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Oil Firms Plot Sharply Divergent Spending Paths

29 Jan 2017 12:00 pm
By Bradley Olson and Sarah Kent 

Big oil companies and smaller U.S. upstarts are plotting sharply divergent paths as they plan spending for 2017 after a modest recovery in crude prices.

While shale oil drillers are boldly raising annual budgets to come roaring back in Texas, New Mexico and North Dakota, international oil giants such as Exxon Mobil Corp., Chevron Corp., Royal Dutch Shell PLC and BP PLC are planning to hold back spending, charting a cautious path to recovery.

The widening gap in plans reflects the different expectations investors have for the companies, and the companies' separate business models, as much as their differing views on risk and the future price of oil. It could have broad implications for global markets, just as analysts expect crude prices to enter into a new, more stable era.

Chevron, which reported fourth-quarter profits of $415 million on Friday, revealed plans to slash spending by about 15% to about $20 billion. French giant Total SA in December told analysts it will spend between $15 billion and $17 billion this year, a slight decline from 2016.

In all, spending at major oil companies is expected to decline by as much as 8% this year, according to consultancy Wood Mackenzie.

A swift return to shale fields could yield enough crude to erase any benefit of an expected production cut agreed to late last year by the Organization of the Petroleum Exporting Countries. Rising costs brought about by a rush to drill would also imperil any recovery.

The major oil companies' caution comes in part from skepticism that oil prices will rebound sufficiently, as well as a corporate structure focused on multibillion-dollar megaprojects that start and stop slowly, and need stability to resume, analysts said.

The companies, which have deepened their borrowing to pay for operations and dividends, are also seeking to show investors that they can reduce debt levels at a price of $50 a barrel. Some believe the rest of the industry should follow suit.

"Many of the biggest companies are recalibrating to live within their means," said Gianna Bern, a former trader for BP who teaches finance at the University of Notre Dame. "The sector became a victim of its own success, bringing about the crash in crude oil prices, so the big players want to avoid doing that again."

So far, investors have responded positively. Big oil share prices are doing better than they have in years. Shell and BP are both trading near levels not seen since 2014, when oil began to plummet. Chevron has risen more than 40% from lows hit last January and Exxon is up about 15%.

But investors have responded even more positively to shale companies. Continental Resources Inc., a company focused on drilling in North Dakota and Oklahoma, has nearly tripled in value over the past year and plans to boost drilling and increase spending by about 75% in 2017. A group of similar companies on the S&P 500 index is up 60% in the last 12 months.

"We are entering a new chapter in oil prices," said John Hess, the chief executive of Hess Corp., which plans to add four rigs in North Dakota this year and sees prices rising due to reduced supply and strong demand. "Our company is extremely well positioned for this improving price environment."

Investors in big oil companies generally look to them for stability and steady dividend payments, while they seek out shale producers for growth. Debt reduction is less of a strategic imperative for the smaller firms, given those different expectations.

North American drilling companies have surged as they lay out plans to add drilling rigs, even though many have yet to show they can post consistent profits. In 2017, exploration and production companies will spend $43 billion more than they receive in cash from operations, according to consulting firm AlixPartners, a cash flow gap that speaks to continued challenges of successful operations at today's oil prices.

Overall, U.S. independent producers could increase investment by more than 25% this year if oil prices remain above $50 a barrel, according to Wood Mackenzie.

That won't be true at Exxon, Chevron, BP and Shell. Exxon leaders, including Rex Tillerson, the former chief executive, have said for months that they don't see prices rising significantly until vast amounts of crude that is being stored for potentially higher prices is brought to market.

Other executives, such as Chevron Chief Executive John Watson, have pushed the company to spend a majority of its funds on developments that will produce cash flow within two years.

BP Chief Executive Bob Dudley has said he is working to ensure his company can meet expenses and pay dividends with cash from operations at $50 to $55 a barrel.

"We'll be very selective," Mr. Dudley said in an interview earlier this month in Davos, Switzerland. "What we don't want to do is lose the discipline we've built in."

BP has said it expects spending to be between $15 billion and $17 billion this year, but leaning more toward the lower half of the range. That is a 30% to 40% drop compared with peak levels in 2013. Shell is planning to spend $25 billion to $30 billion each year until the end of the decade, but for 2017 it is likely to be closer to $25 billion.

Exxon hasn't disclosed specific spending plans for 2017. A spokesman declined to comment in advance of their quarterly earnings Tuesday.

Lower spending levels have sparked some fears among investors and oil analysts of supply shortages in coming years, although some executives have played down that possibility.

Many investors expect the largest oil companies to use any excess cash to pay down debt levels that swelled after oil prices fell from more than $100 in 2014 to below $30 a barrel last year. Such borrowing was one of the reasons ratings firms moved to downgrade the credit of the companies in 2016.

"The big firms will be judicious in making new investments, as they may have a different perspective on how OPEC will respond to the new surge in U.S. activity," said William Arnold, a former banker and Shell executive who teaches at Rice University.

While Chevron has disclosed plans to ramp up drilling in Texas, and the other major oil companies continue to develop robust operations across U.S. shale fields, their predominant focus is in giant, multibillion-dollar projects. That makes it difficult for them to boost output and spending quickly.

So their austerity strategy may be driven as much by necessity than a difference of views on how to respond to slightly higher prices, analysts said.

"The volume of capital individual producers need to go back into a shale field is microscopic compared to what the biggest oil companies need for their large-scale projects," said Stephen Arbogast, director of the Energy Center at the University of North Carolina-Chapel Hill. "They will be less willing to assume the worst is over and that we're back to better days."

Write to Bradley Olson at bradley.olson@wsj.com and Sarah Kent at sarah.kent@wsj.com

(END) Dow Jones Newswires

January 29, 2017 07:00 ET (12:00 GMT)

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