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Wood Mackenzie: The five main challenges facing oil companies in 2015

January 23, 2015
News
A “true buyers market” could emerge this year with mergers and acquisitions as companies take a long view amidst low oil prices.
 
Analysis by Wood Mackenzie has suggest distressed sales, both asset and corporate, could precipitate the move.
 
The analysis by its corporate upstream research team assessed the five main challenges which face oil companies this year.
 
1. The financial challenge of low prices
 
Lower oil prices pose the biggest threat to oil and gas industry earnings and financial solidity since the financial crash of 2008. Brent is now 50% below the 2014 average of US$99 a barrel ($/bbl).
 
More evidence of how this is affecting performance and strategy will appear in the Q4 results and further pared-back 2015 investment plans. The financial performance in Q1 will deteriorate, as the impact of a full quarter of low price realisations flows through to earnings.
 
Crude hedging programmes will provide temporary protection for some for a quarter or two; as will lagged oil index LNG and European gas contracts which will start to adjust to December/January crude prices by Q3.
 
2. Debt management is a critical priority
 
The fall in revenue for the oil and gas sector will be exacerbated by higher net debt across much of the sector. Total net debt for the 46 IOCs in Wood Mackenzie’s Corporate Service has risen by 20% (US$53 billion) since 2010 (excluding conglomerates).
 
The cost of new capital for smaller companies will rise sharply in 2015. Asset write-downs will lead to higher leverage ratios and increased financial stretch for some companies. Refinancing could prove difficult in certain cases and covenants based on reserves, cash flow and market cap ratios could come into play.
 
3. Intense cost cutting
 
The Oil & Gas industry will plunge into full-on capital discipline after dipping its toes in 2014. We estimate companies need to cut costs by US$170 billion or 37% to maintain net debt at 2014 levels at a Brent oil price of US$60 a barrel. Cuts will be spread across: investment in new projects; exploration budgets; operating costs; and shareholder distributions.
 
In 2013/2014 companies were making strategic choices related to messaging around value versus volume as they tried to increase their appeal to investors; capital discipline in 2015 will be less about choice and more about survival for some players. The effects could last well beyond 2015.
 
4. Potential for a buyers’ market in M&A in 2015
 
Distressed sales – asset and corporate – could precipitate the emergence of a true buyers’ market in 2015. Selling assets into a market with few buyers will be a last resort.
 
Financially strong players will put rationalisation programmes on hold but some companies will find themselves with little choice, unable to achieve the cuts in discretionary spend required to balance the books.
 
Large-scale corporate consolidation is more likely than at any point since the late-1990s. History shows that value creation through M&A is largely driven by commodity prices: for buyers that believe in long-term oil above US$80-90/bbl, 2015 will be a year to go long.
 
5. Is this a golden opportunity for long-term resource capture?
 
It will not be a vintage year for exploration, but a window of opportunity will open to capture high-impact acreage and discovered resource opportunities.
 
Play-opening discoveries will be few and far between as scarcer capital is reallocated towards appraisal and higher returning incremental prospects.
 
Exploration budgets will fall sharply, although lower costs will be an offsetting factor.
 
But a big unknown is how much and for how long costs will fall – many companies will hold fire on expensive frontier drilling in anticipation that lower drilling and appraisal costs could materially improve full cycle economics.
 
The opening up of Mexico will also herald a new wave of resource access and an opportunity for financially strong Majors, Large Caps and NOCs to establish new growth platforms for the next up-cycle.
 
Wood Mackenzie is an energy research company which most recently warned that UKCS spending could slump by nearly half over the next two years.
 
Source: Energy Voice

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