If investors are asking, why aren’t I acting?
Oil prices seesawed, rising steadily during the first half of the quarter, falling during most of the second half of the quarter, before rising again at the end. North American supplies (which continue to grow), worries about world economic growth and OPEC production discipline are driving markets up and down as the story of the day changes. LNG markets continued to search for a sustainable equilibrium as demand and supply grow unevenly. Refining and petrochemical margins held steady through the quarter, albeit at levels below what the industry had come to expect in previous years.
Market conditions were reflected in companies’ financial results. Returns on capital held steady as cost control continues to be a focal point and higher oil prices are a hope, but not an expectation. Cash flow has been and continues to be strong. Analysts are always interested in what companies intend to do with that cash, and financial matters will always be a primary focus of the analyst community. Q2 was no exception.
Tax rates were a point of inquiry, along with the usual questions about plans for dividend increases, share buybacks, capital expenditure and asset disposal. Investors seem to be keen to see more return of capital. That may mean that they see less opportunity for profitable reinvestment. Gearing was also on the radar for several analysts. The price of more capital returns may be increased leverage and analysts are understandably interested in learning more about companies’ intentions about where to get and how to use cash.
From an operational standpoint, equity analysts are intensely focused on LNG, an important strategic priority for oil and gas companies, but investors are understandably skeptical in the face of disappointing results. The LNG markets are increasingly crowded as players scramble to secure resources, regulatory approvals, financing and customers in expectation of slowing liquids demand and an increasingly important role for gas in the energy complex.
Time will tell if those investments will bear fruit. Today, investors are asking hard questions about operational performance, progress on major capital projects and LNG pricing. LNG pricing was a particularly active topic. The split between spot sales and contract sales was queried repeatedly. In recent quarters, oil majors have increased their interest and investment in North American unconventional oil. Those resources are short cycle, readily scalable and concentrated in part of the world with little or no political risk.
Uncertainty abounds about the long-term future of oil, which makes those assets ideal. In this round of conference calls, analysts were focused on the performance of those assets and the progress made in relieving takeaway constraints from the Permian Basin and its impact on wellhead pricing. Analysts are watching carefully for expansion or contraction of each company’s activity, especially capital expenditure and rig counts.
Refining and chemical performance also had analysts’ attention this quarter. Several questions were asked about margins in those businesses, downtime and preparations for the implementation of International Maritime Organization (IMO) 2020. Companies haven’t talked in much detail about their plans and there may be a sense of increased risk. On the strategic front, North American shale, LNG, geographic risk and the energy transition made the top-of-the-list of issues. LNG pricing has been persistently disappointing as well as the financial results. Companies continue to explore and commit to major projects and significant capital investment.
While analysts certainly recognize the importance of gas and LNG to oil companies’ future, they ask probing questions about the development costs and the general market environment and companies’ ability to get long-term contracts and favorable pricing. We’ll be looking carefully in future quarters for signs that the economics of these projects are improving, companies’ commitment is wavering or investors’ patience is running out.
Operational performance, cost, expansion and/or contraction of activity levels in North America are high on analysts’ minds. The economics of unconventional oil have been questionable while those resources were in the hands of independents. As the majors take a bigger role, analysts will be increasingly interested in learning whether they are able to unlock more value.
Geographic risk and its impact on strategy was also on analysts’ minds. The situation in Venezuela continues to be problematic, both at the macro level and the micro level for individual companies. Every company has a unique set of country exposures and analysts are keen to explore when issues pop up.
Most interesting is the analyst community’s heighted interest in oil companies’ interest in alternative, reduced carbon and renewable energy. While returns are and will always be central to oil companies’ strategies, they continue to explore their options in those arenas. In the latest round of earnings calls, analysts asked several questions about the performance of those businesses and their growth prospects, and the size of the commitment to those businesses.
There’s a proven link between equity performance and a company’s perceived readiness for what almost everyone believes will be a sea change in the energy landscape, and analysts will continue to be on the lookout for signs that companies are at least keeping their options open and are able to compete effectively.