Exxon Mobil (XOM) has dramatically underperformed the market and its peers in the last two years. During this period, it has lost 1% whereas S&P, Chevron (CVX) and BP (BP) have rallied 34%, 18% and 27%, respectively. As a result, Exxon Mobil has greatly disappointed most of its shareholders. However, investors should realize that the oil giant has reached an inflection point.

The greatest problem of Exxon Mobil has been its inability to grow its production volume. Its production remained essentially flat, around 4.0 M barrels/day from 2012 to 2017. Even worse, in the first half of this year, its output fell by approximately 5%, from 4.0 M to 3.8 M barrels/day. This performance is far worse than the performance of the other oil majors, such as Chevron, BP and Total (TOT), which are experiencing meaningful output growth.

However, early this year, Exxon Mobil’s management announced a major shift in its long-term strategy. The oil major will greatly boost its capital expenses, from $15 B in 2017 to $24 B this year, $28 B next year and about $30 B per year during 2023-2025. Thanks to these investments in growth projects, management expects to grow the output by about 32% in the next seven years, from 3.8 M barrels/day this year to 5.0 M barrels/day in 2025.

Moreover, due to the recent downturn in the oil market, which lasted from 2014 to 2017, Exxon Mobil made its screening process much stricter and hence it now invests only in growth projects that have an expected return on investment above 20%. Thanks to this disciplined approach and the expected output growth, Exxon expects to triple its upstream earnings and grow its total earnings per share by 135% in the next seven years, assuming an average oil price around $60 by 2025.

Due to the poor business performance of the oil giant for several years, it is prudent to view the above forecast with some cautiousness. On the other hand, the assumption of an oil price around $60 is too conservative, given that the current oil price is $70 and the oil market has eliminated its inventory overhang. Overall, it is reasonable to expect the company to approximately double its earnings per share over the next seven years. As most of the growth is likely to take place in the latest portion of the 7-year period, the company is likely to grow its earnings per share by about 50% over the next five years for an 8.4% average annual earnings-per-share growth rate.

Expected Total Return Calculation

Exxon Mobil is currently offering a 4.0% dividend yield. Moreover, the stock has traded at an average P/E ratio of 14.7 during the last decade if one excludes the outlier year 2016, in which the depressed earnings resulted in an abnormally high P/E ratio. The stock is now trading at a much higher P/E ratio of 18.1. As the recovery of the oil sector unwinds in the next five years, the stock is likely to revert towards its average valuation level. As a result, it will incur a 4.1% annualized drag due to the contraction of its P/E ratio in this period.

Given the above, Exxon Mobil’s expected total return is 8.3% over the next five years thanks to 8.4% annual earnings-per-share growth and its 4.0% dividend, which will be partly offset by a 4.1% annualized P/E contraction.

The stock has disappointed its shareholders in recent years due to its poor business performance but it has probably reached an inflection point now that it has drastically changed its long-term growth strategy. Its above-expected return becomes even more attractive if the defensive nature of the stock is taken into account. Thanks to its integrated structure, Exxon Mobil proved much more resilient than its peers in the recent downturn of the oil market, with its earnings and its stock price falling much less than those of its peers. Overall, those who invest in Exxon Mobil at its current price are likely to be highly rewarded while they will also maintain a low level of risk.