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Ticker: Sector: Industry: XOM Basic Materials Major Integrated Oil & Gas Recommendation: Hold Pricing Closing Price 52-wk High 52-wk Low $87.83 $96.12 $77.55 Market Data Market Cap Total Assets Beta Short Percentage 468.2B 258.2B 1.13 0.70% Valuation P/E 11.52 P/E vs. Industry 96.97% PEG (5 yr. expected) 1.08 Financial Strength Quick Ratio Current Ratio Debt to Equity 1.16 1.38 0.08 Profitability & Effectiveness ROA 16.63% ROE 35.59% Gross Margin 43.22% Operating Margin 16.45% Profit Margin 10.85% Exxon Mobile In 2007, ExxonMobil regained the title of largest U.S. company in the world and is operating in three of the most profitable industries. Net income in 2007 of $40,610 million was the highest ever for the Corporation, up $1,110 million from 2006. Earnings in 2007 were also at record levels for each business segment. Brief History The Standard Oil Trust, formed in 1882, included the Standard Oil Company of New Jersey (Jersey Standard) and the Standard Oil Company of New York (SOCONY). In 1911, a Supreme Court decision broke the Standard Oil monopoly into 34 individual companies. Vacuum Oil and Jersey Standard, two of the companies formed after the break-up, changed their names to Mobil Oil Corporation and Exxon Corporation in 1966 and 1972, respectively. In 1999, Exxon Corporation and Mobil Oil Corporation merged to form the current ExxonMobil Corporation. ExxonMobil is a US-based integrated oil and gas company. It is headquartered in Irving, Texas and has 82,100 employees. The company was originally founded by John D. Rockefeller, and Rex W. Tillerson is the current Chairman/CEO. Background ExxonMobil’s business and products include 1) upstream activities of oil and natural gas exploration, development, and production, 2) downstream activities of refining and marketing of petroleum products, and 3) chemical businesses tightly integrated with the downstream refining operations. ExxonMobil produces gasoline, energy, and raw materials for plastics and chemicals. ExxonMobil had revenue of $404.552 billion in 2007. Their business is a 1 Steven Hinkle commodity-based business. In order to gain profit in a commodity industry, the seller has to focus on “ reducing unit cost and improving efficiency through technology improvements, cost control, productivity enhancements and regular reappraisal of their asset portfolio” (10-K, 2007). Critical Facts The US is experiencing an economic slowdown in the near-term that is accompanied by rising inflation. In 2006, ExxonMobil generated 30.9% of consolidated revenue from its US operations, indicating that a slowdown in the US economy will have a significant negative impact on the company. (Datamonitor, 2007) Instability in the Middle East and Africa increases the risk associated with ExxonMobil purchasing and extracting crude oil in those regions. In particular, ExxonMobil’s upstream operations in the Middle East are at risk. In Africa, Its production base is focused in the northern and central regions of the continent. (Datamonitor, 2007) The threat of natural disasters puts both the Upstream and Downstream divisions of ExxonMobil at risk. Specifically, hurricanes in the Gulf of Mexico can cause serious damage to offshore wells and refining operations along the coast. For instance, the hurricanes Katrina and Rita damaged ExxonMobil’s Gulf of Mexico operations in 2005. (Datamonitor, 2007) General Environmental Analysis Sociocultural. A threat of increased regulation stems from concerns about global warming and environmental degradation. Further, concern about greenhouse gas emissions has the potential to alter global energy consumption patterns in the future. In addition, hydroelectricity and renewable energy is projected to increase at an annual rate of 1.9% between now and 2030 compared to a 1.4% annual growth rate over that same period for petroleum liquids. According to Standard & Poor’s, “Most of the super majors (Exxon’s peer group), such as BP, Chevron, Royal Dutch Shell, and Total, are building renewable energy business with a long term view.” Recently, there has been public concern over “windfall” profits among oil and gas companies caused by sharp increases in the price of oil. Economic. GDP: Slowing global GDP is a threat to the oil industry because industry growth is measured in number of barrels demanded daily which is highly correlated to global GDP. Specifically, the 2.9% expected growth in energy consumption for 2008 is correlated to the expected 2.9% growth in global GDP because oil and gas play a central role in global economic activity (i.e., primary fuel for energy, commerce and transportation). In addition, Standard & Poor’s and Global Insight have projected that the world economy will shrink from a 3.7% annual GDP in 2007 to 2.9% in 2008 and then up slightly to 3.3% in 2009. The GDP growth of the U.S. and China is an important opportunity to the oil and natural gas industries because they are major consumers of petroleum products. Specifically, China’s GDP 2 is expected to slip from 11.4% in 2007 to 9.9% in 2008 and then to 8.9% in 2009. US GDP is expected to decrease from 2.2% in 2007 to 1.2% in 2008 and then back up slightly to 1.9% in 2009 (Standard & Poor’s,2008). Currency & Inflation: Currency exchange rates and inflation with respect to the U.S. dollar are a threat to the oil industry’s profitability because oil is globally traded in U.S. dollars. Specifically, if the value of the dollar remains weak in comparison to other major currencies, the profitability of domestic oil companies can remain high relative to foreign companies because foreign companies must convert their dollar earnings from oil back into higher value currencies before making upstream capital investments. In response to the weakening U.S. dollar, oil-exporting countries are petitioning OPEC to peg oil to the euro (Gamal, 2007). Oil producing countries pegging oil to something other than the dollar is a threat to U.S. economy and holders of the dollar because it further reduces the strength of the dollar. Political, Governmental, Legal. The daily global supply of oil is threatened since many oil-producing countries are concentrated in areas of heightened political tensions such as the Middle East and parts of Africa. An ongoing threat is that oilproducing countries will not adhere to OPEC’s quotas. Specifically, the collective influence of OPEC with highly unstable members such as Iran, Iraq, Libya, and Venezuela could lead to increases or decreases in short term crude oil supply. However, OPEC has an incentive to limit supply to maintain higher oil prices, which benefits OPEC nations, the industry, and Exxon. In addition, the reach of the tax authorities could drastically affect the cost structure of the industry, as integrated oil and gas companies already pay an average effective tax rate of 38% – 6% higher than the average for the market as a whole (Williams & Hodge, 2006). Technological. Technological innovations are an opportunity to gain competitive advantage since crude oil and natural gas exploration are becoming increasingly difficult. International. Due to the global nature of the oil industry and ExxonMobil’s global operations, the political, governmental, legal, and technological forces are present both internationally as well as domestically. Industry Environmental Analysis Exxon participates in three very profitable industries: Mining/Crude-Oil industry, Petroleum Refining, and Chemicals. First, the profitability of the industry is determined by comparing the three industries’ profitability with the S&P 500 median’s profitability. Second, Porter’s five forces are examined to determine the attractiveness of the industry with a focus on super majors (i.e., companies that integrate upstream and downstream activities). Profitability of the Industry. All three of the industries Exxon participates in are more profitable than the S&P 500 median (see Appendix A). Specifically, the Mining/Crude-Oil industry (i.e., Exxon’s upstream activities) is ranked first with a 3 26.6% return on revenues (i.e., most efficient operations), ranked eleventh with an 8.2% return on assets, and ranked tenth with a 21.8% return on equity. The Petroleum Refining industry (i.e., Exxon’s downstream activities) is ranked twentieth with a 7.3% return on revenues, ranked second with a 13.2% return on assets (i.e., second best productivity of assets), and ranked third with a 30.7% return on equity (i.e., third greatest power of equity). The Chemicals industry (i.e., Exxon’s Chemical businesses) is ranked twenty-sixth with a 6.6% return on revenues, ranked seventeenth with a 6.6% return on assets, and ranked twelfth with a 20.9% return on equity. Threat of New Entrants. The threat of new entrants is low because barriers to entry include high capital cost, economies of scale, distribution channels, proprietary technology, environmental regulation, Stock Market geopolitical factors, and high levels of Company Cap. (mil) industry expertise needed to be ExxonMobil, (XOM) 466,610 competitive in the areas of exploration and extraction. In addition, fixed cost BP p.l.c. ADS, (BP) 189,942 levels are high for upstream, Chevron Corp. (CVX) 178,417 downstream, and chemical products. Business Rivalry. Business rivalry is Conoco Philips (COP) 118,159 high because of the commodity-based Royal Dutch nature of the business. In addition, there Shell'A'ADS (RDS) 121,448 is competition with other industries that Total 'B' ADS (TOT) 165,126 supply chemical, energy, and fuel for both industrial and individual consumers. The industry growth rate (based on the global demand for petroleum) is estimated to be 1.9% in 2008 and does not pose a threat or an opportunity. Further, since the oil industry is a commodities market, the competitive advantage is primarily derived from the ability to produce products at a lower cost via operational efficiencies. The high number of competitors can be seen in the following market capitalization analysis. 4 Supplier Power. The suppliers are the oil mining and extraction firms (includes Exxon). Supplier power is high because OPEC controls 40% of world’s supply of oil (Gamal, 2007) and, thus, has a strong influence on the price of oil. OPEC’s influence on oil prices is a threat because Exxon purchases oil on the open market. In addition, unstable countries that host Exxon oil reserves are a threat because they can seize Exxon’s assets at any time. For example, Venezuela recently seized one of Exxon’s major projects. Buyer Power. Buyers are both industrial consumers and individual consumers. Industrial (i.e., downstream) buyer power is low because upstream suppliers have an incentive to limit supply and keep prices high as is evidenced by the shrinking downstream margins. Individual buyer power is low because of the high volume of demand as is evidenced by the fact that energy prices are continuing to rise despite slowing economic growth worldwide (Mouawad, 2008). Further, oil demand is expected to increase in 2008, although not as much as originally predicted (Mouawad, 2008). Threat of Substitutes. The threat of substitutes is low and comes from nuclear power, hydroelectric, biomass, geothermal, solar, photovoltaic, and wind. Nuclear and hydroelectric energy sources are not a threat within the next decade because of government regulation, environmental concerns, and a high barrier to entry. Further, photovoltaic sources are limited by technological issues, and geothermal sources are limited by geographic availability. The only potential threat could be biomass. However, efficiency levels of biomass have yet to be proven competitive to oil/natural gas. Finally, coal could prove to be a threat to oil consumption as an energy source should technological advancements in coal liquefaction techniques advance to a level that would provide clean, stable oil molecules from the largely abundant domestic coal reserves. Attractiveness of the Industry. The Mining/Crude-Oil industry, Petroleum Refining, and Chemicals industries as a group are very attractive because the threat of new entrants is low, buyer power is low, supplier power is high (which is good because most of the big industry players are both suppliers and buyers), and the threat of substitutes is low. The attractiveness of the industry is reduced because business rivalry is high. Internal Analysis Value Chain and Competences. Company wide, Exxon relies on operational excellence and proprietary technologies to create competencies across its value chain. Exxon’s upstream focus is to sustain output of oil and natural gas via development and exploration of West Africa, the Caspian, the Middle East and Russia. In order to thrive in a variety of market conditions, Exxon’s downstream strategy is to maintain a diversified business that includes marketing and refining complexes across the globe. 5 Specifically, it strives to provide quality, valued products and services to its customers by means of best-in-class operations, use of leading-edge technology, and synergies experienced from its many businesses. Finally, Exxon’s chemical businesses are integrated with their downstream refining complexes and natural gas processing plants. This integration serves as an operational core competency that provides cost savings from economies of scale. Five Year Average Financial Ratios. Although petroleum industry margins and more specifically those of the integrated oil & gas sector are below that of the S&P 500, the favorable profitability of the industry is evident with exceptional return on assets and return on equity. This low margin, but high profitability is consistent with high volume commodity industries. This principle is reinforced by the petroleum industry’s above average inventory turnover ratio. Profitability Gross Profit Margin Net Profit Margin Return on Assets Return on Equity Liquidity Ratios Current Ratio Quick Ratio Leverage Ratios Debt to Equity Activity Ratios Asset Turnover Inventory Turnover ExxonMobil Sector 21.42 35.27 9.57 8.83 16.32 8.4 31.57 18.34 ExxonMobil Sector 1.47 1.49 1.28 1.07 ExxonMobil Sector 7.86 38.5 ExxonMobil Sector 1.75 1.35 27.89 21.13 Industry 27.69 6.77 10.63 21.73 S&P 500 45.83 12.03 6.7 18.2 Industry 1.35 1 S&P 500 1.73 1.21 Industry 14.1 S&P 500 74.8 Industry 1.7 26.27 S&P 500 0.97 12.23 Existing Structures and Controls. Exxon effectively competes in the commodity parts of its businesses by controlling expenses. Specifically, Exxon employs technology improvements, cost control, and productivity enhancements to continually reduce unit costs and improve efficiency (10-K, 2007). 6 Culture. Exxon’s corporate culture focuses on long-term viability using a disciplined approach that requires large investments in a diverse set of projects that take many years to develop but are expected to deliver sustainable competitive advantage for decades (10-K, 2007). A recent article in Fortune Magazine described the culture as rigorous and analytical (Colvin, 2007). Business Level Strategy Porter’s Generic Strategies. Under Porter’s strategy model, ExxonMobil operates as a broad low-cost-producer. Because the company’s primary products are commodities, any differentiation among competing products is essentially nonexistent. As such, it must compete on the basis of cost and efficiency. The company achieves its cost leadership by competing through technological and operational efficiencies in the areas of exploration, extraction, and refining. The company’s Chemical division, however, operates under a best-value strategy due its leadership in production costs and proprietary chemical and polymer offerings. This means that many of its chemical products are both differentiated from competitors and achieve cost leadership through synergies gained by combining refining and chemical production operations. Growth Strategies. ExxonMobil’s two largest divisions, Upstream and Downstream, both employ market penetration growth strategies. This may be partially due to the fact that the consumption of petroleum products is ubiquitous, so there are essentially no new markets in which to employ a market development strategy. Additionally, the products themselves are standardized, so a growth strategy centered on product development is unfeasible. In contrast, the Chemical division employs a product development strategy, focusing on creating new chemical products through the development of proprietary technology. Corporate Level Strategy Diversification Strategy. Exxon employs a vertical integration strategy, which is a subtype of the related diversification strategy. Through its Upstream, Downstream and Chemical Divisions, the company has operations at every stage in the supply chain. 7 Additionally, the company has implemented second related diversification strategy by horizontally integrating at the downstream stage of its supply chain. The Downstream and Chemical divisions achieve great synergies by combining chemical production with refining operations. The company has greater than 90% of its chemical production capacity integrated with its refining facilities. The products from both divisions can also leverage many of the same marketing channels. Center of Gravity. In the last three years, ExxonMobil’s Upstream division (i.e., exploration and extraction) has generated twice the profits, garnered four times the capital expenditures (and exploration expenditures), and employed approximately 50% more capital than the downstream and chemical divisions combined. By any of those measures, the company’s center of gravity is at the upstream stage of the supply chain. SWOT Analysis Internal Strengths. Exxon’s internal strengths include strong reserves in oil and gas, global presence, and strong margins (Datamonitor, 2007). Its proven reserves are by far the largest in its peer group, and it also has strong average replacement ratio, averaging 114% over the last five years. In addition, the company’s global presence is also impressive. For example, Exxon currently operates 35 refineries across 21 countries and has over 35,000 service stations across approximately 100 countries. Over the last five years, Exxon’s operating margins have averaged 14.5% compared to an industry average of 11.3%. Other strengths include an enormous cash and cash equivalents balance of $34 billion and technological advantages in its industry allowing it to explore in the most remote places, and develop unconventional resources more effectively than other companies. Furthermore Exxon has a well-integrated upstream, downstream, and chemicals operation and is the best-in-class in its operations and efficiency. Finally, synergies between refining and chemical production exist as 90% of the chemical production is integrated with refining. Internal Weaknesses. Exxon’s weaknesses include declining refinery throughput both in 2006 and 2007, weak upstream performance in the US, and weak growth in revenue compared to peers (Datamonitor, 2007). Decreasing refinery output is the most concerning. The trend of output per day from 2005-2007 was 5.723, 5.603, and 5.571 million barrels. Exxon’s weak revenue growth compared to its peers is likely because of its size. Once companies become as large as Exxon it becomes difficult for them to grow as quickly as their smaller competitors. Although in 2006, Exxon’s upstream performance in the US declined 16%, its non-US performance increased 16.3%, offsetting the weakness in the US. One final weakness for Exxon is that it has $120 billion in plant, property, and equipment. Since plants and equipment in this industry are highly specialized, it is difficult to sell them, and they often become obsolete once resources at a developed site are depleted. External Opportunities. Opportunities for Exxon abound in its industry. Global demand is rising, especially from emerging markets and China, unconventional oil 8 resources (e.g. oil sands) pose a big potential for increasing the energy resource base, and there are opportunities for exploring remote areas to discover and develop new sources of supply. In addition, through 2030, oil and gas are expected to maintain 60% share of the energy market. There is also an opportunity to purchase and refine lower quality crude for companies that have the technology and capabilities to do so. The US monetary policy will also likely cause the dollar to weaken which benefits Exxon. In 2007, Exxon profited $1.8 billion from the decline in the dollar. Finally, continued solid demand growth for petrochemicals is expected. External Threats. Ongoing threats in this industry include the instability of nations with large supplies of oil, natural disasters and changes in weather patterns, downstream margins being squeezed by competition, the finite supply of hydrocarbons, and general market price fluctuations. More immediate threats include the slowdown in the US economy, public and political backlash over environmental concerns and windfall profits, and the threat of some nations changing denomination of their oil reserves from the Dollar to the Euro. Valuation To estimate the intrinsic value of Exxon Mobile stock, the warren Buffet Owners Earning Model was used. The current 10 year T-bill rate of 4.142% was used as the risk free rate. The beta was determined to be 1.13 which was the average of the betas provided by yahoo finance and google finance. The market return used was time weighted average return on the S&P500 (Large Cap Stocks) from 1926-2003 which was 10.23%. Discount Rate K = Rf + β(E(Rm)-Rf)) K = 4.142 +1.13(10.23-4.142) K = 11.02% 9 Financial Statements Recommendation It is important to note that in calculating the intrinsic value per share I entered expected annual growth rates equal to what I researched forecasted global GDP rates to be. Due to the Exxon Mobiles large size I felt that future growth beyond global GDP levels would be difficult and have used these conservative forecast numbers as a result. Based on these calculations I have found Exxon Mobile to be over priced slightly. I recommend waiting to purchase shares of Exxon Mobile until the price drops to $85.49 or below. 10 Income Statement PERIOD ENDING 31-Dec-07 31-Dec-06 31-Dec-05 Total Revenue 404,552,000 377,635,000 370,680,000 Cost of Revenue 232,852,000 213,255,000 213,002,000 Gross Profit 171,700,000 164,380,000 157,678,000 - - - 87,571,000 83,857,000 86,698,000 - - - 12,250,000 11,416,000 10,253,000 - - - 71,879,000 69,107,000 60,727,000 - - - 70,874,000 68,056,000 59,928,000 400,000 654,000 496,000 Income Before Tax 70,474,000 67,402,000 59,432,000 Income Tax Expense 29,864,000 27,902,000 23,302,000 Operating Expenses Research Development Selling General and Administrative Non Recurring Others Total Operating Expenses Operating Income or Loss Income from Continuing Operations Total Other Income/Expenses Net Earnings Before Interest And Taxes Interest Expense Minority Interest Net Income From Continuing Ops (1,005,000) (1,051,000) (799,000) 40,610,000 39,500,000 36,130,000 Discontinued Operations - - - Extraordinary Items - - - Effect Of Accounting Changes - - - Other Items - - - 40,610,000 39,500,000 36,130,000 - - - $40,610,000 $39,500,000 $36,130,000 Non-recurring Events Net Income Preferred Stock And Other Adjustments Net Income Applicable To Common Shares Cash Flow 11 PERIOD ENDING Net Income 31-Dec-07 31-Dec-06 31-Dec-05 40,610,000 39,500,000 36,130,000 12,250,000 11,416,000 10,253,000 Operating Activities, Cash Flows Provided By or Used In Depreciation Adjustments To Net Income 166,000 (264,000) 288,000 Changes In Accounts Receivables (5,441,000) (181,000) (3,700,000) Changes In Liabilities 6,228,000 Changes In Inventories Changes In Other Operating Activities Total Cash Flow From Operating Activities 72,000 (1,883,000) 1,160,000 7,806,000 (1,057,000) (434,000) (1,288,000) (2,205,000) 52,002,000 49,286,000 48,138,000 (15,387,000) (15,462,000) (13,839,000) Investments (3,149,000) (1,848,000) (2,467,000) Other Cash flows from Investing Activities 8,808,000 3,080,000 6,036,000 Total Cash Flows From Investing Activities (9,728,000) (14,230,000) (10,270,000) (7,910,000) (7,867,000) (7,478,000) (31,402,000) (28,878,000) (17,961,000) Investing Activities, Cash Flows Provided By or Used In Capital Expenditures Financing Activities, Cash Flows Provided By or Used In Dividends Paid Sale Purchase of Stock Net Borrowings 598,000 73,000 Other Cash Flows from Financing Activities 369,000 462,000 Total Cash Flows From Financing Activities Effect Of Exchange Rate Changes Change In Cash and Cash Equivalents (38,345,000) (36,210,000) 1,808,000 727,000 $5,737,000 ($427,000) (1,502,000) (26,941,000) (787,000) $10,140,000 12 Balance Sheet PERIOD ENDING 31-Dec-07 31-Dec-06 31-Dec-05 Assets Current Assets Cash And Cash Equivalents 33,981,000 32,848,000 33,275,000 519,000 - - Net Receivables 36,450,000 28,942,000 27,484,000 Inventory 11,089,000 10,714,000 9,321,000 3,924,000 3,273,000 3,262,000 Total Current Assets 85,963,000 75,777,000 73,342,000 Long Term Investments 28,194,000 23,237,000 20,592,000 120,869,000 113,687,000 107,010,000 - - - 7,056,000 - - Accumulated Amortization - - - Other Assets - 6,314,000 7,391,000 Deferred Long Term Asset Charges - - - 242,082,000 219,015,000 208,335,000 55,929,000 47,115,000 44,536,000 2,383,000 1,702,000 1,771,000 - - - Total Current Liabilities 58,312,000 48,817,000 46,307,000 Long Term Debt 21,549,000 6,645,000 6,220,000 Other Liabilities 13,278,000 21,047,000 20,181,000 Deferred Long Term Liability Charges 22,899,000 24,858,000 24,441,000 4,282,000 3,804,000 - - - - 120,320,000 105,171,000 97,149,000 Misc Stocks Options Warrants - - - Redeemable Preferred Stock - - - Short Term Investments Other Current Assets Property Plant and Equipment Goodwill Intangible Assets Total Assets Liabilities Current Liabilities Accounts Payable Short/Current Long Term Debt Other Current Liabilities Minority Interest Negative Goodwill Total Liabilities Stockholders' Equity 13 Preferred Stock - - - Common Stock 4,933,000 4,786,000 5,743,000 Retained Earnings 228,518,000 195,207,000 163,335,000 Treasury Stock (113,678,000) Capital Surplus Other Stockholder Equity Total Stockholder Equity Net Tangible Assets 1,989,000 (83,387,000) (2,762,000) (55,347,000) (2,545,000) 121,762,000 113,844,000 111,186,000 $114,706,000 $113,844,000 $111,186,000 14