African upstream capex ‘may be slashed by 33%’

Faced with the double whammy of the oil price crash and the coronavirus pandemic, Africa’s upstream sector looks set to slash capital spending by around 33% in 2020. Similar cuts to operating costs are also targeted by producers to stay cash-flow neutral.

Unlike the 2015-16 price crash, this time nothing is sacrosanct: some operators will even wield the axe on committed spend, as well as the discretionary expenditure.

Gail Anderson, from Wood Mackenzie’s Africa upstream team, said: “The coronavirus pandemic presents a growing problem. Africa’s upstream sector is reliant on lengthy and complex supply chains across many countries, providing transmission pathways for the virus.

“Production remains intact for now, but as more restrictions are added on the movement of people and equipment, the harder it will become for producers to maintain production.

“Day-to-day business continuity is becoming increasingly difficult, and the fear is that some projects may eventually grind to a halt.

“At this point though, spending cuts rather than coronavirus will be the main driver of any production declines this year, with the real impact being felt in 2021.”

When prices slump, operators will cut discretionary expenditure at producing fields to protect their cash flows either at an asset level, company level or both.

Anderson said: “The majors, on which Africa depends, have announced sweeping cuts to capital expenditure of 20%-30%. Based on these disclosures and our assessment of key projects, we expect capex cuts in the region of 33% for upstream Africa.”

Producers will defer drilling, sticking only to the highest-ranked opportunities in their portfolios, she said, adding: “Operators will again seek to renegotiate contracts downwards – although there is less wriggle-room than before – and defer any advanced contracts that have not yet been signed off.”

The pandemic may assist deferrals, given physical restrictions on personnel and equipment. Those that have rig contracts could declare force majeure, thus freeing them from penalties.

Anderson said: “We expect less cost stickiness, meaning the cuts will be quick and deep. During the last slump, capex in Africa fell by around 20%. This time we think a third of capex, or around US$10 billion, will be shed across the continent this year.

“Opex will come under the spotlight too, with some operators looking for reductions of as much as 40%. Given the last round of efficiency measures, we think it is doubtful that the same level of cuts can be achieved, particularly at mature offshore fields that require ongoing maintenance and integrity work and lack remote control systems from shore.”

Operators will also look at short run marginal costs, or the price needed for existing production to remain profitable. The majority of fields in Africa are economic at US$40/bbl in 2020. However, there is major uncertainty over where prices will settle.

Production will be more resilient. Combined, the 97 companies that announced new 2020 production guidance expect to produce 1 million barrels of oil equivalent per day (boe/d), an increase of 3% year-on-year. This is a downward revision, although small, from the 4% year-on-year increase initially forecast.

Anderson said: “This of course does not only reflect volumes from Africa, nor will it necessarily happen that way. But it does underline that operators will do everything they can to keep barrels flowing despite the mounting challenges. It also reflects the time it takes for capex cuts to impact production.

“African production was expected to remain steady at around 13 billion boe/d in 2020. In the last price crash in 2014, African production was flat in 2015, with the decline becoming evident in 2016. This time, we expect more immediate and deeper cuts to hit the top line faster.

“Also, we are only through the first quarter, so a dip in African production – perhaps 5% (excluding Libya) – is possible. But if we see more coronavirus force majeure events or if the virus were to spread into field operations and limit the ability of producers to market their crude, there would be further downside risk in 2020.”