“Moving towards a new lower carbon renewable energy strategy and away from fossil fuels is a smart move and could pay off over the long term but should you buy the stocks today?"
By: Allan R Kirby
Big oil companies are changing their strategies for the long term
In the last few months we have seen two major international oil producers making major changes to their oil strategies, both Royal Dutch Shell Plc (RDS.A:NYSE) (RDS.B:NYSE) and BP (BP:NYSE) are making significant cuts and transitioning to a lower carbon strategy. Shell for example will slash up to 9,000 jobs, or over 10% of its workforce, as they restructure in order to position themselves towards a more green energy strategy over the coming decades. The UK-headquartered BP will cut 10,000 jobs from their global workforce and will also begin a green energy strategy. BP in fact already has 2.5 GW net renewable capacity as of the beginning of 2020. PB also has another 20 GW in new generation in the pipeline mainly through solar with a plan to reach 50 GW by 2030. BP’s commitment can be shown by their recent purchase of a 50% stake in two U.S. offshore wind projects from Norway’s Equinor for $1.1 billion. This is enough power generation for more than two million homes.
It's not just oil producers that are shifting, in May, Norges, Norway’s $1.1 trillion sovereign fund, the world’s largest sovereign wealth fund, divested from 12 companies engaged in oil and gas exploration. While there are a number of possible reasons for this, the trend is clear, investment is moving away from oil and gas to renewables and major companies such as BP and Shell are following suite.
Long Term Shifts
Low oil prices, high inventory, Covid-19 shock have all helped crush the oil industries stocks. Additionally with the rise of impact investing as well as younger generations interested in EV and other environmental technologies, there is uncertainty about the future of the energy market and investing. As a result there is tremendous pressure on CEO's to look for changes in their strategies. BP along with Shell are making those longer term strategies changes to ensure they are better positioned if trends continue. This is actually smart thinking because putting capital towards renewables will not only help bring investors back to their companies, it also reduces their risks if we end up facing longer term changes in oil demand.
However some in the industry do not like the shifting in capital towards renewables by the oil industry. Russia's Rosneft's Didier Casimiro told the Financial Times Commodities Global Summit that BP and Royal Dutch Shell are creating an "existential crisis" for oil supplies. "I think that to go away from your core business, which is what they are doing, somebody will need to step in... somebody will need to take that responsibility," However the reality is many publicly traded companies do need to make fundamental changes by either reducing oil capex and/or shift their strategies. PB and Shell are doing this and it may set them up for the future. Companies that continue to focus on Oil and Gas and do not look at how to prepare for the long term may end up on the wrong side of the fence and by that time it may be too late.
Nobody knows what the future holds for oil, some hope for a return while others believe this is a longer term trend of lower demand and increased usage of renewables. Time will only tell, however looking at many industries that did not adjust to the new realities have ended up in failure. Look at how amazon changed the book industry as well as the failure of department stores to adapt. The key is to plan for the future because the past does not dictate the future. Shell and BP are being smart by making these investments knowing demand will continue to grow for renewable energy, even if demand for oil returns.
Although we applaud the newer greener strategy we believe Shell in particular has a long way to go in order to move to a renewable stock, this is likely not going to happen however it may change as we start to get clarity on the longer term trends with oil demand.
Is Shell a good long term investment?
Shell is finally taking the necessary steps to start forging a new business strategy, plus to its credit, Shell did make the hard decisions to cut its dividend and suspend its share buybacks which reduced financial pressures in the short term. Unfortunately the newer greener business model will be years in the making and the current ugly situation has not changed. Additionally debt will be a long term issue as well but if they can right size their business model and generate more free cash flow the stock could recover.
The stock has been absolutely crushed but it appears the worst is over. This stock could see a significant short term pop but longer term the company will be challenged while it transitions, this stock is not a strong stock to buy, if you own it, it's a hold or a good short term trade at best.
Is PB a good long term investment?
Like Shell, BP is taking steps to reduce its carbon footprint and invest in cleaner energy. However it appears the company's long term strategy is going to be even more comprehensive than Shell, The company said that its oil and gas production will fall by about 40 percent by 2030, while its refining output will decline about 30 percent, driving down BP's direct emissions as well as those that come from its products.
BP is going to spend big over the next decade on non oil investments as it appears BP is looking to become a more diversified energy play. As I explained before, this is smart investing and will help the company mitigate any risks if oil trends continue the way they are. Unfortunately this company is highly leveraged with debt when compared to other integrated energy companies. I always worry when a major company is making a significant strategy change as any missteps could adversely affect their ability to service their debt. Additionally the change in strategy is admirably it's still capital intensive and will take time to implement. Like Shell this stock has been crushed and the shifting to cleaner energy will take years. This is a stock that could see a significant short term appreciation in stock value but longer term the company will be challenged with its high debt. Like Shell, BP is a hold if you own it or a short term trade at best.
About BP and Royal Dutch Shell
Wikipedia: BP plc (formerly The British Petroleum Company plc and BP Amoco plc) is a British multinational oil and gas company headquartered in London, United Kingdom. It is one of the world's seven oil and gas "supermajors"
Wikipedia: Royal Dutch Shell PLC, commonly known as Shell, is a British-Dutch multinational oil and gas company headquartered in the Netherlands and incorporated in England. It is one of the oil and gas "supermajors" and the third-largest company in the world measured by 2018 revenues (and the largest based in Europe).
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