Exxon Mobil: COVID-19 Vaccine Needed To Save The Dividend – Seeking Alpha

Introduction

One of the most argued topics of this downturn is whether the oil and gas supermajor Exxon Mobil (XOM) will reduce its dividend for the first time since the dark days of World War 2. Given Exxon's immense financial strength, it should be of little surprise that thus far the company has defied the downturn and sustained its dividend, but unfortunately, this now appears to be approaching its limits based on the latest commentary from management.

When a dividend is under pressure, management will always be facing questions probing for insights into any possible reductions, and thus, reviewing the way in which they speak is particularly interesting. They made numerous statements during the second quarter of 2020 results conference call, but the two quotes listed below are the most interesting:

Doing so will enable us to maintain the dividend and hold debt at its current level. Of course, this is a volatile market, and we can't know with certainty how the market will evolve from here. There are simply too many unknowns. While we're developing plans based on what we and other third parties can reasonably expect to happen, we have to maintain a certain degree of flexibility to be able to respond to potential improvement or further degradation.

But as I said, we don't plan to take on any more debt. We're now developing plans that will able us to maintain those capital allocation priorities over the near term, and that includes sustaining the dividend.

- Exxon Mobil Q2 2020 Conference Call

Similar to central bank press releases, management teams at massive companies walk a fine line between not misrepresenting their intentions, but at the same time, when discussing something undesirable, not being too straightforward. On the surface, they may appear to be remaining steadfast in their commitment to sustaining the dividend, however, they also appear to be flagging the limits to this commitment by stating that they do not plan to take on any debt.

I believe that this commentary indicates an intention to reduce their dividend once their current cash balance is depleted if operating conditions have not made a significant recovery and the future is more certain. Given the immense pressure that their entire industry is facing, it seems prudent for investors to assume that the countdown to a potential dividend reduction has begun. Although they can reduce their costs, the biggest factor that will determine whether they require more debt or not is always going to remain oil and gas prices.

Whilst every person is entitled to their own view, based upon how the last six months have transpired I believe that COVID-19 will continue significantly weighing down economic activity until such time as a viable vaccine is produced. It initially appeared that the world was starting to get the virus under control with the amount of new global cases remaining static throughout much of April and May, but this clearly proved short-sighted, as the two graphs included below display.

(Image Source: Google)

In my home country of Australia, we were quite fortunate initially and avoided seeing a massive surge cases, and thus, life began returning toward normal. Fast forward a few months, and one of our largest states, Victoria, has just imposed very strict lockdowns for at least the next six weeks that will slam economic activity, with other states also shutting their borders and imposing various other restrictions. Whilst this example alone does not materially impact global economic activity, it still provides a timely example of the difficulties that the entire world faces, since, being a developed island without extensive high-density living, we should fare better than many other countries.

It appears that until such time as a vaccine is invented and rolled out across the world, life will struggle to resemble normal, and thus, economic activity will continue being weighed down significantly. This means that a proper and sustained recovery in oil and gas demand, and thereby prices, within the short to medium term is also likely to be dependent on a vaccine, along with the dividend of Exxon Mobil. Whilst many people are hoping that a viable vaccine is only around the corner, until such time as one is definitively successful, investors would be well served to keep their expectations tempered.

This situation gives rise to the following question: how much longer does Exxon have before its cash balance is depleted and a dividend reduction becomes very likely? Whilst the volatility in oil and gas prices makes this impossible to know for certain, a reasonable estimation can be made using its guidance and recent cash flow performance, as the table included below displays.

(Image Source: Exxon Mobil Second Quarter 2020 Results Presentation)

It can be observed that Exxon ended the second quarter of 2020 with a sizeable $12.6 billion cash balance, but unfortunately, this could deplete quite quickly and may not last beyond the end of 2020. The company's dividend payments cost $3.7 billion every quarter, or $7.4 billion remaining to the end of 2020. Given its guidance for 2020 capital expenditure of $23 billion, it implies that Exxon still has $11.4 billion remaining for the second half of 2020, and thus, its total remaining cash outflows should be $18.8 billion. Whilst this was easy to estimate, the biggest question going forward is regarding the company's operating cash flow.

The prices of oil and gas are notoriously difficult to accurately predict, but given the current COVID-19 situation and resulting economic environment, at best it seems sensible to assume that operating conditions will average between those of the first and second quarters of 2020. I believe that a reasonable conservative assumption would be that the company's operating cash flow for the remaining two quarters of 2020 will average half that of the first quarter excluding working capital movements, thereby totaling $7.5 billion.

When this estimated operating cash flow is subtracted from Exxon's $18.8 billion estimated cash outflow, it indicates that the company would end 2020 with a cash balance of only $1.30 billion. This would clearly push Exxon towards making a decision to either increase debt or reduce its dividends, which I now believe management is seriously considering if operating conditions are still tough. Admittedly, asset divestitures, further capital expenditure reductions and favorable working capital movements may provide a sufficient temporary boost and thus buy the company another quarter or two.

Even though everyone remains hopeful that a viable vaccine will be rolled out soon, uncertainty still reigns supreme in a world that feels almost unrecognizable compared to only one year ago. It now appears that after fighting to sustain its dividend for years following the 2015-2016 oil price crash, the toll is starting to weigh on the company's resolve. Although shareholders should still expect to see Exxon's dividends flowing unchanged throughout the remainder of 2020, if a COVID-19 vaccine does not transpire by early 2021, it now appears that the company's dividend will be joining the long list of causalities. I will still be maintaining my Bullish rating, since Exxon still offer a way to capitalize on any eventual recovery in oil and gas prices, regardless of the dividend.

Disclosure: I am/we are long XOM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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Exxon Mobil: COVID-19 Vaccine Needed To Save The Dividend - Seeking Alpha