Windfall tax: Could weaker oil company profits deter investors and affect energy transition?
15:16, 2 November 2022
15:16, 2 November 2022
BP - GBP
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Robust third-quarter results reported by energy majors including Shell (RDSa), Exxon Mobil (XOM), TotalEnergies (TTEF), BP (BP.) and Chevron (CVX) have prompted fresh calls for governments to raise more money from their profits to help ease the cost-of-living crisis.
TotalEnergies (TTEF) price chart
The British government has already introduced a windfall tax on oil and gas companies operating in the UK and the UK Continental Shelf. The Energy Profits Levy (the Levy) is charged at 25% and applies to profits arising on or after 26 May 2022. EU governments also agreed a windfall tax in September – and US president Joe Biden is under pressure to do the same.
However, critics of the tax say it will impact investment in renewables and the energy transition.
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Shell ramping up ESG strategy?
Shell posted adjusted earnings of $9.5bn for the three months through to the end of September – more than double its reported earnings of $4.1bn for the same period in 2021. The Anglo-Dutch company’s chief executive officer, however, has publicly supported the windfall tax.
“One way or another there needs to be government intervention that somehow results in protecting the poorest,” Ben van Beurden told an energy conference on Tuesday.
Royal Dutch Shell (RDSa) price chart
Susannah Streeter, an investment and market analyst at Hargreaves Lansdown, said his comments suggest Shell is ramping up its Environmental, Social and Governance (ESG) strategy.
“Further windfall taxes do not necessarily mean that they will disrupt investments into the energy transition, although how any new levy is structured will be important. The energy giants recognise that the acceleration to renewables has to be a key part of their strategy and will be vital to prevent them ending up in an ethical waste bin. If they show signs of slowing investments while still returning bumper returns to shareholders it could see them tipped out of portfolios, given the much sharper eye investors have trained on environmental social and governance issues.
“Comments by Shell’s outgoing CEO, that taxes on firms within the oil and gas industry are "inevitable" to help the poorest people in society, were aimed at showing that the company is taking ESG more seriously, particularly its social reputation. The appointment of Wael Sawan, currently the head of the group's integrated gas and renewables division, as the next CEO is also a clear marker that Shell wants to ramp up its ESG strategy in terms of its environmental credentials,” Streeter told Capital.com on Wednesday.
BP, meanwhile, made $8.2bn between July and September, also more than double its profit for the same period last year. The group said it expects to pay $800m in UK windfall taxes this year.
BP (BP.) price chart
Exxon and Chevron warn against windfall tax
Critics of the levy, including US oil and gas majors Exxon Mobil and Chevron, have taken a different stance to Shell and warned that a windfall tax will impact investment and production.
“If you raise the costs on energy producers, it will decrease investment so that goes against the intent of increasing suppliers and making energy more affordable,” Chevron's chief financial officer, Pierre Breber, warned in a Reuters interview.
Chevron (CVX) price chart
Exxon announced a profit of $19.7bn in Q3 – nearly triple the amount made in the same quarter in 2021, while Chevron posted a profit of $11.2bn in its third-quarter. The figure was down slightly on its second-quarter results but still almost double the $6.1bn it announced in the same period in 2021.
Exxon Mobil (XOM) price chart
Windfall tax impact on oil prices and inflation?
Piero Cingari, market specialist at Capital.com, also highlighted that windfall taxes on the oil industry, in his opinion, could produce undesirable effects on oil prices and, as a result, on inflation.
“Higher taxes on windfall earnings for oil companies lessen the incentive to invest more in increasing oil production’s efficiency and abundance in order to keep up with demand, which is still solid and has another decade before peaking. Lower production investments create an undersupply of crude, which could keep oil prices higher for longer,” he said.
Brent crude oil price chart
Cingari further noted how oil and gas producers are now enjoying a favourable price environment, which they did not experience for most of the preceding decade.
“One could argue that this is a result of the conflict in Ukraine, but the reality is that the oil industry has underinvested given the threat of the energy transition, resulting now in a tight crude supply-demand balance. Thanks to windfall taxes, governments can collect some extra revenues from oil corporations to fill their budget holes, but this will likely have no effect on inflation because the global crude market remains undersupplied,” he added.
US crude oil (WTI) price chart
The prospect of higher taxes on the energy giants has also previously been discussed as something that could unnerve some investors from buying into a company.
Deirdre Michie, the chief executive of Offshore Energies UK, also warned that new taxes increase the cost of borrowing for new projects, which could also further deter investment.
ESG and the green transition
It comes at a pivotal point for the oil and gas majors as they continue to invest in the green transition to safeguard their future businesses and ensure they are more environmentally responsible.
On one hand, it is clear that the energy giants are taking the energy transition seriously, as evidenced by commitments to reducing carbon emissions and investments in negative-emission technologies, such as carbon-capture usage and storage etc.
However, moving forward, these companies will have to be willing to substitute profit-making for climate change – which will also make them profit, although it may have an initial impact on their overall bottom line.