Tighter spending and the focus on free cash flow that were prevalent in the oil and gas industry before the pandemic are expected to continue even as demand and prices start to rise, two analysts said.
The COVID-19 outbreak, a glut of oil and a price war between Russia and Saudi Arabia converged to sink prices in April 2020 into uncharted territory: sub-zero for the first time ever. But even before the pandemic, oil and gas companies were laboring under heavy debt loads and cutting back to meet investors’ demands.
Oil prices have rebounded, nearing $60 per barrel Tuesday, and the number of drilling rigs is rising. But Brad Handler, a senior fellow at the Payne Institute at the Colorado School of Mines, said the markets want companies to stay focused on delivering financial returns instead of the debt-fueled growth of recent years.
Throw in concerns about the possible costs of new rules and regulations the Biden administration might issue as well as investors’ growing attention to environmental issues and, “I think that adds some hesitancy to invest aggressively,” Handler said.
Still, recent cuts in production by Saudi Arabia and the distribution of the coronavirus vaccines are stoking hope about a recovery in oil demand and in prices, said Bernadette Johnson, vice president of strategic analytics at Enverus in Denver.
“We’re seeing some slight improvement in demand,” Johnson said. “It’s a much better environment for a lot of our Colorado producers.”
However, Johnson added that she’s leery that the gains are fueled in part by hope. “We’re hoping that the rollout for vaccines gets more efficient. We’re hoping that demand picks up and life starts going back to normal.”
There were about 440 drilling rigs nationwide at the end of last week and about eight or nine in Colorado. Just a few months ago, the number of rigs in Colorado fluctuated between four and five. Nationwide, the number was only 271 over the Fourth of July weekend, Johnson said.
In the summer of 2019, though, there were 930 rigs operating across the country, according to Handler’s report “Oil and Gas Prepares for a Constrained Future.” Oil and gas exploration and production companies are preparing to spend less annually in 2021 and 2022 than they did in 2017-19, he said.
Johnson said industrywide, capital expenditures are expected to decrease by 4% this year from 2020.
“And last year was already low. I think a lot of operators are going to be really conservative as they start bringing back activity because you don’t want to get ahead of yourself,” Johnson said.
The industry has cut about 20% of its workforce, or 100,000 people, who were directly employed by oil, gas and service companies since the recent peak in October 2019, according to Handler’s report. He said more reductions are expected in the near term.
In Colorado, there were 20,643 employees working in oil and gas in June 2020, according to the most recent data available. The number was 33,024 in June 2019, the Colorado Department of Labor and Employment said.
The industry likely will continue to concentrate on the Permian Basin of West Texas and southeastern New Mexico, Handler and Johnson said. Drilling in the Permian is more economical; oil prices don’t have to be as high as they do in other basins, including Colorado’s major oil field, the Denver-Julesburg Basin, for companies to break even.
“That doesn’t mean all these other plays can’t have a role, the D-J included,” Johnson said.
But Johnson said the “Colorado environment is still tricky” because of new oil and gas regulations mandated by Senate Bill 181. Under the 2019 law, setbacks, the distance required between new wells and buildings, have been increased to 2,000 feet. Other rules have strengthened restrictions on methane releases from wells and require more monitoring of emissions from oil and gas sites.
“If you have other options, that difference makes it harder to invest here and it also makes it more expensive. New Mexico is fighting some of the same challenges,” Johnson said. “It makes it really hard to compete with Texas if that’s the reality.”
Last year, Colorado produced nearly 164 million barrels of oil, compared with 192.6 million barrels in 2019. The state saw its share of bankruptcies, mergers and acquisitions, including Texas-based Diamondback Energy’s acquisition of Denver-based QEP Resources announced in December.
Johnson said while she expects to see some bankruptcies this year, she thinks mergers and acquisitions will be more common as companies continue to look at streamlining spending and cutting costs.
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