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U.S. Shale Is Doomed No Matter What They Do

With financial stress setting in for U.S. shale companies, some are trying to drill their way out of the problem, while others are hoping to boost profitability by cutting costs and implementing spending restraint. Both approaches are riddled with risk.

“Turbulence and desperation are roiling the struggling fracking industry,” Kathy Hipple and Tom Sanzillo wrote in a note for the Institute for Energy Economics and Financial Analysis (IEEFA).

They point to the example of EQT, the largest natural gas producer in the United States. A corporate struggle over control of the company reached a conclusion recently, with the Toby and Derek Rice seizing power. The Rice brothers sold their company, Rice Energy, to EQT in 2017. But they launched a bid to take over EQT last year, arguing that the company’s leadership had failed investors. The Rice brothers convinced shareholders that they could steer the company in a better direction promising $500 million in free cash flow within two years.

Their bet hinged on more aggressive drilling while simultaneously reducing costs. Their strategy also depends on “new, unproven, expensive technology, electric frack fleets,” IEEFA argued. “This seems like more of the same – big risky capital expenditures.”

EQT’s former CEO Steve Schlotterbeck recently made headlines when he called fracking an “unmitigated disaster” because it helped crash prices and produce mountains of red ink. “In fact, I'm not aware of another case of a disruptive technological change that has done so much harm to the industry that created the change,” Schlotterbeck said at an industry conference in June. Related: Will The U.S Gas Glut Cap Oil Production?

IEEFA draws a contrast between Schlotterbeck and the Rice brothers. While the latter wants advocates a strategy of stepping up drilling in an effort to grow their way out of the problem, the former argues that this approach has been tried over and over with poor results. Instead, Schlotterbeck said that drillers need to cut spending and production, which could revive natural gas prices.

But while the philosophies differ – relentless growth versus restraint – IEEFA argues that “neither of these strategies seem viable.” On the one hand, natural gas prices are expected to stay below $3 per MMBtu, a price that is unlikely to lead to profits, IEEFA says. That is especially true if shale companies aggressively spend and produce more gas.

However, a strategy of restraint may not work either. “[E]ven if natural gas producers coordinate their activities and reduce supply—a highly unlikely prospect—Schlotterbeck’s expectation that natural gas prices would inevitably rise is questionable,” IEEFA analysts wrote.

There are few reasons why natural gas prices might not rebound. For instance, any increase in natural gas prices will only induce more renewable energy. Costs for solar, wind and even energy storage has plunged. For years, natural gas was the cheapest option, but that is no longer the case. Renewable energy increasingly beats out gas on price, which means that natural gas prices will run into resistance when they start to rise as demand would inevitably slow.

A second reason why prices might not rise is because public policy is beginning to really work against the gas industry. IEEFA pointed to the recent decision in New York to block the construction of Williams Co.’s pipeline that would have connected Appalachian gas to New York City. In fact, New York seems to be heading in a different direction, recently passing one of the most ambitious and comprehensive pieces of climate and energy bills in the nation. Or, look to Berkeley, California, which just became the first city in the country to ban the installation of natural gas lines in new homes. As public policy increasingly targets the demand side of the equation, natural gas prices face downward pressure. Related: The Biggest Challenges Facing America’s Nuclear Sector

Another complication for natural gas producers is that the petrochemical industry, which is attracting tens billions of dollars in investment due to the belief that natural gas will remain cheap in perpetuity. Gas producers, who want higher prices, are in conflict with petrochemical manufacturers, who need cheap feedstocks.

“Companies like Shell, which is considering a $6 billion petrochemical investment, must choose: absorb a higher price cost structure for natural gas liquids (NGLs) needed to produce its product, while facing stiff global competition in the petrochemical business. Or, intensify capital commitments and take over the fracking business, hoping to find synergies through integration,” IEEFA noted. “Both of these scenarios change the risk profile Shell has described to justify its aggressive expansion plans in the Ohio Valley.”

The upshot is that while companies like EQT undertake a major shift in strategy, the road ahead remains rocky either way. “More bankruptcies are all but certain as oil and gas borrowers must repay or refinance several hundred billion dollars of debt over the next six months,” IEEFA concluded.

By Nick Cunningham of Oilprice.com

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Nick Cunningham

Nick Cunningham is a freelance writer on oil and gas, renewable energy, climate change, energy policy and geopolitics. He is based in Pittsburgh, PA. More

Comments

  • Jonathan Pulliam - 22nd Jul 2019 at 6:29am:
    Capitalism is not being taught in our schools.
    Our little scholars don't know where their warmth came from or what a BtU equivalent is.
    The U.S. elite spawn paid for an ill=gotten entree into academic places they literally have no business as they are so out of their depth.

    Now these little morons need to be sold on the idea that its a good thing than natgas is 23 times cheaper per BtU equiv that crude oil.

    They thing photo-voltaic panels on residences is a panacea because they have been brain-washed and indoctrinated, not in any sense educated.
  • James Hilden-Minton - 22nd Jul 2019 at 9:50am:
    Yep, natural gas power burn is price capped by renewables and batteries. Solar, wind and batteries keep getting cheaper each year. So the price of natural gas must continue to drop if it is to remain competitive in the power markets. Gas producers need to brace themselves for prices below $2/mmBtu.

    Once one grasps how this price capping works, it becomes clear that LNG growth is false hope. LNG is in an even less competitive position vis-à-vis renewables and batteries. LNG competes only on volume, not on price. But volume is threatened too. Renewables added 180GW last year, and this is enough to displace about 100 BCM of gas demand. LNG only grew by about 17 BCM. So a modest 20% uptick in annual renewable installations can easily blow out any demand growth for LNG.

    So right now the domestic price of gas is propped up by LNG and an other export demand growth. Any slow up in LNG demand growth will send domestic gas prices lower. It is pretty much inevitable considering that LNG is too expensive to compete on price with wind, solar and batteries.
  • Paul Bunyan - 23rd Jul 2019 at 12:43pm:
    Responding to James Hilden-Minton...

    Adding 180 GW of wind, PV and solar doesn't actually displace much gas demand, except for combined cycle gas generation - which requires time to bring online and needs a fairly long run to be cost effective. What will result from a large addition of nameplate renewable capacity is an equivalent addition of single cycle natural gas capacity for quick load switching. The inherent intermittency means that you have to have adequate backup generation.

    Also, Solar, PV and wind have negligible operating costs and large capital costs on a per kW basis. That's ideal for a limited-entry model, but it becomes extremely problematic when renewables are capable of satisfying all or substantially all of the electrical demand. Here's why:

    Let's say that your grid's nameplate capacity is 20 gW of nuclear, 20gW of natural gas and 5 gW of wind... If conditions are good for wind to generate power and demand is 35 gW, then your wind facility is going to be running at full capacity and it is going to be extremely profitable. The marginal price will be set by the least efficient natural gas generators and the wind facility just has to undercut that. Great deal.

    Now let's say that your grid's nameplate capacity is 20 gW of nuclear, 20gW of natural gas and two separately owned wind facilities of 40gW each... If conditions are good for wind to generate power and demand is 35 gW, then the marginal cost of electricity is theoretically ZERO. Nuclear and natural gas are pushed offline, then your wind facilities are competing to find the lowest price at which it makes sense to sell power to the grid, which is like the inverse of trying to be the last-minute high bidder by $1.00 in an Ebay auction.

    Then let's imagine that conditions for wind generation suddenly deteriorate as demand increases. Your nuclear will take days to get back online, so your gas generators are charging a premium because the power markets will pay ANYTHING for electricity right now and your blue collar neighborhood browns out.

    Meanwhile, the retail prices have to go up because wholesale prices are now as volatile and unpredictable as the wind, which makes Elon Musk very angry with you because it sets EV's back fifteen years.

    This is a gross oversimplification and is intended to be tongue-in-cheek, but there are serious limitations to what can be done with renewable energy. Amazing things can be done with microgrids and renewables are definitely a part of the equation as we move into the future (as they should be), but wind, solar and PV are NOT suitable for base generation, they can't "do it all".

    Running to renewables without keeping an eye on the future is more likely to artificially inflate the importance of natural gas and it is going to cause big problems.
  • Nick Privett - 1st Aug 2019 at 11:39am:
    In an ideal world, the huge drop in hydrocarbon prices should have "freed up" money to spend on researching all possible renewable energy sources. In the real world, it has stymied that research with cheap hydrocarbons produced uneconomically.
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