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Is BHP’s Petroleum Cost Reduction Enough to Offset a Price Drop?

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Petroleum costs

The key to understanding profitability for BHP Billiton’s (BHP) (BBL) petroleum division is unit costs of petroleum and the company’s outlook on it going forward. Profitability then impacts the company’s stock performance. In this article, we’ll see how BHP is progressing on the cost front in its petroleum division.

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Lower costs

  • Drilling costs for BHP at Black Hawk fell 19% year-over-year (or YoY) to $3.4 million per well. The company expects costs to drop further in fiscal 2016 to $2.5 million per well, which is lower than the company’s previous guidance of $2.9 million.
  • The rise in non-cash costs mainly reflects higher depreciation and amortization (or D&A) in onshore United States and impairment charges associated with the divestment of conventional and unconventional gas assets.
  • BHP management also guided for higher D&A going forward as the liquids proportion of production increases.

BHP management expects oil prices to remain range-bound in the short term due to available supply capacity from the United States and OPEC (Organization of the Petroleum Exporting Countries).

Falling oil prices amid resilient US oil supplies and incremental Iran oil could pose a significant headwind for BHP’s petroleum division going forward. According to BHP’s sensitivity estimates, every $1-per-barrel drop in the price of oil leads to an after-tax impact of $52 million on net profit.

Lower prices should also affect sale prices of oil companies such as ExxonMobil (XOM), Chevron (CVX), and ConocoPhillips (COP). Together, these three companies form ~34% of the Energy Select Sector SPDR ETF (XLE).

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