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Oil Companies Are Rapidly Adjusting to Lower Oil Prices

By Matthew DiLallo - Mar 14, 2020 at 10:20AM

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Oil companies are slashing spending as they quickly adapt to the market's new realities.

Oil prices took a historic nosedive earlier this week, enduring their deepest plunge since 1991. That sell-off pushed the price of crude down into the low $30s, a roughly 50% haircut from where oil started the year.

Energy companies are scrambling to adjust to much lower oil prices brought about by dual shocks to both supply and demand. Several have already dramatically altered their 2020 financial plans by slashing their capital budgets and other expenses. These moves will help align spending levels with projected cash flow as the industry grapples with how to navigate a brutally challenging period in the market.

A drilling rig surrounded by oil pumps at sunset

Image source: Getty Images.

Immediately taking actions to adjust

Diamondback Energy (FANG 0.05%) didn't waste any time adjusting its 2020 game plan as it announced an immediate reduction in activity levels amid Monday's historic oil price crash. The company planned to drop three of its nine well completion crews and also expected to cut three of its drilling rigs over the next couple of months. Diamondback made these moves so that it could "maintain positive cash flow and protect our balance sheet and dividend," according to comments by CEO Travis Stice. 

Several other oil companies have followed it in reducing their 2020 capital spending plans to protect their dividends. Others, however, cut even deeper. Occidental Petroleum (OXY 2.65%) slashed its dividend 86% the day after its yield spiked above 25%. Occidental Petroleum also cut its capital spending plan from a range of $5.2 billion-$5.4 billion to $3.5 billion-$3.7 billion. These moves will enable the oil giant to align capital spending and reset its dividend based on the cash flow it can produce at an average oil price in the low $30s. That will buy the company time to address its balance sheet following its debt-fueled $55 billion purchase of Anadarko Petroleum last year.

Apache (APA 1.29%) also slashed capital spending and its dividend, slicing the latter by 90%. Apache's budget cut -- 40% below the previous level -- will profoundly affect its 2020 operating plans, with the company ceasing drilling activities in the Permian Basin. These moves will help shore up the company's financial position so it has the flexibility to manage $937 million of bonds as they mature over the next couple of years. 

Trickling down the value chain

Oil producers aren't the only companies making changes as a result of the oil price crash. The stocks of midstream companies have plunged along with crude prices on worries that these spending cuts by their customers might force them to make drastic changes, including slashing their dividends.

Pipeline giant ONEOK (OKE 2.25%) was one of the first to adjust its plan as it reduced its capital budget by $500 million, cutting the range down between $1.6 billion and $2.4 billion. The main driver of the spending reduction was the suspension of work on three recently announced expansion projects

ONEOK doesn't currently expect the turbulence in the oil market to affect its 2020 financial forecast, which foresees 25% earnings growth this year. However, as more customers adjust their plans, it could affect ONEOK's results. Meanwhile, its spending cut likely means it won't deliver on its forecast for a 20% earnings increase in 2021 since it expected those suspended projects to come online next year. 

Other midstream companies will likely announce capital budget reductions because drillers won't complete as many wells as initially expected this year. Meanwhile, financially weaker ones might need to join Occidental Petroleum and Apache in slashing their dividends. Investors seem to be banking on that likelihood as yields across the midstream sector have spiked amid plunges in their share prices. 

Western Midstream (WES 0.86%), for example, yielded more than 40% in a clear sign that investors expect the company to slash its payout due to its close relationship with Occidental Petroleum. With Occidental Petroleum already reducing its activity level, less volume will flow through Western's systems this year. Add that to the company's already tight financial metrics, and it likely won't be able to maintain its payout much longer. 

Uncertainty will likely continue hammering the sector

The already battered and bruised energy sector took another body blow following this week's gut-wrenching plunge in oil prices. Several companies have slashed spending, including dividend payments, to ensure they can navigate through the challenges ahead. Many more will likely follow that lead in the coming weeks as the industry pulls out all the stops to make it through another miserable period.

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Stocks Mentioned

Occidental Petroleum Corporation Stock Quote
Occidental Petroleum Corporation
OXY
$60.44 (2.65%) $1.56
Apache Corporation Stock Quote
Apache Corporation
APA
$35.35 (1.29%) $0.45
ONEOK, Inc. Stock Quote
ONEOK, Inc.
OKE
$56.75 (2.25%) $1.25
Western Midstream Partners, LP Stock Quote
Western Midstream Partners, LP
WES
$24.52 (0.86%) $0.21
Diamondback Energy, Inc. Stock Quote
Diamondback Energy, Inc.
FANG
$121.21 (0.05%) $0.06

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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