The year is 2020, and oilfields are leaking money. Oil and gas production companies take drastic action to preserve their finances, terminating staff contracts and minimising capital spending. These measures even included previously unimaginable changes to the millions flowing toward shareholders every quarter.

Which means that in 2020, big oil dividends did not rise quite as fast as investors would have hoped. Every year, medium and large oil companies pay billions to shareholders in order to keep investors interested in their business. These payments have become a core part of generating value, and board members have proved very reluctant to change this. Decreasing dividends is rarely in the interests of the company, or the personal finances of the board.

One of the clearest examples of the oil and gas dividend’s importance comes from US shale producer Chesapeake Energy. In February 2021, Chesapeake emerged from Chapter 11 bankruptcy restructuring after hitting hard times in 2020. By May, the company had announced payouts for its shareholders, in a move that would seem impossible in any other industry.

The pandemic marked a hard time for oil and gas, but plenty more awaits. As the energy transition progresses, the cost of decarbonisation will keep coming. Meanwhile, investors now look more toward ESG factors and greener companies. So how will investors and boards change their attitude toward dividends?

With the shock of Covid’s arrival in the rearview, the depth of the industry’s fever in 2020 has become clear. An intensive course of cost cutting was the most popular medicine at the time. For some, this included shareholder dividends, though the industry’s reluctance to alter payments remains clear.

ExxonMobil maintained its dividend, while making the first quarterly loss since Exxon and Mobil merged. Chevron increased its payments slightly, while others such as Total merely paused their dividends' previously unstoppable rise.

But for some, financial flexibility came first in the pandemic. BP and Shell halved their payments in the first quarter of 2020, while Equinor made even greater cuts. While such cuts would previously have scared investors away, these moves made sense to shareholders in a pandemic.

Arindam Das, head of consulting in EMEA for business analysts Westwood Energy, told us: “You would have to see a black swan event, like the pandemic, for companies to temporarily reassess their dividend policies and their strategies. When companies get to a point where they plan for $60 [per barrel], but the realised prices are at $40, that’s the point when they start to think about reassessing.

“Is that cutting your capital guidance? Is that delaying capital or delaying a project? Dividends are considered pretty sacrosanct for companies to remain a reputable investment proposition.”

All of these changes gave companies some financial flexibility at the pandemic’s peak, and then allowed them to invest. Equinor, Shell, and BP all made significant moves toward renewable generation over the past year, in line with their stated company goals.

Business as usual has only recently resumed, with Shell spending at least 20% of its cash flow on dividends in the second quarter of 2021. Analysts expected this increase later in the year, but the rapid rising of oil prices helped the company’s finances.

While keeping dividends low, Shell managed to pay down billions of dollars in debts. Generally, the companies that survived the worst of Covid-19 look healthier for having done so. Now, the next big challenge has already arrived.

While company financials fluctuate, the energy transition continues. The largest companies continue to diversify and refocus away from oil and gas. BP and Shell have bought into wind projects. TotalEnergies rebranded and announced investments in car charging points and low-carbon fuels.

International supermajors receive the most scrutiny for their energy transition efforts and must cover the most distance to decarbonise. At the same time, these companies are deepest in ‘dividend culture’, and feel a certain weight of expectation.

Das says: “For upstream oil and gas companies, the primary mode of raising capital has always been from equity markets. When you go there, you realise that you’ve got to have some sort of investment proposition. Either you’re a dividend payer, or you come across as a growth-focused company that may be bought out, giving investors a premium.”

The expectation to produce dividends does not fall to all sections of the market, with nationally-owned companies having wildly different approaches. Analysis by Westwood Energy showed that Petrobras paid out approximately 5% of its operating cash flow to shareholders in the first three quarters of 2020. Meanwhile, Saudi Aramco paid out almost all of its cash flow to shareholders.

Across the Atlantic, oilfields may head in the direction of the supermajors. Das says: “Investors want US shale companies to be much more profitable, not focusing so much around growth. 

“Investors will want those companies to give them a certain degree of confidence in their ability to improve shareholder returns. I wouldn't be surprised if, as companies start to get much more profitable, they start dividends they may not have had previously, to remain [as good] investment propositions.”

“European companies have long cycle, riskier offshore investments. They may choose not to pursue a very strong dividend policy, because they'll still want to maintain some flexibility in terms of their balance sheet cash conversion. As companies go through the transition and start to evolve, dividend policies may also evolve.

“Looking into a crystal ball, I think it's very hard to say people will do this or that. What we know for certain is that people will need some proposition to give their shareholders some returns, whether that's dividends, or share buybacks, or some other method.”

The energy transition has made strategic changes and greater costs necessary at one end of the value chain. These changes affect investors at the other end, though not as much as the changing culture around investments as a whole. Some sources loudly claim “oil investments are drying up”, while many others have noted the rise of ESG investments and their better-than-average returns.

Investors increasingly choose to put money into ESG funds, which increasingly exclude oil and gas. Das believes this forms part of a temporary moment of flux for industry investments.

“There is a lot of concern around the industry, as investment managers become more aligned with net-zero goals. In tandem with the volatility driven by the pandemic, it's a perfect storm.”

“You're not sure what's going to happen in the near term, and you don't know what's going to happen in terms of climate strategies. That perfect mix has given investors a reason to pause and reassess their attitude towards the industry.

“How much investment returns to the industry depends to a large extent on how companies evolve their net-zero strategies, on how regulatory bodies pursue net-zero, and how investors feel about these factors. 

“If you manage large sums of capital, you want to generate the returns that you have been tasked with. In the next three to five years, we probably won't see capital completely dry up for the industry, and we probably won't see all capital return to the industry, but it’s difficult to tell.”

Dividends have become so core to the finances of supermajor companies, the big picture of creating value in oil and gas can become obscured. In other industries, dividends form a much smaller part of generating company value. For example, renewable generation companies have smaller returns but attract investments with their potential for growth and technological advancements.

Asked whether oil and gas dividend culture will change, Das says he believes this is the wrong question: “Companies are assessing where they are in their evolution. As a function of that, they're assessing what the right mechanism to create shareholder value is. Dividends is one lever, and that could be the lever that they choose to continue using.”

“Or they could choose to do something different, like focus a lot more on share buybacks to create value further down the line. I think for all European and US majors, across the board, the one thing that's true is that they still want to remain attractive investment propositions.

“We need to be patient with the industry to see how it evolves, and how it evolves as an investment proposition as well. It's very easy to take a polarised opinion about what should happen.

"We shouldn’t speculate about the future at this stage, because everyone's going through this transition together. We should be in a position where we need to be able to ask investors: as we transition, how should we think about returns? What are your expectations?”