The oil & gas sectors are consolidating the number of players in the market which will make prices go up of course. Read up on the history of the Standard Oil monopoly if you don’t understand that same scam is being played out all over again.
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SEE ALSO: Exxon Sees Abundant Oil & Gas Far Into Future
SEE ALSO: Oil Price Crash Brings Big Profits For Swiss Banks, Investment Corps
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Energy companies investing in one another
HOUSTON, Jan. 5 (UPI) — Merger and acquisition activity in the global energy sector rose 23 percent from 2013 despite investment declines, analysis Monday from IHS finds.Crude oil prices are trading at close to half of their June values, forcing some of the biggest oil and gas companies in the world to reconsider their investment plans for 2015.
Christopher Sheehan, director of merger and acquisition research for the analysis firm, said the steep drop off in crude oil prices in late 2014 nearly brought amalgamations to a halt.
“Buyers and sellers are having difficulty reaching a consensus because of the oil price tumble, which is causing significant uncertainty for the industry,” he said in a statement Monday.
Nevertheless, IHS said companies were robust in their merger and acquisition activity last year, to the tune of $173 billion. That’s in contrast to the previous year, when energy companies were hording cash to develop newly-acquired reserves.
Globally, the industry saw a 4 percent increase in mergers and acquisitions year-on-year, though North America accounted for around 60 percent of the worldwide activity.
Transactions outside North America fell off the map, however, as competing strains of economic sanctions on producing nations like Russia and low crude oil prices take their toll in the investment climate.
Companies carrying significant debt into 2015 could find themselves the target of takeover bids, especially if oil prices stay low during the first half of the year, Sheehan said.
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Cheaper Oil Could Be a Gift for Big Energy Companies – Baron’s
The plunge in crude will force Big Oil to spend more wisely and manage costs better. It could also spur more acquisitions.
If, as Friedrich Nietzsche once mused, what doesn’t kill us makes us stronger, then big oil companies should emerge from oil’s selloff stronger than ever.
We can hear the protests already. Not to state the obvious, but oil companies sell oil, and with crude having lost a quarter of its value since the end of September, companies like Total (ticker: TOT), ExxonMobil (XOM), and BP (BP) will be making a lot less money doing it. No wonder energy companies have tumbled as much as 15% in the past three months.
So how can any of this be good for global energy giants, which we’ll henceforth refer to as Big Oil? By forcing them to change the way they do business. For years, $100 oil masked the fact that Big Oil has been spending gobs of cash to generate lower returns, all while keeping investors happy with big dividends. Lower oil prices will force them to run leaner and more efficiently, and they just might be able to take advantage of turmoil among smaller players by making some smart acquisitions, too.
Let’s get one thing straight: The convulsions in the oil patch are far from over. Earnings estimates for Big Oil companies have been slashed: Chevron (CVX), Statoil (STO), and ConocoPhillips (COP) are now expected to make at least 10% less than just four weeks ago, and estimates will continue to fall as analysts account for oil prices staying lower for longer. Some oil companies—we’re looking at you, Chevron—will likely be forced to cut back on the number of shares they repurchase. Prices will stay volatile.
Yet, there is also a bright side to this turn of events. Even before oil’s plunge, the integrated oil companies were struggling to compete with more nimble rivals. Consider Big Oil’s return on equity, a measure of how well companies turn profit into more profit. Three years ago, companies such as ExxonMobil, Chevron, and ConocoPhillips had ROEs near 20%. Citigroup analyst Alastair Syme thinks that ROEs could fall to as low as 7% in 2015, a level last hit in oil plunges in 1998 and 2008.
The way to solve this problem is by controlling costs, which Big Oil hasn’t always done. Some cost savings will come through better execution on spending, and some, through cost-cutting along the supply chain. Big Oil will also get a boost, ironically, from the falling price of oil itself. Syme estimates that oil consumption is about 14% of costs, so with oil’s deep dive, industry costs have already dropped by about 3%. All told, he believes Big Oil can cut costs by as much as 15%, which would turn into a two-percentage-point increase in ROE, even if oil stays near $70.
Oil companies have to want to make those cuts—and that’s where their dividends come in. Take ConocoPhillips. Right now, it is expected to produce $13.4 billion of cash flow in 2015, not enough to cover capital spending of $15.6 billion and a $4 billion dividend. Something’s gotta give, and with CEO Ryan Lance calling the dividend “our top priority” in an Oct. 30 conference call, it’s not going to be the payout. “Part by accident, part by design, ConocoPhillips is forced to prioritize the dividend and act with aggressive capex discipline,” says Wolfe Research analyst Paul Sankey. The good news is that volume has been rising, and capital spending looks to have peaked, so it might not be the worst thing in the world for Conoco—or its investors. Sankey thinks Conoco could hit $80, up 18% from Friday’s close.
THE PROCESS MIGHT BE PAINFUL but not nearly as injurious as it would be for smaller energy companies. The debt of junk-rated energy firms has dropped more than 10% in price in the past three months, a sign investors are starting to worry about the companies’ viability. Their pain, however, could provide the solution to one of Big Oil’s biggest problems: finding new sources of crude. One of the reasons Big Oil has struggled with costs is that companies have had to make do with finding crude in hard-to-reach places, while smaller explorers have reaped the profits from the U.S. shale revolution in the Texas-New Mexico Permian Basin or in Montana and North Dakota’s Bakken. But with prices falling and production curtailed, smaller companies could become acquisition targets, especially now that they’ve lost more than 40% of their value in the past three months. Some could even be forced to dump assets at fire-sale prices. The upshot: “Big Oil could add high-quality acreage in the Permian or Bakken,” says Morningstar analyst Allen Good.
None of this will matter if valuations don’t look compelling, but the selloff has left most Big Oil companies at attractive prices. Nearly all are trading below fair value, according to Morningstar’s discounted-cash-flow analysis, while some look downright cheap. Good says BP looks particularly attractive: It trades at just 10.4 times 2015 earnings estimates, and near book value. The low valuation is partly deserved: BP owns 20% of Russia’s Rosneft, and has legal troubles of its own due to the Macondo oil spill—but most of that is reflected in its price,” he says. If BP avails itself of opportunities created by the drop in oil, all the better.
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Right now the oil market is totally focused on finding a bottom for oil prices. However, according to OPEC’s Secretary-General Abdulla al-Badri we’ve already hit bottom. Not only that, but he sees a real possibility that oil prices could explode higher to upwards of $200 per barrel in the future. He’s far from the only one that sees a return of triple-digit oil prices.
Finding a bottom
According to the Secretary-General, speaking in London on Jan. 26, the oil market doesn’t need to look for oil prices to bottom as the market has already bottomed. Instead, he offered quite bullish comments by saying, “Now the prices are around $45-$55, and I think maybe they [have] reached the bottom and we [will] see some rebound very soon.” Now, normally that type of remark would be just another layer of noise, but this is coming from OPEC’s Secretary-General so it comes with a lot of weight behind it.
That said, he’s not saying that OPEC will come in and rescue the oil market by reversing its previous decision to hold steady on production. Instead, he sees the signs that the oil market is self-correcting as oil companies have made deep cuts to spending, which will eventually lead to lower production growth. Further, the rig count in the U.S. is plunging, which is usually a key to a bottom in oil prices. However, in the midst of cutting back as the industry works through the current oversupply the Secretary-General is now warning that the industry is putting future oil supplies at risk by under investing today.
Underinvestment leads to a shortage
The Secretary-General said that, “if you don’t invest in oil and gas, you will see more than $200” when it comes to future oil prices. While he didn’t give a timeframe, he did note the correlation between investment and future production. This is because oil production naturally declines and oil companies need to invest in new production to not only replace this decline in production from legacy oil fields but to add new production to meet growing demand. However, oil companies are reluctant to invest in new production as their cash flows decline.
Over time this could become a problem as oil fields around the world naturally decline by an average of about 5% per year. In order to overcome this decline oil companies need to develop about 200 billion barrels of oil supplies over the next decade and a half just to meet demand.
These supplies will require the industry to invest $7-$10 trillion. However, with the big capital budget reductions oil companies have announced this year it could make it harder for the industry to meet future supply needs. In fact, the industry might defer up to $150 billion oil projects this year due to the collapse in crude prices. Many of these investments, however, wouldn’t have yielded actual production for a couple of years due to the long lead time of major projects.
As an example, Chevron delivered first oil on two of its Gulf of Mexico projects late last year after beginning construction on the fields in 2011. Meanwhile, another $6 billion project it just sanctioned at the end of last year won’t produce any oil until 2018. It’s these long lead time projects that are being delayed, which is setting the world up for higher oil prices in the future as an under investment today has the potential to lead to a constriction in future supplies.
Investor takeaway
OPEC’s Secretary-General is calling the bottom in oil prices. While he’s not the first to call a bottom, he does lead the organization that currently controls the oil market so his comments do have a lot of weight. Further, he’s also suggesting that the cuts that oil companies are making could have a dramatic impact on future oil prices as the under investment has the potential to cause oil prices to rocket higher if demand grows faster than future supplies. That, however, would all be part of OPEC’s plan as it purposely pushed for lower oil prices now so it could control market share once oil prices surged in the future. It’s willing to endure short-term pain for the potential of a big long-term gain.
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