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Oil firm profits are double those of most U.S. industries

ASK THIS | April 28, 2006

By Peter Ashton

Q. Oil executives testified the industry needs high profits to compete effectively and to find and develop new oil and gas reserves. Is that what they do with the profits?

In testimony before Congress on March 14, oil company executives from ExxonMobil, Shell, ConocoPhillips, Chevron and BP defended their large profits by stating that such levels of profitability are needed to compete effectively in world markets and to enable the companies to successfully find and develop new oil and gas reserves. But financial data appear to belie this claim. 

In 2005, those companies – the five largest major integrated oil companies – generated net income after taxes of $112 billion. When assessing the profitability of industrial capital intensive companies, economists and financial analysts often used a measure termed the rate of return on capital employed, or RoCE.  In 2005, the five companies generated an average RoCE of 26.75 percent, more than double the average for all industrial corporations in the U.S. Clearly, the profits earned by these major oil companies was extremely high in 2005 – many would term it exorbitant – and the trend has continued for the first quarter of 2006.

So did these companies expend a large percentage of these profits on new investment, as they say they must? During 2005, they spent $60 billion on new capital investment. In other words, for every $1 of profit, they invested 53 cents in finding more oil, upgrading refineries, etc. That is not a high reinvestment rate.  Indeed, during his testimony before the U.S. Senate, the Chairman of ExxonMobil alluded to the fact that in the past ExxonMobil has invested more than 100 percent of its earnings. Yet now ExxonMobil and the other majors are investing only half and pocketing the rest.  

In addition, the plans of these companies for 2006 do not indicate a significant expansion in their capital spending, and at least one company intends to spend less.

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