How a deal in Australia highlights the contradictions in energy transition

Stock markets have been calling for consolidation in the oil industry, only not for the companies they own. On Tuesday, Australia’s Woodside agreed to buy the petroleum assets of compatriot mining company BHP in return for shares. The deal illustrates the contradictions of the massive and ongoing restructuring of the global upstream oil and gas business. Woodside’s shares are down 11 per cent and BHP’s down 17 per cent since then, and that is not all due to the slump in oil and metals prices. The poor reaction of the market comes despite the strategic logic of the deal for both parties. BHP’s exit from oil has long been on the cards. BP bought its US shale assets in October 2018. Investors wanted a clearer story focused on its world-leading metals business, led by iron ore today but transitioning into commodities required for new energy systems and growing populations – copper, nickel and a new mine for the fertiliser ingredient potash in Canada. Increasingly carbon-averse financiers prefer to avoid putting their money into petroleum. BHP is also trying to sell its thermal coal portfolio, although it will retain metallurgical coal, used for steelmaking. BHP shareholders, who will hold about 48 per cent of the enlarged Woodside, can sell down over time if they wish. BHP’s share price was hit by one idiosyncratic factor – plans to end its UK dual listing and retain only the Sydney listing. Analysts also felt it gave up the oil assets relatively cheaply. Although BHP could have sold piecemeal, Woodside is probably the only company that was interested in the whole package. The Perth-based company will become a top-ten global independent oil and gas producer. Excluding the major integrated oil companies, it is already the world’s third-biggest exporter of liquefied natural gas, the fastest-growing form of fossil fuel, and will acquire a further one-sixth stake in the flagship North-West Shelf project in Western Australia from BHP. The cash flow from the BHP assets will help underpin major investments, particularly the Scarborough LNG project in Western Australia, with a budget now raised to $12 billion. BHP, with 25 per cent, already partners Woodside in Scarborough. LNG prices in Asia have reached record highs this year. Strong demand growth in China and a dearth of recent new production projects means the market is expected to stay tight to at least 2023. But that does not mean Woodside is seen to have got a bargain. The deal muddies its story. It was a company clearly focused on LNG and Australia, with its only major international project a significant offshore oilfield development in Senegal. It now picks up mature gasfields in Australia’s Bass Strait, with sizeable liabilities for decommissioning, along with admittedly high-quality oilfields in the US Gulf of Mexico and a scattering of other assets in Trinidad and Algeria. Investors may be nervous about the hefty expenditure planned on Scarborough. Newly appointed Woodside chief executive Meg O’Neill has a strong operational background, much-needed as Australian LNG projects have an inglorious history of massive cost overruns. But, in general, shareholders have appreciated zero-premium combinations that bring synergies and cost savings. This is the second recent big transaction in the Australian petroleum industry. At the beginning of August, Oil Search and Santos agreed to merge, creating what was briefly the biggest Australian oil company and one of the world’s top 20 listed petroleum businesses. Again, both are strong in LNG, in Australia and Papua New Guinea. This pattern is somewhat similar to that of the Canadian oil patch. Foreign companies have exited and sold their assets to domestic companies, which have themselves combined – most recently, Cenovus with Husky Energy in January to form the country’s third-biggest producer. The major international companies are shy of continuing involvement in Alberta’s high-carbon oil sands. The process so far resembles shuffling fossil fuel assets into “bad banks”, which nevertheless can remain highly profitable. Meanwhile, European oil companies such as Shell and Total have tried to shed higher-carbon and high-cost fields, and steadily boosted reinvestment into renewables and other more climate-friendly projects such as electric vehicle charging, hydrogen and carbon capture. They need buyers for their unloved legacy oil and gasfields. The bloodbath in the mid-cap exploration and production stocks over the past decade and the reduced appetite of and for Chinese purchasers has made this difficult. While the majors have leaned heavily on private equity-backed vehicles such as Harbour Energy and Neptune Energy, which have made a splash in the North Sea, they may welcome the emergence of counterparties such as Woodside. The truth is that whatever investors’ opinion of them, existing oil and gasfields at current prices yield excellent cash flows. There is also appetite for new LNG, if produced with minimised greenhouse gas emissions. The political balance in major western fossil-fuel exporting countries – Australia, Canada, the US and Norway – still remains broadly supportive of extraction. Its effect on jobs in key constituencies and government budgets is too big to close it down. So, there will be buyers for assets, if not at the prices the current owners hope for. Despite the tepid market reaction, the strategic and climate logic of the Woodside-BHP deal is clear for them. Under current pressures, it is not clear what either company could realistically do much differently. A newly greenwashed miner and a profitable petroleum “bad bank” are typical offspring of the confused transition in fossil fuel investment. Robin Mills is chief executive of Qamar Energy and author of The Myth of the Oil Crisis