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Sunday Telegraph: Oil: a black hole for cash

Feb 5th, 2006
by admin.

These are amazing times for the oil industry – or so the headlines would suggest. Last week, Royal Dutch Shell, the Anglo-Dutch oil giant, reported record profits for a UK-listed company of £13bn. This week BP is expected to continue that trend by announcing profits of about £12bn.
Even those astronomical figures do not tell the full story. According to analysts at Goldman Sachs, Shell and BP will each have generated between $35bn and $37bn of operating cashflow.
But unfortunately for today's oil majors, as Shell's results highlighted last week, even walls of cash no longer guarantee increasing production.
For while Shell's profits were a record, it is actually producing less oil than it did last year. The company's reserve replacement ratio – the rate at which it finds reserves to replace those it has depleted – was also down, to between 60 and 70 per cent.
The pressure to invest has never been greater. The International Energy Agency, for instance, estimates that meeting global energy needs will require the investment of $17,000bn (£9,600bn) – in 2004 money – by 2030. Both Shell and BP have increased their capital expenditure in recent years – especially the former, which has pledged to spend $19bn on new developments this year.
But, as Jeroen van der Veer, Shell's chief executive, will point out at a conference in Houston this week, the challenges for the industry keep getting tougher: projects are getting bigger and more difficult to undertake; the service sector is at full capacity (the industry is suffering a chronic shortage of experienced people and don't even think about trying to hire a drilling rig at the moment); and meddling governments are always eager to cream off a slice of the profits.
“Given the urgent investment needs, exacting 'windfall' taxes is perverse, particularly in an industry with a history of volatile prices,” van der Veer will say. “In an increasingly uncertain world, long-term investors need predictable terms.”
In other words, you get less bang for your buck these days. Oil bosses have a difficult line to walk between sharing these extraordinary riches with their shareholders and investing to protect the future of their companies.

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