Here's Why You Shouldn't Be Worried About Big Oil's Falling Returns

The world's largest integrated oil and gas players, ExxonMobil, Chevron, and Royal Dutch Shell are spending more developing projects, but profits are falling; things need to change.

Feb 19, 2014 at 12:08PM

Big Oil is scouring the world for the largest oil and gas development projects with the best economies of scale and the potential for impressive profit margins. This search has turned up some great projects, which have the potential to yield tens of billions of dollars in profit. But the problem is that these megaprojects are getting too big for even the world's largest integrated oil and gas players like ExxonMobil (NYSE:XOM), Chevron (NYSE:CVX), and Royal Dutch Shell (NYSE:RDS-B).

Increasing concerns
These megaprojects and the way they have been handled is a hot topic for discussion within the oil industry at present. Chevron's Gorgon LNG project, a joint venture with ExxonMobil and Royal Dutch Shell has seen costs spiral from an initial estimate of $37 billion, projected back in September 2009, to a current figure of $52 billion -- an extra $15 billion is no small change, even for Chevron. The reason for this multi-billion dollar cost blowout? Rising labor costs, the strong Aussie dollar, and project delays are all to blame.

And it's not just Gorgon that is reporting ballooning costs; the world's largest, most complex, and most expensive oil project, the Kashagan oil field, operated by a consortium of companies including ExxonMobil, Royal Dutch Shell, and France's Total , has seen costs explode during the last decade. From an initial cost estimate of $57 billion for the life of the project, the Kashagan project is now expected to cost a staggering $136 billion over its lifetime -- that's 138% more than originally planned.

According to the last reported figures, the Kashagan field has cost $50 billion to get to where it is today, five times original estimates.

When commenting on the Kashagan project, one oil executive exclaimed: "Kashagan! I don't want to hear this word any more."

Rising across the board
And its not just these mega projects that are putting a strain on balance sheets. Specifically, Chevron's 2013 capital spending budget has overrun initial estimates by around 10%, with $33 billion originally budgeted. In part this overspend was due to exploration permit acquisitions, which were not included in the original budget.

Of course, with spending rising across the board oil majors are reporting rising levels of debt, despite their already robust cash flows. The chart below shows the net debt-to-equity levels of Chevron, Exxon, and Shell during the last four years and projections for the next two years. 


Source: Marketwatch

As we can see, apart from Shell debt is slated to rise across the board for all three companies, Shell is actually trying to reduce its borrowing by divesting assets, as I cover below.

However, it's not just rising debt that is of concern. Return on equity is also falling for oil majors, as they spend more money developing projects but realize a lower level of profitability from the projects when completed.

The chart below shows how return on equity has fallen at these three companies over the last four years. 


Source: Marketwatch

Unsurprisingly oil executives are now coming under pressure due to rising capital spending, project delays, and having little to show of it. As a result, they have promised shareholders that capital spending has peaked and it's now the time for the sale of expensive assets.

Appeasing investor concerns
Shell is leading the charge here, recently announcing a review of its shale oil business in the United States, Nigerian assets, and cancelling plans to build a multi-billion dollar gas-to-liquids plant in Louisiana. The company plans to sell off a total of $15 billion worth of assets over the next two years, although this figure could double.

And it's not just Shell selling down assets. ExxonMobil sold its power operations in Hong Kong for $3.4 billion back in November. Meanwhile, according to a report by Bloomberg, Chevron is working with Jefferies Group to find buyers for at least four of the company's natural gas and crude oil pipeline operations within the United States, worth around $1 billion. Chevron also offloaded several billion dollars in oil-bearing assets within Nigeria last year. 

Foolish takeaway
The rising costs of these megaprojects, along with increasing levels of debt and falling returns, are a major concern for the oil industry. However, investors should not be worried, as Big Oil's skilled management teams are working hard to cut costs in other regions, divesting non-essential assets to boost returns. Actually, this could be really beneficial for investors over the long term as international oil companies start to slim down and return more cash to investors, concentrating on only the most lucrative assets.

An energy investor's dream
Imagine a company that rents a very specific and valuable piece of machinery for $41,000... per hour (that's almost as much as the average American makes in a year!). And Warren Buffett is so confident in this company's can't-live-without-it business model, he just loaded up on 8.8 million shares. An exclusive, brand-new Motley Fool report reveals the company we're calling OPEC's Worst Nightmare. Just click HERE to uncover the name of this industry-leading stock... and join Buffett in his quest for a veritable LANDSLIDE of profits!

Rupert Hargreaves owns shares of Chevron. The Motley Fool recommends Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.

Compare Brokers