海角大神

Risks, Rewards, and Soft Power

In oil markets, the year 2014 already looks to repeat 2013 with some important differences. Unpredictability in the commodities鈥� extraction and delivery, political risk, and policy risk may play a bigger role in 2014. The potential lifting of the crude oil export ban, which the industry and some lawmakers desire, may also stir up the market.

On the policy front, safety and methods of transporting oil and water disposal issues arose in 2013, and will likely again in 2014. The second rail disaster from transporting oil from North Dakota鈥檚 Bakken Shale, the Lac-M茅gantic, Quebec incident with loss of life and the December 30th Casselton derailment, renewed the debate between pipelines versus rail transportation. The director of the North Dakota Department of Mineral Resources 鈥減redicted that as much as 90 percent of crude produced in the Bakken this year will move by rail鈥� a recent聽聽noted. In Parker County, Texas, the Texas Railroad Commission listened to residents鈥� complaints about earthquakes, which they attribute to disposal wells. The US Geological Survey聽聽a link between the earthquakes and wastewater disposal;聽a similar renewal in earthquake activity is reported in Oklahoma as well.

Recent violence in Iraq, with Al Qaeda pushing into the cities of Ramadi and Fallujah of Anbar province, create concern about Iraq鈥檚 oil production potential in 2014. Iraq is the second largest OPEC producer behind Saudi Arabia. Bloomberg聽聽鈥淭he violence hasn鈥檛 affected Iraq鈥檚 major oil fields, the country鈥檚 main source of revenue.聽聽increased by 100,000 barrels a day to 3.2 million barrels last month, the most since August. The U.S. has pledged support of various kinds to Iraq to help reverse the tide of Al-Qaeda advances and violence.聽

OPEC producer聽聽235,000 barrels a day to 2.45 million the month of December. OPEC production was just under its 30 million b/d target to 29.995 million at year-end. Libyan oil production is expected to rise as some shut-in oil production comes back online.

These events remind us that global oil supply is still under the management of OPEC &Co. Brent crude聽聽were $107.61 for the February 14 contract; Brent spot prices聽聽the week of Jan 2nd at 107.94, and WTI was $95 (which is also the Energy Information Administration鈥檚 (EIA) 2014 forecast price).

The Shale Genie

The shale genie is out of the bottle. U.S. production in shale oil and gas offers lessons learned for countries desiring to exploit their own resources.聽

According to the EIA, several nations have begun to evaluate and test the production potential of shale formations. Poland had drilled 50 test wells as of November 2013. Exxon, Marathon and Talisman had given up on Poland, with its stringent regulations. Recently however, Chevron became one of the first 鈥淢ajors鈥� to form an聽聽with Polish state-controlled gas firm PGNiG. Poland imports most of its gas from Russia. Professor Rychlicki of Krakow鈥檚 mining university聽聽that 鈥淧oland will need to drill about 300 test wells 鈥� each costing $10m-$15m 鈥� before the country will have a proper grasp of how much shale gas it has,鈥� notes a Financial Times聽. These wells are quite expensive relative to U.S. shale gas wells, but natural gas prices in Europe are much higher.

Argentina, Australia, China, England, Mexico, Russia, Saudi Arabia, and Turkey have begun exploration or expressed interest in their shale formations,聽聽the EIA.

The state of global assessment is varied and uneven. The is on the low side in comparison to estimates I have seen. The state of shale gas is that of

Importantly, the key to unlocking other countries鈥� resources is predicated on what is technically and economically recoverable. The testing and de-risking activities for shale oil in the Permian Basin offer a glimpse of the task ahead to recover shale resources. Even Pioneer Natural Resources, with their mad shale skills, took two to three years to analyze thousands of existing wells to assess the potential shale oil reserves in the Permian Basin. Estimates of the shale oil reserve potential in parts of the Permian, consisting of the Delaware, Central Platform and prolific Midland Basins, are still being constructed by various analysts and firms. The EIA cites 9.7 billion for the Permian Basin; the estimates from Pioneer in the Spraberry/Wolfcamp play is 50 to upward of 100 billion, over time.

In a continuing trend for 2013, independent exploration and production firms, both small and large, will persist in improving their processes and find efficiencies, which may potentially add return for investors. Developing the shales is a capital-intensive business. However, firms such as Pioneer Natural Resources, Laredo Petroleum, Concho Resources, and Apache are honing their 鈥渕anufacturing鈥� skills and processes.

Beyond the Financials

Importantly, when considering investing in energy firms, a number of 鈥渟oft power鈥� factors may indicate sustainability and longer-term vision. These following takeaways come from my recent聽聽about Pioneer鈥檚 leadership in D CEO magazine. They extend to other firms.

1)听Leadership and management: Is the top leadership in touch with the operations and culture of the firm? Are there indicators that their employees are in synch with and support of the firm鈥檚 mission? Are management and employees proud of their firm?

2)听Vision: Is the strategy of the firm aligned with the changing environment in which they operate? Are they sensitive to the trends impacting the industry or are they out of touch with the forces impacting their industry positively or negatively?

3)听Communications:聽Does the leadership display a proactive approach to informing the public and stakeholders about developments that could impact short-term profitability? Does the firm communicate about developments or challenges that impact the industry at large?

There are a number of E&P firms that operate with a high degree of social conscience.聽In fact, evidence from academic research shows that聽聽from the C-suite and聽聽taken from the top are value enhancing.

Permian Basin and Shale Oil

Over the last many months, a focus of the Permian Basin鈥檚 re-development has been a foremost interest of mine. In observing the trends, which seem to be set in motion, their context and implications are only beginning to emerge. In 2013, the trends of continued U.S. oil production and a reduction of imports are confirmed. How shale resources exploration evolves around the globe is yet to be determined. New regulation in shale production may emerge given water resource and wastewater disposal issues.

Finally, in spite of depletion concerns in regards to shale oil wells鈥攖hat they burn out fast and furious鈥� they do burn faster upfront but they continue at a 鈥榥ormal鈥� production rate for up to one, two and possibly three decades. (Most industry experts I have spoken with indicate this to be true.) 聽[see slide #4], from the December 16th early release from the EIA, indicates the U.S. government view of the impact of shale oil, also known as 鈥渢ight oil.鈥� They expect shale oil production to peak at 4.8 million b/d around 2020. IHS expects 4.5 million b/d to continue through 2035, in contrast to the EIA forecast.

The EIA聽聽shale oil to decline to 3.7 million b/d in 2035 and then 3.2 million by 2040. The Permian鈥檚 Spraberry/Wolfcamp is expected to ramp up more slowly initially than the Bakken and Eagle Ford, which is not a bad development. This will allow more time for infrastructure, labor and capital to adjust and may help smooth out the potential for extremes of boom and bust.

(See the聽聽chronicling the U.S. oil boom, some of the Permian players鈥� role, and future directions: 鈥淐hronicles of an Oil Boom: Unlocking the Permian Basin,鈥� by Jennifer Warren on Amazon.)

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