Total S.A. (NYSE:TOT) is a huge integrated oil and gas company, but it's looking to become something more. That's the big storyline right now at this French energy giant. But what exactly does that mean for investors? Here's an update of what's changing at the company and how it might play out.
Oil and gas rule the day
In the first quarter of 2018, exploration and production (the company's upstream energy operations) accounted for roughly 65% of Total's revenue. Its downstream chemicals and refining business pitched in roughly 20%, and marketing operations added another 10%. The tiny sliver that was left (less than 5%) came from the company's gas, renewables, and power division.
The oil business is clearly king at Total. But there's an interesting thing going on here, because the fourth division of the business -- gas, renewables, and power -- didn't even exist until late 2016. When the company announced the new division, it explained that the goal was to grow it to between 15% and 20% of revenue by 2035. Is that feasible?
The shifting gears
The first big move in this division actually predates its creation, when Total bought a controlling stake in solar power specialist SunPower in 2011. The second came this year, when Total announced plans to buy utility Direct Energie, which operates electric and gas utilities in France and Belgium, for roughly $1.6 billion.
This single investment will increase Total's electricity production by 50% and its customer base in the gas, renewables, and power division by 75%. In addition, the company intends to double its growth in the division, upping its 5 gigawatts target for electric capacity in five years to 10 gigawatts.
When Total announced the acquisitions, CEO Patrick Pouyanne explained, "This friendly takeover is part of the Group's strategy to expand along the entire gas-electricity value chain and to develop low-carbon energies, in line with our ambition to become the responsible energy major." This suggests that oil and natural gas will play an important role for many years to come, but also that Total is hedging its bets for a very different future.
Preparing for change
But why? The answer lies in the forecasts provided by the International Energy Agency (IEA), a global industry group. The group projects energy demand to grow by 30% by 2040, with renewable power receiving two-thirds of all money earmarked for new power plants through that date. Coal is going to see the greatest loss of share, which makes sense since it's a particularly dirty fuel source.
However, the problem for Total is that oil demand growth is projected to moderate. Growth on the natural gas side will offset some of the share loss, but taken together, oil and natural gas are expected to be flat to lower. Even though total energy demand growth will probably limit the pain, the core of Total's business is still set to see demand headwinds. The IEA sums it up pretty well, explaining in its preview to the World Energy Outlook 2018 that "The future is electrifying, with low-carbon technologies on the rise and electricity demand set to grow at twice the pace of energy demand as a whole." That makes Total's decision to create and expand its gas, renewables, and power division look like a good strategic decision.
The interesting thing here is that Total is planning to spend as much as $15 billion a year on capital investments over the next couple of years. That's largely going to go toward its upstream business today, but the Direct Energie acquisition shows it is also spending on the gas, renewables, and power division. But step back and put the spending into perspective.
Total has an enterprise value of around $180 billion. Divide that by capital spending of $15 billion, using the current annual projection as a run rate, and you get the number 12. In 12 years, Total could theoretically invest enough to completely remake the company. So the company's newest division is relatively small today, but it's growing. And, perhaps more important, as Total gathers more experience with this new business, it can easily shift more of its capital spending toward the electric future the IEA is projecting.
A nice balance
Total's business is still about oil and natural gas. And these businesses, and their downstream cousins, refining and chemicals, will remain the core for quite some time. But Total is clearly looking to the future as it builds its gas, renewables, and power division. Assuming the future is, indeed, more electric than the past, Total is laying the foundation for a different corporate future.
There are risks in entering a new business, of course, but Total appears to be moving deliberately as it changes along with the world around it. The company has been executing well on the oil and gas side lately, but make sure to keep an eye on its electric progress as you read through earnings releases. Although the gas, renewables, and power division is really just a footnote today, that could change sooner than you might think.