Rising oil prices, cost reduction seen improving liquidity position of oil companies

Prior to the current stutter in oil prices, a new study by International Ratings Agency, Fitch, finds that the liquidity positions of oil exploration and production companies with a focus on drilling in Europe, Middle East and Africa have moderately improved year-on-year due to modest recovery in oil and prices and keener attention to cost reduction.

This raises hopes for new projects coming on stream and possible progress to Final Investment Decision (FID) on delayed projects like Shell Nigeria’s Bonga South West Aparapo project in Nigeria constrained by weak oil prices.

Fitch’s study agrees with current industry reality where oil majors like Chevron Corporation and ExxonMobil have trumped analysts’ quarterly profit forecasts. 

ExxonMobil reported profits went north of $4 billion even as production fell 4 percent and Chevron turned in $2.68 billion in earnings basically due to sale of its assets, a cost cutting decision. Royal Dutch Shell’s profits surged in the first three months of the year to $3.4bn from $1bn last year.

“The strategy we have outlined to deliver a world-class investment case is taking shape. Following the successful integration of BG, we are rapidly transforming Shell through the consistent and disciplined execution of our strategy. This includes investing around $25 billion this year and the delivery of new projects, which we expect to generate $10 billion in cash flow from operating activities by 2018,” said Ben van Beurden, Royal Dutch Shell Chief Executive Officer

Indigenous oil companies including Aiteo, Seplat and Sahara energy are cutting losses and reporting modest improvements including strengthening liquidity and cashflow.  Liquidity is a key rating factor for smaller exploration and production companies, as indicated by the collapse of Afren in 2015.

However, the ratings agency admit that some companies are still struggling to balance their cash flows, particularly those with higher production costs, significant committed capital expenditure requirements or operations in high-risk countries. The improvements could also be fragile if recent oil price weakness accelerates and proves to be sustained.

This vulnerability stems from factors including often higher leverage, negative free cash flow and more limited access to banks and capital markets. One of their main sources of funding is reserve-based lending (RBL); many companies’ RBL capacities were cut in 2016.

“We expect this trend to start to reverse in 2017, with RBL debt capacities either being affirmed or moderately increased in the ongoing spring reviews, thanks to modest year-on-year oil price improvements and gradually increasing lending appetite in the sector,” says Fitch.

While liquidity positions are generally improving, Fitch warns that they could deteriorate quickly if there were a further sustained fall in oil prices.

“Our base case is for Brent to average $52.5/bbl in 2017 and $55/bbl in 2018, but higher-than-expected growth in US shale production, or the inability of OPEC and some non-OPEC countries to extend production cuts agreed in the second half of last year, could push prices lower,” the agency said.

ISAAC ANYAOGU