by Stella Shamoon

WAR has effectively been declared on Iraq, whether via military engagement or protracted talks over disarmament and regime change. I hope for the best, but plan for the worst: shares in America’s ExxonMobil provide some insurance against turmoil in stock markets should military strikes start and not succeed quickly.

This is a surrogate cash play with a decent 2.6 per cent yield now and visible earnings growth of at least 5 per cent a year through to 2006.

ExxonMobil boosts high return on capital employed — estimated by analysts at 19 per cent this year — albeit enhanced by merger accounting after the $81 billion (£50.3 billion) takeover by Mobil of Exxon in 1999.

That deal created the world’s largest integrated oil company, with proved reserves of 21 billion barrels of oil equivalent. Its global operations span oil and gas exploration, production, supply, transportation and marketing.

Its refineries can handle more than six million barrels a day and it supplies refined products to more than 40,000 service stations, branded Exxon, Esso and Mobil, of which 16,000 are in the US.

ExxonMobil has consistently been conservative in its production growth targets. It should comfortably meet, if not beat, its estimated volume growth of about 3 per cent a year. Its greatest strength is a highly diversified production profile, with growth expected from regions such as Angola, Nigeria and Chad, so it is less dependent than its peers on a few key projects.

Its cascading cashflow, $17.2 billion at the first nine months of 2002, exceeds its requirements for capital expenditure, dividends and share buybacks. Relatively puny debt is maintained merely for greater financial efficiency. The group has basked in a AAA credit rating for the past 83 years.

Full-year results in 2002, due on Thursday, should reflect strong improvement in upstream earnings (exploration and production) from the second quarter, when crude oil prices bubbled up. Conversely, downstream earnings (retail) were hit by weak refining and marketing margins and the strong dollar.

Third-quarter 2002 earnings, excluding merger effects and special items, were $270 million higher at about $2.9 billion than in the second quarter, but $380 million less than in the same period in a bumper 2001. That decline was mainly due to the collapse of its downstream earnings.

But ExxonMobil has an excellent track record in maintaining consistent, steady growth thanks to its financial discipline and operational efficiency within a notoriously cyclical business.

Its relative stability of earnings, lush cashflow and bountiful balance sheet justifies a growth premium on its shares. Yet oil shares tend to trade erratically, tracking volatility in the price of the raw commodities (oil and gas) from which refined products are made. That is because the market doubts that the Organisation of Petroleum Exporting Countries (Opec), a predominantly Middle Eastern cartel that produces about 30 per cent of the world’s oil, can manage the price of oil within a desired $22 to $28 a barrel range via agreed production quotas.

Opec’s monopoly on spare capacity is needed to fill world supply gaps, such as that caused by anti-Government strikes by oil workers in Venezuela. It has inordinate power to influence the oil price, but the 1.5 million barrels a day of extra production pledged by Opec to compensate for Venezuelan shortfalls has failed to take the price off the boil.

At $30 a barrel, the price of Brent Crude oil currently incorporates a war premium, which could evaporate overnight. When Venezuela gets back to business, it could ignore Opec quotas and massively increase its production to compensate for losses during the strike. That could cool the oil price in the short term.

But for all that, it is hard to argue that the price of oil will fall below $25. At that price, everyone wins. Retail customers at the pumps will pay less, anaemic economic growth will not be choked off by high energy costs and demand for cheaper oil should rise, thus boosting the profits of integrated oil majors.

Buy ExxonMobil at $33.49.