Subject: Re: Why Not O&G? Is it the IEA Energy Outlook_
There are merits to the investment case, but to me the two main arguments against a big move of a portfolio into oil and gas are:

* There is no such thing as oil and gas production, merely oil and gas extraction. So the business, as it sits on any given day, is always in wind-down mode. To prevent that, it has to perpetually reinvent itself by getting access to additional stock. In that way it's a bit like a company selling high tech devices - the current product will no longer generate revenue after a while, so something new has to be found, over and over forever. Worse in this case, as every round gets harder and harder in O&G.

* Obviously, no control over pricing. Not fatal if you're the low cost extractor, but definitely not one of the qualities you WANT in a business.

On point comments Jim, and I agree these are the key points. XOM senior management keeps making the same two points - O&G are depletion businesses, and you need to be the low cost supplier. They know these points are key to investors.

They don't like the prices that XOM stock trades at, so they address these in their Investor Presentation days.

They point out that their reinvestment of cash flow into dividends and capex has declined from circa 60% in the 2010-19 period to circa 50% now. At current dividend rates, this is projected to decline to 40% by 2030.

Why? Even after a career in the industry, I have consistently underestimated the ability of the industry to find new reserves at attractive prices. This is due to technology advances. It continues. O&G is a high tech business.

First it was deep offshore. Who could have anticipated suspending a drilling rig a mile above the ocean floor, and then being able to drill another 2-3 miles into the earth to find oil - and then install the equipment via robots to produce it? And make good returns on investment?

XOM found some 11+ billion barrels of oil in Guyana (still much unexplored) after many companies had drilled some 50 dry wells trying to do so. How? Improved technology to understand the subsurface. In another "fireside chat" in May, their senior VP over the upstream stated that their new 4-D subsurface technology can now deliver results in 2 months that previously required 2 years to obtain. It was the early technology that found the Guyana reserves. Their new super-computer has 4X the capability of the one being replaced. AI is still in the early stages. These advances apply to all reservoirs.

Then came the shale "fracking" revolution. Shale was known to contain enormous original oil - even in my day three decades ago - but was considered too non-porous to ever be productive. Almost a metal, as Vickie describes. Now it has produced 90% of the growth in new oil production over the past decade, some 8 million B/D. And the industry is still only recovering 6-8% of the oil in place. The current goal is to double that - and there are many technologies being tested to do so.

What about investment returns? Both Guyana and the Permian will yield a 10% ROIC at sustained $35 oil. XOM is not opportunity limited - instead they're pacing capex with expected demand growth.


Being the low cost producer in a commodity business is always needed for success. But if you can make good money at prices that the very lowest cost producers can't afford, you're in good shape. The OPEC countries need certain oil prices to sustain/grow their economies. And they can't forget to fund the social programs their citizens require to not revolt.

All of this results in a turbulent market over time as geopolitics and economics interact. It's not for those who want to avoid ups and downs. And you must learn how to manage through these ups and downs. Keynes had the right idea back in 1935. You save money during the "good" times to build a strong balance sheet. You borrow, if necessary, during the "bad" times to keep the multi-decade projects going. Also, that's also when costs are lowest, the better properties are available at good prices, and you can negotiate good long term contracts because you are a steady customer. Focus on management. Exxon has been a counter-cycle investor for decades. Short focus investors want capex cuts during such periods in favor of dividends and buybacks. That's not the way to manage.

Returning to the beginning, you make the right points about O&G investing. But it's a lot more complicated than it might appear.

And it's hard to get the story across. As one friend commented, XOM has opened its kimona, and not many people are looking.

Depletion will ultimately win - but it will be many decades.