Shrinking Giants: Royal Dutch Shell, Exxon-Mobil, Chevron And BP

Includes: BP, CVX, RDS.A, RDS.B, XOM
by: Zoltan Ban

Royal Dutch Shell (NYSE:RDS.A) (NYSE:RDS.B):

While in 2012 total production of oil and gas increased by about 47,000 barrels of oil equivalent, it seems that Shell production declined for 2013 by 1.8% compared to 2012 and fourth quarter decline was 4.7%, compared to the fourth quarter of 2012. It is a trend also seen with other large oil and gas players such as Exxon Mobil (NYSE:XOM) and Chevron (NYSE:CVX). This decline will probably continue into 2014 and perhaps beyond as Shell actually tries to divest from many projects which were hoped to bring more production online (link).

Long list of abandoned projects:

Oil shale also known as kerogen deposits always captured the imagination and fascination of many people, due mainly to the huge size of the deposits found mainly in the United States. Royal Dutch Shell was among the many companies which figured that being the first to unlock the potential of hundreds of billions, or even trillions of barrels of oil found within the deposits would be a huge competitive advantage over competition as well as a way to make up for dwindling opportunities in more conventional fields. After many years of conducting pilot projects in the field, they quit last year (link).

The over 100,000 acres Shell acquired in 2010 in the Eagle Ford field went up for sale last year, as the returns on the investment proved to be disappointing (link). In the second quarter of 2013, Shell reported a write-down of $2 billion on liquids rich shale operations. At the time, there was little detail given in regards to the specific reason why it was deemed necessary and which operation was responsible. I pointed out then in an article (link) that it was probably the Dimmit County property which a USGS study in 2012 found to be a region with comparatively poor per-well production results in the Eagle Ford. As it turns out, it seems the 2012 USGS report has some relevance in giving us some indication in terms of what to expect in terms of returns on investments.

The Proposed Gas to Liquids (GTL) plant in Louisiana never got off the ground as Shell decided to axe the project on concerns of the future of natural gas prices. The plant was going to produce over 100,000 barrels of GTL diesel fuel per day at a capacity cost of about $100,000 per barrel per day. Given that feasibility of the project was seen only as long as crude oil stays above $100 a barrel and natural gas at under $6 per million BTUs, Shell decided it is too risky (link1, link2).

Exploration in Alaska was abandoned early this year for the remainder of 2014. The company's new CEO Ben van Beurden cited during the Q4 presentation a court decision which found that the exploration permit to Shell was awarded by the Interior Department based on inadequate information. Truth is however that after years of exploration and $5 billion spent, Shell found out that operating in the arctic was expensive and technically challenging. It is possible that the decision to suspend operations will be permanent.

These are just a few examples of Royal Dutch Shell divesting itself from various projects upstream and downstream. A total of $15 billion worth of assets are expected to be sold this year and next, including petrol stations in Australia, offshore production capacity shares in Brazil, pipelines and a host of other assets (link). It is all part of trying to keep its net capex spending down, which last year came in at $44.3 billion. Problem is that many of the projects were meant to boost production both upstream and downstream, which means that most likely Shell will not be able to stem a steady long-term production decline.

Chevron (CVX):

Chevron's story based on latest results is similar in many ways to Shell (link). Production of oil and gas is down compared to 2012. In 2013 2.58 mb/d were produced, while in 2012 production was 2.67 mb/d. That is a year on year production decline of 3.5%. Revenue is down year on year as well from $56 billion in 2012, to $54 billion in 2013. Total earnings declined from $26.2 billion to $21.4 billion year on year.

Chevron abandoned its own oil shale, or kerogen project, before Shell did, which seems to be an increasingly obvious dead-end, given that nobody seems to make it work even with $100 a barrel oil price.

Future production growth prospects are not looking particularly bright, even though there does not seem to be the same kind of disinvestment strategy going on as there is with Shell. Chevron is also doing better with capitalizing on shale oil and gas trends, but as I often pointed out, the US fracking revolution will be of much shorter duration than most anticipate. Difficulties encountered in places like Romania where a Chevron shale gas drilling project was undermined by local opposition on environmental grounds highlight some of the political difficulties associated with exporting the fracking practice to other parts of the world (link). In addition to that, in places such as Poland, it was once again proven that initial shale gas hype tends to lead to a period of sobering up as initial estimates of commercially or technically recoverable resources are cut by as much as 80-90% once exploratory drilling commences. As far as Poland's shale gas estimated reserves go, the cut was 85% from initial estimates. Chevron is still hanging on to its four concessions in Poland, but prospects seem bleak (link). It recently teamed up with Poland's state-owned gas company to explore jointly. Exxon Mobil, Marathon Oil (NYSE:MRO) and Talisman Energy (NYSE:TLM) already pulled out following disappointing drilling results.

As far as the conventional reserves of oil and gas around the world, as is the case with its peers, Chevron has little chance of stemming the decline in production from its reserves. A combination of resource nationalism, which led to many resources being taken over by state-owned entities as well as dwindling opportunities in places where publicly traded companies are welcome, is squeezing public companies very hard.

Exxon Mobil (XOM):

Fourth quarter details released in January 2014 show Exxon Mobil as a company with perhaps more potential to keep a decent production volume going than the two previous oil and gas companies covered. Production of oil and gas was down 1.8% compared to the fourth quarter of 2012, and down 1.5% for the full year, compared with 2012. Earnings came in 27% lower for the full year, compared to 2012, while expenditures rose by 7% year on year (link).

As I mentioned to be the case with Chevron, Exxon Mobil had little luck with finding Polish shale gas that would have been commercially viable. Unlike Chevron, Exxon Mobil pulled out. Exxon Mobil is heavily involved in North American unconventional oil and gas projects, which should help it keep production from sliding precipitously for the rest of the decade. As the North American fracking revolution starts to fade and will likely turn into a fracking decline within half a decade or so, Exxon Mobil's fortunes will also take a turn for the worst as conventional reserves are already declining, and so does production. Outside of North America, unconventional resource plays are not yet showing much potential.

The most interesting aspect of 2013 results released in the Q4 statement is the fact that US upstream operations yielded an increase in earnings of $266 million, while upstream operations in the rest of the world yielded a decline of $3.3 billion. It essentially means that aside from US operations Exxon Mobil is already shrinking. In terms of actual production volumes, oil production in the Americas increased by 42,000 barrels per day, while in the rest of the world it declined by 17,000 barrels per day. Oddly enough, natural gas production declined everywhere, including in the Americas, except for a slight increase in Europe.

British Petroleum (NYSE:BP):

With full year production results in for 2013, BP is looking quite good, given the massive divestment program it has engaged in for the past few years. Production of oil and gas was down 2.7% for 2013, compared to 2012. Production excluding Russian projects was 2.256 million barrels per day, compared to 2.319 million barrels per day in 2012. Given that $38 billion worth of assets were sold in past few years, it is not too bad. A further $10 billion worth of asset sales are being planned by the end of 2015. Production for 2014 is expected to shrink as well, which should be expected given the circumstances (link).

There is not much else that can be said about BP. There are some bright spots, including in the reserve addition through new discoveries sector. The costs associated with the Gulf of Mexico disaster should gradually diminish, freeing up funds for investments. The accident cost BP $42.7 billion so far. On the other hand, there are many declining or soon to be declining fields in the portfolio, so production is likely to continue to decline going forward.

An unmistakable trend:

While the oil and gas news in the past few years has been dominated by the shale fracking revolution, the 2013 full year results which just came in for the big four oil and gas companies, which represent a more complete picture of oil and gas extraction around the world, paint a more worrying picture. It would have been one thing if one or two of the four companies would have reported a production decline compared to 2012, but the fact that all four of them did so means that this is not just an accident but a larger trend. This trend is a global one, and goes beyond the more narrow hydraulic fracturing story, which as I pointed out in many articles before seems to be way over-hyped due to the excitement created as a result of the very fast production ramp-up we have seen, without much consideration being given to what is waiting on the other side.

The shrinking giants are an early alarm signal in regards to what is awaiting on the other side. The four companies I mentioned may not be a good representation of the unconventional oil and gas production outlook, given that unconventional plays make up a relatively small part of total operations for these giants. The state-owned oil and gas companies, which lately make up the most important segment of the global oil and gas business are also not represented. What is represented within the portfolios of these companies is a little bit of every aspect of the global oil and gas industry. These companies are literally present in every corner of the world and are present in almost all countries where there is significant oil and gas production. These companies are present in conventional onshore and offshore fields, as well as unconventional plays, both on land and in the water bodies of the world. If I was to sum up the situation as painted by the results presented by these four companies for 2013 in a one sentence statement, it would have to be the following:

The effect of the 500% increase in oil prices since the year 2000 on global supply is now starting to wear off, and there is little chance of another such price driven reaction being repeated.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.