Wednesday, May 24, 2023

Marathon Oil Corporation & Occidental Petroleum Corporation - Q1 2023 Earnings ($MRO $OXY)

[Previously regarding Marathon Oil. This is our first time writing about Occidental Petroleum.]

Marathon Oil shares are down 6.3% year-to-date and down 28% from the 52 week high of $33.42 last November. The current market capitalization of the company (at a $24 share price) is $15 billion and the enterprise value is $21 billion. 

They reported net earnings of $417 million for the first quarter of 2023, which means that shares are trading for 9 times annualized earnings. Free cash flow for the quarter was $333 million which is an annualized FCF/EV yield of 6.3%.

During the first quarter, Marathon spent $334 million on share repurchases and $63 million on dividends, for a total of $397 million returned to shareholders, which is an 11% annualized shareholder yield on the current market capitalization. Although it must be noted that the shareholder return for the quarter was greater than free cash flow. (Between March 30 and the issuance of the 10-Q on May 4th, Marathon bought back an additional 10.4 million shares, or 1.7% of the outstanding; a healthy amount in just over one month's time.) 

Marathon is forecasting $2.6 billion of adjusted free cash flow at $80 oil, which they say assumes a 40% reinvestment rate. However, at $65 oil they project only about $1.5 billion of adjusted free cash flow.

Their U.S. production was up 22% from Q1 2022 to Q1 2023, but keep in mind that they closed on the acquisition of Ensign Natural Resources (which was mainly in the Eagle Ford) in December for $3 billion. Capital expenditures were up 60% year-over-year, but of course some of that would be attributable to the acquisition as well.

It is really important to keep track of the amount of capital expenditure that is required to keep production constant. It does not seem too impressive that Marathon increased capital expenditure by 60% and made an acquisition equal to 15% of current enterprise value but only increased production by 22%. The investor presentation does not give a lot of comfort about this. 

For comparison sake, Suncor's oil sand production in the first quarter was down about 2% and total upstream production was down 3% versus the prior year (see Q1 result). That was with total capital expenditures up 6%, oil sands capex up 21%, exploration and production capex up 66%, and total upstream capex up 26%. 

You might also recall from our Big Oil earnings post that Exxon and Chevron both had huge increases in capital expenditure (+30% and +55% y/y) yet low-to-no production growth (+4% and -1%).

Shale sucks. We have known this for a long time. It has been over a decade since we wrote about declining energy return on energy invested (EROEI). The more oil company reports we look at for Q1 the more we think that the right strategy is royalties and oil sands. At that point, the challenge becomes finding things to buy that aren't Canadian.

Occidental Petroleum is the other U.S. shaleco worthy of a close look. It is Buffett's pick; Berkshire now owns almost a quarter of the company. They are bigger than Marathon and has more debt too. The market capitalization is $53 billion and the enterprise value is $80 billion. They spent their Q1 free cash flow on share repurchases and dividends - we are guessing Buffett wouldn't be excited about paying off fixed rate debt.

Oxy reported net earnings of $1 billion for the first quarter of 2023, which means that shares are trading for 13.5 times annualized earnings. Free cash flow for the quarter was $1.7 billion which is an annualized FCF/EV yield of 8.5%.

During the first quarter, Oxy spent $732 million on share repurchases and $40 million on dividends to common shareholders, for a total of $772 million returned to shareholders, which is a 6% annualized shareholder yield on the current market capitalization. (Also, between March 30 and the issuance of the 10-Q on April 28th, Oxy bought back an additional 9 million shares, or 1% of the outstanding.)

Total production in Q1 2023 was up 13% vs Q1 2022, with U.S. oil production up 14%. Capital expenditures were up 70% with oil & gas capital expenditures up 66%. Oxy gives really good disclosures of capex and production by basin in its earnings release. In the Permian, which is their most important basin, capex was up 75% year-over-year with BOEs up only 23% and actual barrels of oil up only 20%.

On the Q1 conference call, Oxy was talking about how they drilled the longest DJ Basin well ever (25k ft), set a lateral length record (18k ft), and set a record for continuous pumping time (28 hours vs 22.5) in the Delaware in the Permian. Are we excited that oil wells now require five miles of steel pipe when a century ago you just had to poke a hole in the ground to get a gusher?

Some thoughts:

  • The supply curve for oil from shale has shifted up substantially. It seems like our oil sands costs are up ~25% for flat production and shale is more like double that (~50%).
  • The good thing about the producers is that they are very leveraged to higher oil prices because their production cost is higher and they also have financial leverage. But they are on a capex treadmill to maintain production.
  • Capital allocation at the U.S. shale producers does not seem that great. Why are we spending hundreds of millions of dollars a quarter - at MRO, OXY, CVX, XOM - to grow production only to sell oil for less than $70/bbl?
  • You know the hideous "capital expenditures" line on the cash flow statement that takes away 40-50% of our cash from operations? Guess who does not have that? The royalty owners.
  • Investments in royalties have trounced investments in producers - over the past fifteen years, the SPDR S&P Oil & Gas Exploration & Production ETF (XOP) had a -3.4% total annual return. Texas Pacific Land (TPL) returned 26%! Our estimate is that Dorchester returned about 11.4%. (Dorchester is much cheaper than TPL right now; if it traded at the same valuation right now the fifteen year return would probably have been in the high teens.)  
  • That is an immense out-performance by the royalties. It's the difference between losing a third of your money in the producers and getting almost a ten-bagger in the royalty partnership.


CP said...

Oxy has a slide in their investor presentation (p23): "top tier well performance continues to improve." They show the cumulative BOE recovery for wells drilled in the Delaware Basin increasing 12% per well y/y and 205% per well since 2015.

However: no mention in that slide of the length of the wells or the cost of them.

It's a great slide if you are TPL or Dorchester or Sabine that gets 1/8th of the gross revenue from the well. Knock yourself out - drill a lateral from here to Louisiana!

CP said...

If you look at slide 23 of Oxy's Q1 presentation, they seem to be getting 1,200 boe/d from their wells drilled in 2022.

But it also sounds (from slide 25) like the lateral length has increased to 10,000' average, so that's only 0.12 boe/d per foot of lateral length.

Also, these are BOEs, they're not saying what the *oil* bbl/d/length of lateral looks like.

We know that the wells' gas-oil ratios have been rising, though.