Results season is upon us, but the horrible events in Ukraine overshadow everything. Even as the tragedy unfolding there causes human misery and destruction on a scale not seen in Europe in a generation, it has also driven oil prices briefly above US$100 per barrel and forced up European natural gas prices by 82 per cent last week, in the seven days to February 25.
Whilst the Ukrainian people suffer horribly, and the thousands of Ukrainian seafarers face terrible stress for the safety of their homes, jobs and families, energy markets are in turmoil. As Russia places its nuclear forces on high alert, the situation is grave, and the possibilities for escalation of the conflict seem dangerous and terrifying for Europe.
It is not at all clear how the conflict will be resolved, although we are praying for an immediate end to the bloodshed, which respects the right of the Ukrainian people to self-determination. It is also not clear what the long-term impact of Russian actions on the global energy business will be, but the signs are already very ominous for consumers.
Politics and Putin's ambition lie at the heart of the struggle between Russia, the world's third largest oil producer, and Ukraine, an important transit route for Russian gas to Europe. However, the impact on energy markets has been immediate, and very painful for consumers.
At the same time, international oil companies and gas companies are making out like bandits from high prices, even as Danish wind power titan Ørsted reported lower profits and lower free cash flows in 2021 compared to 2020 (here).
Oil prices are now back to where they were in 2014, and natural gas buyers on the international spot market face prices that are multiples higher than they were a year ago. The oil price cycle is back with a vengeance.
In 2020 when oil slumped below US$20 per barrel, some pundits were forecasting the end of the hydrocarbon industry. Now, even as inflation surges to thirty-year highs in many countries, higher energy prices caused by the war look set to intensify inflationary pressures around the world, as they did in the 1970s.
Eight per cent of total gas exports to Europe last year flowed through Ukraine. Europe depends on Russia for roughly 40 per cent of its overall gas supply, and individual countries are even more exposed – 49 per cent of German gas came from Russia last year, 46 per cent of Italy's, and up to 100 per cent of the supplies for some Balkan countries (see here). Russia also accounts for 23 per cent of EU oil imports.
Angela Merkel's decision to shut down Germany's nuclear power plants, which took effect on January 1 this year, looks like one of the worst energy policy decisions by a major developed country, ever. The 100,000 protestors who gathered in Berlin yesterday to protest the invasion might have asked themselves how years of German policy contributed to it, even as former chancellor Gerhard Schröder sat on the board of Russian state oil producer Rosneft, and had been nominated to join the board of Russian state gas monopoly Gazprom.
Germany announced last week that it would block certification of the Russian Nord Stream 2 natural gas pipeline after Russian President Vladimir Putin recognised the independence of two separatist regions in Ukraine. We covered the controversial Nord Stream 2 pipeline and its importance to European energy in 2020 here.
Swiss-Dutch contractor Allseas had to walk away from laying the gas pipe in the Baltic when American sanctions hit the project in 2020, but Russia used its own pipelay vessels to finish the construction. The pipeline construction has already been completed now, but the operator was still awaiting final certification from the German authorities before it could begin pumping gas through it.
Reuters' excellent coverage shows the impact of the suspension of Nord Stream on European gas supplies in the next fifteen months (here), and what a cessation of Russian gas sales to Europe would mean. The consequences will be ugly.
The disruption of energy supplies to Europe by the war drives up prices globally as European nations seek to buy oil and gas from elsewhere.
Ukraine has negligible oil and gas production of its own, but large potential reserves. One study in 2020 (here) found that Ukraine holds the second biggest known gas reserves in Europe (excluding Russia's gas reserves east of the Ural Mountains). Known Ukrainian reserves amounted to 1.09 trillion cubic metres of natural gas, second only to Norway's known resources of 1.53 trillion cubic metres. Yet these enormous reserves of energy remained largely untapped, and the country remains dependent on Russia for most of its domestic gas supply.
From an offshore perspective, however, Ukraine is a major supplier of crew and the International Chamber of Shipping has reported that Ukrainian nationals account for 76,442 (four per cent) of global seafarers, of whom 47,058 are officers, and 29,383 are ratings (here).
The impact of the war on seafarers, with all flights to and from Ukraine suspended and all passenger rail transport in the country also out of service, is likely to be dramatic, with crew changes on many ships suspended and cancelled.
However, even if Kyiv's influence on energy production is low, its impact on food and commodities is high. The dry bulk industry faces a significant adjustment if the blockade and occupation of all Ukrainian ports by Russian forces continues and trade flows are disrupted for weeks or months. Together, Ukraine and Russia account for just under a third of the world's wheat exports, the Financial Times found (here), and Ukraine is a major exporter of vegetable oils, especially sunflower seed oil.
The main grain-producing regions of Ukraine are along the Russian border and the invasion coincides with the beginning of the spring wheat planting period. Higher food prices seem likely in the coming months, unless peace is restored quickly.
Ukraine is also an important source of metals and noble gases, including as nickel, titanium, palladium, and aluminium, as well as a quarter of the world's neon. Neon is used in lasers that etch features onto microchips. Ukraine-based Ferrexpo is also the world's third-largest exporter of high-grade iron ore pellets. Disruptions to supply chains threaten to be both unexpected and inflationary.
The Iraqi invasion of Kuwait in August 1990 led to a similar jump in oil prices as today, and Brent crude shot up 33 per cent to US$28 a barrel when Saddam Hussein's forces rolled into Kuwait City. However, after Operation Desert Storm was launched successfully by the US and its partners to liberate Kuwait on January 17, 1991 in a 43-day campaign, oil prices were back to where they started by April 1991. By 1998, The Economist was warning that the world was "drowning in oil" as prices slumped below US$10 per barrel.
Kuwait, however, was much less integrated into the global economy outside its oil sector, and the Iraqi invasion was easily and quickly rebuffed by Desert Storm. So, knock on effects in other markets outside oil were limited.
On the other hand, the Arab Oil embargo in the aftermath of the Yom Kippur War against Israel in 1973 led to a decade of elevated oil prices, economic stagnation, and global inflation.
The 1970s were horrific for investors and saw widespread political and economic turmoil. The American stock market (S&P 500 index) lost 43 per cent of its value in the year after the outbreak of the war between the Arab States and Israel. Inflation hit double digits, and revolution swept away the Shah of Iran.
Let's hope we don't end up there.
There have already been major reverberations from the Russian invasion, as well as the personal tragedies impacting millions of Ukrainians.
Yesterday, BP announced it was exiting its 19.75 per cent shareholding in Russian oil company Rosneft. BP CEO Bernard Looney has resigned from the board of Rosneft with immediate effect and the company will write off its US$14 billion investment.
"Russia's attack on Ukraine is an act of aggression which is having tragic consequences across the region," BP chairman Helge Lund said in a press release (here). "BP has operated in Russia for over 30 years, working with brilliant Russian colleagues. However, this military action represents a fundamental change. It has led the BP board to conclude, after a thorough process, that our involvement with Rosneft, a state-owned enterprise, simply cannot continue. We can no longer support BP representatives holding a role on the Rosneft board. The Rosneft holding is no longer aligned with BP's business and strategy and it is now the board's decision to exit BP's shareholding in Rosneft. The BP board believes these decisions are in the best long-term interests of all our shareholders."
Last year, the Rosneft shareholding generated profits of more than US$2.4 billion for BP, from which it collected a dividend from the Russian company of US$640 million.
Bear in mind that giving up the US$14 billion Rosneft stake will likely be quickly offset by BP's windfall profits from the high oil price caused by the Russian invasion, if sustained. BP made profits of just under US$13 billion for full year 2021 when Brent crude's 2021 average price was US$71 per barrel for the year.
At today's prices (if sustained) we would expect BP's 2022 new profit to be doubled, even without the dividends from Rosneft.
It's not clear how the fast-moving sanctions regime being implemented by the EU, the UK, and the US will impact the Russian oil sector. However, it is clear that foreign investors may need to follow BP's example either as a moral choice or a legal obligation.
ExxonMobil's position in the Sakhalin 1 project in the far east of Russia is jeopardised. The company partners with Rosneft and India's ONGC Videsh on the project – more information is here.
ExxonMobil had been due to launch a major tender for the construction of LNG facilities at Khabarovsk Krai on the Russian mainland across the Sea of Okhotsk from Sakhalin Island in the coming months, as part of its plans to produce 6.2 million tonnes of LNG annually there. The plan involved taking non-associated gas from the existing Chayvo field, which is already in production for the partners from reservoirs offshore Sakhalin Island.
Plans for both a new pipeline and a new-build LNG plant, which was due to be constructed alongside the existing De Kastri oil terminal, will now be shelved.
TotalEnergies is the third major western investor in Russian oil and gas, albeit as a non-operator. Total holds a 19.4 per cent interest in Novatek. Novatek is the largest independent natural gas producer in Russia. TotalEnergies co-invests as a partner alongside Novatek in four projects in Russia:
BP's exit, and the horrific scenes of Russian missiles raining down on Ukrainian cities, will increase pressure on the remaining foreign investors, even if sanctions take longer to bite.
The example of Myanmar is instructive. Already, we have seen Chevron and Total (here) exit Myanmar after the military coup there ended in brutal human rights abuses by the junta. Latterly, Woodside (here) and Petronas have also confirmed that they will be exiting the country, as sanctions are applied by the US and the EU.
Woodside unilaterally cancelled the A-7 production-sharing contract with Myanmar's state-owned oil and gas company MOGE in November, and in January, the company said it would abandon the remainder of its oil and gas licences in the country, namely exploration licenses AD-1 and AD-8, block A-6. The company took a write-down of US$209 million as a result.
Meanwhile, Upstream reported last week (here) that Malaysia's Petronas has decided, "to sell its operated stake in the producing Yetagun gas condensate project offshore Myanmar to an unnamed buyer."
The military junta made Myanmar a pariah state. The military invasion of Ukraine now means it is likely that Russia will also face international isolation from the West unless a ceasefire and a lasting and just peace can be established.
The war in Ukraine and the obvious dependence of the EU on Russian energy will likely encourage further investment in renewables to offset dependence on imported fossil fuels, it will encourage the development of gas storage facilities to bolster reserves in future, and it will encourage the development of new oil and gas production in areas outside of Russia.
This can only be good news for Namibia, where both Shell and TotalEnergies have announced massive deepwater oil discoveries in last few week, for Mozambique, where the instability associated with the LNG plans being planned there will be offset by vastly better economics, and for other "neutral" oil and gas producers like Brazil, Qatar and Australia.
Scenes from Ukraine and talk of nuclear weapons being prepared are horrific and frightening. Let us hope that Russia can step back from the brink.
Despite the horror in Ukraine, business does go on as usual elsewhere.
Last week (here), we looked at the pitfalls of the FPSO business and how Yinson's success in floating production may yet carry the seeds of its downfall, as the company increases its investment in capital intensive projects in Brazil, where both Modec and SBM have reported adverse surprises in the past.
Within the last seven days, two more FPSO players reported their results. Giant tanker operator Teekay and Malaysia's Bumi Armada reported their full year results for 2021 on Thursday and Friday of last week, respectively. Bumi announced modest but declining profits from what is now a mature FPSO fleet, whilst Teekay announced (here) it was exiting the FPSO business completely, after its final two FPSO contracts were terminated.
Teekay will be scrapping the Foinaven FPSO when the unit's current contract ends, in a green recycling yard, and is seeking a buyer for the Hummingbird Spirit cylindrical FPSO when it completes its contract in the UK North Sea with Spirit Energy in a few months.
Neither Fred Olsen nor Teekay, two well-regarded, experienced and serious shipping players, has made a success of their FPSO businesses. John Frederiksen was quick to flip his Sea Production FPSO business out of Frontline in 2007 and then exit entirely, leaving the unlucky business in the hands of third party investors, but after he offloaded over US$300 million of assets from related companies into it (here). Frontline did very nicely.
The Sea Production business was ultimately bought by Rubicon Offshore of Singapore.
Yinson investors, beware!
Subsea 7 will publish its fourth quarter and full year results for the period ended December 31, 2021 on March 3. This will provide further insight into whether the problems Saipem and Sapura Energy have experienced in their turbine installation contracts, which we analysed here, are structural to the industry, or company-specific.
James Fisher and Sons will report its preliminary 2021 results on March 10. This will highlight whether the troubled company has finally fixed the deep-seated operational and financial issues that we covered here.
Italian shipbuilder Fincantieri will report its 2021 full year results on March 23. Its Vard offshore shipbuilding subsidiary recently announced a deal with Ocean Infinity to build an additional six robotic vessels, each 85 metres long, in Vietnam (Baird report here). Vard is hanging on a lifeline and seems desperately unprofitable, despite contract wins in the wind support sector and a previous large order from Ocean Infinity, which has not yet delivered.
Since these supposedly "lean crewed" units are very unproven technology, and Ocean Infinity's efforts in the actual operation of uncrewed autonomous survey vessels now significantly lags that of Fugro and XOcean (although it has now finally put its Silicon Wharf remote operations centre into service), it will be interesting to see Vard's performance for the full year 2021, and its outlook for the future. The first nine months of Fincantieri's results for 2021 can be seen here.
Reach Subsea is now joining the battle of the subsea survey robots, as recently advised here, with a big government grant, and a big new investor.
Background reading
For an analysis of the consequences of the Iraqi invasion of Kuwait in 1990, see Steve Balestrieri here.
Rick Newman's comparison of the financial impact of the Russian invasion of Ukraine to Saddam Hussein's attack on Kuwait in 1990 is here.
SBM Offshore's 2021 full year results presentation sets out its vision for the future here, a vision increasingly marketed as involving a lot more offshore wind, even as the company's net debt increased 20 per cent to over US$5 billion and cash flow from operations fell. The slide entitled "debt enables growth" tells you all you need to know about the FPSO business.
