The oil and gas market has been surviving a very tough several years recently. There has been very low demand and even lower prices and this has made it hard for companies to make a good strategy for the future. It’s only now that the sector is starting to emerge from this period of hardship, with some hope on the horizon. But how does this look in the longest term? Where is that money going? And is this a good time to invest in the market?
While the world is trying to move away from oil and gas on the whole, the fact remains that we are still reliant on fossil fuels for the majority of our transport, our electricity and our energy in general. While some regions such as Costa Rica have managed to move to an entirely renewable energy infrastructure, that is still a long way off for big players like the US and most of Europe.
This means we are still reliant on oil and gas. But is the general distaste for pollutants and the concern over global warming led to the recent struggles in this sector?
While prices are recovering right now (Brent crude was up by an impressive-sounding 90% in 2016, putting it at over $50 per barrel), they are still low compared with all-time highs. In fact, Brent crude is currently still well below $115 per barrel, which was the post-recession watermark we saw in March 2011.
So, in other words, oil and gas prices are low even in the context of the recession – no blaming the economy on this one!
The oil price collapse that we’re currently living through actually began in June 2014. This triggered a massive wave of cost reductions across businesses. The oil and gas global market slashed capital expenditures by a massive 40% from 2014 to 2016. Part of this cost cutting inevitably led to job losses. In fact, it is estimated that around 400,000 employees were let go as a result. Many major projects that weren’t meeting profitability guidelines and projections had to be cancelled.
But while these steps might have been signs of trouble for the market, they were also examples of course correction. In short, the industry reduced its expenses and doubled down on the strategies that were working for them.
And this has begun to pay off for the industry as a whole. Several projects can now break even at oil prices that are at the higher end of $20-$30. For example, Statoil’s Johan Sverdrup field in the North Sea has been reduced to around $25 per barrel while still breaking even. This would have been unthinkable several years ago.
And it is for reasons like this that many speculators now think that things might be picking up for oil and gas. We are starting to see some oil price gains, which are also the result of rebalancing supply and demand fundamentals and partly accelerated by OPEC’s decision to reduce production.
There are a number of strong industry forecasts now painting a rosy picture for the coming years. Barclay’s E&P Spending Survey for instance expected that capital expenditures would be increasing by 7% this year. Global rig counts in the US have been increasing since 2016, according to research conducted by Baker Hughes. Expect to see a spike in oil prices in the next five to ten years.
So the question is whether oil companies will be able to hold on to the benefits of cost reduction as prices recover. Cost escalation to a point is inevitable. Oil filed services will be likely to bring back price concessions that they had given to IOCs when the market initially collapsed. This could potentially increase the cost of producing a barrel by 15%, of course making it considerably more difficult for those companies to breakeven once again.
It is up to upstream companies to ensure they remain diligent in containing their expenditure increases. This is particularly crucial for the supply chain and resource development arenas. This could be difficult of course, as the wave of worker layoffs has eliminated a large amount of experience, knowledge and skill that could have been instrumental in ensuring process fixes and efficiency across the board. This loss could eventually push development project costs up a larger amount.
Smarter IOCs will be sure to embrace the new digital initiatives that can help with project management and efficiency.
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A lot of the activity in this sector is focussed on OPEC countries. However, other regions including Latin America are likely to play a key role in the future. The investment environment here is improving considerably. Many domestic oil and gas industries elsewhere are also on the upswing, for instance, energy reform in Mexico is creating a lot of opportunity for non-traditional operators to establish a presence. Likewise, China’s Offshore Oil Corporation, Australia’s BHP Billiton, France’s Total and many others will be ones to watch.
In the far-flung future meanwhile, it is likely we will see and things slow down again.
After all, fossil fuels are still a dirty subject in the eyes of many with green energy being the preference. More and more vehicles now use batteries or hybrid systems that reduce the amount of gas needed. Likewise, many countries are moving toward more sustainable energy options for their energy infrastructure. Countries like Costa Rica provide a successful model of how this can work.
And with all that in mind, there is only so far that this industry can go. That said, we’re a long way off from silent, flying cars. Right now, this is still a booming industry and certainly one with investment opportunities.