Energy Industry to Face a $100 billion-plus Cash-flow Gap in 2016, Says AlixPartners Study

The year 2016 will likely be another year of low oil prices and deteriorating energy-industry revenues and profits, turning it into a watershed for the already-troubled industry, including for the more than 130 publicly-traded exploration & production (E &P) companies operating in North America which are predicted to post a combined negative net cash flow (operating cash minus interest payments and currently-planned capital expenditures) of more than$100 billion in 2016. That's according to a new study released today by AlixPartners, the global business-advisory firm.
 
This dramatic funding gap underscores the critical and immediate need the entire industry—from E &P companies (including integrated majors) to oilfield services and equipment (OFSE) companies to midstream companies to refiners and beyond—faces, globally, to generate cash. That's because while companies can go a long time without profits, they can survive only a short time without cash, the lifeblood needed by any type of company to pay its bills.
 
And, even for companies that have cash cushions, weathering this severe industry downturn intact is not assured. The study says industry profits for the past year as measured by earnings before interest and taxes (EBIT) will likely be down 20% to 30%, and it finds that the industry's overall return on capital employed (ROCE) today is only about 3%, a far cry from the 20% returns of a decade ago.
 
In order to produce cash and make it through this downturn intact, says to the study, companies in the industry need to adopt "lights-on," zero-based operating and staffing budgets to reflect the realities of much lower activity levels today, budgets which should include:

• slashing capital expenditures by an additional 30% to 50%;
• cutting supply-chain costs by 20% to 30%;
• going beyond  layoffs already undertaken to further reduce labor costs aggressively but surgically;
• And in some cases, including for E &P companies with high debt loads and large impairments, undertake asset sales.

In fact, the study predicts that M &A activity in the industry is likely to pick up considerably this year, following a lull last year as bid-ask spreads between potential buyers and sellers temporarily remained wide even as oil prices plummeted.
 
The study predicts the OFSE sector will continue to be hit the worst in the year ahead, but that E &P and other sectors are unlikely to see any relief as well, as AlixPartners sees the worldwide demand for oil increasing only 1% to 1.5% in 2016. The study also takes a close look at several oil and gas basins, and calculates the breakeven points for drilling in those regions at today's prices, finding that many are in the "red zone" and that even the choicest plays are challenged today.
 
Meanwhile, the study predicts that global oil prices are likely to be in the $45 to $65 a barrel range over the next several years.
 
In Europe, it says, European refineries, which enjoyed strong growth in gasoline products last year, are likely to face a hard landing on profit margins this year, as current installed capacity is estimated to be enough to absorb 20 years' worth of demand growth.
 
The study also notes that new capacity in Asia and the Middle East might face challenges given weaker demand in those regions. It points out, for instance, that 4 million barrels-a-day of new refining investments are estimated to be put in place in China by 2035, and another 2.9 million barrels-a-day in the Middle East.
 
"Largely because of the success of unconventional drilling in North America and the economic slowdown in China, this downturn could be one of the most severe and prolonged ever," said Dennis Cassidy, managing director at AlixPartners and co-head of the firm's Oil, Gas and Chemicals Practice in the Americas. "In fact, a major reset appears to be taking place in the industry, with 2016 shaping up to be a watershed year. In order to survive the year ahead, and thrive afterward, companies will have to be both bold and proactive. For many if not the majority of companies, that means adopting zero-based budgets with a 'lights-on' baseline, versus the traditional method of starting with existing budgets and simply making incremental cuts downward. It's highly unlikely that latter approach will work this year."
 
The study also urges companies to improve field productivity by doing such things as focusing on operational footprints, repositioning equipment, eliminating unprofitable service locations, standardizing common tasks and segmenting wells for divestment or shut-in.
 
About the Study

The AlixPartners Global Oil and Gas Industry Outlook, 2016: A Year of Transition analyzed oil, gas and chemicals companies from all major sectors worldwide, including the cash flows of 134 publicly-traded exploration & production companies in North America.
 
AlixPartners is a leading global business-advisory firm of results-oriented professionals who specialize in creating value and restoring performance at every stage of the business life cycle. We thrive on our ability to make a difference in high-impact situations and to deliver sustainable, bottom-line results. The firm's expertise covers a wide range of businesses and industries whether they are healthy, challenged or distressed. Since 1981, we have taken a unique, small-team, action-oriented approach to helping corporate boards and management, law firms, investment banks, and investors to respond to crucial business issues.