Thursday, January 13, 2011

Rule #1 Analysis Blitz #9: Exxon Mobil (XOM)


As you may have noticed, many of the stocks that I picked for my Rule #1 Analysis Blitz were tech stocks.  It wasn't really on purpose, but this is what Rule #1 is all about.  It's about stocks that have meaning for you.  To me, a youngish male engineer, tech is where it's at!  It's probably not a good thing since we want to diversify in our portfolio.  We want top-notch Rule #1 stocks, but preferably companies in different industries.  A good mix may include a stock from each of the following industries: tech, energy, healthcare, retail, banking/finance.  In my own portfolio, I have 3 out of 5 categories...so I'm trying.

So, in this post, we're going to shift gears a little bit and head to something I'm not too familiar with: an energy stock!  Let's choose the biggest one...in fact, let's choose the world's biggest company by market capitalization: Exxon Mobil (Ticker: XOM)!  If you don't know what Exxon Mobil does (which I doubt), in short, it drills for and sells petroleum and lots of it!

Moat
You can download the completed Rule #1 spreadsheet here.

Oil is a commodity.  It doesn't matter whether Exxon Mobil, Shell, or BP makes it; oil is oil.  You hear about the price of crude going up.  Yep, that's the price of crude oil, regardless of its maker.  As long as its composition falls within some specification, it's considered to be the same stuff.  That's the essence of a commodity.  Phil Town doesn't like investing in commodity or commodity stocks.  Why?  The profits are highly subject to the price of the commodity.  As you'll soon see, Exxon Mobil is no exception.  But why is that a bad thing?  Well, when you invest in a company, you'd like the company to be in more control of its destiny.  If you own a commodity stock, even a very well run company can suffer if, through no fault of its own, the price of its product falls.  So, first off, the fact that Exxon Mobil sells a commodity warrants a couple of points being docked off.

A second disadvantage of selling a commodity is the absence of a moat in the product itself.  Unlike shopping for the Apple iPod, you can get the same oil if you went next door to Shell or BP; you can't get an iPod from Sony, Creative, or Sandisk! 

The only real moat that a company like Exxon Mobil can have is its cost structure, much like Walmart has.  If it can make commodity items at a much cheaper price, it can make much more money than its competition.  Let's see if Exxon's numbers show this.  Last year's numbers were bad, real bad.  We had a couple of yellows and 3 negative growth numbers.  Sales, EPS, and free cash flow all declined from previous years.  Looking farther back, the 5-year numbers look a little better, but not by much.  ROIC is the only number that is above 10%.  The rest are below that threshold and free cash flow continues to decline.  Ditto for 9-year numbers.

Looking a little deeper, you'll see in Figure 2, the EPS history of the last 10 years.  You will notice that EPS dropped significantly in 2009 and 2002, which happens to be the end of the last 2 bull cycles.  So, Exxon Mobil is a highly cyclical stock which depends greatly on the economic circumstances of the day.  I'm not an economist and therefore, I cannot see what's going to happen to the macroeconomic environment a year from now.  Sometimes, even the experts can't tell.  So, why pick a business where it depends largely on this great unknown?  Rule #1 investors want to find companies that do well regardless of the economy.  Obviously, no company is immune from economic downturns, but you want some kind of trend or moat to help defend against economic uncertainties.

Exxon Mobil doesn't have much of a moat, but it has been a profitable company for the last 10 years.  So, it does have some merit.  If you can get in at a good price, the stock may produce good gains for you.  But let's continue in our analysis before we get to that.

Exxon Mobil gets a 3 out of 10 for Moat.

Moat Score: 3 / 10


Figure 1: Rule #1 Analysis of Exxon Mobil (XOM)


Figure 2: EPS History of Exxon Mobil (XOM)

Margin of Safety
To calculate the margin of safety, I used an estimate growth of 8.3%, which was the analysts' estimate, and a P/E of 12.  For a company like XOM, the growth of earnings is not very predictable.  If the price of oil skyrockets, its earnings would do the same.  Conversely, if the price of oil tanks, the revenues generated by selling it may not cover the costs of running drills, refineries, etc. and the company may end up losing money.  Some already believe that we have reached "peak oil", which is the term that designates when the overall worldwide consumption of oil will start to decrease as time passes.  If this is true, the macro conditions may not bold well for Exxon Mobil.  However, Philip Morris (Ticker: PM) is in a similar situation with number of cigarette smokers declining, but still managing to grow its business.  So, Exxon Mobil may still be able to do the same.

In any case, the sticker price calculated was $37.13 and entry price was $18.57.  The stock is currently trading in the $70s.  There is a large gap between those numbers.  Even if the growth rate were15% and P/E were 20, the entry price would still only be at $56.40, which is lower than the current share price.  There's absolutely no margin of safety for this stock.  Stay away!  2 out of 10!

Margin of Safety Score: 2 / 10

Management
Rex W. Tillerson is the CEO of Exxon Mobil.  He joined the company in 1975 as an engineer.  That was before I was born!  If anything, Tillerson has shown to be very loyal to the company.  Over the years, he has moved steadily up the ranks in the company, until he was elected as CEO in 2006.

It was recently reported that he owned about 1.5 million shares of Exxon Mobil, which equates to about $113 million!  There also hasn't been any recent selling of shares of a significant value.  So, things look good from an ownership standpoint.  He has a large amount of money vested in the company and doesn't seem to be offloading much at this time.

Just recently, Tillerson was awarded the Corporate Citizenship Award by the Woodrow Wilson International Center for Scholars.  It was awarded for his and Exxon's work on improving education, empowering women, and fighting malaria in developing countries.  Seems like an all-around nice guy!

Although there was not much that I could find on Tillerson on the internet, from what I could find, he is a leader who has earned his position at the company, is very loyal, and has vested interest in the company.  Pretty good if you ask me!  I'll give him an 8 out of 10.

Management Score: 8 / 10

Meaning
After Al Gore lit up a fire on the topic of climate change in his Inconvenient Truth, there has been increased momentum to increase adoption of renewable energy and to decrease impact of fossil fuels.  Complement this With the recent BP oil spill in the Gulf of Mexico and the high cost of gasoline, oil companies have definitely shifted into the role of the antagonist.  Oil, in and of itself, is a good thing.  It gives us things like fuel, plastics, asphalt, etc.  Rather, it is our use (or mis-use) of oil that may present ethical concerns.

The USCCB socially responsible investment guidelines have a category specifically on protecting the environment.  So, if we determine that Exxon Mobil's business has an adverse effect on the environment, we may not want to invest in it.  About 81% of each barrel of oil goes into making fuel including gasoline, jet fuel and diesel fuel, all of which produce carbon dioxide when burned.  Is it unethical to produce a product that contributes to global warming?  Well, is it unethical to drive a car that burns gasoline?  It's sort of in a grey area, but there is some responsibility on all parties, whether it is Exxon Mobil making the fuel or the end user burning the fuel.

Exxon Mobil is an oil company, but it can also be argued that it is an energy company.  Unlike its counterparts, such as British Petroleum, it invests relatively little in renewable energy.  It was also alleged that it funded global warming skeptics.  Exxon Mobil itself was ranked poorly by the Political Economy Research Institute as a pollutant emitter.  Overall, Exxon Mobil does not have a very good image in terms of protecting our environment.

In the end, is Exxon Mobil harming our environment?  Directly...probably, with its own emissions.  Indirectly...absolutely, because its main products are fuels.  What is worse is that it has very interest in shifting its own paradigm from fossil fuels to renewable energy.  It is both harming the environment, and also not striving to protect it.  It gets a 3 out of 10 for Meaning.

Meaning Score: 3 / 10

Summary
Moat Score: 3 / 10
Margin of Safety Score: 2 / 10
Management Score: 8/ 10
Meaning Score: 3 / 10
OVERALL (not an average): 3 / 10

The only good score that Exxon Mobil obtained was Management.  Otherwise, this company is most definitely not "investable"!  It has little moat because its products are commodities; the stock is overvalued; and it is not the most environmentally friendly company out there.  I'd stay away from it!