It's still the poor relative - Business - Business - smh.com.au


THE debate about whether BHP Billiton should retain or liberate its petroleum division has raged for a decade in investment circles, and has certainly been visited internally from time to time.
There is nothing in the company's announcement yesterday that it will pump an additional $US1.94 billion into the development of oil in Gulf of Mexico that prevents BHP Billiton from divesting this division. But it does quieten those with the view that this business is being starved of capital relative to BHP Billiton's monster minerals divisions.
The field, called Shenzi, is the second large development for BHP Billiton in the Gulf of Mexico. It will be operated by BHP, which will have 44 per cent interest. In order of importance, Bass Strait is still ahead, followed by the North-West Shelf and then the Gulf of Mexico - but number three will ultimately move up the ladder.
There is an interesting history to the oil investment in this area. BHP's operations in the Gulf were initiated a decade ago by the then head of petroleum, John O'Connor, who had a passion about prospects for deepwater development off Mexico. Although he was considered a talented executive, he often despaired that he didn't have the support of the board and had to compete, often unsuccessfully, against the larger minerals division.
He was ultimately sacked for expressing his views to analysts about the desirability of spinning off petroleum. Of course he wanted to run it unfettered by the conservative BHP hierarchy. (Incidentally O'Connor was in charge of petroleum during the AWB oil-for-food scandal but little mud was thrown his way).
One of the sweet ironies is that 10 years on, one of BHP Billiton's co-venturers in the Shenzi development is the US-based Hess, whose head of exploration is none other than John O'Connor.
It's fair to say that O'Connor would barely recognise a soul in the upper echelons of BHP Billiton management. The men with whom he shared the boardroom table have all gone.
Like O'Connor, several were shown the door. But the others left on performance grounds following a five-year stint of exceptionally poor decisions to invest in operations that have all since been sold or closed down.
The modern-day BHP management treat this business as a commercial enterprise with a proper focus on shareholder returns, but there is still a belief that the organisation sees petroleum as the country cousin.
Much of this can be explained by the investment that has been undertaken over the past five years in mineral commodities and more particularly in iron ore. Over the past couple of years the company has committed $US1.8 billion to a rapid growth program in West Australian iron ore.

It has also invested $US7.2 billion in buying WMC Resources, which is rich in nickel, gold, copper and uranium.
BHP Billiton is now able to boast that its single biggest approved investment in a project since it merged with Billiton is Shenzi in the Gulf. It will have design capacity to produce up to 100,000 barrels of oil and 50 million cubic feet of gas a day. Recoverable reserves are currently estimated to be 350 million to 400 million barrels of oil equivalent.
The cost of producing oil in this field is $US11 per barrel.
The decision to proceed is an indication that the board and management are positive about the long-term outlook for oil prices. The first drop won't be recovered until mid-2009.
The company has also earmarked development expenditure for another of the Gulf of Mexico developments, Atlantis South - in this case at a cost of $US1.1 billion.
Now that we have conclusive evidence BHP Billiton is willing to make a commitment to increasing petroleum production it has to overcome scepticism in investment markets as to whether an oil operation is the right fit for the world's largest mineral commodity producer.
The line out of BHP Billiton is that having a petroleum division with a different economic cycle gives it diversity of earnings. This is true enough, but large investors have always had a desire to invest in pure plays. It allows them to more accurately expose themselves to a particular commodities cycle.
Given the length and strength of the run in oil prices it's hard to see how BHP Billiton or its shareholders could have suffered from this investment diversity.