Oil Sector Cutting Spending as Wall Street Turns its Back
Rising
production. Weakening demand. Skeptical investors.
The U.S. energy sector, while not entering a downturn, is facing an extended period of lower oil prices, lower profits and tighter spending, ultimately leading to slower growth, fewer companies and fewer jobs in Houston and across the oil and gas industry. In less than a year, the fundamentals of energy markets have shifted dramatically, from forecasts of looming shortages to worries about mounting supplies.
Even with OPEC’s
agreement this week to extend production cuts into next year, oil markets
remain worried about deteriorating global energy demand and record U.S.
production. Crude has struggled to break out of the $50-to-$60-a-barrel range,
despite heightened tensions in the Middle East and the output reductions by the
Organization of the Petroleum Exporting Countries.
Some companies can
still make money at those levels, but not enough to fuel significant expansions
or satisfy increasingly impatient investors. Wall Street already has turned its
back on the sector, unhappy with its lackluster returns but also increasingly
focused on challenges to the industry— and earnings — from climate change,
renewable energy and electric vehicles.
The S&P Energy
index is down more than 16 percent in the past 12 months even as the broaders
S&P 500 index has gained 9 percent.
After the the recent
oil crash that ended in 2016, the door for funding oil and gas companies was
wide open as banks and investors became eager to finance the land rush in West
Texas’ booming Permian Basin and get in on the rebound. But the land rush
proved costly, and many companies, loaded with debt, have yet to turn a
meaningful profit.
“We’ve done pretty
much a 180-degree turn,” said Brian Lidsky, senior director at the Austin-based
research firm Drillinginfo. “That door started to shut in 2018 and now the lock
has been put on.”
Sentiments
swing negative
Drilling for oil and
gas is a capital intensive business that can burn through billions of dollars
to find and develop oil and gas reservoirs, which constantly need to be
replaced as they are depleted. As funding tightens, many companies will need to
rein in spending, slow projects and trim payrolls. The Dallas oil company
Pioneer Natural Resources, for example, recently said it would cuts capital
spending more than 10 percent and eliminate one quarter of its workforce — more
than 500 jobs — through layoffs and buyouts.
Since oil prices
plunged late last year, industry sentiments have turned dour and spending was
down in the second quarter of 2019 after three years of growth, according to
new survey data from energy executives collected by the Federal Reserve Bank of
Dallas.
“Results indicate a
further slowdown in the oil and gas sector, with increasing pessimism and a
surge of uncertainty,” said Michael Plante, the Dallas Fed’s senior research
economist.
Arguably the most
ominous sign for the oil sector is growing U.S. oil output — even as dollars
and drilling activity decline — against weakening global demand and rising
concerns of a global economic slowdown. The U.S. Energy Department has cut its
estimate for global oil demand growth in 2019 by some 300,000 barrels a day,
from more than 1.5 million barrels to 1.2 million barrels daily.
Meanwhile, U.S.
crude production is projected to rise by 1.4 million barrels per day this year,
an increase exceeding global demand growth.
And production isn’t
only growing in the United States. Norway, Brazil and Canada are on track to
boost output next year, according to the International Energy Agency. Only
OPEC’s agreement to maintain output reductions is keeping supplies from
overwhelming demand — as they did in the last oil bust.
Shale oil firms have
become almost too good at producing crude. Over the course of 2018, U.S. output
surged from about 10 million barrels a day at the beginning of the year to 12
million barrels a day by the end. Estimated production has reached as high as
12.4 million barrels even as the number operating drilling rigs in Texas, which
accounts for nearly half of U.S. production have fallen for months.
The oil rig count,
793 at the end of last week, is near the lowest tally since since the beginning
of 2018. Companies are producing more oil with fewer rigs by drilling longer
and deeper horizontal wells and fracking them more intensely.
But more oil hasn’t
necessarily translated into more profits.
Dollars
for discipline
Some companies, such
as Houston firms ConocoPhillips and Marathon Oil, have preached discipline —
keeping spending in check and sending more dividends payouts to shareholders —
and won over investors. But companies looking to spend to grow quickly are getting
punished by Wall Street.
The share price of
Occidental Petroleum, for example, has plunged 25 percent since the Houston
company made public its pursuit of Anadarko Petroleum of The Woodlands, which
Oxy will acquire for $38 billion. Occidental management’s rationale for the
merger — which would vastly expand its holdings in the Permian and cement its
position as the shale play’s top producer — has so far failed to convince
investors.
“The debate has
shifted from ‘How do you grow production?’ to ‘How do you grow value in shale?’
It’s shifting the DNA of the companies,” said Roger Diwan, vice president of
financial services for the IHS Markit research and advisory firm.