Exxon (XOM)/Pioneer and Chevron(CVX)/Hess

Two big purchases of fossil fuel companies, one right after the other. What does this mean?

–among the traditional global oil majors, Europe-based conglomerates have long since reoriented themselves to become energy companies rather than simply integrated oils. In contrast, XOM and CVX have now reiterated forcefully that their business is fossil fuels, not other, more climate-friendly, forms of energy. Both firms are doubtless fully aware of global warming. In fact, news reports suggest that XOM, which is known for its excellent economic research, has been aware of the long-term ecological damage done by fossil fuels but has elected to keep its findings secret

–my experience (I started out as an analyst covering oil and mining companies) is that disclosure of the value of company mineral assets is murky at best. Absent a CEO who drinks champagne out of a cowboy boot, mining companies (including oils) are usually very conservative in what they reveal about the value of properties they own or have mining/drilling rights for. The only people who really know the true potential are a firm’s own geologists, partners in a given venture, and owners/developers of abutting prospects. While smaller firms use third-party geologists to develop SEC-mandated oil and gas disclosure, industry giants typically use their own–presumably guided to be more conservative–in-house experts. In my experience, companies worried about being taken over are the least motivated to declare high values for themselves. All in all, it’s likely that XOM and CVX think they’ve gotten very good deals.

–what really jumps out to me is that both buyers are using stock, a more expensive form of capital than debt, to finance these acquisitions, This is even though both acquirers have strong cash flows and modest financial leverage. In addition, XOM and CVX are both trading at single-digit PEs, in a market trading at 20x+. Both stocks yield close to 4%, to boot.

So, why not bank loans, or a bond issue (maybe a junk bond even) instead? If these acquisitions are such great deals, why not capture the largest amount of possible value for existing shareholders by using debt?

I can’t imagine that neither oil behemoth has been able find a bank–US or foreign–willing to make a large, petroleum-related loan at a reasonable price. But if so, why not issue a corporate bond, or a convertible? Assuming potential lenders/underwriters aren’t shunning the deals, using stock says to me is that both acquirers think fixed income is too risky. How so?

We know that relatively small changes–meaning 2%-3%–in supply or demand for oil can cause the crude price to move a lot. Suppose, say, that EVs become an important part of the world transportation scene by 2028 rather than ten years later, and that the resulting decline in demand for gasoline causes the crude oil price to drop to (I’m just making this up) $60 a barrel–and stay there. Would XOM and CVX still be able to service a $60 billion loan? Yes. But the interest expense would take a bigger bite out of considerably lower profits. And repayment of principal in the $50-$60 billion range might prove more problematic.

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