Big Oil Dividends: Going, Going, Gone?

In the now almost-universal chase for yield and dividends, one “safe” place investors have been looking for dividends is in the major oil companies.
Those include Big Oil companies like ExxonMobil (NYSE: XOM), Chevron (NYSE: CVX), Royal Dutch Shell (NYSE: RDS-A) and BP (NYSE: BP).
But in that search for any sort of yield, investors are ignoring the red flags raised . . . if you look closely at the environment these oil companies are operating in.

Hit From Both Sides

The current low oil prices are bad enough for oil companies. In inflation-adjusted terms, the price of Brent crude oil is roughly $22 a barrel. That’s not much above the average since 1983.
And now the glut of crude oil has turned into a glut of refined products. That is crushing refining margins at these integrated oil majors. BP, for example, saw its refining margins in the second quarter of 2016, hit the lowest level since 2010.
Yet, the managements at the oil majors keep beating their chests about how their dividends are sacrosant.
How the heck are they going to pay for them?
Yes, budgets are being slashed. Expenditures at Royal Dutch Shell, for instance, will be 38% lower than what was invested in 2014 by it and the now-acquired BG Group.
But it’s not enough. Big Oil dividends are at risk.
The large integrated oil companies are not able to fund their dividends organically in the current oil price environment. The Wall Street Journal reports that, in the first half of 2015, the aforementioned four major oil companies’ cash flow fell short by $40 billion from covering their dividends and expenditures.

Debt Growing Rapidly

So the oil majors are turning to debt to finance their dividend payments.
According to Bloomberg, the aggregate net debt of the 15 biggest North American and European oil companies rose to $383 billion at the end of the first quarter of 2016. That was up $97 billion from a year earlier.
If one narrows the focus to the big four of ExxonMobil, Chevron, BP and Royal Dutch Shell, these companies have a combined net debt of $184 billion. That is more than double their debt levels in 2014.
Here are some of the individual company’s jump in debt:

• ExxonMobil’s net debts rose to $38.3 billion in the first quarter from $27.6 billion a year earlier.
• BP’s net debts climbed to $30.6 billion in the first quarter from $24.6 billion a year earlier.
• Royal Dutch Shell’s net debt in the second quarter alone jumped by $5 billion to a record $75 billion!

These rising debt piles are behind the ratings downgrades for these companies. For example, ExxonMobil lost its coveted triple A rating from Standard & Poor’s in April.

Big Oil Dividends: What’s Next?

Oil companies need higher oil prices and fast. Energy consultancy firm Wood Mackenzie estimates that the largest oil producers need $63 a barrel just to cover their dividends and investment with cash flow.
That seems highly unlikely as Saudi Arabia, Iraq and Russia continue pumping oil at record levels. And Iran’s output is rising faster than the so-called experts expected. Throw in U.S. producers bringing their DUCs (drilled but uncompleted wells) online every time oil approaches $50 a barrel and $63 seems like a pipe dream.
So the oil companies will continue disposing of assets and gorging themselves on cheap debt. That may keep Big Oil dividends flowing at the current rate for a couple years.
But eventually, the debt just becomes too much for these companies to bear. Payout rates of these Big Oil dividends  will have to be slashed.
A couple of the larger oil companies – ConocoPhillips (NYSE: COP) and Italy’s Eni (NYSE: E) have already had to bite the bullet.
The same is true for big mining companies including BHP Billiton (NYSE: BHP), Rio Tinto (NYSE: RIO), Freeport-McMoran (NYSE: FCX), Glencore (OTC: GLNCY) and Anglo American (OTC: NGLOY). These companies have either slashed or completely eliminated their dividends.
Big Oil will eventually follow Big Mining down the same dividend-cutting path. Caveat emptor for dividend-seeking investors.