Price rout throws oil majors' spending plans into doubt

Oil majors will be under pressure to slash their investment plans and cut shareholder payouts this year as oil prices tumbled to multi-year lows Monday after Saudi Arabia launched a new gambit for market share in the wake of the OPEC+ deal breaking down.

Share prices of global oil companies slumped by over 20% at market open Monday in response to ICE Brent crude futures collapsing more than 30%. Front-month Brent, which had already shed over 25% in value since late January, dived amid expectations of a price war for market share after Saudi Arabia slashed the price of its crudes over the weekend.

Brent crude is now expected to average just $33/b during the last nine months of 2020, Goldman Sachs said at the weekend, well below the current cash flow breakeven levels of about $50/b for most major oil producers.

Unless Saudi Arabia and Russia can reach a new deal to rein in the increase in the production surplus caused by the coronavirus outbreak, Brent is set to average $52.50/b next year, the bank said.

As markets rebalance to cheaper oil, producers will first enter a "survival phase," where large producers cut investment spending before later undertaking broader capital restructuring, including shuttering of some low-margin assets, Goldman said.

"Such price levels will start creating acute financial stress and declining production from shale as well as other high-cost producers. Specifically, we assume legacy production decline rates outside of core-OPEC, Russia and shale increase by 3% to 5% to return to their 2016 highs," Goldman said in a note.

BP and Shell declined to comment on the impact of the current oil price slump on their strategic goals and planning and Total did not respond to request for comment.

BP has said its cash-flow breakeven this year is around the mid-$50s while Shell has based its future cash flow targets on a Brent oil price of $60/b.

CASH FLOW SQUEEZE

Even before Monday's price rout, market watchers predicted that oil and natural gas companies would need to scale back their investment budgets as the spread of the coronavirus outbreak saps global oil demand. Norwegian consultancy Rystad Energy has forecast the outbreak could result in global upstream investment falling by around $30 billion in 2020.

Consultants Wood Mackenzie said Monday the oil price rout could trigger a major industry shake-up, with '"brutal" cost-cutting ahead if Brent stays below $40/b.

"Discretionary spend would be slashed, including buybacks and exploration. But given the lack of excess in the system, the cuts to development activity will be necessarily fast and brutal," Wood Mac's head of upstream analysis Fraser McKay said. "Unsanctioned conventional projects will also be delayed, and in-fill, maintenance and other spend categories scaled-back."

At $35/b Brent for the rest of the year, Wood Mac calculates that up to $380 billion of oil industry cash flow would disappear, an 80% drop relative to a continuation of the $60/b it has averaged year-to-date.

While potentially devastating for cash flow, it is not always easy to draw a line between lower prices and spending cutbacks by oil majors. Cash cost analysis, for instance, ignores the cost of shutting in and restarting assets, according to UBS, with price elasticity in oil supply still low even in the age of shale.

"We see historic precedent as a decent guide which suggests $30/b or below before someone blinks - well below cash neutrality of the Integrated sector which is typically between $50-$60/b," UBS' Jon Rigby said in a note Monday.

In the meantime, oil producers will see the price slump as a trigger to double down on efforts to boost efficiencies and lower project breakevens in order to protect their dividends, UBS believes.

SHALE ON THE EDGE

In the US, Chevron's and ConocoPhillips' balance sheets enable them can handle Brent prices of around $50/b over 2020-2022 for cash-flow breakeven, according to Goldman. ExxonMobil, however, needs around $79/b Brent to pay for its dividends and meet capex for 2020-2022, according to the bank.

"Depending on the duration of the crude downcycle, which will be a function of both OPEC+ behavior and demand, we could see Chevron and Conoco taper their buyback program and Exxon slow down its capital spend and dividend growth," the bank said Monday.

With Russia widely seen as keen to hit the US shale sector and regain market share in a politically-motivated pushback against US sanctions, lower oil prices will be a key test for US producers.

"At a time when US shale players face recurring negative free cash flow generation, high accumulated leverage, tighter capital access, stalling productivity and accelerated decline rates which are all forcing shale companies to scale back their expansion plans, a price war may thus push these producers already at risk of bankruptcy over the edge," Japan's MUFG bank said in a note.

The breakeven price for new shale wells in the US ranges from $48/b in the Permian Midland to $53/b in Oklahoma's SCOOP/STACK areas, according to Goldman, which is predicting only a minor US shale supply response in the second quarter of 2020 to current prices. It sees production falling in the third quarter of 2020 by 75,000 b/d and declines increasing to 250,000 b/d in the final three months of the year.