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Professor Olubunmi Faleye
Equity Research Report
John Coogan
Natural Gas prices do not appear to be experiencing upward pressure. We believe that while
oil prices are under structural upward pressure due to depleting high-return reserves, natural gas
prices are not. Addtionally, natural gas supply has consistently reacted to higher prices resulting in
preasure towards the marginal cost of supply. Through 2008 and 2009 oil production at Exxon has
represented 2/3rds of their total oil and gas production. Trends in both global supply and Exxon
strategy, including the XTO deal, point towards equivalent gas production as soon as 2011.
Relative out-performance unlikely given changes within Super Major net income per barrel
rankings: XOM recently lost ground to other top producers and is now relatively cheaper than
Cheveron. Underperformance in earnings growth and expected negative impacts from the XTO
deal make sector out-performance difficult to imagine.
Valuation and Risks, details on page 5: Our DCF-implied target is $78 and our Earnings Multiple
methodology yields $75. Downside risks to our neutral rating include political complications
abroad, falling demand, the expensive XTO acquisition and potention changes in US tax code
including renewable fuel legislation. Upside risks include surprise return on the XTO investment,
rising commodity prices and positive developments in chemical production.
Managment:
From Proxy Statement analysis, we believe XOM's corporate governance practices are sound and above
average for companies within their sector. Its board of directors is controlled by a supermajority (greater than
75%) of independent outsiders and CEO Rex Tillerson has consistently delivered on shareholder expecations.
He also serves as the Chairman of the Board of Directions and has held both positions since 2006 and
ascended to both after the retirement of longtime chairman and CEO Lee Raymond.
Primary Competition:
ExxonMobil’s main competitors based on its size, industry, and financial figures are BP, Chevron, Conoco
Phillips, Royal Dutch Shell, and Marathon Oil. ExxonMobil’s 21% ROE exceeds all of its competitors. An
analyst from Bolter and Co estimates that Exxon is currently trading at a 12% premium to its peers based on
next year EV/EBITDA multiples and a 16% premium to its peers based on next year P/E multiples (Seeking
Alpha).
Company Size:
Since 2005, ExxonMobil has been the world’s largest publically held corporation. Though Wal-Mart
recently surpassed them in revenue, ExxonMobil continues to lead the world in profits and market value. We
estimate ExxonMobil’s beta to be a stable 0.45 based on a 5 year S&P regression. The company is
geographically diversified with ownership interest in 37 refineries with 6.23 million barrels per day of
atmospheric distillation capacity across the North America, Europe and Asia.
Earnings Drivers:
ExxonMobil operates in three primary lines of business, oil and natural gas exploration and production (8%
of sales and 81% of earnings); refining and marketing (83%; 8%); and chemicals (9%; 11%). The chemicals
business represents a shift into a new segment in an attempt at diversification, similar areas of operational
expansion include electric power generation, coal and minerals. Exxon has a reported 23.0 billion barrels of
oil equivalent and a strong replacement rate, although changes in SEC reserves classification may distort
replacement data going forward.
Unlike rival, national oil companies (NOCs), ExxonMobil relies on technological innovation and advanced
exploration techniques to lower costs and drive profits. NOC’s far and away dominate the supply of proven
and probable reserves with about 80% of the world's reserves and a projected 80% of incremental production
rate going forward. The NOC’s are keeping the reserves with the lowest development costs to themselves.
Since 2000, Exxon's oil output from two of its largest regions, the United States and Europe, declined by 37%
and Exxon now obtains a quarter of its production from Africa.
Corporate Finance 2
Equity Research Report - ExxonMobil November 19, 2010
Cost of Equity After cash flows are projected, an appropriate discount rate must be used to accurately consider the time
value of money. This discount rate will show what the cash flows are worth today, taking into account
CAPM 6.8%
consumption preferences and riskiness. We used a weighted average cost of capital (WACC) of 8.41% for
DGM 9.76%
our discount rate, which represents XOM’s specific blend of equity cost and after-tax cost of debt. To
BYP 8.63%
calculate the cost of equity we used three approaches, the Capital Asset Pricing Model (CAPM), the Dividend
Average 8.41%
Growth Model (DGM), and the Bond Yield + Premium Model (BYP). We then averaged these out to find the
weighted total cost of equity, 8.41%. To find the cost of debt, the current yields of all outstanding long-term
bonds are averaged to show the realisitic cost of raising funds in the debt capital markets at the time of this
analysis. Taking the weighted average of the cost of equity and cost of debt yields the WACC, 8.41%.
Corporate Finance 3
Equity Research Report - ExxonMobil November 19, 2010
conservative growth rate of 0.42%. This historical average over the past 25 years. We followed a similar
technique for PP&E, initial sales ratio analysis estimated net property, plant and equipment to fall
dramatically in correspondence with the fall from historal sales averages. This does not follow rational
capital budgeting theory and required adjusting the estimation calculation to use a historical growth rate of
5.22%. In the midst of the economic turmoil of 2008-2009, many companies were struggling to stay afloat
and needed to make dramatic changes to remain solvent. Despite a massive drop in oil prices and sales
revenue being cut in half, reducing net property, plant and equipment was not, and still is not a truly viable or
prudent descision. With interest rates at historic lows, the floating-rate bank debt used to finance many of
these expendutures is very affordable and major asset sales are likely to yield low profits and discourage
investors. As we have seen with the XTO acquisition, XOM is attempting to expand its portfolio and
increase total assets under control. We expect that PP&E will grow in line with this assumption at a rate
above sales growth for the near to medium term.
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Equity Research Report - ExxonMobil November 19, 2010
Selecting appropriate multiples:
The multiples used in the valuation of ExxonMobil were Sales, Gross Profit, EBITDA, EBIT, and P/E Ratio.
Industry-specific valuation multiples, though desirable, were not available for all companies analyzed. Some
industry-specific multiples that were researched were barrels of oil in reserve, square footage of rigs, and
exploration expenditures. Using publically available information found on their 10-K filings, information on
Sales, Gross Profit, EBITDA, EBIT, and were incorporated. In order to control for the variation in firm size,
a multiple was created by dividing the firm’s enterprise value by each statistic.
Investment Risks
Hold rating considers both moderate upside and downside risks.
The share price of ExxonMobil’s public equity shares as reported Google Finance was $70.48 at the time of
this analysis, November 15th, 2010. This represents an 8% discount to our average estimated 12 month price
target $76.50. We maintain a Hold rating due to the significant uncertainty about the XTO merger impact as
well as the stagnant natural gas market. Prinicipal upside risks stem from the possibility that XTO results in
higher than expected EPS accretion and manages to cut costs in ways previously not thought possible.
Additionally, major developments in their chemical business could lead to higher long-term profits.
Alternatively, a major upswing in global demand and oil prices could leave Exxon struggling to keep up with
other Super Majors who use an average of 35% debt and will see much higher earnings flow to equity.
Further risk stems from the recent reaction to the Deepwater Horizon oil spill from US politions as well as
the possible for expanded clean energy incentives and higher taxes on envirionmental-damaging practices.
Lastly is the simple fact that, despite being one of the largest publicly traded companies in the world, they
still face enormous competition from other producers globally and have a minimal 3% market share.
Corporate Finance 5
Equity Research Report - ExxonMobil November 19, 2010
Figure 1: Income Statement
2004 2005 2006 2007 2008 2009
Revenues and other income
Sales and misc. operating revenue 291,252 358,955 365,467 390,328 459,579 301,500
Income from equity affiliates 4,961 7,583 6,985 8,901 11,081 7,143
Other income 1,822 4,142 5,183 5,323 6,699 1,943
Total Revenue 298,035 370,680 377,635 404,552 477,359 310,586
Opperating Expenses
SG&A Expenses 13,849 14,402 14,273 14,890 15,873 14,735
Depreciation and depletion 9,767 10,253 11,416 12,250 12,379 11,917
Exploration expenses 1,098 964 1,181 1,469 1,451 2,021
Interest expense 638 496 654 400 673 548
Sales-based taxes 27,263 30,742 30,381 31,728 34,508 25,936
Other taxes and duties 40,954 41,554 39,203 40,953 41,719 34,819
Total Opperating Costs 93,569 98,411 97,108 101,690 106,603 89,976
Income before income taxes 41,241 59,432 67,402 71,479 83,397 34,777
Income taxes (15,911) (23,302) (27,902) (29,864) (36,530) (15,119)
Other Income (776) (799) (1,051) (1,005) (1,647) (378)
Net income to ExxonMobil 24,554 35,331 38,449 40,610 45,220 19,280
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Equity Research Report - ExxonMobil November 19, 2010
Figure 2: Balance Sheet
2005 2006 2007 2008 2009
Assets
Current assets
Total Cash and Cash Equivalents 28,671 28,244 34,500 32,007 10,862
Receivables 27,484 28,942 36,450 24,702 27,645
Inventories 9,321 10,714 11,089 11,646 11,553
Other current assets 7,866 7,877 3,924 3,911 5,175
Total current assets 73,342 75,777 85,963 72,266 55,235
Long-term investments
Net property, plant and equipment 107,010 113,687 120,869 121,346 139,116
Other long-term assets 27,983 29,551 35,250 34,440 38,972
Total Long-term investments 134,993 143,238 156,119 155,786 178,088
Stockholders' equity
Additional paid-in capital 4,477 4,786 4,933 5,314 5,503
Retained earnings 163,335 195,207 228,518 265,680 276,937
Treasury stock (55,347) (83,387) (113,678) (148,098) (166,410)
Other Stockholder Equity (1,279) (2,762) 1,989 (9,931) (5,461)
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Equity Research Report - ExxonMobil November 19, 2010
Figure 3: Cash Flow Statement
2005 2006 2007 2008 2009
Cash Flows From Operating Activities
Net income 36,130 39,500 40,610 46,867 19,658
Depreciation & amortization 10,253 11,416 12,250 12,379 11,917
Investment/asset impairment charges 0 0 0 (63) 731
Deferred income taxes (429) 1,717 124 1,399 0
Inventory (434) (1,057) 72 (1,285) 459
Other working capital 4,106 594 1,067 2,717 (1,618)
Other non-cash items (1,481) (2,884) (2,121) (2,289) (2,709)
Net earnings by operating activities 48,145 49,286 52,002 59,725 28,438
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Equity Research Report - ExxonMobil November 19, 2010
Figure 4: DCF Analysis
2009 2010 2011 2012 2013 2014 2015
Net Sales 310,586 320,797 331,345 342,239 353,491 365,113 377,117
Cost of products sold 185,833 182,380 188,376 194,569 200,966 207,574 214,398
Gross profit 124,753 138,418 142,969 147,669 152,525 157,539 162,719
Operating expenses:
SG&A expenses 14,735 12,457 12,866 13,289 13,726 14,177 14,643
Depreciation and depletion 11,917 9,783 10,104 10,436 10,780 11,134 11,500
Exploration expenses 2,021 1,213 1,351 1,451 1,538 1,698 1,551
Interest expense 548 464 488 480 539 556 551
Sales-based taxes 25,936 25,510 26,066 26,844 27,748 29,221 29,710
Other taxes and duties 34,819 33,148 33,511 34,571 35,700 38,117 38,322
Operating income 34,777 55,844 58,582 60,598 62,495 62,636 66,442
Taxes and Other Income (15,497) (23,416) (24,565) (25,410) (26,205) (26,265) (27,861)
Net Operating Profit After Taxes 19,280 32,427 34,017 35,188 36,289 36,372 38,581
Total Current Operating Liabilities: 44,536 41,103 42,454 43,850 45,292 46,781 48,319
Net operating working capital 5,524 3,434 3,234 3,026 2,810 2,586 2,352
Net property, plant, and equipment 139,116 146,377 154,017 162,055 170,513 179,413 188,777
Operating capital 144,640 149,811 157,251 165,081 173,323 181,998 191,129
Net investment in operating capital na 5,171 7,440 7,830 8,242 8,675 9,131
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Equity Research Report - ExxonMobil November 19, 2010
Figure 5: Multiple Analysis
Equity Debt Pref. Equity Minority Cash MVIC
Chevron Corp 170,774.70 10,608.00 - 647.00 8,822.00 171,054.70
Conoco Phillips 91,194.77 28,653.00 - 590.00 542.00 104,499.80
Royal Dutch Shell 126,971.20 35,033.00 - 1,704.00 9,719.00 239,135.40
BP Plc 84,320.64 34,627.00 21.00 500.00 8,588.00 161,537.40
Hess Corp 22,840.41 4,467.00 - 144.00 1,362.00 26,169.41
Occidental Peteroleum 71,304.41 2,796.00 - 78.00 1,230.00 71,843.41
Valero Energy 11,052.43 7,400.00 - - 825.00 16,736.43
Sunoco Inc 4,616.99 2,464.00 - 562.00 377.00 6,788.99
Sales Gross Margin Gross profit EBITDA EBIT # of Refineries
Chevron Corp 159,293 13% 20,191 26,432 14,322 15
Conoco Phillips 136,016 9% 11,745 17,606 8,311 19
Royal Dutch Shell 278,188 18% 49,812 29,079 14,621 47
BP Plc 239,272 22% 52,298 33,392 21,286 26
Hess Corp 29,614 16% 4,594 4,181 1,927 4
Occidental Peteroleum 15,403 42% 6,493 7,993 4,876 9
Valero Energy 67,271 1% 573 826 (701) 15
Sunoco Inc 28,804 3% 776 598 77 6
MVIC Sales x Gross Profit x EBITDA x EBIT x # Refineries x
Chevron Corp 171,054.70 1.1x 8.5x 6.5x 11.9x 11403.6x
Conoco Phillips 104,499.80 0.8x 8.9x 5.9x 12.6x 5500.0x
Royal Dutch Shell 239,135.40 0.9x 4.8x 8.2x 16.4x 5088.0x
BP Plc 161,537.40 0.7x 3.1x 4.8x 7.6x 6213.0x
Hess Corp 26,169.41 0.9x 5.7x 6.3x 13.6x 6542.4x
Occidental Peteroleum 71,843.41 4.7x 11.1x 9.0x 14.7x 7982.6x
Valero Energy 16,736.43 0.2x 29.2x 20.3x -23.9x 1115.8x
Sunoco Inc 6,788.99 0.2x 8.7x 11.4x 88.2x 1131.5x
Average 1.2x 10.0x 9.0x 17.6x 5,622.1x
ExxonMobil 275,564.0 42,988 38,156.0 26,239 37
Valuation 324,108 429,757 344,980 462,691 208,018
Average Implied Value 390,384
Add excess cash 169
Less interest bearing debt 9,605
Estimated value of equity 380,610
# shares outstanding 5,043
Value per share $75.48
Disclosures:
Ownership and material conflicts of interest:
The authors of this report, or their household members, do not hold a financial interest in the securities of this company.
The authors of this report, or their household members, do not know of the existence of any conflicts of interest that might bias the content or publication of
this report.
Receipt of compensation:
Compensation of the authors of this report is not based on investment banking revenue.
Position as a officer or director:
The authors, or their household members, do not serve as officers, directors or advisory board members of the subject company.
Market making:
The authors do not act as market makers in the subject company’s securities.
Ratings guide:
Banks rate companies as either a BUY, HOLD or SELL. A BUY rating is given when the security is expected to deliver absolute returns of 15% or greater
over the next twelve month period, and recommends that investors take a position above the security’s weight in the S&P 500, or any other relevant index.
A SELL rating is given when the security is expected to deliver negative returns over the next twelve months, while a HOLD rating implies flat returns over
the next twelve months.
Disclaimer:
The information set forth herein has been obtained or derived from sources generally available to the public and believed by the authors to be reliable, but
the authors do not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as
the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an
offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with Northeastern University with
regard to this company’s stock.
Corporate Finance 10