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The most important economic issue right now: Morning Brief



Bloomberg

Big Oil is looking for a career change

(Bloomberg) – For most of the last century, Big Oil executives found it pretty easy to explain to investors how their business worked. Just find more of the raw materials that everyone needed, unpack and process them as cheaply as possible and watch the profits flow. It is now. The change has been so profound that the CEO of BP Plc recently found himself hyping the profit potential of another item. “People may not know it ̵

1; BP sells coffee. We sold 150 million cups of coffee last year, ”Bernard Looney said in an August interview, referring to beverage kiosks attached to the company’s gas stations. “This is a very strong business. It is a growth company. “Perhaps it was a tongue-in-cheek, or a way for the leader of the world’s fifth largest international oil company to emphasize a relationship with consumers. But it is clear Looney and other oil bosses are struggling to sell their plans for a future where the world wants more green energy. Last year, for the first time in history, solar and wind made up most of the world’s new power sources, according to BloombergNEF. If the margins on cappuccinos look good right now, it’s an indication of how difficult it will be for Big Oil to quickly drop its winning formula for drilling, pumping and refining while using its path into renewable energy. “This is a time of energy transition,” says Daniel Yergin, oil historian and vice president of consultant IHS Markit Ltd. The super killers were born of the trauma of the late 1990s, ”he notes, and now“ this global trauma of the pandemic will also be a crucial period. “Older energy companies are outlining for the first time new strategies that in the near future – as soon as 2030 – in some cases – would eliminate hydrocarbons. The industry wants everyone to think it’s turning its back on fossil fuels for the benefit of the planet. However, after decades of denying its role in global warming, the reality is that Big Oil has been forced to change by green campaigns, local politicians and pension funds. The green transition is more evident in Europe, but the same forces are hammering industry in the United States In another unmistakable sign of the times, Exxon Mobil Corp. last month fell from the Dow Jones Industrial Average for the first time since 1928. In the S&P 500, the energy sector is now the smallest component. (The mostly state-owned oil fighters in the Middle East, India, and China are continuing at least for the time being pretty much as before.) What is the future of Big Oil without oil? At the far end of this approach are the courses outlined by BP and the Italian oil group Eni SpA. These companies claim that in the next decade they will look like a cross between a slimmer version of a traditional oil company and what today is more like a utility program (with yes, a coffee-selling grocery chain for electric car drivers). As the older business disappears, the theory goes, investments in renewable electricity, biofuels and electricity charging points will pay off. If the biggest names in the industry were previously known as “international oil companies”, the new jargon describes this approach. such as creating “integrated energy companies.” Michele Della Vigna, the chief oil industry analyst at Goldman Sachs Group Inc., expects to see oil giants attempt the same all-in strategy as before. “We believe the next decade will see them integrate vertically into gas, already clearly and by power,” he says. Industry leaders insist their legacy business is resilient, even when switching away from oil and natural gas, but their actions suggest otherwise. BP and Royal Dutch Shell Plc have already cut their dividends – for Shell it was the first time in almost 80 years. Returning profits to shareholders has long been a pillar of oil’s strength in the financial markets. And those like Exxon , which keeps their shareholder payments untouched, takes on far more debt to do so. some in the industry now fear, the most expensive and polluting oil fields such as tar sands in canada can never be developed.The art of these uneconomical oil resources ourcer are stranded assets. The consultants at Rystad Energy AS estimate that 10% of the world’s recyclable oil resources – around 125 billion barrels – may become obsolete. Put it all together, and tomorrow’s not so big oil looks greener, smaller and more agile – and also less profitable, more indebted and pays lower dividends. It spells the end of a business model that has not changed much since it became groundbreaking by John Rockefeller: Integrate oil production with refining and market it under a single umbrella. This formula built an industry that enabled the car culture of the 20th century, reshaped cities, produced political dynasties, and defined modern life. With hydrocarbons occupying a central role in the global economy, the model became an ATM and a treasure trove of long-time only shareholders who loved its fat and predictable dividends. Oil interests became a strong political force. The model was sustainable enough to survive the oil crisis of the 1970s, the rise of OPEC, wars in the Middle East, and the emergence of the ecological movement in the 1980s. When crude prices plummeted in 1998 and oil fighters appeared on the brink, the industry reacted in a genuine way: doubling oil in a series of mergers that created the modern oil industry. The five companies that have dominated since then – Exxon, Chevron, Shell, Total and BP – have done about the same things as their predecessors did decades earlier. This time is different. The existential crisis of the 90s taught Big Oil how to do the same, but better and cheaper. In the 2020s, these companies are trying to figure out how to do something completely different – renewable energy – while rapidly reducing or offsetting emissions from the oil and gas they sell. “All companies swim in the same water with energy conversion,” says Yergin, “but they take different strokes to get to the other side.” The response from BP is far more radical than from Chevron. But even the smaller steps of American supermen are remarkable by the standards of a conservative and slow-moving industry. Chevron’s last update to shareholders in July highlighted an oil project, a deal to buy fuel stations and investment in solar energy. It looks like the end of an age, which also means “the profitability of the past is no longer a guide to the future,” says Martijn Rats, who covers the energy industry at Morgan Stanley. The write-downs and reduced dividends demonstrate “that the oil companies have entered a new phase.” Many are skeptical of the green drive in this new phase. BP promised to move “Beyond Petroleum” in the 90s, only to return to normal when prices rose to more than $ 100 a barrel in 2008. If crude and natural gas prices rise again, these skeptics say, Big Oil will go back to the basics – Maybe even under pressure from shareholders. The difference this time is that most top oil executives are adamant that there is no going back. “Our transformation is irreversible,” says Claudio Descalzi, CEO of Eni, the kind of comment that is widely repeated by his peers. Most executives simply do not believe that hydrocarbon prices will ever return to the above $ 100 per tonne. Barrel days in any sustained period. And the social and investor pressures to tackle climate change are unlikely to abate, and so is oil consumption. In BP’s long-term energy forecasts, released on September 14, the company acknowledged that the appetite for refined crude oil has almost peaked. “Demand for oil will fall over the next 30 years,” BP wrote in its report. “The scale and pace of this decline is driven by the increasing efficiency and electrification of road transport.” That’s why most of the industry – including Chevron – spends billions of dollars on renewable electricity generation, especially investments in solar and wind power. BP has promised to produce 50 gigawatts of renewable electricity by 2030, up from 2.5 GW now. Achieving this goal would mark a huge shift; it is more than the sustained output of some large utilities today. But it’s still a drop in BP’s hydrocarbon bucket, even if that bucket shrinks. In 2019, BP’s oil and gas production amounted to 2.6 million barrels per day. By 2030, the company has told investors that daily oil and gas production will drop to 1.5 million barrels. Renewable energy will not fill the gap after the missing millions of barrels. The question is whether Big Oil can deliver on one of its promises and make money on it. Paul Sankey, a veteran oil analyst, is in doubt about the supermaker’s ability to rebuild. outside their traditional business. “If they can not achieve returns in their core competencies, what chance do they have in a new competition?” he says. The new areas that are supposed to be the heart of Big Oil’s future are, at least today, less profitable than the fossil fuel business. Renewable energy usually delivers a return on capital, a typical measure of profitability, of approx. 8% to 10%. A conventional oil project gives a return of approx. 15%. One way to generate higher returns is by taking on more debt, something companies seem to be open to. Supermajors also face strong competition from established companies that have already mastered renewable energy business, including e.g. The Italian utility Enel SpA or its Spanish rival Iberdrola SA. The strategy shift begs a question for investors: Why pour money on older players trying to prove a new concept rather than back a tool that is already making money in the sector? Take an example: Enel today pays a dividend of 4.6% – almost the same as Shell’s 4.3%. Supermajors have some advantages when moving into greener sources. One is the size of their balance sheet, which allows them to invest more and faster than many of the renewable players. Another is that they can learn from the mistakes that others made before them. In theory, oil fighters are also well-suited to manage large projects, and green projects can help older giants, because renewable energy is surprisingly the more stable sector. “Volatility is lower compared to the oil and gas sector and thus more stable,” says Atul Arya, a consultant who previously worked at BP in business strategy. Ultimately, the less profitable stability from solar and wind resources matters. Because even the oil giants who are most committed to getting green, they will not soon end their long farewell with oil and gas. Supermajors will at least be dependent on fossil fuels for the next 10 to 20 years to generate enough cash to keep shareholders happy and have some money left to invest in clean energy projects. And maybe, as Looney from BP says, in more coffee too. For more similar articles, visit us at bloomberg.com Sign up now to stay ahead of the most trusted business news source. © 2020 Bloomberg LP


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