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Is Big Oil Immune To The Coronavirus?

Alex Kimani

With and gas prices remaining stubbornly low despite a flurry of supply chain disruptions that can potentially offer support, there’s seemingly little to cheer about in this market. Oil and gas prices have remained grounded for months now despite long-term U.S. sanctions on oil flows out of Iran, production cuts by OPEC+ and a blockade in Libya with no end in sight--all of which add up to a sizable 6% loss of global supply. 

At the same time, the COVID-19 pandemic has crushed the demand side, with the International Energy Agency (IEA) last month slashing its 2020 oil demand growth forecast by 365,000 bpd to 825,000 bpd. Oil and gas prices have responded strongly to the expected lower demand and not to the supply disruptions--a clear sign that the coronavirus outbreak is far outweighing even unprecedented declines in supply.

Several pundits, however, remain sanguine that Big Oil has got enough gas in the tank to weather the ongoing storm.

A cross-section of analysts believe that the oil majors are in good shape to ride out the short-term impact of the coronavirus outbreak without significant changes to their long-term investment roadmap.

Long-term bullish

In the bulls’ camp is S&P Global Platts Analytics, which has opined that a decrease in oil demand wrought by the coronavirus is unlikely to have a major impact on global E&P spending. Indeed, the research firm notes that U.S. shale production--the biggest source of crude and condensate supply growth in 2020--is unlikely to be affected since most operators have based their 2020 forecasts on an average WTI price of $50/barrel. Similarly, the analysts expect activity in offshore areas including Gulf of Mexico, Guyana, Brazil and in the North Sea to remain unaffected due to the long lead-time nature of such projects.

Interestingly, analysts at Jefferies share more or less a similar view, despite recently throwing in the towel on the sector.

Related: OPEC Slashes Oil Demand Growth Forecast To 480,000 Bpd

"We are at the cash flow neutrality level," Jefferies analyst Jason Gammel has said, adding that while big oil companies will be cautious due to the coronavirus-induced drop in prices, they won't be changing plans. Gammel, however, has cautioned that a prolonged multi-month price fall below $50/b could affect short-term projects--especially shale.

On Wednesday, Jefferies declared, “Energy is the new ’62 Mets,” likening the sector to the worst team in major league baseball history. You can hardly blame them for that take, with the S&P 500 Energy sector being the only sector in U.S. equity markets that’s going through an outright bear market. Dow Jones Market Data shows the sector was down 33.11% from its recent high as of Tuesday, marking the sector’s third worst bear market.

Cash flow crunch

Energy consultancy firm Wood Mackenzie believes that the biggest threat to the oil majors by the coronavirus outbreak is a potential cash flow crunch rather than potential supply chain hiccups. Mackenzie notes that a $10/barrel change in oil prices has a $40 billion impact on global cash flow per quarter for the sector, which potentially means negative cash flows and lower shareholder distributions if commodity prices remain depressed.

However, Evercore ISI and Norwegian energy consultancy, Rystad Energy, are less sanguine.

Evercore analyst James West says that the company’s annual 2020 E&P upstream spending survey found that most upstream operators budgeted at $58/barrel, something the company has labeled ‘disconcerting.’ It certainly appears so considering that it’s well below the current Brent price of $51.31/barrel and also when taking into account that prices have remained below that level for seven straight weeks. On a brighter note, Evercore sees WTI price below $47 (current price at $47.07/barrel) as the tipping point where most E&Ps would reduce their budgets.

Rystad Energy is even more downbeat. The firm sees U.S. shale drillers being hardest hit, especially if the upcoming OPEC and non-OPEC meeting in Vienna fails to yield the desired results. In a chilling note, Rystad sees the COVID-19 outbreak lowering global E&P investments by $30 billion in 2020.

Big oil in good shape

So, what are the oil majors saying about the situation?

Apparently, many remain upbeat and expect little or no changes to their earlier projections.

Related: Has U.S. Electricity Lost Its Spark?

BP is one oil major that appears resilient enough to handle a sharper price fall. The company's new CEO, Bernard Looney, says BP, like many of its peers, has high-graded many of its upstream projects:

"BP is in excellent shape. We have invested a lot of money over the last several years in 35 major projects," Bernard Looney declared in February, adding that 23 of these were now online. CFO Brian Gilvary said sees 2020 breakeven around mid-$50s while Looney says 2021 breakeven will be even lower at around $40/barrel.

ExxonMobil says it’s sticking to its new playbook of investing counter-cyclically and will therefore stick to earlier plans to spend between $33 billion and $35 billion this year. Analysts see the company with cash flow breakevens close to $50/barrel.

Meanwhile, Shell has based its future earnings targets on a rather high Brent oil price of $60/barrel, underpinned by its newer lower-cost upstream oil and gas projects. However, it sees its average upstream breakeven falling to just $30/barrel from about $40/barrel currently.

Total CEO Patrick Pouyanne says production discipline is key with the company echoing the new industry mantra of ‘‘not volume growth but value growth.’’ 

Overall, it appears that long-term investments by the oil majors are unlikely to be affected in a major way unless the outbreak throws a really big curveball. That said, it’s still quite likely that investors will see a new round of dividend cuts or--at the very least--scaling back on buybacks as Mackenzie has warned.

By Alex Kimani for Oilprice.com

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