European oil's growing pains

The Organization of Petroleum Exporting Countries' recent efforts to wrestle the crude price back up to within its $22-28/bbl price band continues to distract the European oil and gas industry from an issue that is bound to soon come back to haunt it: production growth.

The Organization of Petroleum Exporting Countries' recent efforts to wrestle the crude price back up to within its $22-28/bbl price band continues to distract the European oil and gas industry from an issue that is bound to soon come back to haunt it: production growth.

During last year's price-driven boom, the European giants-like their American brethren-trumpeted long-term production growth targets of 3-8% to shareholders happy to believe in the promise of blue skies ahead.

Now, however, at least one major European investment bank, Commerzbank AG, is suggesting the gloss may be coming off these ambitions.

Commerzbank holds there will be two key drivers of share prices within the first half of this year. The first, OPEC's ability to engineer its "desired" crude price, the bank believes the 11-country organization can pull off. The second, oil majors making good on production growth promises, has left it recommending "a cautious stance on the sector."

Production growth promises

"While we believe OPEC has the necessary cohesion to support oil prices," said the bank's Pan European Oil & Gas division, "we are less convinced that all the [oil] companies will deliver on their growth promises."

The sting in the tail is Commerzbank's special skepticism toward "those companies seeking to generate growth from frontier, deepwater provinces," the very regions that were an olive branch to an international oil industry languishing in a prolonged downturn not 2 years ago.

European oil companies are mostly trading above value, Commerzbank notes, despite having underperformed the market by 12% since the peak last October, when there were the first recent signs of a downward trend in estimates of long-term oil prices, to $18/bbl from $24/bbl.

"This correction," it suggested, "reflects the valuation shift that took place as share prices moved back to discount the risks associated with the companies' drive for growth and more realistic, longer-term oil prices."

Skepticism over deepwater

Among the companies hardest hit by unenthusiastic perceptions of high-flown growth aspirations was BP, which is putting considerable faith in deepwater E&P plays as a foundation to future earnings growth.

BP, says Commerzbank, will be unlikely to live up to its official production growth target of 7-8% during 2000-07, given that 65% of this growth is to come from deepwater plays in the US Gulf of Mexico and off West Africa.

"The history of frontier deepwater projects is one of cost overruns and delay," offered Commerzbank. "We are skeptical that BP can sustain its target of at least 10%/year earnings growth in the medium term."

The last wave of production growth came via mergers and acquisitions. The next wave, at a time when the US economy appears headed for a slowdown-and perhaps a "hard landing"-and when OPEC is slashing output in the hopes of extending the recent oil price bonanza, might leave the smiles on the faces of European oil company shareholders looking somewhat more forced.

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