For 35 years, 1986 has served as the bellwether year against which all U.S. oil and gas industry downturns have been measured.
This is no longer the case.
From this point forward, 2020 will stand as the year in which fundamental changes, likely more widespread than those that occurred in 1986, will be remembered. These changes are the result of dual crises that are an existential threat to American oil and natural gas producers and their service and support company counterparts.
The first is the onslaught of a global pandemic that has led to an unprecedented economic dislocation that rivals events not seen in centuries around the globe. The contraction of economic output arising from the closure of factories, businesses, and normal daily life around the globe has led to an estimated reduction in global oil demand of almost four million barrels per day.
Secondly, this pandemic would be bad enough if it did not arise at a time when two of the world’s most significant crude oil producers are at economic odds against one another. Both Saudi Arabia and Russia are engaging in predatory supply and pricing strategies that will not only do considerable damage to U.S. producers, but their own energy economies.
The timing of these events could not be any worse since most oil and natural gas companies were already under siege as we entered into 2020. Most energy producers were already struggling with global energy pricing “softness” generated by the Sino-American trade disputes of the past year.
In addition, a large number of oil and gas companies were struggling with high debt shares that re-directed cash flow away from drill bits and into covering high interest payments that were becoming more difficult to pay given lower energy commodity price.
As if this weren’t enough, the oil and gas industry has been feeling increasing environmental, social, and governance (“ESG”) pressures from investment funds, pension funds, private financial endowments, and other sources of capital that are divesting themselves of fossil fuels shares as well as the shares of companies actively working with and for fossil fuel interests.
Thus, the twin catastrophes of a pandemic and an all-out global crude oil price war has created a collective chaos that will lead to several fundamental and unavoidable industry changes.
First, it is highly likely that many American oil and gas companies will cease to exist. There are several firms that are operating in the oil and gas industry that were born in the environment $100 per barrel crude oil price.
Many of these newer firms survived the 2014 downturn as that dip was short-lived and was offset in large part by banks and other sources of capital that were willing to gamble on the market and the industry’s ability to regroup.
Over the past several years, there have been many oil and gas companies that have taken advantage of cheap debt to acquire relatively pricy mineral positions, while still others purchased asset-heavy companies outright, such as Occidental.
Now the twin threats of a global pandemic and an international crude oil price war are forcing a “calling in” of bets placed by these companies during far better times.
As such, the future of the oil and gas industry will likely be comprised
of a lot fewer, and potentially significantly larger companies. There is also the very real possibility that new industry players will emerge that include private equity and other sources of capital that can take advantage of what will likely be numerous cheap deals in the market.
Second, U.S. crude oil production will start to contract: the issue is not really when, but by how much. Some estimate that as much as one to three million barrels per day of production decrease will be attributable to market players that will no longer exist once the devastation is played out.
This would reduce U.S. crude oil production from recent rates of around 13 MMBbls/d to less than 10 MMBls/d. It will also lead to a contraction in U.S. world crude oil market share to levels not seen in three years, if not more.
There is, however, a measure of hope in this entire morass: The U.S. oil and gas industry is not going away. While the industry may change, it will retool and reconfigure in a fashion that will have to be leaner and more competitive. Bad financial positions will be cleared, lower cost providers will emerge, and the vast unconventional resource base, and intellectual capital that underlies that resource base, will survive.
This hope comes as poor consolation for those losing their jobs or being placed on extended furlough over the weeks and months ahead, but fortunately, with enough leadership, and even luck, our country’s recovery from this devastation will be speedy and robust, and driven by the energy produced from a revived U.S. energy sector.