Learning curve

Exxon Mobil Corp. surprised a lot of analysts when, at the end of 2009, it announced the acquisition of natural gas explorer XTO Energy Inc. for $41 billion in stock and assumed debt. Natural gas prices were seriously ailing -- around $4 per thousand cubic feet equivalent versus $14 just a year and a half before -- and weren't expected to improve much, given the advent of new supplies, slack demand and the financial crisis still fresh on everyone's minds. Making a major corporate acquisition after a 10-year-plus hiatus was a bold and unexpected move -- and a big bet on natural gas prices. Exxon Mobil's stock fell 4.4% on the news.

A year and a half later, analysts are applauding Exxon Mobil's move, but not because natural gas prices have improved. By buying XTO, which had grown exponentially through acquisitions, the company was able to gain access to experts who were experienced in extracting oil and gas from shale rock, engineers who could help Exxon cherry-pick other opportunities around the world.

And pick it did. Last year Exxon acquired Yorktown Energy Partners LLC-backed Ellora Energy Inc., which was active in the Haynesville Shale in Texas and Louisiana, for $700 million, and properties in Arkansas' Fayetteville Shale from Petrohawk Energy Corp. (since bought by BHP Billiton Ltd.) for $650 million. This year, Exxon purchased TWP Inc. and affiliate Phillips Resources Inc., which were active in the Marcellus Shale, for a combined $1.7 billion.

These acquisitions created a shale exploration powerhouse in the span of a year -- one that will benefit when prices rise again. They also brought on best practices associated with drilling optimization, completions and operations as well as evaluating potential projects that can help Exxon Mobil tap similar reserves in the rest of the world. That, in turn, will help it boost production, which territorial state-owned oil companies and environmentalists have made difficult for oil and gas companies across the board.

"They tend to be contrarians," says Philip Weiss, an analyst at independent research firm Argus Research Co. "When Exxon bought Mobil, there were a lot of complaints that they overpaid, but it's worked out quite well. It seemed like a bad time to be buying XTO, but they weren't looking at it with a view of what gas prices were that day or the next. They were looking at five, 10 years from now. XTO, I think, is a home run."

Not everyone is convinced, including Mark Gilman, an analyst at Benchmark Co. LLC, who thinks Exxon Mobil could have done better than XTO. "They felt an urgent need to establish a platform in lower 48 [U.S. states] and saw XTO as a vehicle to do so," he says. "I'm not sure it was the right choice with the right platform at the right price."

Still, in this year's Most Admired Corporate Dealmakers survey, Exxon Mobil won 45% of votes for first place in the energy category, 25 percentage points higher than runner-up Schlumberger Ltd. and leaving another acquisitive oil and gas company, Apache Corp., in third. Respondents noted Exxon Mobil's strengths as its reputation, management team and skill at making strategic acquisitions. "Exxon Mobil sets the precedents that others follow," one survey respondent said. "Its entry into the gas market in a major way, globally, took foresight and a long-term view by its leadership team and a competent execution team to ensure the deals were in line with each other [by the metrics]."

Those who have worked with the company on transactions say Exxon runs its deals like it does the rest of its business: efficiently and with as little risk as possible. It puts lots of people on transactions across many departments, from legal to environmental, and all the way to the top of the organization, including chairman and CEO Rex Tillerson. It also does a lot of in-depth work and due diligence from the very beginning of a deal and holds its outside deal advisers to strict deadlines, but is open to reasoned dialogue on issues. "They are tough but they aren't 'It's our way or the highway,' " says one adviser who worked with the energy giant on deals. "Reason is accepted."

Before the 1990s, Exxon didn't exactly have a pristine M&A track record. When Fortune magazine did a feature on the five worst acquisitions of the 1970s, two of them belonged to Exxon, including its $1.24 billion purchase of electric motor maker Reliance Electric Co., a diversification play that ended up losing hundreds of millions of dollars. The $1 billion spent and lost in the early 1980s on a Colorado shale oil project also was sobering, according to "The Prize: The Epic Quest for Oil, Money & Power," consultant Daniel Yergin's 1991 tome on the oil and gas industry, which was updated in 2008. "The senior management of Exxon believed, as a political judgment and almost as an article of faith, that it could not take over other large oil companies," Yergin writes. "Exxon had, in the words of CEO Clifton Garvin, 'a phobia about acquisitions.' "

Exxon instead started buying back stock, $16 billion between 1983 and mid-1990, guaranteeing shareholders a rising stock price and a good yield and fending off critics such as T. Boone Pickens. "Exxon did spend a good deal of money on acquisitions, perhaps $1 billion or so a year, but it was interested in specific properties, not in entire companies, and it went about its work quietly, as far from the headlines as possible," Yergin writes.

Then came its $75 billion acquisition of Mobil Corp. in 1998, which at the time was the biggest merger in history and put the company behind only Saudi Arabia and Iran in terms of output. What changed Exxon's mind? The new realities of running an oil company at a time of low commodity prices, high costs and more global competition. "We need to face some facts," Mobil CEO Lucio Noto said at the time of the deal. "The world has changed. The easy things are behind us. The easy oil, the easy cost savings, they're done."

Integration wasn't easy: Mobil's strengths were in marketing and dealmaking, while Exxon's were in finance and engineering. But Exxon was able to interweave the two opposite but complementary cultures, although Exxon's personality continued to dominate the company and Mobil executives generally served under Exxon executives, which created some friction. J. Fred Weston, a finance professor at UCLA Anderson School of Management, called the deal in a 2002 paper "the archetype for oil industry mergers" because the synergies achieved helped make up for the premium Exxon paid for Mobil.

On the XTO deal, which closed in June of last year, Exxon Mobil sidestepped some of its past cultural integration issues by setting up an organization in XTO's offices in Fort Worth to focus on developing and producing unconventional resources. Exxon Mobil filled the organization with XTO employees and management, including Keith Hutton, XTO's former chief executive officer who became the unit's executive vice president. "We want to let them continue to do what's made them so successful and broaden their scope in which they can work," Tillerson said when he announced the purchase of XTO.

The deal was initially discussed over dinner between Tillerson and XTO chairman Bob Simpson and later followed up on in meetings with Tillerson and his top managers, including senior vice presidents Andrew Swiger and Mark Albers and vice president of corporate strategic planning William Colton, who was put in charge of the due diligence process, according to a Securities and Exchange Commission filing.

Those familiar with Exxon's deal team say the point man for acquisitions is Rob Franklin, a University of Leeds-trained civil engineer who was vice president of new business development for Exxon Mobil Gas & Power Marketing Co. and vice president of Europe/Russia/Caspian for Exxon Mobil Production Co. before taking over his current post as an Exxon Mobil vice president and president of Exxon Mobil Upstream Ventures in May 2009. He was behind the company's re-entry into Iraq in 2009 -- representing the first American-led team gaining access to the country's oil patch.

Exxon Mobil's legal team on XTO was led by then-general counsel Charles Matthews, who retired early last year, assisted by Randall Ebner and Jim Parsons in Dallas and John O'Hern and John Pollio in Houston. Pollio also worked on the Phillips deal, while Ed Turner in Dallas worked on the Ellora deal.

Now that it again has sizable shale investments in the U.S., Exxon Mobil is looking abroad for opportunities in the sector. On Aug. 30 Exxon Mobil and Russia's OAO Rosneft unveiled plans to invest an initial $3.2 billion in an exploration joint venture that will prospect for crude oil in Russia's Kara and Black seas -- a deal BP had previously lined up, only to be blocked by a group of Russian oligarchs. Rosneft also will have the opportunity to invest in the equity of Exxon assets in the deepwater Gulf of Mexico and shale oilfields in Texas, which would be the first time a state-controlled Russian oil company has had a chance to invest in U.S. oil and gas assets. The deal marked what one analyst called the "dawning of a new era" in terms of Russia pairing up with foreign majors to boost the country's sagging oil output.

The Rosneft deal was also considered a coup for Tillerson, who had failed in his attempt to buy a stake in another Russian oil company, Yukos, in 2003. At the time, the Yukos CEO Mikhail Khodorkovsky landed in jail on corruption charges, and the company was forced into bankruptcy, with its assets going to Rosneft. Tillerson's ties to Russia go way back: In the 1990s he was praised as a skilled dealmaker when he led talks with the Russian government to develop oil and gas fields off Sakhalin Island. While Exxon Mobil has faced the same bureaucratic difficulties with Sakhalin that competitors have had with their Russian investments, Exxon Mobil has been successful at producing oil there. That success, along with the joint venture with Rosneft, was the key reason Tillerson won the top job in 2006.

Back home, Exxon Mobil said on an earnings conference call in July that it has added more than 70 trillion cubic feet of unconventional gas and liquid reserves since the XTO deal through acquisitions and new discoveries (it's now the country's largest natural gas producer). The company said it's ramping up its spending in the U.S. to its highest level in 20 years and may buy more exploratory and production assets in the U.S. and abroad if the opportunity is right.

"We have, in just 12 months, made some really nice opportunistic acquisitions at very attractive prices to what we have," Exxon Mobil investor relations vice president David Rosenthal said on the call. "As these things come up and we find them and they have the same characteristics as what we have been looking at, yes, I would expect us to take advantage of those opportunities." Thanks to learning from past mistakes and with the expertise of XTO, Exxon Mobil has acquisition phobia no more.