Guest post by Tilak Doshi, originally published at Forbes.
Climate change activists have long lobbied for divestment from fossil fuel-producing companies. They have largely failed in this quest. This year, the steep falls in the value of the large oil and gas companies, however, occurred with a rapidity that astonished market watchers. Within weeks, the coronavirus pandemic and the oil market-share battle between Saudi Arabia and Russia launched after the collapse of the OPEC+ talks in early March led to unprecedented falls in Big Oil equity.
The S&P Global Oil Index, measuring the performance of 120 of the largest, publicly-traded companies engaged in oil & gas fell by 45% in the month to March 18th when Brent crude was trading at $25/barrel. ExxonMobil, the bluest of blue chips fell 54% in that period while Shell, another Big Oil bellwether, fell 45%.
In mid-June, BP was among the first of the oil majors to announce its intention to write down the value of its assets by up to $17.5 billion after cutting its long term oil forecast (to 2050) from $70/barrel to $55. This was followed a couple of weeks later by another European oil major, Royal Dutch Shell, which reported its plans to write-down its asset base by $22 billion after a similar lowering of its long term oil price forecast.
Stranded Resources and Climate Change Concerns
The campaign to scare fossil fuel investors about “stranded resources” has followed two tracks. This first argues as to what should be done. Citing “consensus science” (an oxymoron), climate change models purportedly linking carbon dioxide emissions with “climate risk” are used to calculate the necessary cuts in oil, gas and coal production. Hence BlackRock, the world’s largest asset manager warned in 2015 that “the majority of fossil fuel reserves will need to be left in the ground” if global warming is not to exceed 2 degrees C. Along the same lines, consultants for the OECD asserted that “vast quantities of resource reserves will need to remain underground in order to stabilize the climate”.
The second track poses the question of what would likely happen under current trends. In this view, technological progress in energy efficiency and renewable energy combined with climate policies pursued by governments around the world will lead to substantial falls in demand for fossil fuels. A Financial Times column, for instance, pointed out that the pursuit of climate change policies would “evaporate” a third of the current value of the big oil and gas companies. If countries met their Paris Agreement commitments and kept to the “no more than 2o C above pre-industrial levels” target, 50% of all coal, oil and gas resources would be “stranded” and, by definition, have zero value. If the stricter 1.5o C maximum is aimed for, then 80% of the world’s fossil fuels would be stranded.
Why are model-based climate risk “assessments” not reflected in the value of fossil fuel companies? Are those countless investors, big and small and of varying levels of sophistication, who put up risk capital for fossil fuel companies myopic, unaware of the losses they face? One does not need to be a particularly savvy investor to be wary of betting against the large liquid oil, gas and coal markets on the basis of academic climate modellers and the research departments of multilateral agencies such as the OECD or the World Bank prognosticating on long run scenarios.
The events of the past few months show that decades of “consensus science” and anti-fossil fuel campaigning in the boardrooms and shareholder meetings of publicly-listed companies in the US and Europe could not achieve what a ‘black swan’ turn of events has wrought. On 6th March, Russia’s refused to agree with OPEC’s (essentially Saudi-led) proposal to further cut oil production in response to the demand destruction that Covid-19 was expected to cause. Riyadh’s response – steep discounts to their selling prices and intentions to massively increase exports — caused a rout in oil prices. Brent crude fell from around $60/barrel in mid-February to below $20 several weeks later. After the OPEC+ agreement in April that led to unprecedented cutbacks in oil production, prices have stabilized to around $40 – $45/barrel since June.
Fossil fuel divestment campaigners might be elated by the drastic drop in the share prices of the big oil and gas companies. But it was the Wuhan virus rather than the Paris Agreement that caused this. The value of “stranded resources” was defined by the simultaneous demand (the Covid-19 lockdowns) and supply (the Saudi-Russia market-share battle) shocks, not by expert long run climate change forecasters. And it wasn’t divestment but a rapid destruction of value, along with global assets across the board, as the world economy faces a recession this year which is likely to be far worse than the one experienced during the global financial crisis.
Oil and Gas Will Remain Important for Developing Countries
Low oil and gas prices will now be an established feature of global capital markets for some time to come. While the economic impact of the twin shocks in the oil universe have been severe, much depends on how fast the global pandemic is contained. The faster economies re-emerge from the pandemic lockdowns, the quicker and stronger the recovery in oil and gas demand. But whatever the rate of demand recovery for fossil fuels, it won’t change the fact that we live in an age of ample oil (and gas and coal).
In the 5 year period to 2019, developing countries accounted for three quarters of global oil demand growth and the Asian developing countries accounted for over 70%. As the developing world, especially the rapidly-growing populous economies of Asia, emerge out of the coronavirus pandemic lockdowns, access to cheap fossil fuels will be critical over the next few decades. Coal, oil and gas have powered urbanization, industrialization and agricultural productivity, and have led to improvements in the standards of living for the vast majority of the global population.
For the hundreds of millions of people that have newly emerged from poverty in recent decades and are beginning to enjoy the fruits of economic growth and technological progress across Asia, Africa and Latin America – among the greatest achievements in human history – demanding that the global use of fossil fuels be curtailed would be unacceptable. Wishing for a premature end to the Age of Oil (and gas and coal) will do humanity irreparable harm.
Thanks, as always, Tilak, for a refreshing & eminently sensible perspective on the realities of world energy and the fact that, despite all their wishful thinking, the activists of the green blob will not easily displace oil, gas & coal as the dominant sources of energy for mankind anytime soon! Thank goodness!!!
Good article about large oil companies, David. The double whammy of China Virus and Russia-Saudi dust-up certainly drove the price of oil sharply downward, providing us with a preview of the Greenie Raw Deal. As a past employee of Big Oil, CONOCO, I can assure everyone that most corporations of this size have Technical Advisory Committees to develop strategies to adjust/cope/modify their activities for perceived threats or opportunities. I pushed the idea (to Ralph Bailey, CEO) of CONOCO expanding their Mineral Department as a counter to cyclic oil and gas prices, and also to have the Minerals Department be diversified into gold on one side and copper, uranium, and coal (sorry to just blurt out the word “coal”) in order for them also to be cycle resistant. Sure, BP has gone woke and wandered off into LaLa Land, but most big oil companies have in place an (adjusted) plan to keep going forward with abundant and reasonably priced conventional energy.
Sorry, Tilak Doshi, I thought the article was by David. My only defense was writing before my first cup of coffee. Good Article.
I wish I had written it… 😉
But I don’t write for Forbes.
They wouldn’t let you, as you have demonstrated the ability to think for yourself.
I hope I belong that sub-set that both writes for Forbes and has a demonstrated ability to think for myself. Do also note that there are other contributors such as Michael Schellenberger and Roger Pielke Jr. that also are Forbes contributors. I had been viciously attacked on Twitter and elsewhere for some of my columns — including complaints by Michael Mann and his acolytes to Forbes editors for allowing my columns to be published. So far I have not been de-platformed, to the credit of Forbes editors.
I think he was just being flippant. The fact that Forbes has censored Mr. Schellenberger tells us all we need to know: The ability of the writers to think for themselves is not in question.
Great article Mr. Doshi!
Thank you David. I am an avid reader of your writing in WUWT. Interesting that Shellenberger piece on his book was cancelled but he remains a Forbes contributor and has come out with other opeds.
Absolutely no problem. Appreciated your appreciation! Cheers
OTOH there are often some really bad decisions made by Big Oil…
I don’t suppose Shell are too happy about the economics of their floating LNG project at the moment.
Then we have some interesting technical challenges that the oil companies excel at – (there’s that floating LNG again!)
But the Hutton TLP was a trailblazer, TAP, Bayu Undan etc. Some not as successful as others – our look into carbon fibre was innovative but ultimately doomed….
Write downd are just an accounting requirement for assets that may be worthless … although that could change in a year. It’s a complicated decision but just affects the balance sheet financial statement. Who knows where the price of oil will go? Many large oil companies are owned by governments and they can limit production to raise prices or operate with no profits.
The biggest problems with assets would be expensive oil, mainly offshore oil and shale oil.
I suspect the work at home trend will continue long after Covid, cutting gasoline usage permsnently
The assets aren’t “worthless,” not even temporarily.
In most cases asset write-downs relate to proved reserves. Proved reserves are the volume of oil and/or gas that can be economically extracted from existing wells at current prices. If a field has 10 million bbl of proved reserves (1p) at $60/bbl, it will have often have significantly less at $40/bbl. The value of the difference has to be written down (charged against earnings). This doesn’t affect the production rate of the wells; nor does it generally affect the estimated ultimate recovery (EUR) of the wells. The oil doesn’t stay in the ground. It doesn’t affect the company’s cash flow or adjusted EBITDA… It’s not a cash loss.
If the oil in the ground would lose money at 40 dollars a barrel, needs 60 dolkars to be profitable, and the current price is 40, why would anyone produce the oil and sell it at a big loss?
The asset, which can be a portion of proven reserves, is deemed worthless because it currently can’t earn a profit and no one with sense would buy it unless the situation changes a lot, perhaps a 50 percent increase in the price of oil would restore value.
Investors don’t care about the non cash flow charge to earnings but the write down hurts their confidence by officially recognizing some of their assets may stay underground for a long time.
You seem to like companies producing oil at a loss. If all companies losing money keep up production the oil price goes lower than it would otherwise be. The many government oil companies don’t seem to care if they make a profit. A tough industry to compete in, especially with the new work at home trend I think will last after Covid.
Because the well is currently producing. Write-downs occur when the current value of an asset falls below the carrying book value. In the case of proved reserves, it’s based on the current prices… not the average price of oil over the lifetime of the well. The fact that production is deemed uneconomic or has resulted in a write-down doesn’t mean that the well is losing money (cash flow-negative). In most cases, the lifting costs are very low and maintaining positive cash flow is fairly easy,
Even in the case of cash flow-negative production, the value of delaying P&A liabilities can far outweigh the negative cash flow for a period of time.
It’s not “deemed worthless”. If it was “deemed worthless,” it would be written off. It’s an impaired asset. This results in a one-time charge against earnings.
Financially strong companies are lining up to buy the quality assets of distressed companies. When you can buy proved reserves for less than $10/bbl, you can easily make money at $40/bbl.
“Investors” wouldn’t write something so mind numbingly ignorant. “Investors” know exactly what write-downs are – You don’t.
You seem to spout a lot of nonsense about an industry you are totally ignorant of.
If a company that is currently losing money due to ~$40/bbl oil shuts down all of its production, it ceases to exist within a short period of time.
And they all petty well suck except for Saudi Aramco, which does care about profitability.
It’s always been a tough industry to compete in. However, even in this particularly distressing downturn, about 1/4 of “shale” players are weathering the storm with little difficulty.
The 27% of “shale” companies in the upper right-hand quadrant are financially strong and operationally efficient. They currently account for about 40% of the tight oil production and are in a good position to take advantage of opportunities in the bottom two quadrants.
Middleton you substitute great hostility and character attacks for knowledge.
Write offs and write downs are two diffetent things — watch your language.
In addition. there are two different asset valuation methods that can result in very different asset valuations.
FASB requires the more conservative Successful Efforts method.
The SEC statements allow the more liberal Full Cost method too.
If investors read the balance sheets it will be the SEC documents that they read.
Investors estimate the future cash flow of the company and they can make their own valuations of the known oil and gas assets.
Book value is not of interest in that valuation. Impairment changes in book value are only of interest if they will reduce future corporate income tax payments
The asset is written down to the current market value, which could be a total wtite off to zero. If the asset gains value in the future the GAAP US accounting rules do not allow a reversal of the write down but IFRS international accounting standards do allow a later revetsal. Investors ignore the typically large one time effect on earnings because no cash flow is involved. They may hope the asset will be profitable in the future, or could be sold for more than the current market value. In general write downs are accountants officially recognizing reality.
It has nothing to do with whether or not the asset is “profitable”.
It’s the current value of the asset vs. the carrying book value. If the asset is on the books at $60/bbl and your auditors and/or bankers tell you you need to impair the asset because oil is stuck at $40/bbl, you take a one-time charge against earnings and reduce the asset value on your balance sheet accordingly. The lifting cost for most producing oil wells is less than $30/bbl, often much less.
Middleton
27 percent of shale companies is a small percentage of the industry.
The lifting cost or operating cost is only part of the cost — it’s the break even cost that is useful to know, not the lifting cost.
Middleton you are only an expert in your own mind.
Investors do not judge the value of an oil company by the book value of its asseEBtd.
EBITDA is not GAAP accounting so is meaningless.
While investors do not value their company based on book value, the income statement loss from an impairment charge can be a tax write off to reduce corporate taxes on future earnings if there are any earnings.
“suspect the work at home trend will continue long after Covid”
I was involved in a multi-site remote work research project in 1994 after the Northridge earthquake took out sections of some major freeways in the Los Angeles area. There was a lot of talk about permanent changes in work patterns for a while. However after the freeways were restored, everything went back to how it was before quite quickly.
Major corporations and large government agencies would love to avoid paying for expensive real estate in urban centers. If many of their people could be reasonably productive working at home, they would happily be letting leases expire when they came up for renewal.
The technology for remote work is light-years ahead of what it was in 1994. However the fact that there has not been such a real estate exodus in recent years (other than corporations leaving certain states), suggests that remote work on large scale still is not economically efficient for most organizations.
1994 is irrelevant. I started using the Internet at work in1996. Remote work and meetings take time to get used to and workers have had a lot of time years. People reluctant to try working at home wrre forced to. Some business changes require a catalyst and Covid 19 was one. Normal has permanently changed.
The US shale oil industry has lost about 300 billion dollars since 2010. And that’s not including 2020 which will make the number higher.
Many shale companies are highly leveraged and bankruptcies are increasing.
Of course people need gasoline for their cars but the working from home due to Covid is not just a temporary trend, in mu opinion. It is a cost reduction for companies that won’t completely reverse post-Covid.
I spent 27 years driving at least an hour a day to and from work. And that’s with good weather. I would have had a lot less driving if I could have worked from home.
Some workers who did not work from home before like it. Not just their management thinking they really don’t need so much real estate for offices.
Acceleration of the work from home trend will change future oil needs along with electric vehicles. I sold an investment in gas stations at the start of the pandemic with these thoughts in mind.
OH, but we’re not going back to the early 1970s prices of below $0.50/gallon at the pump, right?
Well, holding down production just slightly does nothing more than leave more available for future use.
Let the ecohippies and Greenbeaners go without the real-world benefits of natural gas and oil for a few years.
The rest of us will happily bask in the warmth of a natural gas-fired HVAC system, and enjoy food that we’ve cooked with natural gas, and drive cars that get high mileage, keep us warm in winter and cool in summer, and also let us wander at will.
Those oddball ecoloons never really go anywhere outside their enclosed domains, do they? Nah. Didn’t think so.
Good article. Thanks. As a booster, it works.
Taxes alone are more than $.50 a gallon at the pump. So if they gave away the fuel, it would still cost more than . 50 a gallon.
Sara,
Actually we’re below early 70s prices already. We’re at 1966/67 levels.
In 1972 dollars, the US national average gas price is about $0.32/gal right now. The actual average price in 1972 was $0.36/gal
Inflation really makes a big difference. Remember change back from your dollar at McDonalds?
https://m.youtube.com/watch?v=4oBpdBn5GZw
You’re now lucky to get change back from your Hamilton ($10)
Here’s the math on gas price:
Consumer Price Index
July 2020: 259.1
June 1972: 41.7
That’s a 6.21 price multiple
Current US national average retail price for gasoline: $2.189/gal
Converted to 1972 dollars: $0.352/gal
Sorry I misspoke. We’re at 1969 prices. Transposed my numbers.
Here’s that reference:
https://www.energy.gov/eere/vehicles/fact-915-march-7-2016-average-historical-annual-gasoline-pump-price-1929-2015
Should also be $0.352/gal not $0.32
Doesn’t change the conclusions though. We’re currently below 1972 prices.
Haste makes waste
Given that modern day vehicles are also that more efficient than the 1960’s vehicles also makes it even better value for these present day efficiencies for gasoline and diesel. In that regard, gasoline and diesel have rarely been so cheap in inflation adjusted terms. Of course, that gives the Gov’t the thought that imposing some carbon taxes on the fuels won’t be a big problem for the economy. Even though a carbon tax doesn’t do much to reduce demand, and it definitely doesn’t do anything to change the weather/climate. But it can raise a good deal of taxes which is what that is all about. And hard to get off that habit of easy money to a Gov’t deep in debt. Same for a value added added tax like a GST or HST. Like heroin, easy money is hard to give up, especially when it comes from poor consumers that don’t have much choice.
Got me thinking. How much did a 1972 Chevy Chevelle cost brand new? Looks like msrp $3,216 which adjusted to our Monopoly money used today would be just under $20k
You can get a base 2020 Honda Civic for $19,850.
Unlike your Chevelle, you’ll have power door locks and window lifts, a backup camera, cruise control, auto-off headlights, adjustable steering wheel, trip computer, intermittent wipers, keyless entry, anti-theft system, power mirrors, aux port, mp3 player, air conditioning, 5 airbags, 4-wheel ABS, lane departure warning, (I’m getting lazy, there’s so much more)
35 mpg vs about 14 mpg for the Chevelle
There’s also maintenance & repairs, insurance, property taxes, registration fees, etc. that feed into a total cost of ownership per mile, but it appears to me that we’re living in a golden age.
The exhaust of the Chevelle is also a lot cleaner
Mark W:
Surely you mean the Honda Civic exhaust is much cleaner!!
I’ve got a 1969 “Chevelle” el Camino pickup and believe me you can smell the hydrocarbons from a distance!
Nothing like my Chrysler Town & Country which gets over 25 mpg down the freeway…
“OH, but we’re not going back to the early 1970s prices of below $0.50/gallon at the pump, right?” be nice but impossible now, most state and federal taxes per gallon are higher than that. An yet the leftist idiots talk about oil company profits. Last I check the taxes we paid has nothing to do with the production of the product, it only exist because the product is produced and used.
Sarah
A 1970 dollar had the puchasing power of almost seven mid 2020 dolkars.
Therefore 50 cents a gallon in 1970 is equivalent to at least $3.25 a gallon today, a lot more than I paid at a gas station in Michigan today.
The amount of inflation since 1970 averaged about 4 percent a year but that adds up after so many decades. I know the numbers above are hard to believe.
Forbes ain’t what it used to be.
Larry Fink of BlackRock is (and has always been) a liar, a cheat and a carnival barker. He’s made a very lucrative career out of separating fools from their money.
John Garrett, Canadians who are aware are very worried about this.
https://rabble.ca/columnists/2020/07/wall-street-billionaire-talks-trudeau-changing-course-benefit-private-investors
Mostly business as normal. Business, regardless of industry, will always “write-off” assets/revalue them when confronted with profit downturn and/or loss. It cleans the books, resets their valuations going forward and piles on all “bad financial” things into one quarter.
The take away here is how their assets became over valued and if, in fact, they are. As the Greeks would say, Beware the Sneaky CFO.
As far as I can tell, the Democrats support the rioters. That should frighten some people away from the Democrat party.
California is poster boy for what happens when you push renewable energy too hard. That also should cost the Democrats some support.
I’m guessing that President Trump will be re-elected. On the other hand, lots of things can happen between now and November.
What happens if Sleepy Joe and Horrible Harris are elected and push renewables?
Without fossil fuels civilization will collapse. ERoEI There is a figure, Energy Return on Energy Invested (ERoEI). It tells how much energy you have to use to get more energy. Below a certain value, society collapses because the effort people put into getting energy means that other necessities are ignored. It’s called the ERoEI cliff.
Unless we want to quickly slide back to the stone age, fossil fuels are safe for a long long time.
Every one of these downturns pressures companies into leaner and more efficient operations. The Saudis and the Russians make short term gains, but free societies get creative.
I love the write downs and negative sentiment. For those companies who have the financial strength to get to the other side, the rewards will be significant. I have been buying for 5 months, although the best is already behind us.
…and, of course, Standard & Poor’s just removed ExxonMobil from the Dow Jones Industrial Average.
The economic ignorance of whole swathes of U.S. citizens is frightening.
https://www.fool.com/investing/2020/08/25/exxonmobil-booted-from-dow-jones-industrial-averag/
ExxonMobil and its predecessors had been one of the DJIA 30 since 1928. Chevron is now the only oil company in the DJIA. As recently as 2008 ExxonMobil was the only oil company in the DJIA. Pfizer and Raytheon were also replaced with more “techy” companies. This was apparently driven by Apple’s stock split.
The DJIA is a “price-weighted” index. Its methodology and construction are obscure and largely unknown to most of the populace (not to mention most of the so-called investment professionals and journalists). The methodology leads to some bizarre decisions on the part of its owners (originally Dow Jones who sold a majority interest in it to Standard & Poor’s during the last decade). Although more widely-known to the general public than the broader S&P 500, it is much the weaker descriptor of the “market” of the two indices.
In contrast, the broader S&P 500 is a capitalization-weighted index.
New indexes enable Standard & Poor’s to charge fees for their use and has resulted in the proliferation of them (there’s an ETF for virtually every theme you can think of). All those ETFs have to have a benchmark index by which its performance is supposedly judged. At some point in the last couple of years, the absurdity of all this reached new heights when the number of ETFs actually exceeded the number of publicly traded companies (many of those ETFs were brought to you by the snake-oil salespeople such as BlackRock).
All those indices and ETFs produced obscenities along the lines of the “Micronesian Mid-Cap Growth ETF/Fund.”
There is a large and growing trend worldwide against oil and gas with hundreds of millions “donated” to the “existential” threat of climate change. The intended shakedown similar to the tobacco industry shakedown (times 100) involves multiple fronts including legal, education, politics, media and big business. These foundations are now financing even the most radical fringe groups which are willing to use violence to achieve their goals.
The amounts invested are staggering and growing as the UN garners more and more support politically while tax free dollars are used to fund the movement. Billionaires with vast resources are using their foundations to fund this virtually tax free. There are now over 80 in Congress of the US who openly support Socialist ideals and the vast majority of Dems who support the Green New Deal. The Biden camp has decidedly joined this movement and will enact unbelievable and catastrophic regulations if elected. This is the tipping point people don’t yet realize.
In the past, for instance, the Obama/Clinton Administration passed 7 strict regulations against coal and many of the same oligarchs profited from this by investing in coal related businesses outside the US contrary to their very public support for the climate. They need to generate wealth and profits in order to achieve their goals regardless of where they get it. One of these oligarchs “donated” over $25MM to the Clinton Foundation after they profited from this coal industry trade as just one example.
I must ask the Bishop of Salisbury who leads for the Synod of the Church of England whether he managed their planned disinvestment in fossil fuels before the crash. I bet not. I have no response to my suggestion that the CofE should be campaigning to bring electricity to sub Saharan Africa instead of their stupid, ignorant, virtue signalling, ineffectual posturing about ‘carbon’.
WTI price v. CPI inflation
(1979- present)
The index of the WTI price is currently well below the index of CPI rate of inflation since 1979.
(January 1986=100)
While prices vary quite a bit over time, oil is currently cheaper than the 1946-2018 inflation-adjusted average price:
https://inflationdata.com/articles/inflation-adjusted-prices/historical-oil-prices-chart/
I hope I belong that sub-set that both writes for Forbes and has a demonstrated ability to think for myself. Do also note that there are other contributors such as Michael Schellenberger and Roger Pielke Jr. that also are Forbes contributors. I had been viciously attacked on Twitter and elsewhere for some of my columns — including complaints by Michael Mann and his acolytes to Forbes editors for allowing my columns to be published. So far I have not been de-platformed, to the credit of Forbes editors.
Doshipping
If you are viciously attacked by the climate alarmists then you must be doing a good job.
Since lower oil and gas prices set lower energy prices anywhere there is proper competition it is evident that many other energy businesses also need to take writedowns. Wind farms and solar parks will get lower market revenues. Indeed I’ve noted that where they have spells of high utilisation, market revenues drop and even go negative.