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US Shale Is Now Cash Flow Neutral
By Nick Cunningham
CCUN, January 4, 2017
Oil prices are probably already high enough to spark a rebound in
The IEA says that in the third quarter of 2016,
the U.S. shale industry became cash flow neutral for the first time ever.
That isn’t a typo. For years, the drilling boom was done with a lot of
debt, and the revenues earned from steadily higher levels of output were
not enough to cover the cost of drilling, even when oil prices traded
above $100 per barrel in the go-go drilling days between 2011 and 2014.
Even when U.S. oil production hit a peak at 9.7 million barrels per day in
the second quarter of 2015, the industry did not break even. Indeed, shale
companies were coming off of one of their worst quarters in terms of cash
flow in recent history.
That all changed around the middle of 2015
when the most indebted and high-cost producers went out of business and
consolidation began to take hold. E&P companies began cutting costs,
laying off workers, squeezing their suppliers and deferring projects that
no longer made sense.
By 2016, oil companies large and small had
shed a lot of that extra fat, running leaner than at any point in the last
few years. By the third quarter, oil prices had climbed back to above $40
and traded at around $50 per barrel for some time, replenishing some lost
revenue. That was enough to make the industry cash flow neutral for the
first time in its history.
That suggests that moving forward, the shale industry could move
into cash flow positive territory. Oil prices seem to be trading safely
above $50 per barrel for the time being, and OPEC cuts could induce more
price gains. The industry is now focusing on shale plays that have lower
breakeven prices, namely, the Permian Basin and some parts of the Bakken.
That has companies like Concho Resources, Murphy Oil, Devon Energy,
Pioneer Natural Resources and EOG Resources all stepping up their spending
levels heading into 2017.
Wood Mackenzie suggests that $55 per
barrel is a sweet spot for the oil and gas industry to rebound, a level
that is only slightly above today’s prices. At $55 per barrel, the shale
industry is cash flow positive and will grow accordingly. "If we stay (at
$55 a barrel), the world's biggest oil companies start to make money
again. If we go back down to $50 (or lower) in 2017...then those companies
are in the negative territory and they go back into survival mode where
they have been in the last two years," Angus Rodger, WoodMac’s research
director for upstream oil and gas,
said in a report. He estimates that OPEC’s cuts could succeed in
pushing oil prices sustainably up to $55 per barrel. Even taking into
account some cheating, WoodMac concludes that a 75 percent compliance rate
with the promised cuts would get the markets to that price level.
Still, the seeds of disappoint have already been sown – it is just a
question of whether or not they will sprout. The U.S. dollar is at its
strongest level in nearly a decade, which will weigh on global crude oil
demand. Also, hedge funds and other money managers have
staked out the most bullish position on oil futures in more than two
years. That has succeeded in running up prices this month, but it also
sets up the market for downside risk. Should data emerge in the coming
months that some OPEC members are cheating, the net-long positions could
unwind. Those liquidations tend to happen quickly, so a sharp fall in oil
prices is not out of the question.
"If confidence around the
compliance with cuts wavers, the market will necessarily correct lower,
considering that it also faces the twin headwinds of resilient U.S.
production and a stronger dollar environment as the Fed begins to hike
rates," Harry Tchilinguirian, an analyst with BNP Paribas, told S&P Global
And while the financial markets present risk, the physical
market is also up in the air. Of course, OPEC cheating is a possibility.
But with U.S. shale producers already stepping up drilling, production
could come back quicker than many expect. Weekly EIA data shows gains of
nearly 300,000 bpd since the end of summer. On top of that, disrupted
output from Libya and Nigeria – two countries not subjected to the OPEC
cuts – could begin to come back. An oil tanker docked at Libya’s largest
oil export terminal, Es Sider, this week, was the first tanker to load up
Libyan oil from that terminal in more than two years. Libya hopes to add
another 300,000 bpd in output in 2017 after adding as much in 2016.
Even with those negative risks in mind, the shale industry is getting
back to work. If oil prices can stay roughly where they are right now, the
industry could become cash flow positive for the first time ever next
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