Private Empire: ExxonMobil and American Power

by Steve Coll

  Vierbuchen and his supervisors in Houston and Irving accepted that principle. They had two issues to press in the weeks after the Al-Rashid auction, however. One was the price per barrel that ExxonMobil would be paid on oil produced after the threshold was crossed—in effect, the corporation’s profit margin. The second was whether the form of the agreement would allow ExxonMobil to record the barrels with which it expected to be paid in the future as proven reserves. Otherwise, ExxonMobil’s role in Iraq would look a lot like a service contractor such as Halliburton or Schlumberger, and Rex Tillerson made clear that that was not an acceptable contract model.

  On price, because of the attractions of Iraqi oil and the enormous long-term potential of its reserves, Tillerson approved terms that would involve less gross profit than ExxonMobil normally sought—as little as $2 per barrel. He seemed to accept the judgment of analysts such as Nordine Ait-Laoussine, a former Algerian oil minister who had reopened his country to foreign investment before Iraq. In the Middle East, at least, Ait-Laoussine said, “The days of 12 percent to 18 percent returns are gone. Perhaps they should lower their expectations on earnings.” In ExxonMobil’s case, that would be something to consider only if it could add to the corporation’s resource base. On reserve booking, the corporation turned to its lawyers.

  The question was whether ExxonMobil could develop contract terms that would allow it to book Iraqi oil as proved reserves without forcing Iraq’s government to accept production sharing or other contract forms typically rejected in the Arab world on nationalistic grounds. As far back as the 1980s, after Saudi Arabia nationalized its oil industry, Exxon lawyers had worked on contract formulations that might allow the kingdom to claim full ownership over its oil before its people, while structuring Exxon’s position so that, even short of outright ownership, the S.E.C. rules would nonetheless recognize the corporation’s right to book reserves for Wall Street. Now ExxonMobil and other international oil companies in final negotiations with Iraq’s oil ministry returned to some of these earlier contract ideas. They agreed, for example, to be paid for their technical work in the southern oil fields in the form of oil, rather than in cash. (By now they were confident that they could sort out the Kuwait reparations matter by having the United Nations issue an international legal opinion affirming that their oil should not be garnished.) ExxonMobil wrote up terms describing their rights to that oil in ways that they believed conformed to S.E.C. requirements and talked these through with Baghdad’s negotiators.

  Late in 2009, Vierbuchen and the president of ExxonMobil Upstream Ventures, Rob Franklin, at last closed a deal—after months of private negotiations with Iraqi officials—for exclusive access to Iraq’s West Qurna Phase One oil project. The field contained at least 8.7 billion barrels—a behemoth by industry standards. ExxonMobil agreed to apply modern technology and techniques to raise the field’s production from its current 300,000 barrels per day to more than 2.3 million barrels per day within six years, taking a gross profit of only $1.90 per barrel—below the $2.00 per-barrel remuneration fee Iraq had specified at the first unsuccessful auction. The deal was structured so that ExxonMobil first had to increase the field’s production to 10,000 barrels per day higher than the peak production achieved under Saddam Hussein. After that, ExxonMobil was permitted to take its $1.90 premium as oil in kind. ExxonMobil kept secret the full terms of the deal, so it was difficult to judge how profitable it might ultimately become. Deutsche Bank predicted that ExxonMobil might earn a 19 percent rate of return from West Qurna when all factors were considered—comfortably within the corparation’s targets for profitability worldwide.

  An initial agreement between ExxonMobil and Iraq stalled; the corporation “asked for advocacy” from the Obama administration’s Baghdad embassy to resolve the impasse. “ExxonMobil has again approached Post [the U.S. embassy], seeking renewed advocacy to Prime Minister Maliki,” the embassy reported to Washington. “Post will continue to press the issue at senior levels.”

  The Obama administration’s lobbying helped; the deal went through. Eighteen months later, ExxonMobil had crossed the contract threshold and was loading Iraqi crude into supertankers in the Persian Gulf that could hold 2 million barrels at a time. The U.S. embassy in Baghdad estimated that the work of ExxonMobil’s partnership in West Qurna alone would raise Iraq’s oil production by 2 million barrels per day within six to eight years.20

  Royal Dutch Shell was ExxonMobil’s junior partner; BP worked nearby, under very similar terms, in the Zubair field. Iraq’s government hoped that the country’s long-promised potential as a 6-million-barrel-per-day power in global oil markets would soon be realized.

  Just more than seven years after American soldiers and marines poured over the Kuwaiti border into Iraq, ExxonMobil shareholders owned, on paper at least, a small slice of the country’s oil reserves. Seven years was almost precisely the length of time Lee Raymond had predicted, when the war began, that it would take for Iraq to be calm enough for big oil companies to enter. “I wouldn’t say the profit margins have unlimited potential,” said the corporation’s Rob Franklin. On the other hand, he noted, “we’re confident you can book the reserves.”21

  Twenty-seven

  “One Plus One Has Got to Equal Three”

  Bob Simpson was a tax accountant who wore his slacks stuffed inside his cowboy boots. When he was a young boy, an aunt brought him periodically to downtown Fort Worth, Texas, to shop at Leonard’s department store, a wonderland of toys, sporting goods, and furniture. Crumbling brick buildings dating to the Texas oil boom of the early twentieth century surrounded Leonard’s. Simpson grew up in modest circumstances in a small town nearby, graduated from Baylor University, took an accounting job in Fort Worth, and never left. When he began to earn big money, he bought up and restored many of the decrepit buildings he had seen as a child. On one occasion he paid $160,000 for the grand-champion steer at the Southwestern Exposition and Livestock Show and donated the animal to the Fort Worth Zoo. Increasingly, he was one of the city’s most active patrons.1

  Simpson was a numbers man. He kept books and organized tax returns for others until 1986, when he founded Cross Timbers Oil. Over the next two decades he built the company into a Wall Street darling. He acquired onshore American natural gas fields abandoned by the large international oil companies as they moved overseas and into deep-water offshore oil drilling in search of large new reserves. He also managed operations and financial strategy very tightly; Simpson became a master at growing through acquisitions.

  He renamed Cross Timbers as the more ticker-friendly XTO; its profits grew very rapidly, from $186 million in 2002 to $1.9 billion in 2008, which vaulted XTO to number 330 on the Fortune 500 list of the largest stock market–traded corporations headquartered in the United States. Barron’s named Simpson one of the thirty most-respected business leaders in the world for four consecutive years, alongside Warren Buffett and Steve Jobs.

  His thinning hair had turned gray, and as he reached his sixties, he grew a not-so–Wall Street white beard. He gave up day-to-day management responsibilities at XTO, while remaining chairman, and the beard hinted that he might be ready for a further change of lifestyle. XTO now employed three thousand people, all of them in the United States, a third of them in Fort Worth. Simpson’s stock option–incented executives and his Wall Street shareholders had become used to rates of profit growth that could not go on forever, certainly not in an industry whose performance was tied to volatile commodity prices.

  In the summer of 2009, Simpson and XTO’s senior executives and directors attended the corporation’s annual management retreat at the Fairmont Chateau Whistler, tucked beneath the mountains of British Columbia, Canada. Simpson repaired to the hotel bar with Jack Randall, an XTO director who was a partner in an investment bank that specialized in oil and gas mergers. As they munched bar food, they talked about the industry and options for future strategy, including the possibility of a merger or an acquisition of XTO by one of the oil majors.2


  The American natural gas business was in the midst of a historic boom as new drilling techniques unlocked huge reserves of domestic “shale” gas—natural gas trapped in shale rock formations—and other unconventional sources. XTO was a leading producer of shale and unconventional gas. It owned positions in most of the major shale gas plays in the United States, including the Marcellus Shale on the East Coast, which was exciting interest. The corporation’s headquarters in Fort Worth stood near the Barnett Shale, one of the country’s best-known shale gas reserves, where XTO owned a large and lucrative position. A natural gas rush gripped Fort Worth as drillers, land men (who specialize in leasing land for drilling), and financiers scoured the region to grab positions. The nationwide boom atmosphere meant that natural gas production would likely rise and gas prices would fall. The financial crisis and recession of 2008 to 2009 had also dampened total energy demand, at least temporarily. Also, some of XTO’s past success had been due to Simpson’s financial wizardry in the futures and derivatives markets—his ability to enhance profit by locking in hedges on high gas prices, to guarantee strong cash flow and protect against market price declines. If prices fell for a prolonged period, hedging wouldn’t produce the same degree of benefit. Big international oil majors continued to look at unconventional gas companies like XTO with avarice, despite the falling prices, because the majors had largely missed out on the domestic gas boom that XTO had ridden. For a wily numbers man like Simpson, these factors—prices past a peak, a boom mentality in the industry, and hungry, cash-rich corporate buyers—all flashed “sell.”

  Who would be an ideal purchaser, Simpson and Randall wondered? Chevron was in the midst of a leadership transition, and the corporation was being sued in Ecuador over an oil spill that might produce a major financial liability—at a minimum, the lawsuit was a wild card. They considered Shell, too, which was active in onshore gas plays, and a few less likely contenders. Before the check for their snacks came, they had settled on BP and ExxonMobil, both cash-rich and highly interested in the unconventional gas market. Simpson told Randall to approach both corporations to see if they might be interested in a merger or other combination with XTO.3

  Randall owned a significant amount of stock in XTO—nothing as large as Simpson’s holding, but enough to motivate him. Simpson also agreed to pay Randall’s firm, Jefferies Group Inc., a transaction fee of $24 million if a merger were completed.4 Randall had previously worked at Amoco for fourteen years, landing in the company’s mergers and acquisitions group. He left to form an oil and gas advisory firm that later became part of Jefferies, an investment bank. He and his fellow directors at XTO had been thinking for years about how the corporation might eventually find an acquirer; almost all successful independents in the oil and gas business ultimately merged or were acquired. That was also the common exit strategy for a founder like Simpson, and a deal now would allow all of XTO’s shareholders to benefit from his foresight. Like a marriage broker of old, Randall had already been cultivating a courtship between Bob Simpson and Rex Tillerson at ExxonMobil.

  Randall had a personal tie to Tillerson: They had belonged to the same marching band fraternity at the University of Texas. Randall played trumpet; Tillerson played drums. They had both been engineering students in the marching band—that is, double nerds. Randall was a couple of years ahead of Tillerson at U.T., and the men had not known each other well at the time, but the shared history reinforced their professional relationship when Randall became a Houston-based broker of oil and gas properties. At industry and university luncheons, Tillerson and Randall would occasionally run into each other and catch up on oil and gas matters or reminisce about university days.

  Around 2007, Randall had suggested that Tillerson invite Bob Simpson on a hunting trip, so the two men could get to know each other better. Tillerson agreed, and he and Simpson spent a few days shooting together on ExxonMobil’s vast ranch near Alice, Texas. They got along. Each had been reared in unglamorous circumstances in rural Texas and had now achieved transforming wealth and success. Each had put down roots in the Dallas–Fort Worth area and reveled in the region’s history and ranch culture. Each regarded himself as a disciplined leader devoted to operational perfection. Their corporations occasionally partnered on deals and worked compatibly.

  After his Fairmont Chateau Whistler bar summit with Simpson, in late July, Jack Randall telephoned Tillerson.

  “Rex, I need to come to see you,” he said. “It’s very, very important. It’s very confidential.”

  Tillerson invited him to Irving, to meet in his office. When Randall arrived on August 6, he explained that Bob Simpson was thinking about a “strategic combination” between XTO and ExxonMobil. Might ExxonMobil be interested?

  “Yes, I think we’ll be interested,” Tillerson answered. “Let me take some time to soak on it.”5

  In 1976, as a young Exxon engineer on his second assignment, in East Texas, Rex Tillerson was asked to work on a drilling technique known as hydraulic fracturing, which employs pressurized fluids to shatter rocks and unlock natural gas buried in complex geological formations. The drilling and engineering problems he wrestled with anticipated the shale gas boom that undergirded XTO’s success. In part because of his early, direct experience, Tillerson felt he understood the unconventional gas business. Not everyone in or around ExxonMobil thought Tillerson had the analysis right, however.6

  For most of Tillerson’s career, the exploitation of American onshore natural gas beds had not been a major priority for Exxon and other international oil companies. Alaska’s large gas fields attracted their attention, but the regulatory and political approvals necessary to pipe the gas to the Lower 48 continually eluded them. In Lee Raymond’s era, the big opportunities in oil and gas seemed to lie overseas, in new territories opened up by the cold war’s end, in Saudi Arabia, and in ocean waters, where a corporation like ExxonMobil could bring technological advantage to bear. For ExxonMobil, apart from its large projects in Qatar and Aceh, managing natural gas was often a by-product of exploiting oil. Natural gas associated with oil reserves in deep water and elsewhere could be a challenge because the gas was often “stranded” at the oil wellhead—there was no economical way to pipe it to a customer. One way to dispose of such stranded gas was to burn or “flare” it. ExxonMobil flared gas routinely at its offshore African wells. That exacerbated greenhouse gas emissions from oil operations, however, and it wasted a natural resource that might otherwise fuel, say, Nigeria’s moribund electricity sector. In some places, international oil companies, including ExxonMobil, built plants to extract from stranded gas commercial products known as gas liquids. In other cases they built plants to create liquefied natural gas that could be shipped globally. The focus had been on creating additional value (and as climate change worries rose, reducing pollution) from associated gas worldwide, not searching for new freestanding supply at home.

  Shell, Chevron, and BP largely followed similar strategies—they ignored onshore, complex gas reserves in the United States, Europe, and elsewhere. They invested instead in liquefied natural gas. L.N.G. could soak up both associated offshore gas and bring some large, stranded “nonassociated” gas fields to market, such as the North Field in Qatar, while gradually creating a global gas market that looked reassuringly similar to the free-flowing, globally integrated oil market.

  For years, to the international majors, the kinds of Texas and Oklahoma shale gas fields that Bob Simpson had scooped up while building XTO after 1986—and the kind of field in East Texas that Tillerson had been assigned to early in his own career—looked picayune, expensive to produce, and of doubtful long-term profitability. Still, ExxonMobil and other majors fiddled around some in these American gas fields over the years—they took leases and they drilled wells, but they did not invest at anything like the scale of their overseas L.N.G. and gas liquids projects.

  Lee Raymond had declared in 2003 that American natural gas production had probably peaked. The Energy Department predi
cted that the United States might run out of domestic gas supplies, which were used mainly for heating and electric power generation, in just two decades. Alan Greenspan, educated by private conversations with Lee Raymond, urged Congress to consider fast-tracking the construction of liquefied natural gas import terminals around the United States to address this coming, widely predicted gas shortfall.

  As it turned out, Lee Raymond had been wrong. Within a few years of his declaration, because of the emergence of unconventional gas drilling techniques that proved cost effective, the Energy Department revised its forecasts and now predicted that the United States had about a century’s worth of natural gas reserves. ExxonMobil and its international competitors had missed this mother lode lying beneath American soil.

  Around the time of his visit to Tillerson in Irving, Jack Randall also met with an executive of BP’s division in the United States, headquartered in Houston. He asked his BP contact to explore whether the corporation might be interested in acquiring or merging with XTO to leap forward in the onshore American gas business. The executive told him, “Let us think about it.”

  When the BP executive called back, however, he reported, “We actually like your gas assets better than we like our gas assets. But the timing is just bad for us.”

  Tillerson called in mid-August. “I think we are seriously interested. What do you think the next step is?”7

  Simpson and Tillerson booked a private during room at the Fort Worth Club, in an early-twentieth-century building on Seventh Street. On a drizzly evening, they staggered their arrivals so club members might not notice them. If word of their discussions leaked, XTO’s share price would soar, making a merger price negotiation all but impossible.