US shale production decline is likely to continue

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US shale production decline
The US shale production decline won't bounce back soon

The US shale production decline is likely to continue, despite a bounce back in demand since April, the height of the COVID-19 pandemic.

The U.S. rig count is at its lowest since 2005; only 176 oil rigs are currently active nation-wide. Drilling permits in July dropped to their lowest level since September 2010, according to Rystad Energy. Activity “is not likely to materially recover this year,” Bloomberg reported, citing Rystad data.

The US shale production decline is part of an overall picture that will see US production generally at 10.1 million barrels a day by yearend; about 20% lower than at the start of 2020, according to IHS Markit. Production forecasts for 2021 predict an increase of only 350,000 barrels per day, IHS Markit reported.

Nearly all large oil and gas companies have either taken, or warned of, massive write-downs after energy markets collapsed in the second quarter. This eroded the value of their reserves. It is not known when demand will fully recover. If you add in spending cuts that have occurred, the industry is effectively saying that large portions of its reserves may never be produced.

Occidental provides an example. Occidental’s deal with Anadarko was supposed to create a Permian giant to rival the majors, with strong cash flows and enormous growth potential. But the pandemic, combined with debt, means that Occidental is now shrinking, both in terms of production and market value.

Occidental slashed its capital budget by more than half to $2.5 billion for the year, Bloomberg reported. That’s below the $2.9 billion per year it needs to sustain production going forward. As such, output is declining quickly, with a 13% drop to 1.23 million barrels a day expected in the current quarter and a further 5% in the fourth.

“Every step we take and every decision we make is around ensuring that ultimately we get back to a stronger balance sheet and that we’re breakeven at less than $40” a barrel, Hollub said during a call with analysts on Tuesday.

The company said it plans to only have one rig in the Permian for the rest of the year and none in the Rocky Mountains. It will only drill 12 to 20 wells in the Permian during the second half of this year, compared with 118 during the first six months. Some of those will be through a joint venture with Ecopetrol SA of Colombia.

In a strategic shift, Occidental will look for similar joint ventures in its “core acreage” in the Permian to save on upfront capital costs, Hollub said.

The drilling slowdown, combined with weak crude prices, prompted Occidental to post a $6.6 billion second-quarter write-down. That is equivalent to more than 40% of its market value. More than two-thirds of the impairment involved domestic onshore assets. The remainder in the Gulf of Mexico and overseas, the Houston-based company said in a statement.

Occidental is not alone is taking large impairments after the Covid-19 pandemic crushed demand for petroleum around the world, but its writedown is one of the biggest relative to its size. Though the charges don’t affect near-term cash flows, they increase certain leverage ratios, potentially pushing up borrowing costs for the oil producer.

Excluding the write-downs, Occidental made an adjusted loss of $1.76 a share, worse than the average $1.68 estimated by analysts in a Bloomberg survey. Production came in at the high-end of Occidental’s guidance, at the equivalent of 1.41 million barrels of oil a day, boosted by output from the Permian despite the pullback.

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