August 2017

Energy Issues

Producers have recently reacted to stagnant oil prices with announcements of cuts in capital spending.
William J. Pike / World Oil

Producers have recently reacted to stagnant oil prices with announcements of cuts in capital spending. “The pullback started with Anadarko Petroleum, a global driller with shale oil assets in Colorado and Texas,” notes CNBC. Anadarko announced it would reduce its 2017 exploration and production budget by about $250 million. “We sincerely believe the volatility of the current operating environment requires financial discipline. And as I have said many times, pursuing growth without adequate returns is something we will avoid,” Chairman, President and CEO Al Walker said.

Recently, big producers like ConocoPhillips and Hess, as well as smaller regional operator Whiting Petroleum, followed suit, CNBC said. Expecting an extended price recovery, IEA notes that “money managers [have] slashed net long positions in Brent and WTI crude futures by more than 200 MMbbl between end-May and end-June, to 312 MMbbl… The widespread interpretation of this is that investors believe, perhaps impatiently, that oil market re-balancing is taking too long, with some calling for additional action by producers to speed up the process.”

Recent events do not foster hope that the re-balancing process will accelerate. In fact, three separate factors indicate that the rebalancing process is bogged down.

The first is the apparent commitment by U.S. producers to increase exports, at a time when OPEC compliance with production cut promises appears to be faltering. The result could be a glut of oil on the international market.

The 21 nations that committed to supply cuts stumbled in June, when OPEC compliance fell below 100%, due to production increases in Angola, Iraq and Saudi Arabia (10.07 MMbopd in June), according to Bloomberg. While non-OPEC participants fared better—Russia in particular—they, too, have failed to meet their targeted cuts.

Saudi and Russia, the group’s two largest producers, have consistently worked to meet the goals they agreed to. Others, such as Iraq—whose June compliance rate was 28%—are proving less reliable. Still, this pales in comparison to Kazakhstan, which has a compliance rate of minus 145%. In summary, the 21 nations, which have pledged to reduce production by nearly 1.8 MMbopd, are struggling.

Into this scene step U.S. shale producers. While some are attempting to cut capital expenditures, primarily in drilling, many are poised to increase oil-based fuel exports to the global market, says Reuters. “Last year, the U.S. became the world’s top net exporter of fuel, an outgrowth of booming domestic production since the shale oil revolution started in 2010. That’s a fundamental shift from the traditional U.S. role in global markets as a top importer and consumer. Net exports are on track to hit another record in 2017,” making foreign fuel markets increasingly important for the future growth prospects and profit margins of U.S. refiners and oil producers. Shale oil producers have provided refiners with abundant and cheap domestic crude supplies, giving them the raw materials they need to produce internationally-competitive fuel. Last year, exports hit 2.5 MMbpd of refined products.

Producers are not the only ones attempting to rebalance. “Oilfield service companies do not expect their businesses will get a major activity boost from oil prices in the second half of this year,” says Reuters, noting that, “demand is robust enough that they will be able to raise fees, executives said.”

“We are well-structured for the $45-to-$55-a-barrel range,” Andy Hendricks, chief executive of onshore drilling contractor and fracing services provider Patterson-UTI Energy, said in a phone interview with Reuters in mid-July. “We expect the rig count for us to go up slightly throughout the year." Driller Helmerich & Payne expects oil to remain below $50 through 2017, but sees opportunities to increase its rig dayrates, CEO John Lindsay said on its third-quarter earnings call.

For the oilfield service firms that supply pressure pumping, land drilling and fracing services, the profit outlook varies according to how much business is locked into long-term deals, Reuters notes. Those not contracted under long-term deals may feel pressure earlier and, almost certainly, will not get away with increasing prices over the long term.

What might this rebalancing look like, you ask? It’s tough to say. But there are some things that are almost undeniable. First, if it plays out as promised, a number of things will change. One large change will be a decline in U.S. shale exploration, drilling and completion activity. The rig count, which has been rising of late, will drop. Dayrates also will drop.

Another change will be a drop in oil prices as U.S. exports fill foreign markets and, coincidently, demand drops in critical places. A glut in the international market will develop. This will likely be exacerbated by increases in production from OPEC and non-OPEC countries, in contradiction of their promises to cut output. Falling oil prices will require increased production, to raise the funds to meet financial commitments in
those countries.

I am not a prognosticator, but I do have a picture of what this future might look like. It includes an oil price in the high $30s to low $40s, a jump in job losses in the industry, a longer-term (three to five years) glut in the global oil market and increased rationalization, downsizing and combining of operating and service companies. I really hope that is not the case, but it looks likely at this point, absent a dramatic incident (such as Venezuelan unrest) that affects global supply. wo-box_blue.gif

About the Authors
William J. Pike
World Oil
William J. Pike has 47 years’ experience in the upstream oil and gas industry, and serves as Chairman of the World Oil Editorial Advisory Board.
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