by Anthony Bianco
April 9, 2001
How the world’s most powerful corporation plans
to dominate the new age of oil exploration
The important visitor from the east landed in his jet and taxied to a private hangar at the edge of the airport. There, he was bundled into a limousine and driven to a secluded location. Guards met him at the door of a fortress-like building and ushered him into an elevator. The doors slid open, and he made his way through a series of anterooms into an office where The Man waited at a desk beneath a painting of a ferocious tiger. The visitor flashed his most disarming smile, knowing full well it wouldn’t do him any good. The Man, as always, would be courteous but implacable. “If he gives his word, which he is reluctant to do, he will keep it,” the visitor said later. “But he is very difficult to deal with.”
The Man is not a head of state, but the distinction is academic. He is Lee R. Raymond, the chairman and chief executive of Exxon Mobil Corp. (XOM), the largest and arguably the most powerful corporation in the world to-day. “It’s a good time to be Exxon,” acknowledges Raymond, 62, a career Exxon exec who won the top job in 1993. “But it’s a great time to be Exxon Mobil.” Exxon’s purchase of Mobil in 1999 for what now looks to be a bargain $83 billion was the largest oil acquisition ever.
Exxon’s clout is not just a function of its overwhelming size and wealth, nor of its central position in the most strategic of industries--oil. At a time when so many Internet growth schemes have been exposed as sheer fantasy, Exxon Mobil is bruising, hard-bitten capitalism exemplified. Exxon “is a machine, and it grinds its own way,” says our VIP visitor. “They only have one way of doing things: the most efficient, with the least risk. They want to see the studies. If the studies are yours, they want to redo them. They have a clear line of sight to the target.” Exxon’s aim was never truer than in 2000. Its $17.7 billion in net income was the most ever earned by a corporation, and its $232.7 billion in revenues vaulted it back to the top of the list of America’s biggest companies.
GEARING UP. Even so, 2001 marks the start of a challenging new era for the oil behemoth, which is based in Irving, Tex. For nearly two decades now, Exxon has reduced and retooled its way to superior returns in a financially undisciplined industry. Even the Mobil deal was as much an efficiency play as an expansion move; to date, Raymond has squeezed $4.6 billion in cost savings out of the combined companies. Late last year, though, the CEO slipped his company into internal growth mode. For the first time since the late 1970s, Exxon is gearing up to expand its output of oil and gas, which already exceeds that of most OPEC nations. “The industry is going through another major expansion cycle driven by geopolitics and technology,” Raymond explains. “We have opportunities today we could not have envisioned 10 years ago.”
Exxon Mobil excels at both the grimy art of petroleum production and the high-tech science of oil exploration. Its vast, geographically diversified array of oil and gas properties is the envy of the industry. “Just to read the list makes you salivate,” says John J. O’Connor, Texaco Inc.’s (TX) exploration and production chief. And yet, for all Exxon Mobil’s advantages, there exists deep skepticism in the industry that this lineal descendent of John D. Rockefeller’s Standard Oil Co. can, in fact, grow. “It’s one thing for Exxon to say they are going to do something and another to do it,” says Gene Van Dyke, president of Vanco Energy Co., a Houston-based independent. “They are going to have a hard time.”
Some of the skepticism is rooted in resentment of what is widely described as Exxon’s arrogance. “I have a lot of respect but not much affection for Exxon, as do a lot of people in the industry,” says a well-connected oil consultant. “Exxon finds modesty an unbecoming virtue.” It’s not for nothing that the plush senior management suite at Exxon’s headquarters is known within the industry as “the God pod.”
The enmity of its peers can have adverse consequences for Exxon, since even the largest producers band together in partnerships to spread the risk of exploration and development projects. But the real issue isn’t Exxon’s unpopularity with its competitors or even with the American public but whether this lordly, inward-directed colossus formerly known as Standard Oil of New Jersey can muster the creativity and finesse to adapt to today’s rapidly evolving energy markets. “A culture of radical cost reduction is not particularly friendly to a culture of innovation and new-business building,” argues Jeffrey K. Skilling, CEO of Enron Corp. (ENE)
Over the 1990s, more and more governments around the globe opened domestic energy markets to outside investment and increasingly let those markets operate freely. By the late 1990s, the scale of the resulting opportunities had left even the largest oil companies feeling undersized. Exxon’s acquisition of Mobil was just the largest in a series of mega-mergers by which the big got even bigger over the past few years. But at the same time, all sorts of specialized new companies have flowered forth from the cracks that deregulation opened in the Big Energy monolith, including the opportunistic new breed of trading-minded wholesaler shoved into the spotlight by California’s electricity debacle.
ULTIMATE THREAT. Today’s increasingly globalized energy markets are pregnant with profit, but they also are more complex and more volatile than ever. To an established giant like Exxon, though, the ultimate threat probably lies in the emergence of a disruptive new fuel technology. A cost-effective alternative to hydrocarbons is the Holy Grail in a growing number of research labs. In the 1970s and ‘80s, Exxon itself invested well over $1 billion in a fizzled attempt to develop alternative energy sources. Exxon Mobil continues to collaborate with General Motors (GM), Toyota Motor (TM), and others to develop fuel-cell technology, but this is probably best characterized as a hedge against the company’s massive wager that demand for oil and gas will continue to increase steadily to 2010 and beyond. Says Raymond: “I don’t think alternative energy sources are going to be cost-competitive for a long time to come.”
Exxon does have an impressive record of technical innovation in oil and gas. “I am a strong believer that you have to be on technology’s leading edge,” says Raymond. He likens the magnitude of the technological challenge of extracting oil from the ocean depths to manned space travel. Raymond, who has a bachelor’s degree and a doctorate in chemical engineering, is the latest in a long line of engineers to run Exxon.
The company’s growth plan is a calculated bet on a long-established but treacherously volatile commodity. Since mid-1998, the price of crude oil has soared from $10 a barrel to a high of $35 and now goes for about $26. The average price from 1990 to ‘99 was $18, a mark that Exxon’s management believes will be comfortably exceeded over the current decade as worldwide consumption of oil increases at 2% a year and natural gas in excess of 3%. The company’s goal is to grow at about the same rate, raising its daily capacity from 4.3 million oil-equivalent barrels (this includes natural gas) to 5 million by 2005.
There was a time when the prospect of renewed empire-building by Exxon would have sent shivers through the populace. It is a measure of the current concern over the price and availability of petroleum that the company’s expansion plans have mollified its most vociferous Congressional critic, Senator Charles Schumer of New York. Schumer, a liberal, was berating Exxon just a few months ago for not moving more aggressively to add to its reserves of oil and gas.
“OUTMODED IDEA.” If the Bush Administration were to succeed in persuading Congress to open the Arctic National Wildlife Reserve to drilling, Raymond would be there with bells on. But Raymond has nothing but scorn for the politically fashionable notion of promoting national energy self-sufficiency. “The idea that this country can ever again be energy independent is outmoded and probably was even in the era of Richard Nixon,” he says. “The point is that no industry in the world is more globalized than our industry.”
In many industries, 3% annual growth would be a letdown, but for an oil company of Exxon Mobil’s heft, it is a momentous undertaking fraught with risk and uncertainty. Just maintaining existing production capacity requires intensive development because the output of mature fields tends to diminish by 7% to 8% a year. To offset this shrinkage and add 3% on top will require Exxon to pursue dozens of costly development projects. In 2001 alone, the company plans to invest about $10 billion in exploration and production. And a growing portion of the new flow must come from wells sunk into the ocean floor at depths of up to 5,000 feet in the territorial waters of Third World countries where poverty and political turmoil are the only constants.
At the same time, Exxon also must step up its hunt for new reserves in many of these same problematic locales. To remain in business long term, an oil company must replace the reserves it extracts for sale with an equal volume of new discoveries. In Exxon’s case, it must find 1.6 billion barrels a year just to stay even. What is more, it must add these volumes cost effectively to have any hope of turning a profit. This is one area where Exxon’s technical expertise has really worked to its advantage. The company’s finding costs in 2000 averaged just 65 cents a barrel, compared with $4 in the 1980s.
If a company wants to boost its future production, it must first achieve a so-called replacement rate of well above 100%. In other words, the only reason that Exxon Mobil is now in a position to add to its output is that for the past seven years in a row it has discovered more new oil and gas than it has pumped. This translates to an average annual replacement rate of 120%--a marked improvement over the company’s 89% rate for the preceding six years.
In the end, of course, profitability depends on price as well as cost. Exxon may be the largest private-sector oil producer, but with 5.6% of the world’s output of 77 million barrels a day, it has nowhere near enough clout to set prices. The Organization of Petroleum Exporting Countries (OPEC) not only accounts for about 40% of world production but can adjust its output to influence market price. By contrast, even the largest oil companies feel that they must operate flat-out all the time to maximize shareholder wealth. Harry J. Longwell, Exxon’s senior vice-president for exploration and production, says that even in high-cost regions of the world, the company will be able to earn an attractive return on its investments in new capacity as long as oil prices remain “in the mid-teens to the high teens.”
“OLD CULTURE.” In the 1990s, Exxon changed the very measure of oil-patch macho as the exacting Raymond showed the industry that what really counts was not how much product you pump from the ground but how efficiently you deploy capital. However, in shifting its emphasis to growth, Exxon now is following the industry, not leading it. Most of its competitors--including fellow “supermajors” Royal Dutch/Shell (RD) and BP Amoco (BP)--already have set out to raise their annual production by 3%, 5%, or more. If OPEC sustains its recent decision to trim output, the cartel will cede market share to the companies. If it doesn’t, competition is likely to escalate to a level of ferocity not seen since the 1970s.
To merely maintain market share in an era of generally expanding supply puts a premium on salesmanship, which is not Exxon’s strong suit. The give-and-take of dealmaking has never come naturally to the sovereign state of Exxon, accustomed as it is to using its superior technology and financial muscle to dominate not only rival companies but whole countries. “Read Titan (Ron Chernow’s Rockefeller biography) again,” says an oil-industry adviser who counts Exxon among his clients. “There are sections in there on the old culture of Standard Oil that still describe Exxon to a T. It is very inward-looking and suspicious of outsiders.”
Many oil industry analysts applauded its union with Mobil as a combination of dissimilar but complementary companies that might have the effect of loosening Exxon up a bit. Where Exxon’s historic strengths lay in finance and engineering, freewheeling Mobil long ranked among the industry’s most accomplished dealmakers and marketers. Its panache was personified by its globe-trotting CEO, Lucio A. Noto, a native New Yorker renowned from Riyadh to Jakarta for his high-octane energy and charm.
Although Raymond freely acknowledged his admiration of Noto, he stuck him with the honorific title of vice-chairman and did not give him much to do. Throughout the senior management ranks, the Mobil managers who remained generally were subordinated to their Exxon counterparts, with the exception of petroleum refining and marketing. Eugene Renna, Mobil’s president and chief operating officer, was put in charge of these “downstream” businesses, operating out of Mobil’s old corporate headquarters in Fairfax, Va. Some of Exxon’s own downstream executives lost their jobs, and most of those who remained were required to move from Texas to Virginia, underscoring Renna’s authority. At retail, the new company maintained both Exxon and Mobil stations, allowing Mobil’s winged horse to coexist with Exxon’s tiger.
But even in Fairfax, the hope of some Mobil executives for a “merger of equals” died a quick death. Shortly after the merger closed in late 1999, a memo went out from headquarters ordering the installation of an electric sign with a radar speed gun on the long driveway leading into the Fairfax building. “The people most upset were the Exxon folks who’d transferred from Texas and thought they were coming to a looser environment,” says a former Mobil manager. So many howls of complaint went up that the sign was taken down after a few days. Even so, there was no question where ultimate authority resided. Exxon’s dominance of Exxon Mobil was underscored on Jan. 31 when Noto, 62, announced his retirement.
Despite its size, decision-making at Exxon remains highly centralized. Raymond, a self-described micro-manager, has been known to personally involve himself in big deals of all kinds. After the catastrophic Valdez tanker oil spill in 1989, Raymond spent much of the next two years in Alaska directing efforts to negotiate a settlement of criminal charges brought by the state and federal governments. Raymond, who was president and chief operating officer at the time, so thoroughly immersed himself in the legal details of the case that he relegated Exxon’s lawyers to the periphery.
FIERCE LITIGANT. However, the rigorous, dry-eyed approach that makes Raymond so effective in many business settings does not play nearly so well in the public arena. Exxon paid out $1.1 billion to settle the Valdez charges with the government and another $2.2 billion to clean up the oil but still emerged looking like a villain to many when Raymond drew the line at paying the $5 billion in punitive damages levied against it by an Alaskan court. The company’s position is that the spill was an accident and that Exxon should not be punished for something beyond its control. Exxon is a fierce litigant, but even the company’s relations with Wall Street are chilly. At Exxon’s annual analyst briefing, Raymond is famously combative. Says Fadel Gheit, a veteran analyst at Fahnestock & Co.: “Every time you see a young punk analyst challenge Raymond, he’ll slap him down. A couple of years ago, he zapped me, too.”
In terms of Exxon’s growth plans, the key issue now is how its penchant for centralized control will play out in the entrepreneurial business of natural gas. The industry owns enormous reserves of gas, which is coming into its own as a cleaner-burning alternative to coal and oil. The problem is that most of it lies under forbidding terrain, far from potential customers. Exxon, for example, has gas fields in Turkmenistan from which it hopes to service booming gas consumption in eastern China. Pipelines must be built, and underground oceans of the stuff converted into liquid natural gas (LNG) for transport by ship. To justify these costly capital projects, producers are competing fiercely to sign utilities and other big users to long-term contracts.
Gas marketing was the old Exxon’s glaring weakness. Much of its production came through partnership arrangements in which the gas already was committed to buyers under long-term contracts. In other words, zero salesmanship was required, least of all by Exxon, which often was a passive partner in these joint ventures. Even its most lucrative gas asset, the vast Groningen gas works in the Netherlands, was (and still is) operated by Royal Dutch/Shell Group. Mobil, on the other hand, has made gas its forte. In Indonesia’s province of Aceh, Mobil built an LNG complex, PT Arun, that has contributed disproportionately to its profits ever since it opened in the mid-1970s. Industry insiders theorize that Mobil was driven into Exxon’s arms by its inability to prepare for the eventual exhaustion of the fields that supply PT Arun by developing a new “core asset” of comparable profitability.
Exxon has yet to reap any dramatic benefit from Mobil’s high-powered gas-marketing arm. In fact, BP Amoco just aced Exxon Mobil out in China, which is widely considered the El Dorado of future gas consumption. On Mar. 20, BP was chosen by China National Offshore Oil Corp. to help build China’s first LNG receiving terminal. This gives BP a leg up in the ongoing bidding for the 20-year contract to supply the new terminal with LNG. “Exxon now has the knowledge of how to develop an LNG business that it probably did not have before,” says Nancy Vaughn, director of upstream services for Petroleum Finance Co. “But the fact is, they haven’t been able to make a move on any of their big projects.”
Meanwhile, there is no better illustration of the geopolitical risks inherent in Exxon’s growth strategy than its Mar. 13 decision to suspend production at Arun and evacuate its employees there because of escalating violence directed against it by separatist Aceh rebel forces. The shutdown has strained the company’s relations with the Indonesian government, which is heavily dependent on gas revenues. It is not clear when, or even whether, Exxon Mobil will return to Arun, which, by the company’s estimate, has about 10 years of reserves remaining.
SAKHALIN SNAFUS. Indonesia is the only place where Exxon is caught in the crossfire of armed conflict, but testy dealings with host governments are nothing new for the company. In 1995, Exxon and several partners negotiated a preliminary agreement with the Russian government to develop a big oil and gas find off Sakhalin Island, near Japan. About the same time, Royal Dutch/Shell joined a separate group in a similar project on a nearby offshore block. Exxon’s project, Sakhalin 1, has been plagued from the start by operating snafus and disputes with authorities while Shell’s venture, Sakhalin 2, has proceeded smoothly. “Work with Exxon goes on with great difficulty and with much friction,” complains Valery Z. Garipov, Russia’s Deputy Energy Minister. “Shell is more active and more flexible than Exxon.”
Exxon says that the Sakhalin 1 consortium already has invested $500 million and plans another $150 million in outlays this year. The company concedes that its gas-development plans have been slowed by its inability to find buyers in Japan and China. However, it blames the Russian government for holding up its oil prospecting. In Exxon’s view, existing legislation authorizing production-sharing agreements needs to be amended to shore up the assurances given foreign oil companies. In a recent speech, Longwell said that one of the biggest obstacles to oil development throughout the world is that many countries “don’t appreciate the importance of speed and do not move quickly to resolve problems.”
Longwell did not single out Russia, but he hardly needed to. By Western standards, the Russian approach to business is highly politicized and exasperatingly improvisational. Yet other foreign oil companies operating in Russia have been willing to proceed without the degree of contractual clarity that Exxon demands. “Exxon has a different approach than the rest of us,” says a Western oil executive based in Moscow. “They like to see everything signed on the dotted line.”
In Indonesia, Angola, Chad, and other countries, Exxon’s dealings have been further complicated by conflict with environmental and human rights groups. In general, the company’s critics want it to do more to ensure that its investments improve the lot of the average citizen, rather than funding arms purchases or lining the pockets of corrupt officials. As a practical matter, oil companies are not in a position to agitate for social change in countries where they operate as licensees of the existing regime. But Exxon, in contrast to such self-styled industry progressives as BP and Shell, rarely even deigns to make symbolic gestures in support of human rights campaigns. “Exxon is so consistently recalcitrant that it’s almost funny,” says Arvind Ganesan of Human Rights Watch.
Raymond brushes aside such criticism as naivete. “The biggest thing this company can bring to some of these countries is the opportunity to see capitalism and the free market work,” he says. “Am I comfortable with everything the government of Chad does? No. Am I comfortable with the concept that we’re now going to give the Chadian people an opportunity to improve their lot through economic development? Extremely comfortable.” In October, Exxon began construction of a 650-mile oil pipeline that will cut through Cameroon to the Atlantic. Exxon estimates the project will create as much as $8.5 billion in economic value for Chad, the world’s fifth-poorest country, over its 25-year life.
Chad is far from Exxon’s biggest project, but it exemplifies the indomitability that emerges, in the final analysis, as the company’s defining attribute. Exxon discovered oil in Chad in 1969, but it took 31 years to put together a cost-effective and politically and environmentally acceptable project. “Exxon has always tried to look through the cycle to the long-term fundamentals, recognizing that the lifeblood of the company is capital investment,” Raymond says. “You have to be very careful in how you manage your capital resources, because if you make a mistake, it lasts for a long, long time.”
Exxon’s gusher of profit will diminish this year if oil and gas prices remain below the levels of 2000. The company might fall short of its goal of 3% production growth this year--and next. But even if Exxon fails to measure up to the standards it has set for itself, it is unlikely that Shell, BP, or any other competitor will overtake it. “It would take an extraordinary performance to catch Exxon,” concedes O’Connor of Texaco, which is merging with Chevron Corp. to form the world’s fifth-largest oil company. There is no question that Exxon’s insistence on doing things its way breeds conflict most everywhere it goes. But this is one American company capable of a continuity of approach and a tenacity of purpose that makes even the institutions of government seem transitory by comparison.
By Anthony Bianco With Stephanie Anderson Forest in Dallas, Stanley Reed in London, Catherine Belton in Moscow, Alyssa Webb in Beijing, and Jonathan Wheatley in Sao Paulo