The impact on National Oil Companies and the wider implications on their countries and budgets

The current decline of oil prices has, and will undoubtedly continue to, materially impact not only the core business of National Oil Companies (NOCs) but also the economies of such NOCs' countries; particularly in those cases where the budget and government spending depend heavily on oil revenues. Certainly, not all NOCs and exporting countries will experience the same effects at the same time or in the same degree. The impact depends on each country’s internal consumption, and its ability to substitute oil exports, cut spending, reorganize, and seize the opportunities that the downturn brings.

Countries such as Saudi Arabia, Iran, and other Arab OPEC members have managed to cope with the energy turmoil, despite a drop in oil revenue, mainly based on their low production costs, internal consumption needs, and efficient management of the oil revenue and accumulated funds. In our view, this means that the low cost of oil will not substantially hit them in the short term, and thus they will have considerable flexibility to prepare in case of a prolonged scenario of low cost oil. Action, however, needs to be taken now.

On the other hand, NOCs of countries - which are very dependent on oil exports, such as Russia and Mexico - to name a few, have had and will continue to see a material impact on their finances, development plans for the future, currency pressure, and increasing internal and external debt. In Russia, for example, the plummet of oil prices is putting state finances into a high level of distress. Russian oil and gas production contributes significantly to the country’s GDP, and low prices imply less cash for investment and public spending. Mexico has recently announced a cutback of Mexican NOC PEMEX's budget of more than US$8 billion, slowing down plans for exploration and production activities. This has a direct impact on a whole range of suppliers nationwide, who have also been forced to accept discounts for services provided. The current environment could present an opportunity, however, to improve the efficiency of procurement regimes and processes and enhance cost savings with “end to end” supply chain and cash optimization so as to avoid further cuts in production.

Because of the uncertainty over the future oil price scenario, some NOCs may delay frontier drilling, particularly in offshore areas, until stable lower costs improve the economics of expensive exploration campaigns. Mexico has further announced a reduction in much needed infrastructure investment overall. However, the country will mitigate this slowdown by shifting some of the investment required in exploration and production from the NOC to international oil companies, whom may be more capable of investing under the current scenario. Further, Mexico had a significant hedging programme for oil exports, so the harsh impact is expected to hit in 2016, once the hedging coverage expires.

Not everything is bad news under this crisis, however. For countries such as China, India and Japan, whose economies depend significantly on internal oil consumption and import, the lower cost of oil (and gas/LNG) provides opportunity for their NOCs to acquire much needed oil and gas at low prices and to make acquisitions of oil and gas assets and distressed entities. NOCs' involvement in M&A transactions, whether acquiring, partnering, or divesting, will play a big role in shaping businesses to increase value and navigate this unstable landscape. The NOCs' activity in this regard will be aligned with the national agenda of their host governments, particularly, since many have the financial strength to play a significant M&A role in 2015.

NOCs overall have two material challenges: survive the downturn, and continue to support their countries’ economies for the long run. Approximately 80 percent of global oil production is owned or controlled by NOCs, and therefore the impact of this crisis on NOCs will impact the rest of the world, resulting in difficult global challenges to come.