Reserve Impairments Won't Change Our View of Exxon
The firm's oil sands reserves may eventually be rebooked, but that won't change our valuation given that cash flows will be unaffected.
Exxon Mobil (XOM) reported a decline in third-quarter earnings as result of the fall in oil and gas prices and narrowing of refining margins. The results were largely in line with our expectations, and our fair value estimate and moat rating remain unchanged. We continue to view Exxon as the best-positioned integrated to withstand low oil prices with the lowest cash flow break-even levels (around $45/bb), but we think those characteristics are already recognized by the market, leaving shares fully valued.
Of greater interest was Exxon’s attempt to address the growing controversy surrounding its reserve reporting and lack of asset impairments. The company has come under scrutiny by the SEC and others for its lack of asset impairments during the current cycle despite the sustained decline in oil prices and billions of impairments recorded by peers. Garnering the most attention was Exxon’s disclosure that 4.6 billion barrels of reserves (3.6 billion associated with the Kearl oil sands project and 1 billion in North American liquids and natural gas), or 19% of its 2015 year-end total, may be debooked, given the low prices realized in the year to date. SEC proves reserves guidelines require booked proved reserves to be economical at the average price for the year (measured by taking the price of the first day of each month) which is likely to be about $42 for 2016. While generating headlines, the disclosure is essentially the same, with the exception of the specific amounts, as what was included in its 2015 10-K. Ultimately, we do not see 2016’s average price as the long-term sustainable midcycle price, and as such, we expect the oil sands reserves to be eventually rebooked. Furthermore, there is no impact on our valuation, as the actual Kearl operation and cash flows are unaffected by the change.
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Allen Good does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.