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Business News/ Opinion / Columns/  Opinion | A deal that shows the end of an oil-and-gas super-cycle
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Opinion | A deal that shows the end of an oil-and-gas super-cycle

Reliance’s early deleveraging via a stake sale suggests it no longer sees hydrocarbons as the future

Mukesh Ambani, Chairman and Managing Director of Reliance Industries, attends the company's annual general meeting in Mumbai. (Photo: Reuters)Premium
Mukesh Ambani, Chairman and Managing Director of Reliance Industries, attends the company's annual general meeting in Mumbai. (Photo: Reuters)

Reliance Industries Ltd’s (RIL) chairman and managing director Mukesh Ambani has a good sense of timing when it comes to decisions about his business. This was on view once again in his announcement that the company had a non-binding letter of intent in place for selling a 20% stake, approximately valued at $15 billion, in RIL’s oil and chemicals business to Saudi Aramco.

The move, if it goes through, along with an earlier deal with BP Plc. whereby the European oil company will pay nearly a billion dollars for a 49% stake in the Indian conglomerate’s fuel retail business, is the clearest sign yet that Ambani now reckons that oil and gas is no longer the business of the future.

Sure, RIL needs the money mostly to repay debt taken for its ambitious plans in telecom, and even there, its situation is by no means alarming. The company’s capital expenditure cycle that began in 2014 is now over, but while repayment should normally take 7-10 years, Ambani is deleveraging it to make it debt-free in the next two years.

RIL’s decision may be pointing to not just the inevitable end of the latest oil super cycle, but also the sunset of Big Oil as a big money-spinner.

There have been three super-cycles in oil prices since 1861—when the first one began. After peaking around 1867, this one finally drew to a close around 1882. The second super-cycle began in 1966 and coincided with the setting up of the Organization of the Petroleum Exporting Countries (Opec). It finally ended around 1996, when the last of the super-cycles began. Driven by the rapid industrialization of China, along with growth in other emerging market economies, which fuelled the demand for oil and other commodities, this cycle has now entered a contraction phase, following a slowdown in these very markets.

RIL rose and prospered in perfect harmony with this last super-cycle, commissioning the world’s largest greenfield refinery in 2000 at an investment of $6 billion just when oil prices were beginning to shoot up once again. Crude oil prices, which had dropped to an average of $12.28 per barrel by 1998, rose sharply over the next 15 years to $109.45 per barrel by 2014, peaking at $144 in mid-2008. In these years, thanks to its early investments in the sector, RIL made enormous profits

Since then, though, oil prices have dropped off sharply and, despite recent correction, are not expected to rise. According to World Bank projections, benchmark oil prices will be around $70 per barrel in 2030, as energy demand now begins to find alternative sources, rendering fresh investments in traditional sources such as coal, gas and petroleum unattractive.

Oil experts haven’t missed the true import of the alarming decline in vehicle sales, a trend that first showed up on the books of auto companies nearly two years ago. Sales of passenger vehicles in India crashed by 31% this July, while those of commercial vehicles crashed by 26%. Overall auto sales during the month slumped 19% over July last year. This has obvious implications for fuel demand.

Vehicle fuels account for around half of all oil-product demand. According to Bloomberg New Energy Finance, Bloomberg’s primary research service, “electrification of passenger cars and increased uptake of alternative drive-train technologies for commercial vehicles (such as liquefied natural gas and hydrogen) poses a risk to the demand outlook for gasoline and diesel. We expect this trend to have a growing impact on refined product demand over the next 10-20 years, forcing refiners to reduce fuel yields."

Global oil demand for passenger vehicles is expected to plateau over the next five years with demand for oil consumed for transportation already waning in certain markets and market segments (bloom.bg/2Q4S2YE). Thus, electric buses are rapidly replacing traditional vehicles in countries like China, and the tipping point for electric vehicles may not be too far. When it comes, the fall for petrol vehicles will be precipitous.

Within the oil industry value chain, refining has the slimmest profit margins. Still, it makes sense for a company like Aramco, which posted its financial results on the same day. The Saudi state-owned company reported a 12% fall in its net income for the first half of 2019, as compared to the same period in 2018.

The fall in oil prices and the divisions within Opec on production quotas are among the major factors for the slip in the company’s performance. It needs to hedge its positions, and, given its huge cash pile, has been on the prowl for downstream assets in oil, gas and petrochemicals.

Big Oil’s days of dominance are fast diminishing, and dominant oil producers like Aramco know that. After years of lording over global oil markets, they are facing repeated disruptions both from innovators, who are rendering their basic product redundant, and consumers, who are now choosing to shun products that they perceive as being a threat to the environment.

Smart companies read the tea leaves. A structural change is afoot in the entire oil-based economy, spanning oil prospectors and extending all the way to end users. The biggest companies along the value chain need to change as well, or they risk becoming relics.

Sundeep Khanna is an executive editor at Mint

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Published: 14 Aug 2019, 10:54 PM IST
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