By Baron Lukas
President, Vital Strategies
Those who have worked in the Texas oil patch have seen the cyclical nature of the industry. They’ve lived through other downturns and may think they know how to weather the storm, but this downturn is different.
What may have worked for companies in the energy industry during the last downturn may not work this time.
In fact, we are entering a new age: An age where U.S. energy independence is at hand, while the global strategic situation is becoming increasingly unstable.
As witness to the historic nature of the current oil slump, Congress in December agreed to lift the 40-year-ban that prohibited the export of most U.S.-produced unrefined crude oil. The oil export restriction (which had excluded Canada) had been in place since the 1973 Arab oil embargo.
Independent Petroleum Association of America President Barry Russell told the Oil & Gas Journal that lifting the ban should give a boost to American producers and level the playing field with foreign oil producers, while revitalizing the U.S. economy.
The dramatic drop we’ve seen in oil prices over the past year, to below $30 a barrel, is indeed historic and concerning. The ability to export unrefined crude should help U.S. oil companies — and the overall economy.
Oil is a global currency. It is the lifeblood of global commerce. I believe recent actions by OPEC countries to keep oil supplies high despite decreased demand is a direct effort to undermine U.S. shale oil production.
The downturn’s effects
Since the oil price war began, oil prices have declined about 73%, and gasoline prices are down about 48%. Nearly 250,000 U.S. oil field jobs have been lost, along with about $1.5 trillion in investment. As a result, companies with high levels of debt may be forced to sell, close or declare bankruptcy.
It’s not all bad news, however. Low energy prices will spur growth in many industries and the lower prices have somewhat mitigated economic slowdowns in China and Europe.
The difference this time: U.S. shale oil production
OPEC last sought to manipulate oil production in the mid-1980s, but this time there’s a key difference: the U.S. shale oil revolution. Advances in shale production in the past five years have propelled the United States toward the real possibility of energy independence.
Energy independence translates into a crippling drop in demand for OPEC oil. In fact, the U.S. has been the biggest oil producer since 2012, according to U.S. Energy Information Administration figures, producing more total oil than Russia or Saudi Arabia.
During the last oil price war of the mid-1980s, there was no shale production underway in our country and U.S. production was in a steep decline. It took us nearly 20 years to recover from that price war, but the horizontal drilling and hydraulic fracturing underway in U.S. oil fields today has altered the global strategic picture.
OPEC’s response to the U.S. shale revolution at its November 2014 meeting was to keep its supply at 30.4 million barrels per day, and Saudi Arabia abdicated its traditional role as “price setter.”
In December OPEC reiterated its decision to maintain production, and all but announced that every member should seek their own economic well-being, effectively removing all thoughts of price control..
OPEC’s action has effectively made U.S. shale oil the global “swing” producer, resulting in two problems — one with a new solution:
- We can’t refine all the light, sweet West Texas crude we produce.
- Legislation had prevented the export of unrefined oil, but this ban was recently lifted.
There is no telling if or when OPEC will cut production. It is more likely that U.S. production will decrease in 2016 to lessen the global surplus of oil. And Congress’ action to lift the ban on unrefined oil exports is so new that we won’t know its effect for some time.
As Peter Zeihan notes in his book, The Accidental Superpower, shale production requires a number of things that the U.S. has and other countries do not:
- Available capital and significant amounts of capital, although access will be harder going forward as banks become more risk averse.
- Highly skilled labor and continuously developing technology.
- A legal structure that rewards landowners who can benefit financially from oil and gas leases if they own their mineral rights. This is not the case in other countries.
- Pre-existing natural gas collection and distribution infrastructure and established industrial, transportation and logistics infrastructure. The same cannot be said of other countries.
We have seen a push for efficiencies and consolidation occurring in the oil industry, which must happen, if we are to survive and eventually thrive again. In fact, Capital Alliance Corp. estimates that more than 30% of today’s oil field services companies may not exist in the future.
Despite these challenges, the U.S. is enjoying a time in which we see energy independence close at hand. To be sure, this is a historically significant time for the U.S. oil industry, despite the pain we feel due to depressed pricing.
It’s highly unlikely that shale oil will be exploited in other parts of the world for a long, long time. The strategic significance of this point simply cannot be overstated.
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Baron Lukas, a retired Marine Corps Colonel and former COO of a privately held company in the oil and gas sector, is president of Vital Strategies Management Consulting. Vital Strategies is an advisory, management consulting, coaching, and keynote speaking firm specializing in helping businesses, financial institutions, leadership teams, and executives improve performance and achieve their goals. In this capacity, Lukas assists Capital Alliance Corporation in identifying and preparing companies looking to develop successful exit strategies.