US and European energy majors fight for survival with moves unthinkable just two months ago

Gordon Ballard, head of the International Association of Oil & Gas Producers, has seen many downturns in his 38-year career. But they were all followed by recoveries. This time, he fears, things may be different. 
“In the past, activity decreased then picked up again — each time, we saw it come back,” he said. “Now it’s not entirely clear if things just come back as normal. Everything has changed.”
The coronavirus pandemic has crunched oil demand so hard that US crude prices fell below zero this week for the first time in history. With the industry in crisis, Mr Ballard sees two immediate challenges: continuing to get workers to remote offshore sites to keep operations running, and ensuring companies have the financial resilience to survive.
Big Oil already faced an uphill struggle ahead of the crisis. European majors such as Royal Dutch Shell and BP had promised shareholders they could do it all — become more efficient, produce oil and gas at higher margins, pay down debt and ramp up dividends, all as they transitioned to being cleaner-energy businesses. But a darkening global economic outlook was making their pledges trickier to deliver. 
Coronavirus has now forced them to make trade-offs unthinkable just two months ago as they slash capital spending and operational costs, suspend share buyback programmes, delay project approvals, issue debt and secure new credit lines. Most majors until now have pulled out the stops to preserve their dividend — but Norway’s Equinor on Thursday became the first to cut its payouts. 
The situation is dire. The international oil marker, Brent crude, has plunged nearly 70 per cent since January. Shares in Shell, BP, France’s Total, Italy’s Eni and ExxonMobil of the US have fallen about 40 per cent, with Chevron down 30 per cent. 
The majors have much less room to manoeuvre than during the 2014-16 oil crash. Tom Ellacott of WoodMackenzie sees that crisis as having shrunk a bloated industry, forcing companies to become far more efficient. “They have become a lot leaner, so this time the cost cuts can’t go as deep as they did before,” he said. 
The energy consultancy estimates that the biggest US and European companies will burn through $175bn of cash if Brent crude averages $38 a barrel over the next two years, with the drastic $52bn in cost-saving measures announced so far falling a long way short of the $78bn needed to maintain dividends and balance budgets. 
And with no sign of an end to the slump, asset sales to boost balance sheets will not be easy.
“Not only will buyers and sellers find it difficult to get alignment on price, the circumstances are so extreme that there won’t be very many companies confident enough to buy assets right now,” Mr Ellacott said.
The crash has been so severe production is likely to fall across the world, particularly as storage tanks fill up. From US shale fields to Canadian oil sands and higher-cost Venezuelan barrels, projects are at risk. 
“Companies are in extreme cash-conservation mode given the sheer uncertainty around the recovery. [They] are planning for the worst and stress-testing portfolios,” said Mr Ellacott. “The longer you see sustained low prices, the more pressure there is to start shutting in production.” 
Unlike previous crashes, companies cannot rely on their refining businesses to offset a drop in exploration and production earnings. Lockdowns and travel bans mean there is limited demand for refined fuels such as petrol and diesel. The global economic downturn will also hit chemicals businesses, huge oil consumers.
The majors will need to buy themselves time. Oil demand has fallen a third compared with pre-crisis levels of 100m barrels a day. Even if consumption recovers, mounting stockpiles will take time to shrink, keeping prices depressed. Companies that sell gas with oil-linked pricing will find little respite. One way to win in these market conditions is through trading divisions. 
Yet how the majors cope will vary. “While the global economy shutting down is not the fault of these companies, some are positioned better than others. Some already had stretched balanced sheets heading into this,” said Biraj Borkhataria at RBC Capital Markets. “Downturns always expose weaknesses.”
Shell, BP and Equinor have the highest debt levels. Eni has a bigger exploration and production divisions as a proportion of its overall business, so is more tied to the oil price. Exxon, meanwhile, has been in focus because of its large spending programme. Chevron has made a big bet on the US shale sector, which is experiencing a brutal downturn. 
In a depressed market, the biggest western majors will struggle to earn enough to meet their dividend targets. Dividend coverage, which stood at 122 per cent on average in 2019, is expected to drop to 43 per cent this year, according to Redburn estimates.
Industry executives say the biggest companies may face the dilemma of which to cut first — jobs or dividends. The payouts have become central to the companies’ investment case, with shareholders under growing pressure to divest from the worst-polluting companies. In the previous downturn, companies resorted to scrip — or non-cash — dividends to keep investors onside. This time widespread cuts could be on the cards. 
“For investors, Big Oil has been able to transform an unbelievably volatile commodity into a smooth return,” said Nick Stansbury, head of commodity research at Legal & General Investment Management. “To say ‘we have failed’ in that regard is a massive, massive thing. At that point, what’s the point of a big oil company from a portfolio investment perspective?”
Others believe now is the time to reset dividend policy and overhaul business models in preparation for the transition towards cleaner fuels. BP and Shell have both doubled down on net-zero emissions pledges in recent weeks.
But some companies may not make it through the crash intact.
“For many companies, this crisis is not just about short-term financial stability,” said Colin Smith, analyst at Panmure Gordon. “It’s a matter of long-term survivability.”
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For mature, higher-cost basins such as the UK North Sea, the oil plunge has sent tremors through a local industry that was yet to recover from the last downturn of 2014, writes Nathalie Thomas.
Deirdre Michie, head of OGUK, a trade body for the UK North Sea, described this week’s ructions in the oil markets as a “body blow” to an industry already “creaking” under the pressure of the Covid-19 pandemic. 
North Sea operators have appealed to the British and Scottish governments for targeted help to ensure the industry’s workforce is not obliterated. 
The immediate impact of the deep price falls will be on the North Sea’s supply chain — drilling companies and services groups including Petrofac have already cut jobs or put staff on the government furlough scheme.
Redundant drilling rigs are stacking up in Scottish ports as oil producers take an axe to spending and planned activities. 
Many independents in the region are still nursing heavy debts from the 2014 crash, although analysts say efforts to slash operating costs since the last crisis, decent cash buffers, oil price hedging strategies and capex reductions will give some breathing space in the short term while the industry prays for a rebound in prices. Unit operating costs halved to $15-$16 per barrel of oil equivalent between 2014 and 2018, according to PwC.
Stephane Foucaud of Auctus Advisors, meanwhile, noted that none of the larger independent producers’ debts expire this year. “I think 2020 is probably OK . . . 2021 is where things might come a bit more challenging.”