in 2013, the company will not pursue significant acquisitions over the next few years.
This places an even greater strain on ExxonMobil's existing projects, which is concerning since its production fell 1.5% in 2013 from the year before. Project ramp-ups last year were more than offset by normal field declines. As a result, it's justifiable for investors to take a cautious attitude toward ExxonMobil's upstream portfolio.
Not surprisingly, ExxonMobil projects little to no growth in 2014 production. From 2015-2017, management expects production growth to clock in at 2%-3% per year. While a return to growth is a good sign, ExxonMobil's production expectations lag other exploration and production majors.
Competitors keep investing while ExxonMobil sits still
Independent exploration and production majors ConocoPhillips (COP 0.03%) and Occidental Petroleum (OXY +1.53%) are investing to keep production growth going strong. Whereas ExxonMobil is reducing upstream spending as part of its over-arching strategy to reduce capital expenditures, ConocoPhillips is increasing its capital spending this year. ConocoPhillips grew production by 2% last year after adjusting for asset dispositions and supply disruptions in Libya. And, going forward, ConocoPhillips maintains a long-term production growth rate of 3%-5% per year, which stands well above ExxonMobil's projections.
Likewise, Occidental Petroleum has set its sights on above-average production, driven by its investment in the United States. Occidental is really accelerating capital expenditures, from $8.8 billion last year to an estimated $10.2 billion in 2014. That represents 16% growth in its capital budget, which will favor promising domestic fields including the Permian Basin and its projects in California. As a result, Occidental expects 3% growth in total company oil and gas production this year, led by U.S. oil production which is projected to rise by 9% this year.
ExxonMobil counting on profitability
While ExxonMobil doesn't paint a bright picture for its production outlook, it's not concerned about overall profits and cash flow going forward. That's because it believes it will reap significant profitability from a combination of existing project development and its reduced spending plans. The company acknowledges that 2013 free cash flow declined to approximately $10 billion last year from close to $30 billion in 2012. But, it points investors to the fact that this year represents an inflection point for free cash flow after its intensive upstream capital spending last year.
In addition, modest recovery in its downstream and chemicals segment will contribute to profitability, as will increasing focus on high-margin liquids within its upstream mix. It seems that ExxonMobil needs a lot to go right in order for it to get profits going in the right direction again this year. At the same time, management has proven to be excellent allocators of capital, as ExxonMobil's historical return on capital employed has led its industry. As a result, the pressure is on for ExxonMobil to execute.
As growth appears to slow, investors are likely to rely more on yield
