Oil Industry Profit Review 2007

Oil Industry Profit Review 2007
April 4, 2008
Robert Pirog
Specialist in Energy Economics
Resources, Science, and Industry Division

Oil Industry Profit Review 2007
Increases in the price of crude oil that began in 2004 pushed the spot price of
West Texas Intermediate (WTI), a key oil in determining market prices, to nearly
$100 per barrel in the third quarter of 2007. Tight market conditions persisted
through the remainder of 2007, with demand growth in China, India, and other parts
of the developing world continuing. Uncertain supply related to political unrest in
Nigeria, Venezuela, Iraq, and other places continued to threaten the market and
contribute to a psychology that pushed up prices.
The decline of the value of the U.S. dollar on world currency markets, as well
as the investment strategies of financial firms on the oil futures markets, has also
been identified by some as factors in the high price of oil.
The profits of the five major integrated oil companies remained high in 2007,
as they generally accounted for approximately 75% of both revenues and net
incomes. For this group of firms, oil production led the way as the most profitable
segment of the market, even though oil and gas production growth was not strong.
The refining segment of the market performed relatively poorly.
Independent oil and natural gas producers are small relative to the integrated oil
companies, and their financial performance was weaker, with more than half of the
firms reporting declines in net income.
Independent refiners and marketers also experienced a difficult year that was
reflected in profits in 2007. The combination of high crude oil prices that raised their
costs and the inability to quickly pass cost increases on to consumers lowered
refining margins, resulting in generally declining profits.
The potential volatility of the world oil and financial markets, coupled with the
weakness of the U.S. and other economies, makes any profit forecast for 2008 highly
speculative. While continued high oil prices are likely — the price of oil reached
$110 per barrel in the first quarter of 2008 — the ability of the industry to pass those
prices on to consumers of gasoline and other products during 2008 is uncertain due
to possibly weakening demand.

In troduction ......................................................1
Integrated Oil Company Profits.......................................2
Independent Oil and Gas Producers....................................5
Independent Refiners and Marketers...................................6
2008 Profit Outlook................................................7
Conclusion .......................................................8
List of Tables
Table 1. Financial Performance of the Integrated Oil Companies,
2007 ........................................................2
Table 2. Upstream Financial Performance of the Integrated Oil Companies,
2007 ........................................................3
Table 3. Downstream Financial Performance of the Integrated Oil Companies,
2007 ........................................................4
Table 4. Financial Performance of the Independent Oil and Gas Producers,
2007 ........................................................5
Table 5. Financial Performance of Independent Refiners and Marketers,
2007 ........................................................6
Table 6. Financial Performance of Independent Refiners and Marketers,
Fourth Quarter, 2007...........................................7

Oil Industry Profit Review 2007
The average spot market price for West Texas Intermediate (WTI), a reference
grade of U.S. crude oil, was up 9.5% in 2007 compared to 2006, while the New York
Mercantile Exchange (NYMEX) futures price for WTI approached $100 per barrel
(p/b) in December 2007. Refinery capacity utilization rates approached 90% or more
for much of the year, while oil supply disruptions from Nigeria, Venezuela, and the
Persian Gulf remained both a threat and a sometime reality. As the strength of
product demand began to weaken in the latter stages of the year, responding to high
petroleum product prices as well as a possible slow down of economic growth,
refinery margins began to narrow, suggesting that the companies were less able to
pass through the increased cost of crude oil to consumers. However, even in the face
of uncertainty and weakening markets, the oil industry enjoyed record revenues and
profits in 2007.
In 2007, the oil industry recorded revenues of approximately $1.9 trillion, of
which 78% was accounted for by the five major integrated oil companies. Profits for
the industry totaled over $155 billion, 75% of which were earned by the five major
oil companies, with the largest, ExxonMobil, earning over 25% of the total profit.1
Although the financial results for the industry were at record levels, the performance
of different sectors of the industry varied, as did the performance of individual
companies within those sectors, leaving some firms as relative under-performers
compared to the industry leaders.
This report analyzes the industry’s profit performance in 2007.2 While recent
profit levels in the oil industry are of interest to policy makers, investors, and
analysts, among others, the financial results of 2007 should be put in a longer term
perspective to understand the performance of the industry. For example, as recently
as 2002, the financial picture in the oil industry was far different, with declining
earnings in key sectors, such as refining. The oil industry historically has been cyclic,
with periods of high earnings often followed by sharp declines, driven by movements
in the world price of crude oil. For this reason, projections of future industry
performance, based on current performance, are unlikely to be reliable.

1 The oil industry is composed of thousands of firms involved in all aspects of the
exploration, development, transportation, refining, and marketing of oil based products. In
this report, the oil industry refers to the firms listed in Tables 1 through 6.
2 This report explicitly analyzes the key firms in the production, refining, and marketing
components of the industry.

Integrated Oil Company Profits
Integrated oil companies operate in both the upstream (exploration and
production) and the downstream (refining and marketing) segments of the industry.
Among the integrated oil companies listed in Table 1, the five largest companies are
usually identified as the major oil companies, or the super-majors. ExxonMobil is
the largest such company; its profits in 2007 were over 90% of the profits earned by
both of its largest international competitors, Royal Dutch Shell and BP.
Table 1. Financial Performance
of the Integrated Oil Companies, 2007
(millions of dollars)
Co mpany Revenue %Change Ne tIncome %Change Re t u r non Re t u r non
ExxonMobil 404,552 7.1 40,610 2.8 10.0 33.4
Royal Dutch Shell355,78211.627,5648.77.122.2
BP 291,438 6.2 17,287 -22.3 5.9 18.5
Chevron 220,904 5.1 18,688 9.0 8.5 24.2
ConocoPhillips 194,495 3.2 11,891 -23.5 6.1 13.4
Marathon 65,207 -0.4 3,956 -24.4 6.1 20.6
Amerada Hess31,92411.21,832-4.65.718.8
Occidental 18,784 9.4 5,400 28.8 28.7 23.7
Murphy 18,438 28.9 766 18.8 4.1 15.1
Total 1,601,524 7.1 127,994 -2.9 8.0 22.7
Source: Oil Daily, Profit Profile Supplement, vol. 58, no. 52, March 17, 2008, p. 6, and company
annual reports.
Note: Percent change values reflect changes from 2006.
Revenue growth among the integrated oil companies in 2007 was driven by
increases in the price of crude oil, especially in the last two quarters of the year.
Even though five of the nine companies experienced a decline in oil production, and
one of the nine experienced a decline in natural gas production, as shown in Table
2, their revenues increased on average by 7.1% in 2007. With output declining, it is
likely that revenue growth was based on increasing prices.

Table 2. Upstream Financial Performance
of the Integrated Oil Companies, 2007
(millions of dollars)
Company Ne tIncome %Change OilP r oduct i on %Change Ga s Change
ExxonMobil 8,204 31.9 2,517 -6.0 10,414 12.0
Royal Dutch Shell4,86737.61,798-14.29,1859.6
BP 7,648 51.1 2,469 2.2 8,337 1.0
Chevron 4,839 66.3 1,748 -3.5 5,083 4.8
ConocoPhillips 2,608 25.0 1,005 -12.5 4,981 -7.7
Marathon 465 51.5 190 -10.4 984 12.6
Amerada Hess58366.62607.46814.8
Occidental 2,599 82.8 464 1.8 782 19.8
Murphy 268 194.5 113 36.1 71 26.8
Total 32,081 45.9 10,564 -5.2 40,518 5.5
Source: Oil Daily, Profit Profile Supplement, vol.58, no. 52, March 17, 2008, p. 6.
Note: Percent change values reflect changes from 2006.
Two profit rates, return on sales and return on equity, are presented in Table 1.
In a report that appears periodically, most recently after the oil companies announced
their third quarter earnings in 2007, the American Petroleum Institute (API)3
compared the returns earned in the oil industry to other American industries. The
API comparisons are based on returns on revenue. They found that the oil and natural
gas industries earned 7.6 percent on revenues, compared to 5.8 percent for all U.S.
manufacturing industries. Although this result implies a 31 percent margin over the
returns earned by all U.S. manufacturing industries, it is less than the 9.2 percent
earned by all U.S. manufacturing industries excluding the automobile and auto parts
industries, that had a negative 26 percent return for the third quarter of 2007.
Calculating return on revenues dilutes the effect of growing total profits of the
oil industry due to higher prices and growing revenues, another standard percentage
measure of profitability, return on equity, is presented in Table 1. This measure
indicates the success of the companies, and industry, in earning profit by utilizing the
invested capital of the owners, i.e., the shareholders of the company. This measure
is widely used by investors and financial analysts in evaluating the performance of
firms seeking access to capital markets. By this measure, the integrated oil companies
returned 22.7% in 2007, over twice the return on revenue. The industry leader,

3 American Petroleum Institute, Putting Earnings into Perspective, 2008, p.2.

ExxonMobil, earned 33.4%. These rates of return are likely to assure these firms’,
and the industry’s, position as a desirable investment as long as the price of oil
remains high.
Table 3. Downstream Financial Performance
of the Integrated Oil Companies, 2007
(millions of dollars)
CompanyNet Income% ChangeProduct Sales% Change
ExxonMobil 9,573 13.2 7,099 -2.0
Royal Dutch Shell6,951-1.16,6252.2
BP 2,617 -50.5 5,624 -3.1
Chevron 3,502 -11.9 3,484 -3.8
ConocoPhillips 5,923 32.2 3,245 -6.6
Marathon 2,077 -25.7 1,410 -1.1
Amerada Hess300-23.9451-1.7
Oc c i de nt a l N.A. N.A. N.A. N.A.
Murphy 206 85.6 458 19.0
Total 31,149 -4.2 28,396 -1.7
Source: Oil Daily, Profit Profile Supplement, vol. 58, no. 52, March 17, 2008. p. 6.
Note: Percent change values reflect changes from 2006.
Table 2 and Table 3 separate the upstream and downstream performance of the
integrated oil companies in 2007. Table 1 and Table 2 show that upstream net
income growth led overall corporate net income growth for most of the companies,
and they earned almost 80% of their total net income from upstream activities. Oil
and gas production declined for each product, almost 3% in oil, and less than one half
of one percent in natural gas. Four of the five largest oil producers had declining
output. In natural gas, only BP and Shell experienced declining output in 2007.
Table 3 presents financial results for the downstream activities of the integrated
oil companies for 2007. Net incomes declined by more than twice as much as
product sales, suggesting that profit margins per barrel of crude oil refined had
declined. In the fourth quarter of 2007, only ExxonMobil and ConocoPhillips were
able to produce positive net income growth, with all the other firms showing negative
net income growth, or in the case of BP, financial losses from downstream activities.
Crude oil prices increased rapidly during the second half of 2007, and reached
over $110 per barrel in March 2008. During this period gasoline price increases
were thought by many to have lagged behind crude oil price increases. A potential
weakening of the demand for gasoline in the United States was thought to be
responsible for the lag. With a perception of weakening demand, passing through

cost increases to consumers was not thought to be economically feasible. The result
was a decline in refining margins.
Independent Oil and Gas Producers
Table 4 presents data for 2007 for the independent oil and gas producers.
Although they are large companies, with revenues of more than $10 billion in 2007
for the industry leaders, their total revenues are only about 5% of the integrated oil
companies. Their net incomes, however, were approximately 15% of the net incomes
of the integrated companies.
Although all of the companies in this category experienced increases in revenue,
six out of ten experienced negative net income growth. All of the companies, except
Andarko and Newfield experienced increases in production of oil and natural gas, or
both. With prices for both oil and natural gas rising late in 2007, these companies
seemingly should have performed better with respect to net income growth.
A possible explanation for the declining net income experienced by some
companies might be the large outlays the companies made investing in
unconventional oil asset exploration and development. Many of these companies are
involved in shale oil work in Texas, Arkansas, and South Dakota.
Table 4. Financial Performance
of the Independent Oil and Gas Producers, 2007
(millions of dollars)
CompanyRevenue% ChangeNet Income% Change
EnCana 21,466 30.8 3,959 -30.0
Devo n 11,362 16.3 3,596 26.8
Andarko 15,892 55.3 3,778 -20.4
Apache 9,978 20.4 2,807 10.2
Chesapeake 7,800 6.5 1,229 -35.5
X T O 5,513 20.5 1,691 20.5
EOG 4,191 7.1 1,083 -16.0
Noble 3,272 11.3 944 39.1
Pioneer 1,833 22.2 373 -49.6
Newfield 1,783 6.6 450 -23.9
Total 83,070 24.7 19,910 -12.8
Source: Oil Daily, Profit Profile Supplement, vol. 58, no. 52, March 17, 2008, p.7.
Note: Percent change values reflect changes from 2006.

Independent Refiners and Marketers
Valero is the leading firm among the group of independent refiners and
marketers. Valero accounted for over one half of the sector’s revenue, and two thirds
of its net income. Valero is the largest refiner in the United States, with a total
capacity of over 2.2 million barrels per day, approximately 13% of the total U.S.
Independent refiners experienced the same pressure on refining margins as the
integrated oil companies. The difference was that these companies produce no crude
oil and therefore were not positioned to take advantage of the increases in the price
of crude oil during the second half of 2007.
Table 5. Financial Performance of Independent Refiners
and Marketers, 2007
(millions of dollars)
CompanyRevenue% Change Net Income% Change
V a lero 95,327 8.8 5,234 -4.2
Sunoco 44,728 15.5 891 -9.0
T e soro 21,915 21.1 566 -29.3
Western 7,305 74.0 239 16.6
Frontier 5,188 8.2 499 31.7
Holly 4,791 19.1 334 25.1
Alon 4,542 46.8 103 -34.4
Total 183,796 14.5 7,866 -4.7
Source: Oil Daily, Profit Profile Supplement, vol.58, no.52, March 17, 2008. p.7.
Note: Percentage change values reflect changes from 2006.
The severity of the economic pressure on refiners in the fourth quarter of 2007
is shown in Table 6. Although revenues for the group grew by 53.4%, net incomes
declined by two thirds. Four of the seven companies in the group not only had
negative growth in net income in the fourth quarter of 2007, but generated losses
from business operations. Valero, the sector’s leading firm, earned 53% of the
revenue, but fully 97% of the earned net income.
Not only was the cost of crude oil rising for the independent refiners, but
relatively weaker demand conditions made it harder for the firms to quickly pass cost
increases on to consumers. Valero was able to remain profitable because it was able
to purchase and utilize lower cost heavy, sour crude oil at its refineries.

Table 6. Financial Performance of Independent Refiners
and Marketers, Fourth Quarter, 2007
(millions of dollars)
CompanyNet Income% ChangeRevenues% Change
V a lero 567 -49.1 28,671 52.2
Sunoco -9 -102.6 13,162 45.7
T e soro -40 -125.3 6,533 62.5
Western -25 -149 2,418 144.9
Frontier 43 -17.3 1,319 21.4
Holly 50 4.2 1,440 53.5
Alon -40 -281.9 1,146 36.9
Total 586 -66.9 53,543 53.4
Source: Oil Daily, Profit Profile Supplement, vol.58, no.52. March 17, 2008. p. 7.
Note: Percentage change values reflect changes from the fourth quarter of 2006.
2008 Profit Outlook
Crude oil prices spot prices reached $110 per barrel in the first quarter of 2008.
Should the price of crude oil remain at, or above, $100 per barrel for large portions
of the year, the profits of oil producing firms should be high. However, the economic
conditions will likely be difficult for firms that refine crude oil, but do not have their
own supplies. It is likely that a greater effort will be made by refiners to adapt
technologies that allow them to use heavy, sour, oil stocks. These lower quality
crude oils are more readily available than high quality oils and sell at a price discount
relative to the reference oils, West Texas Intermediate, for example.
Another key factor in the industry’s profitability is whether demand for
petroleum products continues to grow in the United States and the rest of the world.4
U.S. gasoline demand is arguably beginning to weaken as a result of high prices.
Some projections see $4 per gallon gasoline in the second and third quarters of 2008.
While prices at that level might allow refiners to recover the cost of crude oil, they
might also reduce demand, putting downward pressure on price.
Demand for petroleum products outside the United States remains strong, and
will likely remain strong as consumers in developing nations use their higher
incomes to fuel additional consumption. A world-wide economic slowdown is the
most likely factor that would lead to slower demand growth.

4 See, Lundberg Letter, Volume XXXV, Number 5, March 14, 2008, for varying
interpretations as to whether U.S. gasoline demand has actually begun declining.

The oil industry, in general, continued to generate high profits, as it has since
2004. However, it might be that the first sign of problems, in at least part of the
industry, have arisen. Weakening demand for petroleum products, specifically the
U.S. demand for gasoline, has put pressure on the downstream side of the industry.
While demand growth, political uncertainty, the weak U.S. dollar, tight spare
capacity, and other factors make it likely that the price of crude oil will remain high
in 2008, the weakening U.S. economy, coupled with the demand reducing effects of
higher prices, may make it more difficult to raise petroleum product prices.
New capacity investments in refineries, one possible source of gasoline price
relief for consumers, are likely to be slowed by the poor profit performance of the
refining sector. If new capacity does not come on line the need for imported gasoline
will remain a key factor in avoiding shortages in the U.S. market.