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Debt Is a Way Bigger Problem for Exxon Stock than You Might Think

Will Ashworth

Several of my InvestorPlace colleagues have written about Exxon Mobil (NYSE:XOM) lately. Most of the commentary quite positive. Several recommending you buy Exxon stock for the long haul. 

Debt Is a Way Bigger Problem for Exxon Stock than You Might Think

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David Moadel’s August 20 headline read, Fill Up on Exxon Mobil Stock Now for an Imminent Rebound. Tim Biggam’s August 14 article statedExxon Mobil Stock Is Ready to Start Pumping Again. 

I’m nowhere near as enthusiastic about the integrated oil giant’s future stock trajectory, but I appreciate their confidence nonetheless. 

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In my most recent article about XOM stock, I recommended that investors ought to wait until it dropped into the $60s before buying. On July 9, the date my article was published, it was trading around $76. 

As I write this, it’s trading around $69.67. A couple of days earlier it was even lower.

Time to buy?

Before you do, I’d consider the ramifications of its recent fixed and floating notes offering on the company’s debt before pulling the trigger. Here’s why. 

Exxon Stock and Debt

Too often, we look at a company’s balance sheet, see that its long-term debt is only a fraction of its total assets, and assume that it’s financially sound. Chances are you’re right, but it can’t hurt to understand the structure of its debt better to be sure. 

Exxon Mobil issued $7 billion of floating and fixed-rate notes on August 14. The company plans to use the net proceeds of $6.975 billion to refinance some of its existing commercial paper, which averages an interest rate of 2.37%. XOM will also use some of these funds for other general corporate purposes, including working capital, acquisitions, capital expenditures, and other business opportunities. 

I have to admit; I would love to be in a position to borrow $1.5 billion at 3.095%, repayable in 30 years. Heck, I could be dead in 30 years. 

I wouldn’t be nearly as excited about owning Exxon Mobil’s 2049 notes. A little over 3% for three decades. It’s an excellent deal for Exxon Mobil, though. 

Moody’s (NYSE:MCO), although it gives the $7 billion in notes an Aaa rating, it does have some reservations. According to Pete Speer, Moody’s Senior Vice President

“ExxonMobil’s negative free cash flow and rising debt levels in the first half of this year are pressuring its credit profile, particularly with oil prices averaging mid-cycle levels during the period. While this notes offering is refinancing some of the company’s debt on a longer-term basis, the company retains ample flexibility to reduce debt through asset sales and strengthen its credit metrics.”

It goes on to say the Aaa rating, which is better than many of its peers, could get downgraded in the future if it continues to generate negative free cash flow while its level of debt moves higher.

How Much is Too Much?

In its prospectus for the notes, the company mentions that its long-term debt, currently $19.0 billion as of the end of June, is 8.7% of Exxon Mobil’s total capitalization. Add in the $7 billion in notes and it increases to 11.6% of its total capitalization.

That’s still a minimal amount. By all accounts, Exxon Mobil’s debt is perfectly manageable. 

However, what happens if it decides to make a multi-billion acquisition? As Moody’s suggested, the company’s free cash flow was negative in the first six months of the year. A significant acquisition would most likely add to that shortfall.

From where I sit, Exxon Mobil’s free cash flow for the first six months appears to be positive to the tune of $2.9 billion (net cash provided by operating activities of $14.3 billion minus capital expenditures of $11.1 billion). However, Moody’s likely makes some oil-related adjustments to come to a negative number. 

Regardless, I did see an article about free cash flow that piqued my interest. 

According to S&P Global Market Intelligence, Chevron’s (NYSE:CVX) free cash flow over the past 12 months was $18.5 billion, 25% higher than its GAAP profit for the same period. Meanwhile, XOM generated $11.3 billion, 36% lower than its GAAP profit. 

Furthermore, Barclays believes that Exxon Mobil’s free cash flow situation is about to get even worse as it ratchets up its capital investment just as oil prices appear to be falling again. 

So, while Exxon Mobil has managed to issue debt on a fixed-rate basis between 1.9% and 3.1%, if its free cash flow shrinks, it will have less cash available to pay down the debt in the future. 

The Bottom Line on Exxon Stock

Owning XOM stock has been a mug’s game over the past decade. I don’t think it’s going to get much better over the next decade as the world continues to move away from oil. 

That said, it’s got an excellent dividend yield a tad under 5%. If you need to park some money in an income-bearing investment, you could do worse than owning XOM. 

You could own some of their notes.

At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.

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