Opinion

Big Oil commits to dividends in troubled times

The US and European majors showed how cash distributions are a crucial part of their appeal to investors in the energy transition

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In the Mad Max movies, the fuel tankers that ride the highways of apocalyptic Australia are branded “7 Sisters Petroleum”. It is a sly nod to the oil industry’s famous “seven sisters”: the American and British companies that led the consortium of operators in Iran in the 1950s and acquired a mystique as the undeclared rulers of the global market. That reputation was always exaggerated, but today, as those companies battle for success in an intensely competitive industry, it is even further from the truth.

Through mergers, the original seven have been consolidated into four — ExxonMobil, Chevron, Royal Dutch Shell and BP — and all of them reported third-quarter earnings this week. In a round of reports that were at least an improvement on the grim picture presented for the second quarter, a common theme was the importance of dividend payments as the core of their appeal to investors. BP and Shell both cut their dividends earlier in the year, as their profits and cash flows were crushed by the global economic downturn. Shares in ExxonMobil have been trading at levels that suggest investors see a high risk of a cut. But in varying ways all four companies this week signalled to shareholders their determination that dividends should be maintained or even increased.

ExxonMobil sent that signal by holding its payment unchanged when it made its regular quarterly dividend announcement on Wednesday. It is paying 87 cents a share in the fourth quarter, the same amount it has paid since the second quarter of last year. The following day, the company announced one of the steps it is taking to manage through the current difficult market conditions: cutting 1,900 jobs in the US through voluntary and involuntary redundancies, most of them at its Houston management offices.

On Friday ExxonMobil reported a smaller loss of $680 million for the third quarter, down from $1.08 billion in the second quarter. The company highlighted its cuts to capital and cash expenses, and said more were planned for next year. Capital and exploration spending in the third quarter was $4.1 billion, down from $7.7 billion in the same period of 2019. Darren Woods, chief executive, said the company was “taking the necessary actions to preserve value while protecting the balance sheet and dividend”.

ExxonMobil’s preliminary capital programme, subject to review by the board before the end of the year, is for spending of $16 billion to $19 billion next year, down from a planned $23 billion for 2020.

Chevron also kept its payout unchanged, announcing a dividend of $1.29 per share, the same as in the first three quarters. It similarly reported a reduced loss for the third quarter, of $207 million. It also emphasised its spending cuts, with organic capital expenditures down 48% and operating expenses down 12% from the third quarter of last year. Chief executive Michael Wirth said: “Our actions are guided by our long-standing financial priorities: to protect the dividend, invest for long term value and maintain a strong balance sheet.” That ranking is not accidental. Wirth said earlier this year: “The dividend is at the top of [our] list of priorities.”

Shell and BP commit to dividend payments as they transform their businesses

Shell actually raised its dividend this quarter, albeit only modestly, raising the payout 4% to 16.65 cents. The increase only goes a small way towards reversing the 66% dividend cut in the first quarter, but Shell’s leadership wanted it to be taken as a statement of intent. Ben van Beurden, chief executive, said: “We plan to grow the dividend every year to come”.

The dividend is at the heart of the company’s message about remaining investible through the energy transition. As it develops the growth businesses including power, renewables and hydrogen that it sees as its long-term future, it needs to be able to offer investors something in the short term, in the shape of strong cash distributions through dividend payments and share buybacks.

Van Beurden added: “We have a clear framework for our investment case, not only offering the promise of future growth, but also increasing shareholder distributions today.” With earnings for the third quarter coming in well above analysts’ expectations, thanks in particular to the resilience of its marketing business, Shell was able to make at least a nod towards that framework this week.

BP has a similar message about balancing its short-term and long-term objectives: “performing while transforming”, and its results this week suggested it was on course with that strategy. Wood Mackenzie’s analysts described the earnings as “a solid set of results” in difficult market conditions, showing the resilience of its portfolio.

Its dividend policy is somewhat different from Shell’s. Instead of the commitment to yearly growth, BP is planning to maintain its dividend at the reduced level of 5.25 cents a share set in August, and kept it at that level for this quarter. Increased cash distributions to shareholders, when possible, will come through share buybacks. But although the dividend was not increased, the company emphasised the importance of the payout. “We have a disciplined capital allocation framework, which has the dividend as the first priority,” said chief financial officer Murray Auchincloss.

The European and US oil majors have embarked on very different paths: the Europeans are pursuing diversification and setting long-term zero emissions goals, while the Americans are still aiming to grow their oil and gas businesses. Eventually, the market will deliver its verdict on which strategy was more effective. Until we reach that point, both sides of the argument have an interest in continuing to pay a healthy dividend, to show that they are on the right track.

Cenovus and Husky Energy merge to reinforce resilience

There has been an upsurge in M&A activity in US tight oil in recent weeks, as companies including ConocoPhillips, Devon Energy and Pioneer Natural Resources have sought to get bigger to shore up their defences against the storms battering the industry. This week, the trend moved across the border to Canada’s oil sands, with Cenovus and Husky Energy announcing a merger with the declared aim of creating a “resilient integrated energy leader”. The combined company would have an enterprise value of about CDN$23.6 billion at this week’s share prices, with operations in the oilsands, offshore, in upgrading and in refining.

The first line of the deal announcement emphasised that it was a “combination of complementary businesses [which] will result in CDN$1.2 billion in cost and capital synergies,” including the loss of up to 2,150 jobs, most of them in Calgary. The other key advantages put forward for the merger were that it would “enhance free funds flow generation and support [an] investment-grade credit profile”.

Wood Mackenzie’s Greig Aitken argued that, like the US tight oil deals, the Cenovus-Husky tie-up appeared to be “driven by an expectation of a challenging future”. He went on: “Whether corporate strategy is to be more diverse to reduce risk, scale up in one area to reduce cost, or to add downstream operations to capture more margin along the value chain, these are different responses to the same concerns.”

Coronavirus and the world economy shake oil markets

The continued steady growth in the number of new cases of Covid-19, and the new lockdown measures introduced in countries including Germany and France, have renewed fears about the outlook for the world economy. The failure of talks between the Trump administration and Congress about a possible new economic stimulus package has exacerbated those concerns.

Mohammad Barkindo, OPEC’s secretary-general, said on Monday that the world economy and oil demand had been weaker in the second half of the year than the group had hoped in the spring. “We were hopeful the second half of 2020 would begin to see a recovery,” he said, in remarks reported by Reuters. “Unfortunately, both the economic growth and demand recovery remain anaemic at the moment due largely to the virus… We remain cautiously optimistic that the recovery will continue. It may take longer, maybe at lower levels, but we are determined to stay the course.” Brent crude ended the week at about $38 a barrel, down about 13% from its recent peak above $43 earlier in the month.

In brief

Japan and South Korea this week became the latest countries to set goals of becoming carbon neutral by 2050. Prakash Sharma, Wood Mackenzie’s head of markets and transitions in the Asia Pacific region, described the two goals as “hugely aspirational and daunting”, given that hydrocarbons today account for about 80% of primary energy supply in both countries. He suggested that South Korea’s carbon price, currently around US$30 a tonne, would have to rise above US$100 a tonne for the country to achieve its net zero objective.

Sinopec plans to accelerate its push into hydrogen, the Financial Times reported. Reporting earnings for the third quarter, Sinopec said it planned to “reallocate some of our resources all along the hydrogen chain”, from production to fuel stations. Sinopec accounted for 14% of China’s hydrogen production last year, China Daily has reported. The great majority of China’s hydrogen comes from coal today, but ramping up production and use of green hydrogen, made by electrolysing water, could be critical for achieving the government’s objective of net zero carbon emissions by 2060. Zhang Yuzhuo, Sinopec’s chairman, was quoted as saying in September: “It is a strategic move… But as it will not bring an immediate return for shareholders, we will proceed with caution.”

ANZ, the Australian banking group, has launched a new climate strategy, including a pledge to stop direct lending for new coal-fired power plants and thermal coal mines from 2030. It will also work with existing customers that have a greater than 50% exposure to thermal coal, encouraging them “to seek specific, time-bound and public diversification strategies”. If the customers do not have those strategies by 2025, “we will cap limits and reduce our exposure over time”.

Hurricane Zeta made landfall in Louisiana on Wednesday, becoming the fifth hurricane to hit the state this year. There have been 27 named storms in the Atlantic this season, the most since 2005, when there were 28. In terms of Accumulated Cyclone Energy, which measures the strength and duration of tropical storms and hurricanes, activity in the North Atlantic basin so far in 2020 has been almost 50% above its long-term average.

Platform shutdowns as the hurricane approached cut oil production from the US Gulf of Mexico by almost 50%, as workers were taken off 157 offshore facilities. Some platforms were evacuated for the sixth time this year. Jennifer Lambers, a meteorologist with Fox10 News, posted dramatic footage of a platform in winds gusting up to 150 mph with 50-foot waves.

Up to 23 million Americans are planning to relocate to take advantage of greater opportunities for working from home, according to a survey by Upwork, the freelance job platform. People living in major cities reported the highest likelihood of leaving, with 20.6% of them saying they were planning to relocate. The shift in population, if it materialises, has ambiguous implications for energy demand. People moving out of the cities to the suburbs and rural areas will be more likely to own cars, and will drive more for shopping, going out and so on. But increased working from home will cut commuting in cars as well as on public transport.

Amy Coney Barrett became the latest justice to be confirmed by the Senate to the US Supreme Court, replacing Ruth Bader Ginsburg who died last month. Her confirmation gives Republican appointees a 6-3 majority on the court, potentially leading to a shift in the court’s position on government regulations, including those affecting the energy industry. As the Law360 blog explained, the Supreme Court could move to overturn or weaken the principle of “Chevron deference”, which holds that when a law is ambiguous, the courts should defer to any reasonable interpretation used by a regulatory agency. Some legal scholars have argued that the courts have in recent years been too inclined to call a law ambiguous, and so defer to the government, giving regulatory agencies too much power. The principle goes back to a ruling of the Supreme Court in Chevron v. the Natural Resources Defense Council in 1984.

And finally: a new attempt to change the image of electric vehicles. During the last game of the baseball World Series on Tuesday, General Motors ran commercials for its new electric Hummer, its bid to build a brand for a new high-end EV with off-road capability. The old Hummer was the civilian version of the military Humvee, discontinued in 2010 in part because of its poor fuel economy. The new one, as featured in this 5-minute, 39-second commercial, is aiming for the same rugged appeal, “with no limits, no emissions and no equals”. Although emissions are mentioned, the key features of the vehicle as described are its silent motor with 1,000 horsepower, 11,500 pound-feet of torque, and “for the brave souls who dare to engage watts to freedom”, acceleration from 0 to 60 miles per hours in about 3 seconds.

The Hummer EV looks like an effective play for a specific market niche. At an initial retail price of $112,595, however, it is still a very long way from being the kind of product that will start to transform vehicle fleets around the world. For that, cars such as Volkswagen’s ID.3 and ID.4, and BYD’s Han EV, will be much more significant.

Other views

Simon Flowers — Five constraints on US tight oil production

Joseph Majkut — The immediate case for a carbon price

Radhika Khosla — Demand for cooling is a blind spot for climate and sustainable development

Clyde Russell — Australia shrugs off carbon neutral pledges of its top resource buyers. It shouldn’t

Quote of the week

“What I said was, we're gonna stop the subsidies for oil, which is about $40 billion. We're going to take that money, invest it in new technologies for what they call carbon capture. We're going to still need oil. We're gonna still have combustion engines, we're still going to need oil for many things. But what's happening is you have to do it, and we can work toward getting it done, so you can capture the carbon that comes from that gas and that oil. That's what has to be done.” — Joe Biden, the Democratic presidential candidate, expanded on his views on the future of fossil fuels, following his comments in last week’s presidential debate about how he would “transition from the oil industry”.

Biden’s $40 billion number for “subsidies for oil” appears to relate to the estimated ten-year impact on revenues of aspects of the tax treatment of oil and gas companies, as set out in this report from the Environment and Energy Study Institute. Three items in particular — first-year expensing for intangible drilling costs, percentage depletion, and treating foreign royalties as tax payments — each has a ten-year revenue cost of about $13 billion.

Chart of the week

This chart, from this week’s earnings presentation from Royal Dutch Shell, is a telling sign of the times. Retailing has never been the most glamorous end of the oil business, and has not generally been a focus in investor presentations. In the energy transition, however, having a strong retail presence could be an important strategic asset, giving access to customers for everything from EV charging to groceries. Ben van Beurden, Shell’s chief executive, described the company’s retail presence as “very strong”, serving more than 30 million customers a day across 80 markets. That presence, he said, “gives us powerful insights into our customers’ preferences and future profitable propositions”. He added: “It has also shown impressive resilience through the global pandemic.”

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