After over 60 years of operating in the frigid but productive wilderness of Alaska, oil supermajor BP has decided to call it quits. The entirety of its Alaskan assets and operations have been sold to Hilcorp Energy for US$5.6 billion. Why Alaska and why now? Well, that’s just a natural consequence of looking for the next big thing. Once home to the largest crude oil field in America, BP’s departure from Alaska is not a surprise but a trend of things to come.
What Hilcorp purchases from BP includes the Prudhoe Bay oil field, which produced 1.5 mmb/d per day in the late 1980s as well as BP’s stake in the Trans-Alaskan Pipeline, which moves oil from the North Slope to the Port of Valdez for export. These were once crown jewels of American upstream, but are now tarnished after years of consistent production have dwindled resources. From peak production of over 2 mmb/d in the late 1980s, Alaskan crude output is now under 500,000 b/d. What oil is left is getting harder to extract, and what new oil is being found isn’t nearly enough to justify long-term investment. Particularly when cheaper alternatives that bring quicker returns – ie. shale
BP isn’t the only firm to exit Alaska, but it certainly is the largest so far. In fact, it had already halted exploration in Alaska years ago, maintaining its portfolio of existing assets only. Marathon Oil and Anadarko have already fled southwards to the shale fields in Texas and Mexico. But BP’s history with Alaska is deep, and therefore its departure is a psychological blow. Following the news, there is now already talk that ExxonMobil might be the next to leave. If it did, it would be a disappointment to the state but certainly not a surprise; oil production in the Last Frontier is projected to hit a 42-year low this year. What is BP’s loss is Houston-based Hilcorp’s gain – Hilcorp’s Alaskan operation will double in size after the deal, placing it just behind ConocoPhillips as the largest operators in the state.
Of course, this phenomenon isn’t just limited to Alaska. The North Sea, once crucial to the global crude supply chain has seen similar declines. And, consequently, the departure of once major players. Taking their place are smaller, more nimble players with a bigger risk appetite, seeking to eke out the last few drops of oil available in these maturing areas.
So where does BP and the other majors considering moving out go? The answer is predictable: shale. BP already has a toehold in US shale, purchasing BHP’s shale operations in July 2018 for US$10.5 billion its largest deal in 19 years. With assets in the Permian through the deal, BP returns once again to the US shale frontier, after being forced to leave the then-promising Permian in 2010 in the wake of the Deepwater Horizon disaster. BP CEO Bob Dudley called the Alaska deal a move to ‘steadily reshaping BP with opportunities that are more closely aligned with our long-term strategy and more competitive for our investment.’ In other words, once precious strongholds like Alaska, the North Sea and even Alberta oil sands are old hat. The cool new kid on the block is shale and, despite the challenges it faces in long term sustainability of production, all the majors and supermajors want to get into club. Well, maybe except Total and (to a lesser extent) Shell.
For all the talk of individual strategies and characteristics, the industry is still governed by a herd mentality. And the herds are migrating away from drying old pastures in search for fresh new grass elsewhere. Where they will go once the new grass dries up will be anyone’s guess.
BP’s main upstream assets in Alaska
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International expansions for Saudi Aramco – the largest oil company in the world – are not uncommon. But up to this point, those expansions have followed a certain logic: to create entrenched demand for Saudi crude in the world’s largest consuming markets. But Saudi champion’s latest expansion move defies, or perhaps, changes that logic, as Aramco returns to Europe. And not just any part of Europe, but Eastern Europe – an area of the world dominated by Russia – as Saudi Aramco acquires downstream assets from Poland’s PKN Orlen and signs quite a significant crude supply deal. How is this important? Let us examine.
First, the deal itself and its history. As part of the current Polish government’s plan to strengthen its national ‘crown jewels’ in line with its more nationalistic stance, state energy firm PKN Orlen announced plans to purchase its fellow Polish rival (and also state-owned) Grupa Lotos. The outright purchase fell afoul of EU anti-competition rules, which meant that PKN Orlen had to divest some Lotos assets in order to win approval of the deal. Some of the Lotos assets – including 417 fuel stations – are being sold to Hungary’s MOL, which will also sign a long-term fuel supply agreement with PKN Orlen for the newly-acquired sites, while PKN Orlen will gain fuel retail assets in Hungary and Slovakia as part of the deal. But, more interestingly, PKN Orlen has chosen to sell a 30% stake in the Lotos Gdansk refinery in Poland (with a crude processing capacity of 210,000 bd) to Saudi Aramco, alongside a stake in a fuel logistic subsidiary and jet fuel joint venture supply arrangement between Lotos and BP. In return, PKN Orlen will also sign a long-term contract to purchase between 200,000-337,000 b/d of crude from Aramco, which is an addition to the current contract for 100,000 b/d of Saudi crude that already exists. At a maximum, that figure will cover more than half of Poland’s crude oil requirements, but PKN Orlen has also said that it plans to direct some of that new supply to several of its other refineries elsewhere in Lithuania and the Czech Republic.
For Saudi Aramco, this is very interesting. While Aramco has always been a presence in Europe as a major crude supplier, its expansion plans over the past decade have been focused elsewhere. In the US, where it acquired full ownership of the Motiva joint venture from Shell in 2017. In doing so, it acquired control of Port Arthur, the largest refinery in North America, and has been on a petrochemicals-focused expansion since. In Asia, where Aramco has been busy creating significant nodes for its crude – in China, in India and in Malaysia (to serve the Southeast Asia and facilitate trade). And at home, where the focus has on expanding refining and petrochemical capacity, and strengthen its natural gas position. So this expansion in Europe – a mature market with a low ceiling for growth, even in Eastern Europe, is interesting. Why Poland, and not East or southern Africa? The answer seems fairly obvious: Russia.
The current era of relatively peaceful cooperation between Saudi Arabia and Russia in the oil sphere is recent. Very recent. It was not too long ago that Saudi Arabia and Russia were locked in a crude price war, which had devastating consequences, and ultimately led to the détente through OPEC+ that presaged an unprecedented supply control deal. That was through necessity, as the world faced the far ranging impact of the Covid-19 pandemic. But remove that lens of cooperation, and Saudi Arabia and Russia are actual rivals. With the current supply easing strategy through OPEC+ gradually coming to an end, this could remove the need for the that club (by say 2H 2022). And with Russia not being part of OPEC itself – where Saudi Arabia is the kingpin – cooperation is no longer necessary once the world returns to normality.
So the Polish deal is canny. In a statement, Aramco stated that ‘the investments will widen (our) presence in the European downstream sector and further expand (our) crude imports into Poland, which aligns with PKN Orlen’s strategy of diversifying its energy supplies’. Which hints at the other geopolitical aspect in play. Europe’s major reliance on Russia for its crude and natural gas has been a minefield – see the recent price chaos in the European natural gas markets – and countries that were formally under the Soviet sphere of influence have been trying to wean themselves off reliance from a politically unpredictable neighbour. Poland’s current disillusion with EU membership (at least from the ruling party) are well-documented, but its entanglement with Russia is existential. The Cold War is not more than 30 years gone.
For Saudi Aramco, the move aligns with its desire to optimise export sales from its Red Sea-facing terminals Yanbu, Jeddah, Shuqaiq and Rabigh, which have closer access to Europe through the Suez Canal. It is for the same reason that Aramco’s trading subsidiary ATC recently signed a deal with German refiner/trader Klesch Group for a 3-year supply of 110,000 b/d crude. It would seem that Saudi Arabia is anticipating an eventual end to the OPEC+ era of cooperative and a return to rivalry. And in a rivalry, that means having to make power moves. The PKN Orlen deal is a power move, since it brings Aramco squarely in Russia’s backyard, directly displacing Russian market share. Not just in Poland, but in other markets as well. And with a geopolitical situation that is fragile – see the recent tensions about Russian military build-up at the Ukrainian borders – that plays into Aramco’s hands. European sales make up only a fraction of the daily flotilla of Saudi crude to enters international markets, but even though European consumption is in structural decline, there are still volumes required.
How will Russia react? Politically, it is on the backfoot, but its entrenched positions in Europe allows it to hold plenty of sway. European reservations about the Putin administration and climate change goals do not detract from commercial reality that Europe needs energy now. The debate of the Nord Stream 2 pipeline is proof of that. Russian crude freed up from being directed to Eastern Europe means a surplus to sell elsewhere. Which means that Russia will be looking at deals with other countries and refiners, possibly in markets with Aramco is dominant. That level of tension won’t be seen for a while – these deals takes months and years to complete – but we can certainly expect that agitation to be reflected in upcoming OPEC+ discussions. The club recently endorsed another expected 400,000 b/d of supply easing for January. Reading the tea leaves – of which the PKN Orlen is one – makes it sound like there will not be much more cooperation beyond April, once the supply deal is anticipated to end.
End of Article
- Crude price trading range: Brent – US$86-88/b, WTI – US$84-86/b
- Crude oil benchmarks globally continue their gain streak for a fifth week, as the market bounces back from the lows seen in early December as the threat of the Omicron virus variant fades and signs point to tightening balances on strong consumption
- This could set the stage for US$100/b oil by midyear – as predicted by several key analysts – as consumption rebounds ahead of summer travel and OPEC+ remains locked into its gradual consumption easing schedule
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