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US shale drillers’ hallelujah chorus turns to a lonely lament
How long can the shale industry hold out against the Middle East's onslaught?
When the oil price was above $100 a barrel, high costs weren't a problem Photo: AP
By Ben Marlow
9:06PM GMT 19 Jan 2016
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13 Comments
Having peaked nearly half a century ago, American oil output was dwindling, heading for long-term decline. And then along came the shale revolution.
It opened up a new frontier for the industry and was supposed to transform the outlook for US energy security. The technological breakthrough that triggered the country’s shale boom promised to meet half of America’s demand within two decades and turn the country into a net exporter of energy.
Using new techniques that enabled them to go deep underground and horizontally through the rock, America’s shale drillers uncovered so much gas and oil that experts predicted the country might quickly dislodge Saudi Arabia as the world’s number one producer.
That now looks like a remarkably naïve prediction. Instead, the US’s decision to go toe-to-toe with the Saudis in the global energy markets could prove to be ruinous for the country’s new oil men.
The problem for many of the shale drillers is that the process of fracking – drilling into and breaking up shale rock to release the oil and gas – is much more expensive than extracting oil through traditional wells.
When the oil price was above $100 a barrel, such high costs weren’t a problem. Producers could turn on the taps with abandon, which is what they did, flooding world markets.
However, the Americans quickly became victims of their own success, inadvertently triggering a collapse in prices and eventually a brutal price war, when Saudi Arabia refused to scale back production as it has in the past in response to falling prices.
The move in the summer of 2014 by the Saudis was a deliberate attempt to drive many of the American shale producers out of business and stem the flow of North American supplies on to the global market.
It was a pivotal moment. The glut has worsened, sparking an 18-month rout that has wiped more than 70pc off the oil price, the worst slump in post-war history, prompting some doom-laden predictions for the shale industry from experts.
In a recent report, Martijn Rats, an analyst at Morgan Stanley, described the current crisis as deeper and longer than each of the five oil price crashes since 1970, including the last severe downturn of 1986, which lasted for years.
With crude now fetching less than $28 a barrel, American frackers are hugely loss-making, with drillers now spending more than they are making from operations, a situation that means the spectre of bankruptcy now looms large for much of the industry, according to one veteran oil and gas analyst.
More than 30 small US companies that collectively owe in excess of $13bn have already filed for bankruptcy protection so far during this downturn, according to law firm Haynes & Boone.
Fadel Gheit, at Oppenheimer & Co, recently predicted that 50pc of the companies could go bankrupt before the crude market rebounds. “Half of the current producers have no legitimate right to be in a business where the price forecast even in a recovery is going to be between, say, $50, $60. They need $70 oil to survive,” he told CNBC last week.
Alix Partners, a consultancy firm, comes up with similarly pessimistic projections. It estimates that 10 out of the 12 giant shale fields across the States have a break-even price of between $60 and $80 a barrel. The remaining two require a price of between $40 and $50. In other words, all of them are massively out of the money.
Alix has also crunched the numbers on the projected revenues of 134 North American exploration and production companies, and discovered that there could be a gap of $102bn against their operating and capital expenditures in 2016, “signalling a need for major financial and operational adjustments”, it said.
To compound the stress, many took on huge debts during the boom to fund ambitious drilling projects. Because production from shale wells falls quickly, companies have to continue drilling to maintain ouput at current levels. In the past year, US oil producers used 83pc of their operating cash flow to pay for debt service, according to the US Energy Information Administration.
And as the market deteriorates, equity levels are falling, increasing the problem even further.
The US shale industry is sinking under debts of around $200bn, and although banks have so far largely resisted calling in the loans, there is a growing concern that many will be forced to act soon as the oil price keeps falling.
Prominent industry figures such as pioneer Harold Hamm believe it can weather the storm much better than the Saudis anticipated. Hamm, who saw more than $11bn wiped off his fortune last year, thinks the banks will stand by producers.
Doomsayers such as Gheit disagree. He thinks the impending fallout could compare to the property crash of 2008. That may seem a little far-fetched but with Saudi Arabia promising to keep pumping until the flow of North American supplies is stemmed, surely the shale industry can’t hold out for much longer.
Rio Tinto’s resurrection man
For a long time, Rio Tinto boss Sam Walsh had to put up with questions from Glencore’s Ivan Glasenberg about his performance, before being forced to fend off a takeover approach from him towards the end of 2014.
How times change. The great commodities crash has ravaged all the big miners including Glencore, Anglo American, BHP Billiton and Lonmin.
Rio Tinto may well have taken a hit but, compared with its rivals, its share price has suffered the least and the company now looks to be in the strongest position of all.
The miner’s balance sheet is relatively strong, has good-quality assets and decent growth potential, making it most analysts’ favourite pick of the industry.
This was unthinkable when Walsh took charge in 2012 after a ser
ies of giant write-downs on some disastrous deals. But there is speculation that he could even turn the tables and make a bid for Glencore, while it desperately attempts to shrink debts. While such a move must be tempting, Walsh has ruled it out. Investors should thank him for quietly sticking to the task.
How long can the shale industry hold out against the Middle East's onslaught?
When the oil price was above $100 a barrel, high costs weren't a problem Photo: AP By Ben Marlow
9:06PM GMT 19 Jan 2016
Follow
13 Comments Having peaked nearly half a century ago, American oil output was dwindling, heading for long-term decline. And then along came the shale revolution.
It opened up a new frontier for the industry and was supposed to transform the outlook for US energy security. The technological breakthrough that triggered the country’s shale boom promised to meet half of America’s demand within two decades and turn the country into a net exporter of energy.
Using new techniques that enabled them to go deep underground and horizontally through the rock, America’s shale drillers uncovered so much gas and oil that experts predicted the country might quickly dislodge Saudi Arabia as the world’s number one producer.
That now looks like a remarkably naïve prediction. Instead, the US’s decision to go toe-to-toe with the Saudis in the global energy markets could prove to be ruinous for the country’s new oil men.
The problem for many of the shale drillers is that the process of fracking – drilling into and breaking up shale rock to release the oil and gas – is much more expensive than extracting oil through traditional wells.
When the oil price was above $100 a barrel, such high costs weren’t a problem. Producers could turn on the taps with abandon, which is what they did, flooding world markets.
However, the Americans quickly became victims of their own success, inadvertently triggering a collapse in prices and eventually a brutal price war, when Saudi Arabia refused to scale back production as it has in the past in response to falling prices.
The move in the summer of 2014 by the Saudis was a deliberate attempt to drive many of the American shale producers out of business and stem the flow of North American supplies on to the global market.
It was a pivotal moment. The glut has worsened, sparking an 18-month rout that has wiped more than 70pc off the oil price, the worst slump in post-war history, prompting some doom-laden predictions for the shale industry from experts.
In a recent report, Martijn Rats, an analyst at Morgan Stanley, described the current crisis as deeper and longer than each of the five oil price crashes since 1970, including the last severe downturn of 1986, which lasted for years.
With crude now fetching less than $28 a barrel, American frackers are hugely loss-making, with drillers now spending more than they are making from operations, a situation that means the spectre of bankruptcy now looms large for much of the industry, according to one veteran oil and gas analyst.
More than 30 small US companies that collectively owe in excess of $13bn have already filed for bankruptcy protection so far during this downturn, according to law firm Haynes & Boone.
Fadel Gheit, at Oppenheimer & Co, recently predicted that 50pc of the companies could go bankrupt before the crude market rebounds. “Half of the current producers have no legitimate right to be in a business where the price forecast even in a recovery is going to be between, say, $50, $60. They need $70 oil to survive,” he told CNBC last week.
Alix Partners, a consultancy firm, comes up with similarly pessimistic projections. It estimates that 10 out of the 12 giant shale fields across the States have a break-even price of between $60 and $80 a barrel. The remaining two require a price of between $40 and $50. In other words, all of them are massively out of the money.
Alix has also crunched the numbers on the projected revenues of 134 North American exploration and production companies, and discovered that there could be a gap of $102bn against their operating and capital expenditures in 2016, “signalling a need for major financial and operational adjustments”, it said.
To compound the stress, many took on huge debts during the boom to fund ambitious drilling projects. Because production from shale wells falls quickly, companies have to continue drilling to maintain ouput at current levels. In the past year, US oil producers used 83pc of their operating cash flow to pay for debt service, according to the US Energy Information Administration.
And as the market deteriorates, equity levels are falling, increasing the problem even further.
The US shale industry is sinking under debts of around $200bn, and although banks have so far largely resisted calling in the loans, there is a growing concern that many will be forced to act soon as the oil price keeps falling.
Prominent industry figures such as pioneer Harold Hamm believe it can weather the storm much better than the Saudis anticipated. Hamm, who saw more than $11bn wiped off his fortune last year, thinks the banks will stand by producers.
Doomsayers such as Gheit disagree. He thinks the impending fallout could compare to the property crash of 2008. That may seem a little far-fetched but with Saudi Arabia promising to keep pumping until the flow of North American supplies is stemmed, surely the shale industry can’t hold out for much longer.
Rio Tinto’s resurrection man
For a long time, Rio Tinto boss Sam Walsh had to put up with questions from Glencore’s Ivan Glasenberg about his performance, before being forced to fend off a takeover approach from him towards the end of 2014.
How times change. The great commodities crash has ravaged all the big miners including Glencore, Anglo American, BHP Billiton and Lonmin.
Rio Tinto may well have taken a hit but, compared with its rivals, its share price has suffered the least and the company now looks to be in the strongest position of all.
The miner’s balance sheet is relatively strong, has good-quality assets and decent growth potential, making it most analysts’ favourite pick of the industry.
This was unthinkable when Walsh took charge in 2012 after a ser
ies of giant write-downs on some disastrous deals. But there is speculation that he could even turn the tables and make a bid for Glencore, while it desperately attempts to shrink debts. While such a move must be tempting, Walsh has ruled it out. Investors should thank him for quietly sticking to the task.
America’s tight oil production will rebound as soon as prices start to recover Photo: Alamy
Saudi Arabia's oil minister Ali al-Naimi
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