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Weak production and the foggy outlook evident in the big oil majors' fourth-quarter results show they have yet to master the industry's new landscape. A lack of easy new finds has pushed the companies into difficult environments like deep water, the Arctic and offshore gas to grow production. Their project-management skills have yet to fully catch up. Better cash flows will eventually come, but for now, the sector's low valuations look justified.

Companies that beat expectations in their recent results – as BP did on Feb. 5 – did so thanks to temporarily high refining margins. Production of oil and gas was either down or only slightly higher for the full year at Chevron, Exxon , BP and Shell. Even the industry's former growth darling, U.K. gas producer BG Group, has been cutting its production guidance. Meanwhile, capital spending at every company bar Exxon rose by double digits last year. Exxon itself spent a staggering $40-billion (U.S.) on capex.

The problem is that mature conventional fields and assertive national oil companies have left harder-to-exploit niches as the main source of long-term production growth for the oil majors. But their actual expertise isn't yet up to the challenge. The big exception – U.S. shale – is proving a drag on earnings because of a supply glut that has depressed returns.

Oil majors' next-generation projects are ambitious – Shell last year approved the construction of a new liquefied natural gas platform that will be the biggest man-made floating object, with a displacement more than six times that of an aircraft carrier. But the complexity of the projects' logistics and technology makes them prone to cost overruns.

Sluggish production and rising costs have battered sector valuations. Despite 2012's record oil prices, the average European major was worth just over four times its cash flows last year, according to Bernstein. That's down from an average of about six to eight times free cash flow in the decade before the financial crisis, when oil prices were much lower.

Until oil majors get a better handle on costs, or can demonstrate that their furious pace of investment can generate significant production gains, the low valuations look justified.

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Tickers mentioned in this story

Study and track financial data on any traded entity: click to open the full quote page. Data updated as of 28/03/24 7:00pm EDT.

SymbolName% changeLast
BP-N
BP Plc ADR
+0.59%37.68
CVX-N
Chevron Corp
+0.89%157.74
XOM-N
Exxon Mobil Corp
+1.1%116.24

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