Is the OPEC era over? (part 1)
It has been over a year since the downtrend in oil prices began, making it one of the longest on record. Not only has the flat price of oil declined by close to US$50/bbl, but many of the various spread relationships for both crude and refined products have also changed.
In addition, global oil logistics are still adjusting as various oils look for their optimum disposition point. This process will continue for months, or even years, to come, as oil supply has the potential to outstrip demand for an extended period of time. Several months after the price decline began, OPEC, led by Saudi Arabia, joined the fray by embarking on the second market share war of its tenure. Once again, OPEC is threatened by the robust growth in non-OPEC oil supply, this time led by the US.
There have been numerous outcomes from the market share war. Strong cuts in oil company capital expenditure (CAPEX) budgets and a strong decline in oil rigs deployed to the oil sector in both the US and Canada. Oil production has continued to grow, but Genscape expects that trend to reverse soon.
The third and most visible outcome has been a surge in global crude oil inventories. Total crude oil inventories in the US are now at the highest level on record, and this holds true for other locations around the world, such as Europe, with inventory levels well above 75% of capacity.
Responding to weaker commodity prices in late 2014 and early 2015, many producers re-evaluated their CAPEX for 2015. Of the 95 E&P companies tracked by Genscape, 77 announced their CAPEX guidance for fiscal year 2015, resulting in a cumulative domestic CAPEX reduction of 36%, from US$85.7 billion in 2014 to US$54.7 billion in 2015.
Even now, these changes indicate that producers are preparing for more volatility ahead with a more resilient and flexible strategy. Before WTI dipped below US$50/bbl, some companies, such as ConocoPhillips, BP, and Continental Resources, gave out their 2015 CAPEX guidance and then quickly revised it to lower levels.
Despite sometimes-drastic CAPEX cuts, US E&P companies were expected to increase production by 7% in 2015 year-over-year, and most started concentrating on their core areas.
Implications of rig cuts
Corresponding with CAPEX revisions, total rigs in the Lower 48 dropped by 1012 rigs since their peak on 24 October 2014. The rig count drop is very similar to what occurred during the downturn of 2008 - 2009.
Genscape forecasted that US production would peak in April at almost 9.6 million bpd before declining through the back half of 2015 and into 2016. Production is expected to climb slightly through the back half of 2016 as higher prices in the forward curve incentivise producers to begin slowing adding back rigs. Year-over-year production in 2015 was expected to climb by 477 000 bpd and decline by 372 000 bpd year over year in 2016.
There are other main themes that are playing into the US production outlook.The first is how much well and rig efficiency will improve over time due to the hard declining rig environment and producers’ ‘high-grading’ to their best assets. In a lower price environment, producers begin to allocate capital of only their best assets, and average initial production rates across a basin increase. This could result in improvements of 10 - 30% in well productivities over 2016. Also playing into the efficiency improvements is rig productivity. In a decreasing rig environment, operators leave the best crews with the most efficient rigs running, which will lead to an improvement in drill days and ultimately a reduction in costs.
The second is producers delaying well completions due to economics. Over the past month, producers have announced 720 well completion deferrals, meaning they still intend to drill the wells because the rigs are locked in under contract but have decided to hold off completing the wells until prices improve and completions cost come down.
Cabot, Chesapeake, EOG, SM Energy and Apache alone announced 720 well completion deferrals in the Eagle Ford, Bakken and Permian. EOG stated in its 4Q call it would intentionally delay completions, “building a significant inventory of approximately 350 uncompleted wells. This allows EOG to use rigs under existing commitments, and when prices improve we will be poised to ramp up completions.” It is evident oil companies also anticipate a further benefit of decreased pressure pumping costs, with SM Energy stating in its 4Q call that “this will allow us to take advantage of completion cost deflation when we enter 2016. We’ll also be able to accelerate quickly if we see an improvement in the commodity prices.”
The impact of these 720 wells, if they all came online in the same month, would be about 345 000 boe/d of liquids and 428 million ft3/d gas. With a rough rule of thumb that the first 12 months of a new horizontal well averages about 50% of modelled initial production rates, the impact over 12 months of production would be approximately 63 million boe of liquids and 78 billion ft3 of gas.