There’s finance galore – but only for the right upstream growth strategies
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Is capital available to the industry? That was one of the searching questions put to the panel at Wood Mackenzie's Upstream Forums earlier in September. The simple answer is: it depends who you are and what you're trying to do. For those with the right growth story – principally US unconventionals - there is finance galore. For the rest, slim pickings.
First, a quick sketch of the current state of the industry's finances. Debt has been on an inexorable upward spiral since the oil price collapse almost two years ago. Net debt climbed US$134 bn to US$913 bn from Q3 2014 to Q2 2016 for the 60 leading companies covered by our Corporate Service. Leverage has also been rising steeply. The net debt/capital ratio for the sector has doubled to 41% over the same period, though cash flow ratios rather than balance sheet ratios are currently the preferred measure of debt capacity.
Draconian cost cuts, budget cuts, dividend cuts and asset sales have slowed the rate of increase in debt. Cash flow breakevens have almost halved from US$93/bbl Brent in 2014, but at US$53/bbl in 2017 will still be above the US$50/bbl many companies are using as a planning assumption for next year. The industry is still leaking cash, although break evens will continue to fall in the coming months as efforts to cut spend intensify.
Asset disposals have not proved as fruitful a source of cash as hoped.
The market is still very illiquid; the top 60 companies sold US$18 bn of assets in 2015 and US$24 bn so far in 2016 – versus US$72 bn in 2014.
Shell, Chevron, Total, BP and ENI have combined corporate disposal targets of US$50-60 bn, yet the Majors have sold just US$5 bn of upstream assets since the start of 2015.
In this bleak landscape fresh capital is needed, and thankfully, materialising – record levels of equity could be issued to the sector this year. US equity markets are open for business, with around US$23 bn raised so far in 2016 from just under 40 deals. The previous annual high of US$30 bn in 2007 may be eclipsed; and the first pure upstream IPO in the E&P sector since 2014 is in the offing.
But investors are discerning. For companies that are financially stretched the prospects are uncertain. If an equity injection can be a crutch through to a new investment phase, it may happen. Where it would only enhance the prospects of bond holders, it's unlikely.
Equity (and debt) will be found for companies with sound growth strategies. Most new issues are for USL48 players with in-the-money break evens: Permian tight oil is the prime focus, but other plays have attracted new equity this year, among them SCOOP/STACK oil, and Marcellus/Utica and ArkLaTex shale gas. Investors have also backed corporate acquisitions which consolidate an existing position in a good basin or diversification away from a single basin exposure.
The availability of capital outside the US L48 is much more limited. There are slim pickings for the conventional world where there is no clear growth thematic, and this includes Gulf of Mexico and even Canada. Equity can be available for growth stories with strong economics on a case-by-case basis, though these are few and far between.
So the tight oil and shale gas 'haves' can access capital markets. What do the 'have nots' need to do to attract capital?
The big problem is less the availability of finance but more the commercial prospects of the investments.
Tight oil will deliver 7 million b/d of additional crude supply from new plays over the next ten years, at an average NPV,10 breakeven cost of US$47/bbl. New conventional projects will produce 4 million b/d at US$60-65/bbl plus.
The industry has made great strides in reducing the cost of conventional developments since 2014, reflected in six major project FIDs already this year. But it's nowhere near enough, with most potential new investment still out-of-the-money. Much more work is needed to rethink, revamp and reshape conventional projects to compete with tight oil and work under prevailing expectations of future oil prices. Then capital will start flowing again.