By Sarah Kent And Erin Ailworth
LONDON--The world's biggest oil company's have vowed to bring
down the costs of big projects in the face of slumping oil prices,
but the unrelenting price weakness--with crude below $50 a
barrel--suggests they could have to dig deeper still.
In the past year, as oil prices plunged 60% from highs of $114
in 2014, U.K. energy giant BP PLC began testing new projects for
profitability around $60 a barrel, down from $80 a barrel last
year. Its Anglo-Dutch rival Royal Dutch Shell is testing projects
at prices as low as $50 a barrel, though its overall price outlook
is between $70 and $110 a barrel.
Total SA of France said this year it had cut its break-even oil
price by more than a third, to $70 a barrel from $110 last
year.
Under other circumstances, those would seem like draconian cuts.
Billions of dollars less is being spent on everything from
exploration and project engineering to construction equipment and
drill rigs.
But last week, when all of the world's biggest oil companies
reported quarterly earnings far lower than last year's, and a loss
in BP's case, chief executives said they would keep the pressure on
spending as oil traded below even their new price assumptions.
Some, such as Shell and Chevron Corp., announced layoffs.
"We don't have a crystal ball but we are planning for a
prolonged downturn," Shell CEO Ben van Beurden told reporters last
week, when the company said it would shave 6,500 jobs. "Let me
assure you we have further levers available if macroeconomic
conditions deteriorate further."
Brent crude, the international price benchmark, was hovering
just above $50 on Tuesday, after crashing below that level earlier
on. West Texas Intermediate, the benchmark for U.S. crude, has been
below $50 for nearly two weeks.
Focusing on lower-cost projects with higher returns will help to
some extent, but companies are also relying on cost deflation for
everything from drill rigs to pipelines, improved efficiency and
increased standardization to help manage the lower price
environment.
"They are bringing down their costs both operationally and also
in terms of capex, but it's probably not going to be enough," said
Roberto Cominotto, investment manager at Swiss investor GAM,
highlighting the need for a structural shift in the way big oil
companies operate after years of diminishing returns as production
costs crept higher.
The recent decline in oil prices reversed a rebound in the
second quarter that gave oil investors and executives a glimmer of
hope after a price crash that began last year brought oil to less
than $50 a barrel. It had traded at around $100 a barrel for three
years, a historically high level. At current prices, the world's
biggest oil companies can't afford to cover their costs for pumping
crude and pay their shareholders' dividends from the cash they
generate.
Though prices are widely expected to rebound over the coming
years, and oil companies tend to take a long-term view rather than
focus on day-to-day changes in the market, the current weak prices
illustrates the risk that the market could remain under pressure
for longer than anticipated, driving prolonged pain and the need
for more stringent action among Shell and BP in Europe and American
giants such as Chevron and Exxon Mobil Corp. Their focus remains on
driving down capital expenditure and continuing to reduce costs,
the benefits of which oil companies say could begin to show through
by the end of this year.
In the U.S., energy producers have proven more resilient than
expected, finding ways to lower drilling costs even as they have
reworked hedge programs and issued equity to bolster their balance
sheets. But pressure is mounting.
As hedges--the financial contracts that buffered companies from
falling prices--begin to expire this fall, companies may need to
cut their spending again to deal with sub-$50 oil, analysts say,
and likely would find it more difficult to snag a lifeline from
lenders.
What the industry really needs is a shakeout, said David
Tameron, an analyst at Wells Fargo Securities. Too many energy
companies, particularly in the bottom tier, have been able to hang
on through the downturn with the help of financial backers.
"You need that wash out," Mr. Tameron said. "You need some
producers to go away."
Even with a partial rebound, some aren't sure that will be
enough to prompt companies to ramp back up.
"I'm not sure we as a company--and I don't believe we as an
industry--are anywhere close to the types of margin improvements
that are need before we go back into growth mode," Al Walker, chief
executive of Anadarko Petroleum Corp. in Texas, told analysts last
week.
The prospect of tougher cuts down the line is a sign that the
severity of the situation is dawning on the industry.
"Although they're still not willing to abandon their rosy
forecasts, at least they are addressing the near term situation
that we have to do something now and not wait for oil prices to
recover," Oppenheimer & Co. analyst Fadel Gheit said of the
major oil companies.
He said it won't be easy. "It's a monumental challenge to offset
the impact of a 50% drop in oil price," said Mr. Gheit. "The
priorities have shifted completely. The priority now is to
discontinue budget spending. The priority is to live within your
means. Forget about growth. They are now in survival mode."
Write to Sarah Kent at sarah.kent@wsj.com
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