Friday Morning Coffee Nr. 135 : Is adaption a new survival strategy?

220121 Friday Morning Coffee

Friday Morning Coffee Nr. 135 : Is adaption a new survival strategy?

In the Asia Pacific Petroleum Conference (APPEC) held in the 4th quarter of last year, an interesting theme came to fore on the long term outlook on the crude oil wherein the participant observed an equal split between the two camps; the ones who believe that the world has already passed the peak oil and the era of the oil market growth is already over versus the ones who see the peak oil in 2030 as mentioned in this article Total sees oil demand peaking around 2030 as world goes green.

“Everyone’s talking about this great reset ... What do we need to do to survive this?” Arif Mahmood, executive vice president and CEO of downstream at Malaysian state producer Petronas, told the conference and concluded “Energy transition will be pushed forward much faster”. The ones sensing the imminent demise of the oil industry believe that the oil industry executives are obsessed with the idea of oil’s cheapness and reliability compared to renewable sources just like their coal counterparts believed a decade ago, but since then coal is no longer a cheap alternative against the renewables and its reliability is often questioned due to the geopolitics involved.

Now, we are not an oil industry expert or competent enough to debate on the long-term survivability of the oil industry. At the same time as an investor, we carefully look for any imminent risks to the cash flow generating ability of our investments and from that perspective, we need to take a stand. We believe that as the developing world’s pollution continues to grow and as it gets wealthier, we will continue to see incremental demand for energy which at this stage cannot be met with the existing state of technologies involved in capturing renewable sources of energy, however, we will see a growing share of energy production coming from renewable sources as depicted in the projection below.

The musing we are having in this note is to substantiate the green credentials of our investment in Total SA. In the period between 2016-2020, the company has invested USD 8 billion in Renewable and Power generation. As of 2020, Total has c. 7 GW established gross capacity coming from Solar and Wind energy. It aims to grow that capacity to 35 GW by 2025. Total is following a capital-light approach to these investments and as such a typical renewable capital project which usually has an IRR of 5-6% would result in an IRR of more than 10% for the company’s shareholders.

Secondly, in LNG, which has a much better carbon footprint compared to crude oil, Total SA is already the world’s 2nd largest independent and integrated LNG operator. It had slightly less than 20 MT per year of LNG production aims to add another 10 MT production by 2025 all because of the scalable investments it did in the recent past. As per Total’s estimate, this growing LNG segment will be able to generate more than USD 4 Bn of incremental cashflow by 2025.

Whereas for its conventional oil business, management aims “Total will focus on low-cost oil projects, privileging value over volume and develop its portfolio of oil projects, all with profitability above 15% at 50$/b, while ensuring consistency for Capex allocation with climate ambition”

For us, the minority shareholders, the company that is more selective on ex-growth but important segment of the business at the same time if it is well ahead on the curve on adopting newer sources of growth implies sustainability and growth of cashflows, thus the shareholder’s return.