Imperial Oil Limited

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 4/5

Imperial Oil Limited is an integrated oil company that explores, produces, refines, and markets petroleum and petrochemical products in Canada.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Imperial Oil Limited (IMO) operates within the Canadian petroleum industry, engaging in exploration, production, refining, marketing, and transportation. This integration spans the upstream (exploration and production), downstream (refining and marketing), and chemical segments, offering both opportunities and complexities. The company’s operations are concentrated primarily within Canada, making it sensitive to local economic and regulatory conditions.

Business Overview

  • Revenue Distribution: Imperial’s revenue is generated across three main segments:
    • Upstream: This segment focuses on the exploration and production of crude oil and natural gas. It generates revenues through the sales of these resources.

As a large integrated company, its upstream segment is very important to fund their operations and pay dividends. However, the upstream business is highly dependent on volatile prices, so this is an important risk factor. * Downstream: This includes the refining and marketing of petroleum products. It generates revenues by selling gasoline, diesel, jet fuel, and other refined products.

The downstream side has more predictable demand than upstream but relies on having access to low cost crude. * Chemical: This segment engages in the manufacturing and marketing of various petrochemical products. It provides a way to diversify income, and can lead to higher margins.

  • Industry Trends:
    • The global energy industry is experiencing a significant transition, with rising demand for energy security and reduced emissions.
    • Regulatory policy is increasingly focused on energy transition, such as incentives for renewables, carbon capture, and emission reductions.

Companies will have to adapt to new energy technology and the demand for their traditional products over the coming years. * There is an increasingly large focus on using technology and advanced processing to improve efficiency of operations as well as reduce emissions.

  • Competitive Landscape:
    • The Canadian energy industry is competitive and is made up of many large integrated firms and smaller producers.
    • Global players like Shell, Total, and Exxon Mobile are very large and are well-established, allowing them to generate cost and operational efficiency advantages.

It is difficult for other companies to compete with these giants as these companies have scale advantages as well as more access to funding and talent. * National oil companies (NOC) have access to lower cost sources, but their access to the Canadian markets is less established and are subject to governmental control.

This makes it very difficult for companies to create large moats in this industry.

  • What Makes IMO Different:
  • Imperial Oil is one of the largest integrated companies in the Canadian petroleum industry and has a long track record of success.
  • It leverages the technology and experience of its parent company, Exxon Mobil. * The company’s downstream segment is a major refiner in Canada, with a strong retail network and significant volumes of production. * It has a diversified portfolio that is spread out across Canada as well as various segments of the industry.

Financials

  • Income Statement:
  • Revenues are influenced significantly by commodity prices, particularly crude oil and natural gas. There is no control by the company over commodity prices. * Margins are tied to price differences between oil and gas costs versus refined product prices. If these spreads get smaller, margins for refiners shrink. * Operating expenses are related primarily to production, refining, and other operating activities. The company is actively trying to reduce operating expenses, particularly by adopting new technologies and improving efficiencies. * Interest rates have a disproportionately strong effect on the income statement because the company borrows a lot of capital to operate and have good credit rating, making it a major factor in profit margins.

This all means that the company’s income statement is highly volatile.

  • Balance Sheet:
  • Assets primarily consist of upstream resources (oil and gas reserves) and downstream assets (refineries, pipelines, and retail outlets).
  • Liabilities consist of debt, long-term obligations (including pension and post-retirement obligations), and other debt equivalents.
  • The company has large amount of goodwill and other intangible assets due to the acquisition of various businesses.
  • The debt-to-capital ratio has steadily increased, reflecting increased debt levels, which is a risk.

The balance sheet is strong but has a lot of leverage, this leverage must be managed well, or there could be problems during cyclical downturns.

  • Cashflow Statement:
    • Cash flows from operations are tied to profitability, which is influenced by volatile commodity prices.
    • There are large capital expenditure requirements that lead to negative free cash flows at times.
  • Company’s debt and equity is affected primarily by shareholder distributions through buybacks and dividends.

Moat Analysis * The company does not seem to have a great moat. The primary moat component is economies of scale.

It is very difficult for smaller companies to match their scale of operations, providing some pricing advantage. * Another moat component could be distribution. Their distribution is very large and covers most parts of Canada.

  • The company benefits from access to low cost extraction capabilities, mainly at their oil sands operations.

Moat rating * 2 / 5. The company has limited pricing power over competitors, therefore, the company’s advantages do not give them an upper hand when compared to competitors.

  • The company’s economics will likely regress towards the mean with time.

Risks and Resilience

  • Risks:
    • Volatility in commodity prices is the primary risk, as the company’s revenue and profitability are highly dependent on the market prices of oil and natural gas.
    • Changes in regulations related to environmental concerns, especially carbon emissions, could lead to higher costs.
    • The long-term future for oil and gas looks uncertain, especially as the world shifts towards more green energy.
    • The company faces the risk of financial distress because of high leverage, and changes in interest rates and credit markets.

A company with large amount of debt is more risky than companies with less debt. * The nature of exploration and production requires large upfront investment costs. There is also a lot of operational risk in the upstream segment.

  • Resilience: * The company has very diversified and vertically integrated operations, allowing to remain profitable during tough market cycles. * They have also long track record of successful operations. * They are also taking measures to address current problems and reduce costs through efficiency.

Understandability

  • 3 / 5. The company is not very complicated but does require some understanding of how energy markets work as well as the nuances of financial reporting.

Balance Sheet Health

  • 4/5. The balance sheet is largely stable and well structured, but the leverage increases the risk profile, leading to the need for a cautious approach.

Recent Concerns and Management Commentary

  • The company’s Q3 earnings were driven by record crude production in Cold Lake, but refinery turnarounds were a drag on profitability.
  • Management noted that refinery utilization will improve in the fourth quarter.
  • Company noted that their upstream production rose nearly 9% as a result of new production from the Cold Lake and Montney facilities. * Management seems very bullish on production growth from these facilities.
  • Management also noted that cost discipline and operational efficiency are a strong area of focus.
  • Management is taking several steps to reduce their overall emissions and improve energy efficiency.
  • CEO, Brad Corson, noted that he expects higher crude production to contribute towards positive cashflow through 2024.

The output provided above is based on information contained in the previous documents, and recent SEC filings and earning calls.