Big Oil Is Not the Biggest Victim of Cheap Crude

Date: 06 February 2015 - 21:23

News ID: ۱۰۶۵۴

LONDON (Financial Times) - If only oil-producing countries that got into trouble could merge, bring in fresh management, lay off citizens, cut costs and restructure their operations. At this point in the energy cycle, betting on a national merger wave similar to the corporate one that created supermajors such as ExxonMobil and BP in the late 1990s would be a good investment.
Brazil could merge with Venezuela, helping to solve both the Petrobras scandal and the latter’s lurch toward default. The United Arab Emirates or Saudi Arabia could roll up Nigeria and Russia. Norway could acquire Scotland from the UK.
But countries are not companies, for better or worse. Peaceful mergers are rare. Demergers and spin-offs tend to be more common, along with the occasional hostile takeover and Russian bear hug. Unlike shareholders, who tend to be a fairly dispassionate bunch, citizens have emotional ties.
So here is another investment thesis: sell countries, buy companies. To be exact, short fragile oil exporters, particularly those suffering from corruption and the resource curse, and buy the oil majors. They both look painfully vulnerable to falling oil and gas prices (and in urgent need of this week’s bounce) but companies are better at adjusting to a change in circumstances.
BP and BG, the UK oil and gas companies, both did so this week, applying the brakes sharply to capital investment plans and declaring that the turn in the commodity cycle is like that of 1986, when the price of crude oil dropped to $10 a barrel, having been stable at $30 for the previous three years. This is no time for waiting and hoping for an energy price recovery, they declared.
Bob Dudley, BP’s chief executive, did a fine job of building a hopeful narrative out of a dire situation. "You have got to make the cheque book balance and if you are in denial, the longer that you don’t respond, the more difficulty you get into,” he told journalists. BP’s sale of $40bn of assets to cover the $43bn (so far) cost of the 2010 Gulf of Mexico oil spill looks prescient in hindsight.
So far, BP and BG are at the aggressive end of the responses to a fall in the price of Brent crude from more than $100 a barrel last June to about $56 on Wednesday, after the recent rally. Exxon cruises onward like a supertanker and Royal Dutch Shell has announced only modest cuts to capital expenditure this year, saying that it is "not overreacting”.
The other majors can change course any time they wish and will have a clear incentive to do so if energy prices remain weak and tankers full of oil start to be berthed in terminals as storage. As Mr Dudley emphasised, maintaining dividends to investment funds that depend on them is "the first priority” — developing fields in the Gulf of Mexico or off Brazil’s coast can wait.
Indeed, in terms of cash flow, oil companies can perform better in a downturn than in a boom, when everyone from governments to rig workers and oil services companies takes a slice of the action. When the oil price falls, they are in a better position to bargain.
"In an upcycle, everyone thinks the returns will be fantastic but it never quite happens,” says Martijn Rats, an energy analyst at Morgan Stanley. The oil industry, given half a chance, is inefficient and spendthrift. It loves to throw cash at new prospects, paying whatever it takes to pump oil, only for the proceeds to be taxed heavily by opportunistic governments.
Morgan Stanley estimates that it cost the majors $72 to locate, develop, produce and pay tax on each barrel in 2012-13 — more than the $69 they made in revenue. Over the previous decade, taxes rose, wages outpaced the private sector average by 35 per cent, and labour productivity in exploration halved: it took twice as many workers to produce each barrel of oil.
The more you waste, the easier it is to cut back. Not only can the majors reduce capital expenditure by halting projects, but they can demand better terms. Oil services companies are squeezed and governments are told that new fields will not open without tax breaks. The industry cuts off its stakeholders to protect its shareholders.
This capacity to reduce costs quickly is beyond most countries, even those with well-managed state oil producers and low-cost reserves. The fall in the oil prices depletes their tax receipts and damages economies that rely heavily on the energy industry. They cannot easily adjust by slashing public services and reducing the population.
Meanwhile, just as oil exporters need to raise extra revenue, the oil majors cut back capital expenditure on new projects. Mr Dudley estimates that the price fall equates to a $1.6tn shift in value from oil-producing countries to oil-consuming countries. Exporters cannot escape the impact of that; they largely have to live with it.
In countries plagued by corruption, with officials taking bribes from oil companies, the problem is even greater. Maria das Graças Foster, chief executive of Petrobras, has resigned over a scandal that has damaged Brazil’s economic growth. Moody’s estimates that Venezuela will face a $39bn funding gap on its external debt this year.
In good times, companies and countries are both prone to the resource curse — there is enough cash to give to rent-seekers without a danger of it running out. It is too tempting to sacrifice efficiency for more oil. In bad times, companies repair the damage; countries are stuck with it.