It’s not our obligation to lose money
The point of a business is to make money. Full stop. At least, if you are a private, family owned company, that’s what you do. The big public companies… I’m not so sure anymore. But, given that base goal, today I address the following question: “If U.S. E&P’s stop shrink production and let supply-demand dynamics drive prices higher so that our marginal U.S. barrel is economic, isn’t that anti-trust/cartel like?” No. No, it’s not. Here’s why.
Exhibit A. We don’t make money. Sure, some of the $342 billion will cash flow over the next 30 years but on a year over year basis, we haven’t been cash flow positive as an industry… basically ever. Moreover, 2014 marked a significant change in the required cost structure of assets, with many Eagleford and Bakken positions assembled in 2012-2014 significantly underwater today.
Net Cash flow per year for U.S. Shale companies
Exhibit B. All that money was growth, not profitability. The $342 billion of SURPLUS investment in the above chart led to the production growth in the below chart and, over the course of those 10 years, provided 80% of the volume growth in the world since 2010. As demand increased, supply increased leaving price the same. Had growth been half… or less, prices would be higher and debts would be lower.
Horizontal Shale Wells in the US since 2010
World Oil Demand
Over the 10 year period of 2010 – 2020, U.S. shale producers produced 14.6 billion incremental barrels for the $342 billion, equating to roughly $23/bbl* more in investment than revenue.
The point? Our industry has been massively subsidizing the global consumer in a money losing proposition for a very long time. For the industry to have been cash flow positive during that 10 year stretch, the average price would have needed to be $92.47/bbl ($23/bbl higher than the actual average of $69.47).
So, no. If oil and gas companies all stop growing production, use all cash flow to pay back debt, shrink production another 2 mmbo/d through natural declines, widen spacing, drill less wells and stop subsidizing the consumer, it’s not a cartel. It’s not collusion. And it’s not anti-trust. It’s just good business. On the other hand, Amazon, Google and Apple taking down Parler and investment banks forcing the WallStreetBets Reddit site to become private because retail investors are sticking it to hedge funds…. that’s another story.
The bottom line. Exxon produces barely more than 2% of the world’s total oil on a daily basis whereas Google gets north of 91% of search. You be the judge.
* for simplifying purposes, I assumed that the 25% royalty is effectively covered by base production coming in to arrive at the $23/bbl.
Hi Dave- I appreciate your posts on oil and gas.
As an outsider to your industry, it’s just interesting to learn about it. I thought real estate was an odd industry, but oil and gas extraction take the cake. I appreciate the 30,000ft perspective that posts like this provide.
Here’s my takeaway so far – please, tell me what I missed.
Basically, shale oil and gas producers got billions in peoples’ savings with the promise of returns, but instead ended up redistributing that wealth instead of increasing it. The beneficiaries of this largesse were fossil fuel users (basically, everyone) in the form lower prices, salaries for those in the fossil fuel extraction business (155K or so people) plus the trickle-down impact based on their spending, sales to providers of materials and services to the industry like Halliburton, and taxes.
So I guess I am just repeating your conclusions, but with one caveat. Your industry didn’t subsidize the world’s consumers – it just unintentionally facilitated the redistribution of the wealth of the folks that invested in oil and gas extraction industry. Your industry, in some ways, came out ahead in the process, through salaries, fees, etc. The oil and gas industry supports many great people, and funds from the oil and gas industry have done many great things, but this isn’t how capitalism is supposed to work, right?
One could argue that many other areas of investment also don’t make sense, so why should this sector make sense? That seems a bit of a copout, though, as oil and gas is a commodity business, with decades of historical data. It can’t diverge for long from fundamentals. Like Ben Graham said, “In the short term, the market is a voting machine, but in the long term, it is a weighing machine.”
Anyway, keep up the good work digging into the data!
It’s actually not correct. The investors in the industry lost money which was used to drill wells which kept prices low. Oil should be $80/bbl and it’s averaged $55. All those savings at 20 mmbo/d of consumption in the US have been passed to consumers.
As for employees, yes, they’ve had salaries etc but G&A is roughly $2.50 a bbl so less than 5% of costs. Drilling is 70% of cash flow for flat production and the margin is probably 10% so service companies have done well but they invested that in equipment which is now overbuilt.
Imagine coke produced 3x the volume they should … prices would be less than 1/3 and consumers save the money and shareholders lose out.
Thanks for the additional detail. I didn’t mean to imply that the redistribution of wealth from investors to consumers was done intentionally or with any sort of malice. I appreciate your efforts in speaking out for financial discipline – if only more people had listened earlier.
As a past shareholder in oil and gas companies, though, it still sucks to have seen my capital flow out with no hopes of recovery. Knowing that I did my part to subsidize low energy prices for the world is not much of a comfort.