Majors’ pivot from oil is a unique opportunity for E&Ps As a follow-on to our July M&A note, we discuss the Majors’ plans to reduce their focus and spend on oil, in order to build new, low-carbon businesses.
The scale of this structural change is huge: BP aims to reduce production by 40%, Shell may cut upstream costs by 30-40%, and Eni plans to lower its net GHG emissions by 80%. While each company uses a different metric, the outcome is clear: a large-scale divestment of the Majors’ oil fields in non-core geographies. We think this presents a huge opportunity for cash-rich, acquisitive E&Ps.
Majors’ planning a pivot from oil
In February, BP’s new CEO Bernard Looney announced the “biggest revamp in the company’s 111-year history”, with a commitment to make BP net carbon neutral by 2050. A major step to achieving this goal is BP’s target of reducing production by 40% in the next 10 years. This implies a c.1,500Mboe/d production cut from the FY19 group average of c.3,800Mboe/d.
Shell is undertaking a strategic review, ‘Project Reshape’, which aims to cut costs in its upstream division by 30-40%, according to a recent Reuters report, which cites company sources. The report is supported by comments made by Shell’s CEO Ben van Beurden to equity analysts in June, stating that Shell has launched a programme to “redesign” the company. The review is due to finish by YE20, with Shell holding a capital markets day in February. The cost cutting is to support Shell’s move in to renewables and power, where margins are currently lower (ROACE of 6% vs 12% for upstream, per Shell’s June 2019 presentation).
Eni was also an early mover in the Majors’ pivot from oil, announcing in February its plans to cut its net greenhouse gas (GHG) emissions by 30% by 2035, and by 80% by 2050, from a 2018 base (Chart 4). This includes emissions from product sales (scope 3), as well as from operations (scope 1 and 2). As Eni’s key target is a reduction in net GHG, unlike BP/Shell who are directly targeting production and upstream spending cuts, it has more flexibility on how its target is achieved. This includes building its renewable capacity to 5GW by 2025 and to >25GW by 2035, converting refineries to biofuels, and halting process flaring by 2025. It also includes increased investment in forestry and carbon capture projects to allow carbon absorption of >40Mtonnes of CO2 pa by 2050.
A note on Total, Exxon, Chevron and Conoco-Phillips
To date the other oil Majors, namely Total, Exxon, Chevron and ConocoPhillips, have not announced absolute cuts to upstream spend, production or emissions in order to combat climate change. As a result, there is a less clear argument that they will be divesting assets in order to pivot from oil to more renewables-focused businesses.
E&Ps that are best positioned to benefit
Cairn has cash of US$82m (at end-June) and its RBL debt facility is undrawn. In July, Cairn announced it had entered in to an agreement to sell its entire stake in the Sangomar development offshore Senegal. On completion Cairn will receive US$300m cash, plus reimbursement of development capex since the start of 2020, which is guided at a further c.US$300m. The original purchaser was Lukoil; however, the operator Woodside since pre-empted the acquisition, on the same terms. The acquisition was approved by Cairn’s shareholders and is awaiting Senegal government approval, with completion guided for Q4. US$250m of this US$600m inflow has been allocated for a special dividend to shareholders. However, given the current portfolio’s capex is self-funded from the existing production, the remaining US$350m of Sangomar cash, plus the existing cash on the balance sheet, looks to be available for acquisitions.
SDX has had an excellent 12 months. Nine out of 12 wells were successful in the E&A drilling campaign, with the flagship-operated S. Disouq field reaching plateau three months ahead of expectations and benefiting from a 35% increase in 2P reserves. However, while the company is performing very well operationally, the stock’s low market cap (£30m) and liquidity (c.0.1M ADV) make it more challenging for institutions to invest. This is recognised by SDX’s management, who are looking to grow the business inorganically.
Over the past five years, Serica has earned a reputation for carrying out astute transactions that have created returns that are many multiples of their market cap. As a result, it has become the ‘go-to’ name in the North Sea E&P space for investors looking for solid production cash flows, a healthy balance sheet and a first-rate management team (our three key criteria). Its commercial deal-doing has transformed the company into one of the UK North Sea’s largest production operators, which gives it a metaphorical and literal platform from which to consider additional accretive acquisitions.
Sterling is a £25m AIM-listed E&P that has no producing assets but has US$44m (£34m) cash on the balance sheet (at 1H20, no debt). The board is planning to use this cash to acquire an onshore, low-cost production asset with development/exploration upside, and has a mandate to look globally. At the interim results in September the management team revealed that it had screened over 20 M&A opportunities in 2020, with three reaching the point of an indicative offer. Sterling also noted that with the Majors divesting and Covid-19, the number of M&A opportunities available has increased this year.