Arco Believes Smaller Means Better Future : Retreat May Fend Off Raiders but Big Debt Could Restrict Plans
To the uninitiated, the view from the executive offices in Arco Tower, the 52-story Atlantic Richfield headquarters in downtown Los Angeles, is a maze of freeways reaching into the hazy distance. But to those who occupy the spacious offices, decorated with contemporary artwork and Indian artifacts, the view of the world has vastly changed.
“We’ve bitten the bullet,” says William F. Kieschnick, 62, Arco’s president and chief executive, as he props his legs on a coffee table.
Within the last few weeks, Arco has decided to do what was unthinkable just a decade ago: it is closing or selling thousands of gasoline stations, sharply reducing its work force, cutting back on oil exploration and, some say, dropping out of Big Oil’s big leagues. Arco is no longer “competing with the Royal Dutches and the Exxons of the world,” says Craig Schwerdt, an oil industry analyst with Morgan, Olmstead, Kennedy & Gardner in Los Angeles. “They’ve shortened their horizons.”
A former chemical engineer whom acquaintances describe as a “hands-on man,” Kieschnick is widely considered the architect of Arco’s sudden transformation. The retreat from 12 eastern states and Washington leaves Arco with gas stations in just five Western states, and a big oil and gas production company.
Fewer Gas Stations
With 2,000 fewer gas stations to supply, Arco will have a daily surplus of 150,000 barrels of crude oil which it can usually sell more profitably than refined products, especially gasoline.
At the same time, Arco will spend 30% less on exploration, reducing the budget for 1985 to $900 million, leaving the bulk of the search for new oil “to the bigger oil companies with deeper pockets,” says Schwerdt. Arco will concentrate instead on development of known oil, gas and coal reserves, becoming, in Kieschnick’s words, “a hydrocarbon production company.” And, he adds: “We don’t have to be the biggest to be the best.”
On the financial side, Arco plans to spend plenty to keep its shareholders happy and to keep raiders away. Over the next 18 months, Arco will borrow $4 billion to buy back as much as 25% of its outstanding shares. It just finished a $1-billion buy-back of 10% of its shares. By keeping its debt and stock price high, Arco will be an unappealing takeover target.
Arco’s retrenchment is the most dramatic response so far to profound changes occurring in the oil industry. Refining overcapacity, shrinking profit margins and lower-than-expected demand have replaced the euphoria of the 1970s, when high oil prices swelled the industry’s bottom line. With gasoline prices peaking, oil companies are shedding losing businesses, laying off workers, and closing gas stations.
Mobil, for example, has pulled out of nine Midwestern states and Texaco has pulled out of eight. Exxon has closed gas stations at the rate of 1,000 a year since 1972. Over the last five years, 100 domestic refineries have closed and, Los Angeles oil analyst Dan Lundberg says, “The end is not in sight.”
No other company has with a single stroke repositioned itself as a regional gasoline marketer as has Arco. Schwerdt says that move reflects Arco’s style. “They like to do things in a dramatic vein. They’ve always viewed themselves in the industry’s forefront. It’s just part of their psyche,” he said.
Maverick Chairman
Observers trace Arco’s flair for the big play to its maverick 67-year-old chairman, Robert O. Anderson, who parlayed a single New Mexican refinery into the nation’s sixth largest oil company through a rapid series of mergers. “He was one of the last great corporate entrepreneurs,” said James O’Toole, a USC management professor and a student of Arco. “He turned three marginally successful oil companies into one preeminently giant concern.”
But since becoming Arco’s chief executive in 1982, Kieschnick has been effectively dismantling the Anderson legacy, with the chairman’s blessing. Last year, the company took a $785 million write-down on its metals mining operations and put most of those assets up for sale. Kieschnick’s recent decision to close 2,000 gas stations east of the Mississippi and Arco’s Philadelphia refinery will result in a hefty $1.2-billion write-down this year.
In search of efficiencies, Kieschnick consolidated Arco’s copper and coal mining operations and has trimmed Arco’s work force from 52,400 in late 1981 just before he took over as chief executive to 38,000. By year’s end, the work force is expected to be whittled to 33,000 through retirements and possible layoffs, as well through sales of unwanted businesses.
What went wrong? “We built a company based on assumptions that turned out to be false,” Anderson says. Throughout the 1970s, he says, economists predicted that the price of crude oil would continue to skyrocket, reaching $65 a barrel by this year, instead of resting at its current $27 to $28 a barrel plateau. “It simply never happened,” Anderson says. “But we weren’t alone in being overly optimistic.”
Analysts Supportive
For the most part, Kieschnick’s bold actions have won praise from analysts, who say the company should fare well in its new configuration. Free of money-losing businesses and insulated from takeover attempts (thanks to its whopping new debt), Arco should be able to cash in on its rich Alaskan North Slope reserves, and run a profitable regional gasoline business in five Western states, including California, where it plans to remain.
“They’ve down-sized the company to a level where they can be profitable and be competitive,” Schwerdt says.
But some wonder whether the future isn’t being shortchanged. The stock buy-back will leave Arco saddled with debt, giving it less financial flexibility. Arco’s debt could total more than 67% of its capital base, or twice its net worth, according to Standard & Poor’s, one of the two major rating services. Last week, S&P; downgraded its ratings on Arco’s debt issues from AA-plus to AA-minus to “reflect the increased financial risk profile of Arco.” The agency said the risk of taking on $4 billion in debt more than offset the benefits of Arco’s efficiency moves, which are intended to cut operating costs by $500 million.
Sanford Margoshes, an oil industry analyst with Shearson Lehman in New York, says the buy-back comes at the expense of significantly reduced exploration efforts. “Let’s call a spade a spade,” he says. “This restructuring is just a code word for partial liquidation.”
Plenty of Reserves
But Dallas oil analyst Alan Edgar of Schneider Bernet Hickman, for one, isn’t worried about Arco’s reserve base which includes Alaska’s Prudhoe Bay, one of the biggest crude oil regions in North America, with reserves estimated at 1 billion barrels. “Their reserves will last another 10 years, and with improved recovery technology available then, way beyond that,” he says.
The changes in the oil market which led to Arco’s reorganization came swiftly. With the easing of oil prices in 1983, Arco’s marketing and refining operations took a nose-dive. Profits peaked at $809 million in 1982, then plummeted to $474 million in 1983 and $279 million last year, despite an increase in market share.
The company responded to the oil glut and declining prices with aggressive marketing tactics, including the elimination of credit cards and addition of convenience stores at gas stations. Arco emerged as the No. 1 gasoline seller in California and New Mexico in the West and Delaware, Pennsylvania and Rhode Island in the East. But Schwerdt said Arco’s marketing campaign was clearly a failure, because the gain in market share didn’t stem the drop in revenue.
Kieschnick doesn’t agree. He said Arco’s marketing system is “very successful” and the decision to dorp out of the East was just part of the company’s plan to withdraw from “historically marginal” markets. “We’re pumping more gas through fewer outlets in better locations,” he said.
“Everyone’s having a tough time in the East,” he said, where gasoline prices are held down by competition from imports, particularly Venezuela.”
But Arco’s most visible problem had nothing to do with oil. Its Anaconda minerals unit, suffering from a slump in copper prices, failed to make money despite the millions Arco poured in to help modernize it and open new mines. The minerals business lost $43 million in 1980, $315 million in 1982, and $102 million last year, after the huge write-down on much of its operations, only seven years after Arco bought it for $695 million in a diversification effort.
Shock to Company
All this came as a shock to a company that had experienced nearly two decades of remarkable success. In 1962, Anderson, whom associates describe as a consummate deal-maker, sold his Hondo Oil Co., located in Artesia, N.M., to Philadelphia-based Atlantic Refining, becoming in the process that company’s biggest shareholder. He became its chairman 18 months later and set about looking for ways to expand Atlantic’s tiny amount of crude oil reserves.
In 1966, Anderson found his answer, and merged Atlantic with Los Angeles-based Richfield Oil, acquiring a chemical business and a much larger crude base, including exploratory acreage on Alaska’s North Slope. In 1969, the new Atlantic Richfield merged with New York-based Sinclair Oil, expanding Arco’s refining capacity and marketing network.
In 1972, Arco moved its headquarters from New York to the sleek Arco Tower building in downtown Los Angeles, which stands on the site of the old Richfield headquarters. At the time, the tower was the tallest building in Los Angeles, offering from its 51st floor a view of the Pacific, 30 miles away. The move west brought headquarters closer to the company’s production and refining base.
After assembling a huge domestic oil company, Anderson looked to diversify. He was helped by Thornton Bradshaw, the former Harvard Business School professor who was Arco’s president for 16 years before resigning to become RCA’s chairman and chief executive in 1981. In 1977, Arco paid $695 million for Anaconda, acquiring a major mining and minerals concern rich in copper and molybdenum deposits, and--he hoped--the technology to squeeze oil from shale. That expertise, he reasoned, would give Arco a hedge against the day when oil supplies dwindled and suppliers had to find other ways to get oil.
Dramatic Growth
With the mergers, sales and income grew dramatically. Revenues grew from $1 billion in 1966 to $8.9 billion in 1976, and fueled by a jump in oil prices, to $27 billion in 1981. Profits kept pace, growing from $113 million in 1966, to $595 million in 1976, and $1.6 billion in 1981. By 1973, Arco had mushroomed into a national marketer, with 16,000 gasoline stations in 42 states and Washington.
With the withdrawal from the East, Arco has come full circle, becoming, once again, a regional supplier. And though it lives up to its reputation for making big moves, observers say that under Kieschnick, Arco has become more introspective. “It’s less concerned with leading the industry than with what’s going on in its own organization,” O’Toole said.
Indeed, observers say, a good part of Arco’s transformation involves not only the sale of assets, but the establishment of an “Arco culture” within the oil company, which has so long been dominated by Anderson’s personality. Kieschnick is a former research chemist whom associates describe as a methodical technician. “He’s more of a doer,” one acquaintance said. “Bob (Anderson) is a thinker.”
Kieschnick has adopted a theme for the times, with an emphasis on productivity and innovative cost cutting. Kieschnick says he’s trying to institutionalize some of Anderson’s entrepreneurial spirit and says he doesn’t see any contradiction in his encouragement of high-level risk-taking while shrinking the company. “You can be entrepreneurial, and innovative and reduce costs,” he says.
Kieschnick says he doesn’t believe that the 13% reduction in Arco’s work force, which may involve layoffs, will damage the new spirit he’s trying to build.
“People will see how well we treat our employees” who have been offered generous early retirement packages, he said. “And those that remain here will be excited to be part of a winning, successful business.”
