Oil sector faces collapse

Should embattled US oil producers be bailed out? And what will happen to Shell and BP’s dividends this year? Matthew Partridge reports.

Shell fuel tanker lorry © Jasper Juinen/Bloomberg via Getty Images
Will Shell ditch its expensive low-emissions plans? © Getty
(Image credit: Shell fuel tanker lorry © Jasper Juinen/Bloomberg via Getty Images)

It has “barely been a week” since President Donald Trump sealed what seemed a “rare diplomatic victory” by getting major oil producers to cut as much as 15 million barrels a day of global output, says Spencer Jakab in The Wall Street Journal. But the effort has failed to boost long-term prices, while the spot price of US crude has turned negative on fears that storage capacity will soon be exhausted. As the shares of oil producers plummet there are now concerns that this “systemic failure” in the oil market will force American producers to turn off the taps for good.

Oil-field services behemoth Halliburton and producers Marathon Oil and Occidental Petroleum have already “lost more than two-thirds of their value”, says Dino Grandoni in The Washington Post. Many more “smaller, debt-saddled” shale producers are even more vulnerable to going under. As a result, President Trump is now considering “an array of policy tools” to help save energy jobs and companies, including buying surplus oil to fill the nation’s Strategic Petroleum Reserve and even turning away tankers carrying Saudi oil from America’s ports. However, the idea of a bailout for oil companies remains controversial.

A broken business model

A bailout might be tempting, given that energy is an “important driver of investment” and Trump will be wary of the popular backlash that could come from a surge in oil sector layoffs, says Megan Greene in the Financial Times. However, the business model of many oil companies, which involved borrowing large sums of money to finance marginally profitable projects, was “broken before oil prices fell”; any bailout would “throw good money after bad”. Worse, it might delay the “productivity gains and consolidation” needed to make the industry consistently profitable by reducing both financing and production costs.

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While many American producers are on the ropes, the key issue on this side of the Atlantic is whether the dividends of BP and Shell, whose projected payouts comprise a third of expected UK dividends this year, are safe. Earlier this week the story was that even if oil remains around $30 per barrel, the payouts were set to continue throughout next year due to declining production costs and spending cuts. With Brent crude falling below $20 on Wednesday, however, the pressure is mounting.

Oil firms with “break-even prices above $40 a barrel, which is pretty much all of them, will be burning through cash extremely quickly, unless they take further measures to cut costs”, Michael Hewson of CMC Markets UK told Citywire. If the slump drags on they may have to review their long-term priorities. “There will come a point,” Hargreaves Lansdown’s Nicholas Hyett told City AM, “where they will have to choose between their expensive low-emissions energy plans and continuing to pay their dividends”.

Dr Matthew Partridge

Matthew graduated from the University of Durham in 2004; he then gained an MSc, followed by a PhD at the London School of Economics.

He has previously written for a wide range of publications, including the Guardian and the Economist, and also helped to run a newsletter on terrorism. He has spent time at Lehman Brothers, Citigroup and the consultancy Lombard Street Research.

Matthew is the author of Superinvestors: Lessons from the greatest investors in history, published by Harriman House, which has been translated into several languages. His second book, Investing Explained: The Accessible Guide to Building an Investment Portfolio, is published by Kogan Page.

As senior writer, he writes the shares and politics & economics pages, as well as weekly Blowing It and Great Frauds in History columns He also writes a fortnightly reviews page and trading tips, as well as regular cover stories and multi-page investment focus features.

Follow Matthew on Twitter: @DrMatthewPartri