[Editor's note: A version of this story appears in the May 2020 edition of Oil and Gas Investor. Subscribe to the magazine here.]
Finding an oil and gas producer with a corporate message to share with Oil and Gas Investor’s readers at press time was like trying to find a thermometer during a global pandemic. The interview that had already been done was based on a world that was $60 WTI.
That had become the stuff of yore—so yore that millies could even finally play the meme game “I’m gonna tell my kids one day __.” In this case, accurate would be “I’m gonna tell my kids one day about when hand sanitizer was a form of currency.”
So find an industry executive who had something to say anonymously?
This longtime wildcatter—now solely a private oil and gas investor—has seen five decades of industry booms and busts. Here’s his take on the business as it stood the first week of April.
While the remarks aren’t controversial—unrestrained profanity was allowed, but he didn’t even use any, which was disappointing because hearing some without being the one saying it would have been refreshing—he simply preferred to let his comments represent no particular person.
They likely represent the thoughts of any oil and gas investor.
Here’s his take.
Investor: How do you really feel about things?
Oilman: About the coronavirus? The destruction of demand? OPEC+ not cutting back?
Investor: Yeah, all of it.
Oilman: The reaction of Saudi Arabia to Russia’s noncompliance obviously occurred prior to any demand destruction that is related to the coronavirus, so I think that situation is unrelated to everything that has happened.
It’s been dwarfed by the demand destruction, and it’s not the objective the Saudis were aiming for. So that’s why I think there is hope there may be some OPEC++ [OPEC and Russia and the U.S.] reaction that may limit current supply.
Some estimates are of demand destruction of 25 million barrels per day. I would think anybody would agree 15 million barrels per day is almost a certainty of what’s been destroyed.
OPEC++ is not going to change the dynamic of the commodity price, but I think it will certainly avoid the calamity we’re looking at in May where the price of oil goes to zero.
Investor: Yeah, snooping on ship traffic on VesselFinder.com, it’s incredible the number of oil tankers parked—just sitting there—outside the Houston Ship Channel. To see it in person too from the shore, you know something is wrong.
Oilman: Supply is probably 15 million barrels per day above demand. Where are you going to put the oil? There is no place to put it. The forecast of tanks being topped out and nowhere to pump the oil, particularly in the Permian, makes all the sense in the world.
That’s what the anxiety I had was derived from. That was prior to the hopeful announcement by President Trump [of working too on cutting back on world supply].
Nominations have already been made for April—unless force majeure plays out. All bets are off when people start invoking force majeure and that will probably happen.
But there is a very near-term reality that oil cannot be transported to the Gulf Coast because there’s just no room for it.
I think cooler heads will prevail between the Russia-Saudi pissing match. The unfortunate demand destruction of the coronavirus is so incredibly unprecedented in our industry. It is unprecedented under every banner you could put it.
The demand-versus-supply diversion is just mind-boggling.
Investor: Speaking of oil having nowhere to go, the Texas Railroad Commission [RCC] is talking about pro rationing again, but what’s the point if the oil can’t go anywhere anyway?
Oilman: My understanding is it’s more to ensure an equitable decrease in production as opposed to the haves having the ability to produce and the have nots not. Those haves have contracts and relationships and whatever you want to call it—probably a strong-armed opportunity and that’s probably overstated, but still.
The Exxon Mobils and the largest independents of the world will probably have a better opportunity to move their barrels than Mom and Pop and anyone in between Mom and Pop and the largest independents.
That’s my understanding of why we would consider enacting a proration schedule—to just make it an equitable reduction in volumes and not having some companies get to produce their full productive capabilities and some not getting to produce any of it.
Investor: Not doing that would push the smaller ones out.
Investor: And all markets are better when there is more competition and not less.
Oilman: Right. And that’s what the RRC was created upon. It was created to control the entire stage of production.
Now it certainly wasn’t designed as a cartel in theory, but it does create a level playing field—for the entire industry in the state to be treated as a singular entity and there be no favoritism.
Investor: What’s your forecast for Chapter 11 filings? One for if OPEC+ does nothing; two, if they do something. Is it too late for some operators no matter what?
Oilman: OPEC++ because we have to be involved in that as well. OPEC and Russia are not going to cut 15 million barrels per day so we can produce flat out. I think that is what has been put forth, and I don’t blame them whatsoever.
Now, how we as an industry [in the U.S.] would cut back is a more challenging exercise; we aren’t nationalized.
But assuming we could come to some ability—such as the prorationing approach by the RRC—to cut, hypothetically, 2.5 million barrels per day to be part of the overall 15-million-barrel-per-day cut, it would take a visible strain off the companies that are challenged with their debt.
It probably will not physically change the math the lenders are embarking on with their individual credits, and a lot of that is happening in real time in spring redeterminations.
But there would be a psychological advantage to the lenders to be more lenient if there was a light at the end of the tunnel and it wasn’t a train.
Investor: And if it doesn’t happen?
Oilman: If we do see massive shut-ins—massive curtailments forced upon the industry—it just adds another element of uncertainty to the lender’s calculus that creates less likelihood that they will hold their nose.
I know there is a hierarchy being construed as we speak within each bank as to which are the more putrid of credits. Those that are the most putrid are certainly going to be coming under more scrutiny.
Among those, there’s going to be a reasonable number that, upon discussion with the company and the bank group, will conclude with that “You are potentially in some element of default, but we certainly don’t want your keys because this may be a short-term event. The oil price isn’t going to come back up overnight. But there is a light at the end of the tunnel, and the [coronavirus] task force has given us some reason to believe there is a light at the end of the tunnel.”
I think the banking community will hold its nose on those credits they deem slightly in default but don’t deserve to be foreclosed upon or even considered in the bucket to be foreclosed upon.
Investor: The FDIC messaged in the past week that it wants lenders to focus on customers “at this time of need” and not worry so much about the usual standards. It seems, though, that some operators had already gotten a few passes. Will some syndicates walk away from these?
Oilman: Yes. You have those.
Then you have those that are in a bad situation but are taking action and have active relationships with lenders. Look at Callon [Petroleum Corp.], for example.
They’re a public company. They’re not in the bucket of hundreds or probably thousands of small private companies.
But I think the story is similar: They just knew “This isn’t going to work. We are over-levered. And we are going to restructure.”
There are those types of situations—self-imposed, but I’m sure the creditors were involved.
But, it’s correct that, if all the covenants were strictly adhered to in the spring redetermination season, it would be so bloody and for no real solid reason to force these companies into default.
The last thing you want is the banks and trustees to take the keys to these companies. The system would just crater and all because of an event that was out of their control.
Now, yes, some companies have been in violation of covenants for many determinations and have gotten waivers. The banks have held their nose on these credits for maybe a year or more. Those are the ones they are going to say to “You were teetering in the past and now you’re on your back. And there’s nothing we can do about it.”
But those who have been working with their banks and staying within compliance and not pushing their borrowing base, those guys are going to get the treatment you described—a “Wink-wink, I’m going to hold my nose” or “We’re going to kick the can. We’re not going to foreclose on everyone in violation of their covenants because that’s just not a smart thing to do.”
Investor: OPEC++ wasn’t possible in 2015 to 2016 when it would have been seen as antitrust. But now it seems it would be defended as a necessary wartime act.
Oilman: Yeah, or force majeure. Here’s an act of God, literally. I’m not blaming it on God. But it is an act of God that is out of everyone’s control, and we don’t have anywhere to put these barrels.
So we as a worldwide oil community are making the rational decision to keep these barrels in the ground until we have the demand restoration that will allow us to produce them.
I’d be hard pressed to think Congress will look at a shut-in situation for domestic production as a violation of antitrust. It’s just a fact of life that we just don’t have anywhere to put these barrels and we as a collective group—Saudi Arabia, Russia, everybody—need to act accordingly.
Investor: Come to think of it, national-level proration could be effected with the old “new oil, old oil” technique? Albeit for a different reason than why it existed in the 1970s.
Oilman: Yeah. And that’s something that is just practical.
Investor: What would go first?
Oilman: There are two buckets. There are the wells that are commercial at $20 WTI less the differential. You would go well by well by well and lease by lease by lease and determine whether you’re losing money and shut those wells in if you are. That’s Bucket #1.
But that’s not a very big bucket in a 13-million-barrel-per-day situation.
So you really have to go to the next bucket. It starts with the recently completed wells that you can choke back and that doesn’t do any damage. You’re curtailing near-term production that you probably want to curtail anyway because you’re selling it at $10.
Then you start to get into the 2 or 3 or 6 year olds that are near-wellbore depleted. They, in a lot of cases, have high water cuts, and they’re probably on gas lift and/or rod pump.
They are the most at risk for reservoir damage if they’re shut-in. They would have problems that would cause bringing them back on to be both expensive and potentially have lower rates than when they were shut in.
Those are the ones that have the most risk.
I have no idea whether we as an industry could curtail, say, 2 million barrels per day and not put those riskier wellbores at risk. That would be an exercise that would be very interesting to do, and I’m sure operators are doing it in a one-off basis.
But, whether OPEC+ agrees or not, we probably have to do it.
Investor: If between now and year-end nothing gets worse and things start to get better, when might the industry be robust again?
Oilman: It’s not a $64,000 question; it’s a $64 zillion question because nobody knows. There are so many variables,” and the entire world economy is dependent on some sense of normalcy in order to see meaningful recovery.” There are so many variables.
How do you define “better?” Has the task force projection of deaths followed the curve and by early summer they are nominal? And new cases are nominal? And the government concludes we can “get back” to work and we work for three months and we haven’t seen a resurgence in cases?
That to me is the best-case scenario and in my view—and I’m an optimistic person—I think by the fourth quarter your demand is not fully restored but you’re close.
Worldwide, we’re not going to be flying as much, but I think we will be driving as much or maybe even more. So I think there is reason to believe that—with the scenario that most of the forecasts by the scientists are reasonably accurate—by the fourth quarter we are in a relatively normal demand situation for oil.
Investor: If there is any glimpse of a pair in this hand, natural gas should have a better second-half 2020, with the decline in associated gas production?
Oilman: Absolutely and don’t discount the fact that the prompt month is $1.60. The Marcellus and Haynesville have basically gone to maintenance mode—if not decline mode. There is really very little drilling going on for dry gas—much less the total collapse of oil drilling.
So yeah, there’s not an analyst out there today who isn’t calling plus or minus $3-or-better gas for 2021. I think that’s a fair statement.
And I don’t know why it wouldn’t be that way.
So, yes, there is a lining there in the industry—that those with gas-driven revenues are looking at a situation next year that should be very positive.
Investor: What else should readers understand about the oil-price situation?
Oilman: What I’m hopeful for is that the workforce isn’t compromised. Not just our industry but the U.S. workforce in all industries. I want this statement to apply to all.
I mean compromised such that they’re not going to come back to that industry for whatever reason. In the past, people have been laid off for reasons related to circumstances within the industry that were somewhat self-inflicted.
Those workers have a lot of times been reticent to return to the industry. It’s a “fool me once, shame on you; fool me twice, shame on me.”
So people at times have not come back to the industry because they don’t want to put up with getting laid off again.
I hope we will be able to restore all of our industries and a workforce that is necessary to pick all the pieces right back up and move on.
Or it will be a much slower recovery for the overall economy.
People being able to get back to work at the same job they had is what I’m very hopeful for.
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