As this article is written, the price of West Texas Intermediate (WTI) crude oil (around $59.48/barrel
as of June 30) remains 44 percent
below a year ago, notwithstanding a
recovery from the multiyear lows seen
early this year. 1 While some observers
speculate that this precipitous decline
is the result of geopolitical posturing
that may be short-lived, fundamental
changes in the energy markets may
be the root cause of this price decline.
These fundamental changes could
present challenges to stakeholders
at all stages of oil production.
Early this century, production of oil and
gas from tightly formed shale deposits
became economically, technically, and
regulatorily feasible in the United States.
As a result, domestic production of
hydrocarbons increased dramatically,
with oil and natural gas production
growing by 76 percent and 28 percent,
respectively, since 2010.2 During this
period, oil prices declined by 39 percent,
from $81.52 per barrel to $49.59 per
barrel, while natural gas experienced
a more severe, albeit more gradual, 55
percent decline, from $5.83 per million
Btu (MMBtu) to $2.61 per MMBtu. 3
In response to falling prices, domestic
producers have reduced well count.
Production continues to grow,
however, as new wells coming online
are much more productive than older
ones being shut-in. The continued
growth in U.S. production has flowed
into storage. Inventories are reaching
storage capacity, pushing U.S. prices
below their London counterpart and
pressuring long-term domestic pricing.
Oil and natural gas have traditionally
moved in tandem, as they are often
used as substitutes. The unusual
recent disconnect between the
price movements of oil and natural
gas is largely driven by the more
international nature of the oil market
and, in particular, the Organization
of Petroleum Exporting Countries’
(OPEC’s) efforts to maintain pricing.
Indeed, even after the recent price
declines, crude oil is still priced at
twice the level that would be required
to achieve its historical price relative
to natural gas, indicating room
for further convergence. Natural
gas production shows no signs of
slowing, nor do natural gas prices
seem poised for dramatic increases.
These new price dynamics present
various challenges to which not all
industry players are equally exposed.
Independent and nontraditional
producers will experience difficulties,
including borrowing constraints,
particularly with the semi-annual
reserve reassessment coming up in
October. Oilfield service providers will
suffer as well counts are reduced, but
the more technologically advanced
players might fare comparatively well.
As troubled producers look to
monetize assets, creative investors
will find multiple financial structures
to deploy capital with varying
degrees of commodity risk. Some
of these financing structures may
be subject to recharacterization
risks in a bankruptcy, particularly
in states where mineral rights
law is less well-developed.
Since 2000, the U.S. has seen a
dramatic increase in the production
of hydrocarbons from nontraditional
sources, particularly shale deposits.
Rather than collecting in large,
subterranean pools, as traditional
BY DAVID PRAGER & ROB VANDERBEEK, MANAGING DIRECTORS, GOLDIN ASSOCIATES