Big Oil’s Tough Clean-Energy Transition

Despite the drama of a watershed week for big oil, change will likely be slow and painful.

On Wednesday, an activist shareholder won its bid to install climate-friendly directors on

Exxon

XOM -1.51%

Mobil’s board. Earlier in the day,

Royal Dutch Shell

RDS.A -1.24%

was ordered by a Dutch court to reduce its total carbon emissions. Last week, the International Energy Agency, a longtime industry advocate, said investments in new fossil-fuel projects must cease to reach a target of net-zero carbon emissions by 2050.

Pressure on the petroleum industry to decarbonize is building on multiple fronts. U.S. oil giants that look at their more forward-thinking peers across the Atlantic for inspiration will find some lessons, but not easy ones.

The major European oil companies have refocused their attention on extending existing high-return sites rather than exploring new ones. Oil and gas expenditures were slashed during the coronavirus pandemic and remain down. Billions of dollars will still be spent on the traditional business, but likely with a higher hurdle rate because of more uncertain future demand, higher capital costs and rising carbon prices.

Green investment will increase, but that doesn’t mean

Chevron

CVX -1.44%

and Exxon should start building solar or wind farms. Renewable projects could be tough without relevant experience. Competition is fierce for new sites and it is a low-margin business—more installation than exploration. There is a risk of overpaying.

BP,

the last of the European supermajors to pivot toward green energy, paid a healthy premium to buy into offshore wind projects.

The most promising areas for the U.S. majors to invest are those where they have transferable skills. Refineries can process biofuels as well as petroleum; liquefied fuels can be natural gas or hydrogen; and captured carbon dioxide can be used for enhanced oil recovery or sequestered. The European players are investing here too.

Investors should expect write-downs, both of capital invested in newly uneconomic petroleum projects and speculative clean-energy projects that don’t pan out. Selling off suboptimal oil-and-gas assets could become more difficult.

More encouragingly, commodity prices and cash flows should hold up in the near term, supported both by the lower petroleum investments and Saudi Arabia’s determination to keep the market balanced. That should give the supermajors cash to pay for punchy transition strategies.

Even with healthy oil prices, this looks set to remain a difficult environment for shareholders. One of the lessons from BP’s strategic shift is that changing the business scares away traditional investors but rarely happens quick enough to attract the fast-growing ranks of green-minded ones. It will take years, even decades, for these massive businesses to show meaningful change in their portfolios. Witness Shell, which started its transition years ago but is still facing broadsides from climate activists.

Dividends are also at risk. Both Shell and BP cut their payouts to fund cleaner strategies last year, although the oil-price collapse didn’t help. Higher crude prices could stave off U.S. cuts if debt levels can be managed.

The other good news for Exxon and Chevron is that some of the unknowns that Shell and French peer Total faced in their early transition efforts have receded. Decarbonization is now a near-universal political priority; output of electric vehicles is ramping up; and wind and solar power are often cheaper than fossil fuels.

Increased scrutiny and disclosures are shrinking the space for green promises without action from the major oil companies. U.S. producers are lagging behind on a long road, but at least they can benefit from a clearer idea of what a greener future looks like.

Shell’s CEO Ben van Beurden talks to the Journal about what the future of energy could look like in a lower-carbon world. How quickly will new technologies transform our consumption? And can they pull off a radical reinvention of its core business?

Write to Rochelle Toplensky at rochelle.toplensky@wsj.com

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