Special Report-BP gambles big on fast transition from oil to renewables

Solar panels are seen in this drone photo at the Impact solar facility in Deport, Texas, U.S., July 15, 2021. REUTERS/Drone Base

September 20, 2021

By Ron Bousso

LONDON (Reuters) – Deep in the Oman desert lies one of BP’s more lucrative projects, a mass of steel pipes and cooling towers that showcases the British energy giant’s pioneering natural gas extraction technology.

The facility earned BP Plc more than $650 million in profits in 2019, according to financial filings reviewed by Reuters. Yet the oil major agreed to sell a third of its majority stake in the project earlier this year. The deal exemplifies a larger strategy to liquidate fossil-fuel assets to raise cash for investments in renewable-energy projects that BP concedes won’t make money for years.

BP’s big bet is emblematic of the hard choices confronting Big Oil. All oil majors face mounting pressure from regulators and investors worldwide to develop cleaner energy and divest from fossil fuels, a primary source of greenhouse-gas emissions that cause global warming. That scrutiny has increased since early August, when the United Nations panel on climate change warned in a landmark report https://www.reuters.com/article/us-climate-change-ipcc-report-idCAKBN2FA0JL that rising temperatures could soon spiral out of control.

BP Chief Executive Bernard Looney, who took office in February 2020, is gambling that BP can make the clean-energy transition much faster than its peers. Last year, he became the first major oil CEO to announce that he would purposely cut future production. He aims to slash BP’s output by 40%, or about 1 million barrels per day, an amount equal to the UK’s entire daily output in 2019. At the same time, BP would boost its capacity to generate electricity from renewable sources to 50 gigawatts, a 20-fold increase and equivalent to the power produced by 50 U.S. nuclear plants. (For a graphic on BP’s clean-energy investment plans, see https://tmsnrt.rs/3fbaCJP)

To hit those targets, Looney plans $25 billion in fossil-fuel asset sales by 2025. That’s equivalent to about 13% of the company’s total fixed assets at the end of 2019. Under his watch, BP has already sold legacy projects worth about $15 billion. In addition to the Oman deal, Looney unloaded oil and gas fields in Alaska and the North Sea and sold off BP’s entire petrochemical operation, which produced a $402 million profit in 2019.

Two of BP’s key renewables investments, by contrast, are losing tens of millions of dollars, according to a Reuters review of financial filings with Companies House, Britain’s corporate registry. BP owns half of Lightsource, a solar energy company that lost a combined 59.3 million pounds ($81.8 million) in 2018 and 2019, the last year for which data is available. The company’s UK-based electric-vehicle charging firm, bp pulse, lost a combined 22.3 million pounds ($30.8 million) over the two years.

Performance figures for other assets recently bought or sold by BP are not available because, like other oil majors, it does not usually disclose financials of individual projects.The performance numbers for the two renewable projects and the Oman unit have not been previously reported. BP did not give Reuters updated financials for those projects or others beyond 2019.

The company acknowledged that its fast-growing clean-energy business – including its solar, EV-charging and wind ventures – continues to lose money. BP does not expect profits from those businesses until at least 2025.

The losses are not slowing Looney’s spending on renewable energy. He aims to boost annual investment to $5 billion by 2030, a 10-fold increase over 2019. For bp pulse, that means operating 70,000 charging points by 2030, up from 11,000 now. Lightsource, meanwhile, recently completed a $250 million solar farm in rural north Texas and, separately, acquired a U.S. solar company for $220 million. BP is also moving aggressively into offshore wind power, and paying a high cost of entry relative to companies who got established in the business earlier.

As he launched the transition, Looney has slashed jobs, cutting 10,000 employees, or about 15% of the workforce he inherited. BP’s share price, meanwhile, has fallen 39% since Looney arrived, the worst performance by any oil major during the period. (For a graphic comparing BP share prices to other oil majors, see https://tmsnrt.rs/3hhM0Ak)

In an interview with Reuters, BP Chief Financial Officer Murray Auchincloss dismissed the importance of the company’s recent share performance and said BP and its investors can weather the rapid transformation. The declining oil-and-gas revenue this decade will be offset, in part, by higher expected revenues from gasoline stations and their attached convenience stores, he said. Those stations will increasingly offer electric vehicle charging, a business Auchincloss said is growing much faster than BP had expected, especially in Europe, because of plans by automakers including BMW and Daimler AG, the parent company of Mercedes-Benz, to introduce more electric models.

“Electrification is growing at a much faster pace than we ever could have dreamed,” Auchincloss said.

When BP’s wind and solar investments start returning healthy profits, Auchincloss said, the returns will be lower than BP expects from oil and gas. But they will be far more stable, he said, compared to the “super volatile” oil business, where prices can rise or fall dramatically. The company also plans to boost profits through its energy-trading operation, one of the world’s largest, which will benefit from BP’s new focus on generating electricity, Auchincloss said.

Seven current and former BP executives spoke with Reuters on condition of anonymity and shared their views on Looney’s transition plan. The executives generally supported the direction but expressed varying levels of concern that Looney is moving too fast in trading high-quality oil assets for more speculative renewable-energy investments. Some worried in particular that selling higher-quality oil assets now could leave BP with mostly lower-quality assets, which will become harder to unload later as the entire industry looks to transition to cleaner energy sources.

A recent attempted sale illustrates the increasing challenge of selling oil assets. When BP tried to sell two stakes in North Sea fields to Premier Oil, it slashed its price by two-thirds in negotiations, to $205 million, only to see the deal collapse entirely late last year when Premier hit financial difficulties.

One former senior BP executive said that Looney may have erred in setting a specific target for renewable-power capacity – one that would be difficult to meet while also hitting profit targets. Meeting those two conflicting goals will become harder as industry competition to acquire renewable assets heats up, said the former executive, who recently left BP. Missing either mark will not go over well with investors, the executive said.

A current senior BP executive countered that Looney, backed by company directors, has taken a bold but reasonable strategy to tackle the vexing challenges facing the industry. “The board knows that you can’t please everybody,” this executive said, “and the worst thing you can do is take no stand.”

BP spokesman David Nicholas said the company has been “strictly disciplined” in choosing renewable investments that meet certain financial criteria and will allow Looney to continue hitting corporate profit targets.

Looney faces a steep challenge in convincing shareholders to come along on what promises to be a wild ride for BP, said Russ Mould, the investment director for AJ Bell, one of UK’s largest consumer-investing platforms, serving 368,000 people.

“BP is still looking to sell assets, at a time when demand for them is not great, and recycle that cash into renewable-energy assets, where competition for them is fierce,” Mould said in an August note to investors. “That sounds like a potential recipe for selling low, buying high and destroying shareholder value along the way.”

‘BEYOND PETROLEUM’ REDUX

Looney is a 50-year-old Irishman who grew up on a family farm in County Kerry with four siblings. He joined BP in 1991 as a drilling engineer and rose through the ranks of its oil-and-gas exploration and production division — “upstream” in industry parlance — before becoming its head in 2016. Confident and charismatic, Looney set his ambitions on “reinventing” BP as a green-energy provider when he took over the CEO’s job from Bob Dudley.

Looney’s transition may unnerve shareholders who recall BP’s late-1990s foray into renewables — the ultimately abandoned effort to rebrand BP as “Beyond Petroleum.” Then-CEO John Browne was the first oil major chief to publicly acknowledge that fossil fuels contributed to climate change. He invested billions of dollars in wind and solar projects, only to see most of them fail over the next decade. Browne did not respond to a request for comment.

This time, BP is going beyond investing in renewables; it’s unloading core oil and gas assets. The Oman project is among the world’s largest natural-gas fields, and BP reported to Companies house that the field earned a 17% return on capital deployed in 2019.

When BP expanded the Oman project in October 2020 to boost its gas output, Looney called it central to BP’s strategy. He has said he envisions natural gas, which has lower emissions of atmosphere-warming carbon than crude oil or coal, as a long-term revenue source to finance the company’s metamorphosis.

Late last year, however, Looney faced rising pressure to steady the ship amid the coronavirus crisis, which sapped global fuel demand and crushed oil and gas prices. BP ended the year with $39 billion in net debt, a level that concerned executives including Looney, according to one senior BP executive with knowledge of their internal deliberations. The debt had become problematic because of the company’s falling value, which increased its debt-to-equity ratio and jeopardized its credit rating. The concerns, the executive said, also stemmed from a difficulty in convincing bankers and investors that BP’s growing renewable-energy business could make money.

In early 2021, Looney called a meeting of BP’s top leadership and told them to urgently find ways to cut debt to below $35 billion, the executive said.

Soon after, on February 1, BP announced the agreement to sell part of its stake in the Oman gas field for $2.6 billion to Thailand’s PTT Exploration and Production. BP gave up a third of its 60% ownership – or 20% of the whole project – in the deal. That sale and others helped BP cut debt to $33 billion by the end of March. The effort was also aided by rising oil and natural gas prices.

Three current and former BP executives told Reuters that the company decided to sell the stake in such a profitable project because it struggled to find buyers for other assets during the pandemic, which left few firms with an appetite for acquisitions.

BP spokesman Nicholas said that BP had started planning to sell a stake in the Oman project before Looney launched the drive to cut debt.

In a brief interview at a company announcement in April, Looney told Reuters that he was happy with the price for the Oman stake and didn’t sell it under duress.

“We’re not in a panic here,” Looney said. “There is no rush; net debt is very much under control.”

Anish Kapadia, head of energy at the investor advisory service Palissy Advisors, said the price for the Oman stake was relatively low compared to comparable sales of natural-gas assets. Based on the project’s earnings, Kapadia said he would have expected a value about 25% higher. BP also might have made substantially more money, Kapadia said, by waiting until the oil-and-gas industry rebounded.

“They’re selling a profitable, long-life, long-reserve business,” Kapadia said of BP. “They’re selling it and using those proceeds to fund alternative businesses that aren’t going to generate free cash flow for the best part of this decade.”

Several months before the Oman deal, in June 2020, BP sold its petrochemicals business for $5 billion to chemicals giant INEOS. The business generated about 4% of BP’s total annual profit in 2019.

Some other majors, by contrast, have targeted petrochemicals as a growth area and a hedge against expected long-term declines in oil demand. Royal Dutch Shell and Exxon Mobil have in recent years invested heavily in petrochemicals, which supply industries including plastics.

BP spokesperson Nicholas said the company had long ago, in 2005, sold a bigger piece of its petrochemical business to INEOS and only retained two specialist operations that were not integrated with the rest of BP. “We sold for a very good price,” he said, “to a company that could integrate them into their business.”

Looney has often delighted in taking a different path – especially more recently, as the company reported strong second-quarter profits of $2.8 billion on the strength of its recovering oil-and-gas business. Looney has indicated, however, that the fresh influx of cash only makes him want to sell BP’s oil assets faster – while it can fetch higher prices for them to finance more renewable investments.

“While we understand the questions in some investors’ minds, we do see a compelling proposition to deliver competitive returns” in renewable energy, Looney told investors on the August earnings call.

Mould, the AJ Bell investment director, said Looney’s strategy may prove to be the “least bad option” facing BP and other oil firms under pressure to overhaul their businesses. Investors who buy BP shares at their current, beaten-down prices, he said, could see strong long-term returns.

LOSS LEADERS

As BP’s fossil-fuel footprint shrinks, it faces a steep challenge in filling the financial void with profits from clean-energy ventures.

For now, BP’s renewable projects are taking losses. The firm bought its bp pulse electric-vehicle charging firm – then named Chargemaster – in June 2018 for 130 million pounds ($179.3 million). The oil major hopes to boost the firm’s fortunes in part by installing thousands of fast EV chargers alongside gas pumps at its large service-station network. The stations and their attached convenience stores have been a key profit driver, and BP is betting that EV drivers will shop and snack more while charging their cars, which takes longer than a gasoline fill-up.

BP announced a deal to acquire a 43% stake in Lightsource in December 2017 for $200 million. It now owns 50% of the firm, which operates solar farms in 15 countries and has tripled capacity since 2017 to 20 gigawatts.

Dev Sanyal, chief of BP’s natural-gas and renewables businesses, said that solar-power businesses start delivering profits more quickly than offshore wind, where development can take much longer. But solar initially delivers lower returns than wind, Lightsource BP CEO Nick Boyle said in the 2019 filing reviewed by Reuters. The returns increase gradually, in part because solar has lower maintenance costs than wind facilities.

BP this week announced the appointment of Anja-Isabel Dotzenrath, a veteran renewables and power sector executive, as its new head of natural gas and renewables, replacing Sanyal. The move was seen as further sign of Looney’s drive to diversify away from oil and gas.

PRICEY WIND PROJECTS

BP moved aggressively into offshore wind in October 2020 when it bought a 50% stake from Norwegian energy giant Equinor in two projects off the U.S. East Coast for about $1 billion. Offshore projects, the industry’s next frontier, are far more complex and capital-intensive than onshore projects and use newer technology.

Many top oil companies with experience in operating deepwater oil and gas fields have made a similar push. Some, such as Shell and Equinor, started their offshore wind ventures several years ago. Utilities such as Spain’s Iberdrola and Denmark’s Orsted are also well established.

That stiff competition means BP is paying a hefty price of entry, some rivals say privately. In February, BP and its partner Energie Baden-Württemberg AG paid 900 million pounds ($1.24 billion) for the rights to build two projects in the Irish Sea in Britain’s offshore wind licensing round.

BP’s Sanyal acknowledged the high costs of entry. But he said the prospect of long-term power-supply contracts will make the returns more reliable.

“You don’t have the highs and lows of oil and gas,” Sanyal said.

It will be years before investors know the outcome of Looney’s wager on renewables. Still, even BP’s relatively fast transformation doesn’t go far enough in reducing climate damage, said Kim Fustier, an oil-and-gas analyst at HSBC bank. She expects BP’s earnings from renewables and low-carbon businesses to represent 4% to 5% of total earnings by the middle of the decade and 10% to 15% by 2030.

“This is nowhere near enough for investors to start thinking of these companies as being part of the solution,” Fustier said.

($1 = 0.7251 pounds)

(Reporting by Ron Bousso; editing by Simon Webb and Brian Thevenot)

Source: One America News Network