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5 May 2022

Big oil refuses new investments despite windfall quarter

It’s been another bumper quarter for Big Oil. Demand for non-Russian oil has skyrocketed, bringing prices with it in tandem. The glut of cash found in the accounts of these fossil fuel companies, however, is not being spent on investment in new oil and gas. Nor is it being spent on clean energy investment either. Instead, the companies are looking to recover shareholder sentiment, with buybacks and dividends hoping to distract from their woeful performance through Covid-19 and the prospects of peak oil ahead.

The first three months of 2022 saw ExxonMobil post profits of $5.5 billion, dented only by a $3.4 billion write-down of its Russian assets. If you ignore this impairment, the quarter marks one of the company’s best ever. In fact, Chevron – ExxonMobil’s largest domestic rival – reported its most profitable quarter since 2012, with a net income of $6.3 billion.

In Europe the story is much the same. TotalEnergies recorded an impairment of $4.1 billion, partially related to its Arctic LNG 2 project in Russia, while still pulling in a quarterly profit of $4.9 billion. BP’s profits smashed analyst estimates of $4.5 billion, rising to $6.2 billion for the three-month period.

The US’ ConocoPhillips and the UK’s Shell are both due to publish their results on Thursday and more of the same is expected.

The performance is a stark turnaround from the turmoil these companies faced through Covid-19. Similar write-downs back then were not offset by oil prices, which at times dipped into the negative. Today, as the global economy continues to recover from the pandemic and steps away from the use of Russian supplies amid the country’s invasion of Ukraine, the price for brent crude sits comfortably above $100 per barrel.

Having mostly unloaded their Russian assets, the western majors are well placed to capitalize on this. Furthermore, having spent much of the pandemic reducing their breakeven price for oil by focusing on lower-cost assets, the margins for producers are now often over 100%. The average breakeven price dropped by 8% to around $47 per barrel in 2021, down 40% since 2014.

Through yet another period of exceptional volatility in the oil market, companies with in-house trading segments have also experienced “exceptional” performances, according to BP. It is, however, hard to see just how exceptional these figures are. Shell, BP and Total do not publish figures from these segments explicitly; for BP, oil trading belongs to the ‘refining’ division and gas trading to ‘production.’

Once again, this quarter, all majors have been more than happy to call ‘force majeure’ and write down assets. BP will write down as much as $24 billion as it offloads its 20% stake in Russan oil giant Rosneft, followed by Shell ($5 billion), TotalEnergies ($4 billion), and ExxonMobil ($3.4 billion), which are all abandoning their Russian businesses.

While write-downs can often ring alarm bells, the ‘solidarity’ that the oil majors are showing with Ukraine makes these impairments excusable. In fact, at today’s elevated price for oil, the value they can place on these assets is likely an overestimate, meaning that if these assets are ever recovered, there will be a significant upside on the oil majors’ balance sheets.

Sitting on piles of cash, big oil is now faced with an interesting decision. Does it use this cash to transform – as it has promised – to a new business model focused on clean energy? Or does it capitalize on this newfound need to replace Russian oil, reduce prices at the pump, and continue with business as usual by investing in new oil and gas?

While there are murmurings of both – BP, for example, promised a ‘real push’ of $23 billion into North Sea oil to fend off a windfall tax from the UK government – the general consensus is to do neither.

Instead, they remain determined to cling onto the shareholders that didn’t jump ship during the pandemic, when the sector saw shares drop by over 50%. Following its results announcement, ExxonMobil said that it would triple its share buyback program to $30 billion through 2023. Chevron will double its own buyback scheme to around $10 billion per year. This comes following a three-month period where the pair collectively generated $17 billion in free cash flow, but invested just $6.9 billion in their futures.

BP also said it would increase its quarterly share repurchases to $2.5 billion before the end of the Q2, after its surplus cash flow rose to more than $4 billion, building on the $1.5 billion per quarter it pledged back in February. TotalEnergies said it would now buy back up to $2 billion of its own shares by the end of June, after repurchasing $1 billion during the first quarter.

Big Oil is confused over how to win new investors through radical reform to its business – the last thing it wants is to scare off existing investors that are ‘sure’ that oil will be with us through to 2050 (it won’t). They are now almost rebranding as a financial instrument, pulling in new investors through reduced spending, slashed debt, but with solid and consistent payouts.

This has been the tactic over the past year, and big oil has experienced a solid amount of success – ExxonMobil’s stock has rallied by 37% and is nearing a four-year high.

This will make buying back shares more expensive, especially given the premium that the company will have to pay. Investor confidence will rise, but not if the companies fail to build a business that they can sustainably operate and grow through the energy transition.

Another issue with this strategy is the frustration it is causing within governments across the world. With high prices for oil and gas wreaking economic havoc, and with big oil holding its purse strings tightly, calls are growing for them to be hit with ‘windfall’ taxes to help offset the rising cost of living. Italy’s €14 billion economic stimulus will be partially funded by a new windfall tax on energy company profits, while the UK government is under increasing pressure to do the same.

As popular as they may be with the public, and despite the success seen with the UK’s tax on privatized utilities, windfall taxes do not provide a sustainable option to guiding an energy transition. While companies continue to prioritize the short-term financial wellbeing of their investors over long-term transition plans, it would simply mean that the rate at which they address their finances will be slower. As would the company’s shift towards renewables if the company cannot strengthen its position to secure investment in projects that have had a lower margin than those in their heyday.

The UK needs something that can do three things at once. First and foremost, it needs to reduce the cost of energy for consumers, without hindering any investment prospects from the company’s transition to clean energy. It also needs to do this without increasing demand for fossil fuels.

There are several approaches Chancellor Rishi Sunak could take here. He could decrease the number of carbon allowances that are available in the UK each year, elevating their price, and using that price to offset energy bills. He could also reintroduce subsidies and incentives for rooftop solar and residential batteries that would offset the high prices of gas-based grid power for consumers. The easiest wins, however, as we have said before, would be direct investment in immediate onshore wind projects and insulation initiatives.