At Closing: Notes From Near And Far

By the time you read this, OPEC will have made its decision on production curtailments, but meanwhile, rigs in the Permian Basin and elsewhere will be adding more oil to the supply.

We’re in a brave new world with E&Ps reporting they rely on big data analytics and, according to sources, IBM’s Watson and/or proprietary artificial intelligence to boot. The future looks remarkable, but if current trends hold, what is the end game?

At this year’s Offshore Technology Conference, Interior Secretary Ryan Zinke told attendees that the U.S. is not only approaching energy independence thanks to shales, but it could feasibly seek energy dominance. Strong words.

The Energy Information Administration recently said U.S. production will reach a record 9.96 MMbbl/d next year, up from 9.9 MMbbl/d in April 2017. I doubt you’d meet anyone in Midland, Texas, or Houston who would bet against U.S. producers at this point—and OPEC regrets having bet against them in November 2014.

“Today, 395 rigs can add the same amount of production it took 614 rigs to add in 2014, according to RS Energy Group,” said Laredo Petroleum Inc. CEO Randy Foutch at the DUG Permian Conference in April. “We’ve effectively doubled our rig count with these longer laterals that enable more recovery.

“This is what most people missed.”

These technical breakthroughs enable oilmen who feel compelled to answer the siren call for more production. Bernstein Research E&P analyst Bob Brackett and team looked at how equity valuations are affected by production guidance and subsequent actual results.

They studied equity moves during earnings season for the past 10 years for 83 E&P companies, finding that companies with improved top-line production growth, and production beats ahead of guidance, fared best in the stock market. Equities reacted most favorably to this metric, ahead of cash flow per share beats or other performance measures.

“Production growth and cash-flow growth (without outspend) are how high-quality E&Ps distinguish themselves,” Brackett wrote. “Growth is the most direct way of observing E&P return on capital.”

Questions of oil supply, demand and growth were top of mind at Morgan Stanley’s energy confab in Houston in May. Mark Papa, chairman and CEO of Centennial Resource Development Inc., spoke there, saying he sees a tight oil market coming between 2018 and 2020, even if U.S. shale output grows by 1.2 MMbbl/d per year—a not unreasonable projection.

The company has raised its own 2020 oil production target by 20% to 60,000 bbl/d due to recent acquisitions and good well results in the Delaware Basin (which Papa said were trending better than anticipated). It has six rigs running there.

Continental Resources Inc. has also touted better results than expected from its Oklahoma drilling campaign as it and other firms keep expanding the technology and EURs in the Scoop/Stack/Merge plays.

Chairman and CEO Harold Hamm told the Morgan Stanley conference that investors should shift their attention: Zero in on full-cycle returns instead of focusing only on production growth before shales contribute to a balanced oil market.

Morgan Stanley said both speakers think the decline in breakeven costs has pretty much played out in most shale plays, with the exception of the Permian and Scoop/Stack.

What else is next in E&P? Any new shale plays to be found, or mature plays that will be revitalized with horizontal drilling and intense fracks? Think siltstones, said Papa, or the Montney.

What’s next in M&A? In 2016, a lot of private equity-backed companies sold to the big publics. In 2017, we’ll see a bit more of that, but the majors and the international oil companies “are looking to play offense again,” Paschall Tosch with J.P. Morgan told Investor during a recent visit.

Joe Stone, managing director of restructuring advisory Blackhill Partners LLC, also was in town recently. He told us more restructurings and recaps are coming, especially if oil remains below $50/bbl, and especially for any company active offshore. The currents are just too tough out there.

Finally, if taking a long-term view, we are approaching the day when a Permian section can boast up to 50 wells, as Concho Resources Inc.’s CEO says in this issue. The call on capital will be enormous.

Only two things will suffice: majors and international oil companies with hefty balance sheets will have to take over these resource plays, and every other E&P will compete to secure capital through DrillCos and joint ventures with private equity players. Some two dozen private equity firms can deploy at least $1 billion each, but that would put a small Band-Aid on the projected annual North American spend of some $84 billion this year.