231 Law

Oil Crisis: How Does Today’s Under-Investment Prepare for Tomorrow’s Scarcity?

In 2015, US producers showed surprising resilience when it came to oil and energy investing: after peaking at more than 14 million barrels per day in April 2015, US production fell by only a few hundred from 14 million barrels per day to 13.5 million. To resist falling behind, unconventional hydrocarbon producers have made draconian efforts on their operational costs and have invited their suppliers to do the same. They were also able to rely on their financial hedging instruments to limit the crushing of margins during the first months of the crisis. But these instruments are running out of steam: The life cycle of shale deposits is only 12 to 24 months and investments are needed to maintain production. Unfortunately, these projects are no longer viable when considering their full costs (investment costs and operating costs). Folks can find more pricing info here.

The industry prepared for its own decline in 2015. In addition to the major oil companies involved, smaller US producers reduced their capital expenditures last year as well. The smaller businesses are much less robust than the major ones since they have neither geographical diversification nor the sectoral diversification of their big brothers. In 2018, more dramatic cuts are expected and production is expected to decline significantly, which is why companies want to increase the number of investors.

National companies must continue to supply state liquidity if investments are to be profitable. In addition to cutting back on their spending, it is likely that governments will pressure national companies to contribute to the national effort to weather the crisis. These companies disclose very little information but there is no doubt that they have also made cuts in their investment program: it is a way for them to continue to feed the state coffers. However, the projects on which they are positioned have relatively low costs and are, therefore, economically viable.

Despite these drastic cuts, many companies should end up with a negative cash flow at the end of the year. According to experts, a capital reduction of 55% would be necessary for the oil companies to be in financial equilibrium against 16% foreseen by industry experts. According to the same source, this situation is bearable over a period of about two years before companies have to look for new sources of financing.