Opinion: What the great oil bust of 2014 means for 2015

BP news
BP news
Opinion by Energy Voice

The precipitous decline in oil prices during the past six months creates the sort of economic upheaval that’s likely to alter the course of companies and countries. Brent crude has been steadily falling since mid-June, and now sells for almost half the $115 a barrel it did then.
Even if oil prices rebound in a few months – which isn’t likely – the Bust of 2014, as it will become known, is going to leave a lasting mark.

We’re already beginning to see reactions in the energy industry. Earlier this month, ConocoPhillips, the biggest U.S. independent producer, said it would slash its 2015 capital budget by 20 percent. A few weeks earlier, Halliburton announced plans to buy oilfield service rival Baker Hughes for $35 billion, which was quickly followed by plans to shed 1,000 jobs in the Eastern Hemisphere. In mid-December, chief executive David Lesar said more cuts could follow next year as the market for drilling services weakens.

BP CEO Bob Dudley emphasized recently that his company’s costs are too high to compete in an environment of lower crude prices. The company plans to cut jobs and may also close or sell some sites or plants, Dudley said. BP, of course, has long been rumored as a takeover target, with Shell mentioned as the most likely suitor. BP’s shares have trailed its peers since the Deepwater Horizon disaster in April 2010, and greater clarity on the extent of liabilities from that case, combined with lower oil prices, could make it more vulnerable to a buyout. The industry hasn’t seen a mega-merger like that since the bust of the late 1990s.

Regardless of BP’s fate, though, expect a lot more job cuts, slashed drilling budgets and mergers in 2015 as oil prices remain well below their mid-2014 level.

The bust also doesn’t bode well for oil-dependent economies such as Russia, Venezuela, Iran and Nigeria. In recent years, the first three in particular have increased government spending on social programs to cover up latent economic decay. The oil price decline is likely to mean significant economic pain, the sort that can lead to political upheaval and leadership changes.

Meanwhile, Saudi Arabia, which also has an oil-dependent economy, is game to ride out the bust. The kingdom’s decision in November to maintain production shows a lesson learned from the 1980s, when it cut output to shore up prices, only to be undercut by other OPEC members.
Now, the Saudis have decided to use their status as the world’s low-cost producer to gain market share at the expense of everyone else. That poses a particular threat to U.S. shale producers, some of whom gamely claim they can keep producing even at $40 a barrel. Harold Hamm, CEO of Continental Resources, the biggest producer in North Dakota’s Bakken Shale, last month eliminated his company’s oil hedges, essentially betting its future on Hamm’s bet that oil won’t sink much farther than it already has.

Don’t expect many other wildcatters to follow Hamm’s lead. The U.S. Oil Patch isn’t the freewheeling place it was in the 1980s, when the TV show “Dallas” defined it for the world. Producers these days are more cautious, and companies are already beginning to emulate ConocoPhillips, pulling back on drilling plans, rather than forging ahead.

Despite that caution, U.S. production will continue to rise in 2015. Weaker prices may cause a pullback in marginal production, but existing commitments are likely to mean output will rise to 9.3 million barrels a day from 8.6 million in 2014, according to the U.S. Energy Information Administration. That will be added to a growing supply on world markets that could include increased output from Iraq as well. The growing abundance will affect several key issues in the Western Hemisphere.

First, it basically ensures that the issue of U.S. oil exports, which Hamm and some other producers have championed, is a non-starter. Political opposition to lifting America’s 40-year-old ban remains strong, and it’s unlikely that even with a Republican majority in Congress that lawmakers will vote to lift the ban. Allowing exports would probably cause oil prices in the U.S. to rise, which elected officials don’t want to see heading into a presidential election year in 2016.

Second, Mexico’s energy reforms could stall – again. The country approved a constitutional amendment opening its vast oil fields to foreign investment in December 2013, and it issued rules clarifying the bidding process for foreign companies, but many uncertainties remain. With weaker demand for new sources of crude, companies may be less eager to set up shop in Mexico. At the very least, it becomes a longer-term play than it already was.

Finally, don’t be surprised to see the Keystone XL Pipeline finally scrapped. The project to bring oil sands productions from western Canada to the U.S. has long been a rallying point for environmental groups, who have blocked its approval for the past six years. Republicans have vowed to use their majority in Congress to push through but it may bee too late. U.S. refiners don’t need the oil as badly, and even if the project finally wins political approval, it may no longer make economic sense. The decline in crude prices threatens the economic viability of Canadian oil sands, and companies have found alternatives – such as shipping oil by rail – that may make the pipeline obsolete.

All in all, 2015 is shaping up to look disturbingly like 1986 for the oil business. Prices are going to come back only when global demand – primarily from Asia – picks up again. Some optimists believe that could happen by the end of next year, but even if economic activity accelerates, it will take a while to work through the excess supplies that will have amassed by then. The Bust of 2014, in other words, could persist well into 2016.

Loren Steffy is a managing director with the communications firm 30 Point Strategies. He is a writer at large for Texas Monthly, a contributor to Forbes and the author of Drowning in Oil: BP and the Reckless Pursuit of Profit and The Man Who Thought Like a Ship. Follow him on Twitter: @lsteffy; on Facebook or at lorensteffy.com.