Exxon Mobil: A Well-Oiled Machine?

Despite price volatility, the energy giant is setting profit records. But some analysts say it needs to get with the (green) times

As integrated energy companies trot out their 2006 earnings reports, it's abundantly clear that high prices have yielded rich returns for Big Oil. Exxon Mobil (XOM), the world's largest publicly traded energy company, on Feb. 1 reported the largest annual profit in U.S. corporate history. It netted $39.5 billion, a 9.3% boost from 2005, despite a slight drop in fourth-quarter net income. The same day, Royal Dutch Shell (RDS.A) announced annual net profit of $25.44 billion, following ConocoPhillips' (COP) Jan. 24 report of its most profitable year ever, netting $15.55 billion in 2006.

But oil prices have lately been swinging like a light pole in a hurricane, dipping and rising amid warm weather, ample inventories, OPEC cuts, and geopolitical instability (see BusinessWeek.com, 1/29/07, "Barrels Of Confusion").

Add to that political pressures building for alternative fuels and carbon emissions caps, and oil companies are likely to experience a less buoyant 2007, analysts say. Firms like JPMorgan (JPM) and Friedman, Billings, Ramsay & Co. (FBR) have lowered crude oil price forecasts for 2007 and cut their fourth-quarter income forecasts for integrated oil companies.

Diverse and Durable

However, analysts also say that while profits could slip in the future, Irving (Tex.)-based Exxon will be best positioned among the oil majors to weather the potential storm of lower fossil fuel prices. That's because of the rich diversity of its interests: oil exploration and production, refining and marketing, and chemicals.

"Exxon is by far the most resilient to oil and gas price falls because they have other businesses not directly impacted by oil prices," says Fadel Gheit, senior energy analyst for Oppenheimer & Co. Gheit says this safety net is why investors are unlikely to run from Exxon even as integrated oil looks less attractive as a whole. "It's the flight-to-quality syndrome. When people panic amid volatility they seek higher ground," he says.

Analyst Jacques Rousseau of Friedman, Billings, Ramsey agrees. He says the last calendar year that Exxon was the top-performing stock among Big Oil companies was in 1998, when crude oil, natural gas, and refining margins were all in decline—a similar pattern to what happened in 2006.

Not Bulletproof

Of course, that doesn't mean Exxon Mobil is immune to price dips, says Rousseau. "Obviously, if oil prices went to $50 or $40, that's not good for the company; the majority of its earnings are in the oil and gas part of this business," says Rousseau. "The point is, it's more insulated than others." In the past three "defensive" years when Exxon was the top-performing Big Oil stock (1991, 1995, and 1998), its share price gains lagged those of the Standard & Poor's 500-stock index.

Still, since the end of the 2006 third quarter, Exxon Mobil shares are up 10.4%, outperforming the Chicago Board Options Exchange's oil index, which has risen 8.8%. And Exxon's record $39.5 billion profit ($6.62 per share) stemmed from strong results in every business segment, the company reported, including an increase in exploration and production earnings of $3.5 billion over last year, to $26.2 billion.

Despite the sunny yearend figures and a solid share price, Exxon posted a decline in fourth-quarter income, which indicates that the company is not entirely bulletproof when it comes to problems like weaker demand (see BusinessWeek.com, 1/10/07, "The Oil Market's Obsession"). Exxon reported net income of $10.25 billion, or $1.76 a share, for the fourth quarter, down from $10.71 billion, or $1.71 a share, a year earlier.

The drop stemmed largely from a fall in oil and gas exploration and production, or "upstream" activities' earnings, which fell 12%, to $6.22 billion, due to a steep decline in natural gas prices and weaker demand in Europe. At the same time, Exxon's downstream business, which purchases and refines crude oil, dropped 18%, to $1.96 billion, also depressing earnings.

Anti-Green Rep

There's also the issue of how well the company is positioned for the future, which promises more growth for green energy sources. Andrew Logan, an oil and gas analyst for Ceres, a Boston coalition of shareholders and companies that advocates environmentally friendly practices, says Exxon lags rivals such as British Petroleum (BP) and Chevron (CVX) in developing alternative energies. And Logan says that could be a problem for both the environment and for Exxon's bottom line. "The real concern for long-term investors is that the company is not prepared for a future that looks anything different from the present," says Logan. "They've placed a very large bet with shareholders' money that the world will remain addicted to fossil fuels, and they're not ready for a more carbon-constrained world."

So Exxon's resilience may please investors now, but it also must contend with a reputation as a company resistant to discussions of change—whether it's the danger of global warming or the development of alternative fuel technologies. The company has become known for its opposition to government curbs on carbon emissions, and for its top executives' questioning the scientific validity of the idea that fossil fuels cause global warming. Until late 2005, it also funded research groups that dispute these ideas, such as the Washington (D.C.)-based Competitive Enterprise Institute.

But Exxon is working to change its image as a fossil fuels dinosaur. It is running a public relations campaign that includes advertisements in newspaper op-ed pages with headlines like "Investing in America's energy future," detailing its efforts to reduce energy use and emissions at its refineries and chemical plants and improve fuel economies for cars. Exxon also boasts of its support for the $225 million Global Climate & Energy Project at Stanford University, which is researching alternative energy and transportation fuels. Exxon didn't respond to calls requesting comment on its earnings report and support for clean energy initiatives.

“Social Dyslexia”

Like Logan, Exxon investor and shareholder advocate Robert A.G. Monks is also displeased with Exxon's position on global warming and carbon emissions, which he says will undermine shareholder returns in the future. "When I look at the financials, I say, 'Sure, this is the here and now,'" says Monks, whose family estate holds about $5 million of Exxon stock. "But it's almost grotesque the extent to which this extraordinary corporation has a tin ear or a form of social dyslexia."

Yet if oil prices hold up and the profits keep coming, Exxon will face little incentive to push toward alternative fuels. Its current path is already steeped in green—greenbacks.

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