Europe's biggest oil companies bracing for prolonged downturn

A general view shows the French oil giant Total refinery of Donges, western France, on Oct 26, 2015. PHOTO: REUTERS

LONDON (BLOOMBERG) - For Europe's biggest oil companies, US$60 is the magic number.

BP, one of the first companies to predict a prolonged price downturn, has "reset" its business to generate surplus cash flow with oil at about US$60 a barrel by 2017. It joins Total, which last month unveiled investment cutbacks and project delays that will enable it to fund dividend payouts in the same circumstances without the need to borrow.

A year after oil sank into a bear market, the industry is preparing for an extended downturn, with drillers slashing investments in exploration and production by a record 20 per cent this year, according to International Energy Agency.

With third-quarter earnings season barely under way, producers in the US have already written down the value of their assets by US$6.5 billion.

BP's Chief Financial Officer Brian Gilvary doesn't expect a recovery in prices until late 2016.

"For the next nine months, I can't see any up move," Mr Gilvary said in an interview on Tuesday (Oct 27). "We're in the process of resetting the company. Fortunately, we had a sense that the oil price is going to go low sooner than most people anticipated."

BP, Europe's third-largest oil company, said Tuesday it will cut capital spending to about US$19 billion this year after investing roughly US$23 billion in 2014. Annual spending will remain curtailed at US$17 billion to US$19 billion to 2017, the company said as it reported a 40 per cent drop in third-quarter profit.

Total, Europe's No 2, has similar plans, trimming investment to US$20 billion to US$21 billion in 2016 from as much as US$24 billion this year, the company said at its annual strategy update last month. Like BP, it plans annual capital spending of US$17 billion to US$19 billion in 2017, down from a previous target of US$20 billion.

The cuts are intended to keep the companies' dividends safe.

In the first nine months of this year, with Brent crude averaging about US$56, BP's cash flow from operations and asset sales totaled US$16.9 billion, not enough to cover US$18.5 billion in capital expenditure and dividend payouts, according to the company. If oil recovers to around US$60 in two years, the companies say they will have sufficient cash flow to maintain payouts to shareholders while still investing in new projects for the future.

"Total first and now it's BP," said Alexandre Andlauer, a Paris-based oil sector analyst with AlphaValue SAS. "The aggressive cost cutting is laying the road towards that target. Maybe there's more to come with more companies announcing earnings later this week."

Norway's Statoil reports third-quarter earnings on Wednesday, while Royal Dutch Shell, Total and Italy's Eni follow on Thursday.

Shell is already planning for a long stretch of low prices, chief executive officer Ben Van Beurden said this month. While there may be "the first mixed signs for recovery," the resilience of the US shale industry and ample crude stockpiles suggest it'll take time to rebalance demand and supply, he said.

Brent crude has dropped 45 per cent in the past year due to a global supply surplus caused in part by rising output from US shale producers. The price averaged US$51.30 in the third quarter, the lowest since 2009. The international benchmark will rise to US$63.73 in 2017, according to analyst estimates compiled by Bloomberg.

To be sure, BP and its peers may not be done swinging the axe.

There's no guarantee that oil will rebound to US$60 by 2017. The supply surplus is bigger than initially anticipated and crude could fall as low as US$20 a barrel, Goldman Sachs said last month. The world is facing a "long winter in commodities," Morgan Stanley Investment Management's head of emerging markets Ruchir Sharma said on Sept 14.

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