Pumping Life Into Chevron : Energy: The San Francisco oil firm’s performance lags behind that of nearly all its big rivals, leaving its stock undervalued and the company vulnerable to a takeover. Analysts are watching Chairman Kenneth Derr’s efforts to turn the company around.
It was 1984, the year when much of the world’s attention was focused on Olympic achievements in Los Angeles. In San Francisco, Kenneth T. Derr faced an Olympian task of his own.
Derr--then president of Chevron Corp.’s domestic unit--was given the job of merging Chevron’s immense operations with those of Gulf Oil after his company’s $13-billion takeover of Gulf.
The plain-spoken man, who had made his mark early on as a bright, ambitious executive, admits now that he did not know where to begin. “I went home after I got the job, and I took a whole yellow pad . . . and said, ‘I’m going to write down how the hell to go about this,’ ” he said in an interview last week. “I sat there for two hours looking out the window and hadn’t written a thing down, and I probably went out and played golf.”
The uncharacteristic indecision lasted only briefly, however, and in the end, Derr rose to the occasion. He and his Gulf counterpart, James Murdy, devised a method that relied on advice from 37 employee study teams to restructure the two companies into one, methodically eliminating 20,000 jobs and selling off about $5.4 billion in assets to cut debt from the deal.
Afterward, the relative speed and smoothness with which Derr and his team accomplished the task won widespread praise. And the merger propelled Derr to the top of the company--first as vice chairman, then last January as the company’s 10th chairman and chief executive, replacing George Keller.
Now, the 6-foot-3 oilman faces an even stiffer challenge: restoring luster to the nation’s third-largest oil company, whose financial performance lags behind that of nearly all its major competitors.
The San Francisco-based company’s condition has left its stock undervalued and the company vulnerable to a takeover or forced restructuring, analysts say. Rumors to that effect have spurred heavy trading of Chevron stock in the past several weeks, driving the stock to new highs--although the price is still below where it should be, analysts say.
Derr, normally anything but shy about speaking his mind, will not comment on the stock market activity. But in the past year he has taken steps to deal with Chevron’s underlying problems. He has vowed to improve efficiency, cut costs, widen margins and increase the return to shareholders--including dividends and capital gains--to 15% from 8% through 1993.
In the process, he has decentralized decision making and raised the accountability of Chevron business units--bringing to the traditionally bureaucratic corporate culture a new participatory management style, analysts said.
In a move typical of the company’s new aggressiveness, Derr last week ordered the creation of a stock repurchase program and an employee stock ownership plan--which creates a solid defense against takeovers with a novel use of a Delaware law. Chevron is incorporated in Delaware.
Company Profile
Can the 53-year-old Derr manage a turnaround? “That’s the question mark,” said Frederick P. Leuffer, a senior oil analyst with the C. J. Lawrence, Morgan Grenfell Inc. investment firm in New York and author of a report that strongly criticizes Chevron’s performance.
“Their strategy and goals are very admirable: to take the company from a lackluster performer, improve financial results and returns to shareholders, and make it one of the best operating concerns,” Leuffer said. “That’s great, but I’m not sure how they’re going to do it.”
Chevron remains impressive in size. With $34.5 billion in assets, it is the third-largest oil company in the country after Exxon Corp. and Mobil Oil Corp. In terms of reserves and market capitalization (the market price of its stock times the number of outstanding shares), it is the sixth-largest in the world.
In some areas, Chevron is unrivaled: It is the nation’s largest refiner, natural gas producer and wholesale marketer of natural gas liquids.
Its total oil and gas reserves remain strong, although they have declined in the past four years, positioning the company for improvement should crude and gas prices turn up as hoped in the 1990s.
And its balance sheet is healthy, with $15.2 billion in equity and only $6.8 billion in long-term debt at the end of the third quarter.
But by other measures, Chevron is ailing:
* From 1984 to 1988, Chevron’s 10.8% average return on equity lagged behind those of six major oil companies, according to Leuffer’s report. Its 7% average return on capital trailed that of five competitors, the report added.
* Of seven major oil companies, Chevron exceeded only Texaco in profitability from its refining and marketing operations from 1986 to 1988, according to Chevron’s own calculations.
* Chevron spent more than any of the other seven oil companies to find and produce a barrel of oil in the United States in 1988: $6.18, compared to $5.67 for the next highest, Mobil, said Ray E. Galvin, head of Chevron’s domestic exploration and production operations. Worldwide in the past five years, Chevron’s cost of finding and developing new gas and oil reserves, excluding acquisitions, has been among the highest, Leuffer said.
* For the first nine months of 1989, Chevron’s net income was $1.1 billion, down from $1.6 billion in the 1988 period. Total revenue was $23.9 billion, up from $22 billion.
Meanwhile, some of Chevron’s most valuable domestic oil and gas properties remain tantalizingly out of reach.
A sizable oil and gas reserve off Point Arguello in Southern California remains unproductive, despite a total $2-billion investment by Chevron and 17 other oil companies, as wrangling continues over the best way to transport oil from a new terminal near Gaviota to refineries in Los Angeles.
The project drains about $500,000 a day in interest alone from the 18 companies. And because the initial investments were made with the hope that crude oil prices would rise by 1990 to about $85 a barrel, compared to about $19 now, the project will lose money at least at first, even when production starts, Galvin said.
In Alaska, response to the tanker Exxon Valdez oil spill has thwarted efforts by Chevron to drill on leases that it holds in the coastal plain of the Arctic National Wildlife Refuge.
It is ironic that Derr finds himself at the helm of a troubled Chevron as a result of his work with the Gulf merger. Leuffer called the merger ill-timed because it came just before the 1986 collapse of world crude oil prices.
Derr disputes that, arguing that the merger has left Chevron with some of its most valuable assets. But he and other executives freely admit that much of what Chevron is doing is intended to catch up with its competitors.
“We perhaps were a little diverted from some activities of improving efficiencies in our companies because we were trying to bring them together,” Derr said.
Derr’s Style
Whatever Chevron’s problems, Derr himself gets high marks from analysts. A native of Pennsylvania, Derr graduated from Cornell University with degrees in engineering and business and joined Chevron, in part, so that he and his new wife could move to California.
At age 34, he was named assistant to then-Chairman Harold J. Haynes, who became a mentor. At 36, Derr became the youngest corporate vice president in company history in 1972. Seven years later, he was named president of the company’s domestic operating unit, Chevron U.S.A.
To each of his jobs, the 225-pound executive brought a refreshing affability, colleagues said. While awaiting the transfer of nearly $2 billion that would clinch the sale of Gulf’s Canadian unit in 1985, Derr put everyone at ease by organizing a penny-pitching game in a Toronto boardroom.
“Ken’s a friendly guy,” said Murdy, the former Gulf chief financial officer who worked with Derr to merge the two companies. “But I wouldn’t confuse his (appearance) with the get-up-and-go in him. . . . He’s a very confident, able person.”
D. W. (Darry) Callahan, president of Chevron’s Warren Petroleum unit, recalled that Derr could turn the charm on and off during particularly tense negotiations with a Dutch company in the late 1970s.
“Ken knew when he could push a little further and when it was time to back off,” said Callahan, who was a staff analyst in the talks at the time. “It was like a poker game, where you have to know when to keep on your poker face and when to put on the big smile.”
During the Gulf merger, Derr showed an ability to delegate by farming out the initial analysis to study teams. The resulting reports ended up stacked several feet high on every flat space in Derr’s office.
But Derr was not afraid to make tough decisions, even if that meant selling off assets or eliminating jobs to make the merger work, analysts said. During that time, Chevron divested itself of its East Coast refining and marketing operations and its European units, while pursuing an aggressive program of buying oil and gas assets that culminated in the purchase of Tenneco’s oil and gas reserves last year for $2.5 billion.
It is that ability to manage assets that could help Chevron now.
“Mainly, what he has to do is decide what to do with a lot of non-performing assets,” said Rosario (Sal) Ilacqua, an industry analyst with Nikko Securities Co. in New York.
5-Year Goals
Chevron U.S.A. plans to spend more than $700 million on 15 projects in the next five years to upgrade refineries and improve yields of gasoline over less profitable products, said David R. Hoyer, head of Chevron’s domestic refining, marketing and supply operations. An additional $1 billion is to be spent to upgrade the Richmond, Calif., refinery, he added.
On the marketing end, the company plans to spend $1.2 billion to build new service stations and modernize old ones, while closing unprofitable locations to reduce the total number of company-owned stations to 2,500 from 3,500.
All of which is aimed at improving U.S. earnings by $1 a barrel of refined product, Hoyer said, up from the current $1.20 to $1.28 per barrel.
On the exploration and production side, Galvin said Chevron U.S.A. will identify and sell off marginal oil and gas properties. Next year, Chevron U.S.A. should dispose of $300 million to $400 million in such assets in an effort to reduce costs, he said.
The five-year goal is to raise the domestic exploration and production unit’s return on capital to 12% or 15% from the current 4%.
But some analysts argue that Chevron’s programs do not go far enough.
Leuffer suggested that Chevron concentrate on its production side and consider selling its five West Coast refineries--including the ones in El Segundo and Richmond--as well as its network of service stations.
Unlike Atlantic Richfield Co., which has carved a niche as a cut-price marketer, or Unocal Corp., which has an image for upscale service, Chevron has tried to be all things to all people and has lost market share to the others, analysts said.
British Petroleum, which has sizable oil production in Alaska but no West Coast refining or marketing, would be the logical buyer of such valuable assets.
But Derr dismisses such suggestions with annoyance. “Everyone who’s a security analyst or writes for a newspaper knows what the hell we ought to sell,” he said.
“I think (Leuffer’s) an idiot if he suggests that,” he added. “The West Coast is the most profitable refining and marketing asset our company has. . . . Sure, BP’d probably give their eye teeth to (buy) it, but it’s one of the most important single assets this company has.”
The attention on Chevron’s condition has fueled rumors that an outsider may try to force the company to restructure, or might even launch a takeover. Pennzoil Co., with cash from its settlement with Texaco Inc. in the battle for Getty Oil Co., is the most discussed possibility.
Most analysts discount the possibility that tiny Pennzoil could muster the $35 billion that would probably be needed for such a bid, which would be the largest corporate takeover in history.
Nevertheless, the employee stock ownership plan and the repurchase program announced last week would raise the amount of stock in presumably friendly employee hands--a common defensive tactic.
The unusual twist in Chevron’s plan is that it would use stock in the relatively small employee ownership plan to supplement the 11% of stock held by other employee benefit plans, in effect raising the total held by employees to 16%, said Joseph R. Blasi, a professor at the institute of management and labor relations at Rutgers University in New Jersey.
Chevron could then use stock in all of the plans to meet the requirements of a Delaware law that allows holders of 15% of a corporation’s stock to block a takeover, Blasi said.
“Chevron has clearly discovered something here, to obtain the Delaware defense without setting up a huge employee stock ownership plan,” Blasi said. “It’s likely to influence the future takeover defenses of a lot of public companies.”
Derr will not talk about any defensive aspects of the plan, arguing that the company had been planning the employee stock ownership program for months to take advantage of tax benefits.
But, he said with raised eyebrows and a shrug: “If there’s some other benefits, whatever they might be, well that’s OK.”
