The world’s biggest oil companies called the end of the downturn with the pretty good profits they reported for the first quarter this year. As the earnings season for the second quarter begins, Big Oil will update shareholders and analysts on how they plan to spend the extra cash they will have reaped thanks to the higher oil prices.
Capital allocation discipline continues to be the key theme on both investors’ and CEOs’ minds. So the major oil companies now have to strike a delicate balance between keeping the shareholders who have stuck with them through thick and thin happy, and investing in growth to replenish their oil reserves.
A year or two ago, the main theme for both shareholders and oil firms was to keep dividends sustainable amid the oil price crash. Now shareholders want more than dividends—they want returns on top of the dividends. Some companies have already announced buybacks, and some others may announce share repurchases when they start reporting Q2 financials this week.
Shell, Total, Equinor, and Repsol report second-quarter earnings on Thursday. Eni and the two U.S. majors—ExxonMobil and Chevron—report on Friday, while BP will be wrapping up Big Oil’s earnings season next Tuesday.
Those eight major firms, plus Portugal’s Galp Energia SGPS, are expected to have a combined US$8 billion of extra cash in Q2 even after share buybacks, according to estimates by RBC Capital Markets. Related: Oil Markets Stabilize On Major Crude Draw
The current oil price at around $70 is a sweet spot for the majors and a good opportunity to return cash to shareholders, Phil Gresh, a JPMorgan equity analyst who covers the integrated oils and refining sector, told Bloomberg this week.
Oil at $70 is comfortably above the average $50 a barrel needed to cover dividends, and below the $80 that could start hurting oil demand, according to Gresh.
Investors should be looking for companies announcing growth per share on a free cash flow basis, instead of focusing on production growth or just higher profit figures, the JPMorgan analyst says. Putting all cash into buybacks is not the answer for oil majors, but putting 100 percent of extra cash into growth isn’t either, Gresh said.
JPMorgan expects that Chevron—its top pick—could potentially announce a buyback when it reports Q2 figures, while Exxon is not expected to do so.
Although oil stocks haven’t rallied in lockstep with oil prices in recent months, the companies with buybacks and ‘shareholder-friendly’ moves have significantly outperformed the others, Gresh reckons.
The five biggest integrated oil companies—ExxonMobil, Chevron, Shell, Total, and BP—are poised to reap the benefits of the higher oil prices, Moody’s said in a report this week.
“The five major oil companies’ principal business risk is oil and gas price volatility, and they proved their fundamental strength though the depths of the oil price crash,” Pete Speer, a Moody’s Senior Vice President, said.
Moody’s expects those companies to announce a 5-percent annual increase in total capital spending in 2019. At the same time, the higher oil prices have allowed them to fully fund capital expenditures and dividends with operating cash flow, the rating agency said.
According to Wood Mackenzie, the oil majors are set to achieve cash flow neutrality at an average of $55 a barrel oil in 2018 after dividends and buybacks. Although profit margins grow, Big Oil will stick to capital discipline, and revisions on capital budgets are more likely to be downwards rather than upwards, according to the analysts. Reducing gearing—the debt-to-equity ratio—will continue to be a key priority for Shell, BP, and Equinor, and less of a concern for Exxon, Chevron, Eni, and Total, which reported gearing below 20 percent at end-Q1, WoodMac says.
With capital allocation discipline still a top priority for Big Oil—except for Exxon which is raising capex to boost earnings in all segments—the world’s biggest oil firms now face the after-the-downturn dilemma: how to spend the cash the right way so as to keep shareholders happy and at the same time position themselves for growth amid the ‘energy transition’ and ‘peak oil demand’ narratives.
By Tsvetana Paraskova for Oilprice.com
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