Late last month, Freeport McMoRan co-founder and executive chairman James R. Moffett was shown the door [10].
Moffett, known as the “last of the old-time wildcatters”, was a legend in the industry but made a fatal mistake in 2013: he paid $2.1 billion for McMoRan Exploration Co (an oil-and-gas company the parent company had separated from in the 1990s), and $6.9 billion for Plains Plains Exploration & Production.
As WSJ put it [11], “the deals in part were a bet that oil prices would remain high.”
Well, they didn’t, and the gamble ended up increasing the combined entity’s debt fivefold and Carl Icahn is now pushing Freeport to dump the “high cost” assets.
Freeport wasn’t the only mining giant to make an ill-timed bet on US oil and gas assets. BHP Billiton, the world’s largest miner, spent $20 billion buying US assets in 2011, making it the largest overseas investor in US shale. Now, as “lower for longer” turns to “lower for longer-er”, the company is set to take a huge writedown on its US onshore portfolio.
How huge, you ask? $7.2 billion huge (or $4.9 billion after taxes) on assets the company was carrying at just over $20 billion. The company now values its US assets at $16 billion. “While we have made significant progress, the dramatic fall in prices has led to the disappointing write down announced today,” CEO Andrew Mackenzie said. “However, we remain confident in the long-term outlook and the quality of our acreage. We are well positioned to respond to a recovery.”
Mackenzie went on to say the company would cut the number of rigs operating in the US from 26 to just 5 by the end of the quarter.
"In addition to the purchase costs, BHP has committed more than $15bn of capital investment [to the US assets]", FT notes [12], underscoring just how expensive a bet this truly was. "The impairments announced on Friday mean BHP has now written off [13]almost $13bn on the deals."
As noted above, the new carrying value is $16 billion, but that includes a $4 billion deferred tax liability, so it could be more like $12 billion and that $12 billion is itself above some sellside estimates of NAV. Amusingly, UBS values the assets at $8 billion - and that assumes "long-term" WTI at $65/bbl. "There's a risk of further write downs on possible revisions to BHP’s long term oil prices," the bank writes, dryly. BofA meanwhile, values the US onshore operation at $12.8 assuming long-term WTI at a whopping $75/bbl.
[14]
Here's a look at how the writedowns affect BofA's estimates in the new year and beyond:
[15]
Anyway, next on the chopping block: the dividend.
“In what’s probably a protracted period of lower commodity prices, there’s this writedown and probably other writedowns to come elsewhere in the portfolio,” Tim Schroeders, a Melbourne-based portfolio manager at Pengana Capital Ltd., told Bloomberg [16] by phone. “They are getting close to having to come clean on the progressive dividend."
“At the moment, the biggest concern they have is can they fund their dividend, can they fund their capex plans?”, Citi adds.
And while the likes of Melbourne-based IG Ltd. analyst Angus Nicholson say that "all things considered, it's probably a bigger writedown than many had expected," other don't agree. “Yeah well, considering you’ve got a book value of $20 billion and you haven’t reported an operating EBIT gain in the last two years, I think they’ve been lucky to get away with such a modest amount and I think that’s because the forward curve is still pointing to a snapback in crude prices," Rob Brierley Patersons SEC Head of Research told CNBC in an interview. "If that [snapback] doesn’t occur, I think they’ll be having the same discussions with their auditors in July," he added.
Yes, they probably will, because with 500 million b/d of new Iranian supply set to hit the market, with the Saudis raiding the welfare state to ensure the prolongation of the kingdom's war of attrition with US shale, and with Russia and Iraq both pumping at record levels, the fundamentals for crude are simply abysmal.
Additionally, expect the downturn in other commodities the company pulls out of the ground to continue unabated amid the global deflationary supply glut and China's acute overcapacity problem.
And then there is of course the Samarco fiasco [17] where a tailings dam at an operation jointly owned with Brazil's Vale collapsed sending a river of toxic mud into nearby villages. That mud has now reached the ocean and no one knows what BHP's liability will ultimately end up being.
So, in addition to the "discussions" Brierley says the company will likely be having in the not-so-distant future with the auditors, one wonders if BHP, like the two dozen US shale companies we highlighted [18] earlier this month, will also be having a "discussion" with the company's bankers regarding the size of its credit facility.
But don't worry, Citi, Morgan, and probably several others have recently upgraded the shares because all of the above apparently bodes well going forward.
We'll close with the following bit from Bloomberg which is just further evidence of the fact that when it comes to US shale, it's all starting to unravel:
Tokyo Gas Co said on Friday it expects to book 10.6 billion yen ($90 million) in impairment losses on its Texas shale gas development project in the October-December quarter, reflecting the recent steep declines in oil and gas prices. The company, Japan's biggest city gas supplier, said it was reassessing earnings projections for the business year ending March and would announce them as soon as that becomes available.
