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Short of Capital? Risk of Underinvestment in Oil and Gas is Amplified by Competing Cash Priorities

Short of Capital? Risk of Underinvestment in Oil and Gas is Amplified by Competing Cash Priorities

Full Title: Short of Capital? Risk of Underinvestment in Oil and Gas is Amplified by Competing Cash Priorities
Author(s): Deloitte
Publisher(s): Deloitte
Publication Date: June 1, 2016
Full Text: Download Resource
Description (excerpt):

A low oil price environment and the resulting stress on the exploration and production (E&P) industry continues for the third year in a row. Although there is some cause for optimism—oil prices have recovered from the lows of $26/bbl in February 2016 to $50/bbl in early June—the final outcome of the degradation of oil and gas companies ́ balance sheets and the future direction of oil prices continue to remain uncertain.

With more than 77 E&P companies having already led for Chapter 7 and 11 (North America, as of May 15, 2016) and several on the brink of debt default, companies in general are finding it tough to navigate through troubled waters (read The crude downturn for E&Ps: One situation, diverse responses, February 2016). Because of the cash crunch, E&P companies are reducing their capital expenditures (capex) significantly. In fact, after cutting capex by about 25 percent in 2015, the global upstream industry (excluding the Middle East and North Africa, or ex-MENA) has announced further cuts of 27 percent in 2016.

These cuts have reduced spending to below the minimum required levels to o set resource depletion, let alone meet any expected growth. Oiland gas is a depleting resource with average annual production decline rates from existing wells of approximately 7-9 percent (including shales). This mismatch, or underinvestment, points toward a looming problem of sustaining current production levels and adding new capacity, which will likely be apparent three to five years from now.

Even in the case of nonlinear demand growth, reserves, and cost outlooks, the industry needs a minimum investment of about $3 trillion (ex-MENA capex of $2.7 trillion, real 2015 dollars) during 2016-2020 to ensure its long- term sustainability. At a commodity level, natural gas (gas) will likely need more investments than oil due to large exploitation of reserves in the past, a switch in investments from gas to oil, and large unmet demand potential, particularly in Asia Pacific.

But will the industry have enough operating cash flows to fund even these lower capex levels? One should consider that capex may not have the first call on the cash available with oil and gas companies. Balance sheet focus and maintaining the already reduced payouts may command higher priority for many companies, at least in the initial few years. So, what is the size of the capital gap we may see over the next five years?

These are some of the questions this third report of our capital trail series will explore and address with factual and strategic perspectives. Underinvestment will likely be the reality, but E&P companies should at least enter the next decade with a much improved financial health to take the industry forward.

All statements and/or propositions in discussion prompts are meant exclusively to stimulate discussion and do not represent the views of OurEnergyPolicy.org, its Partners, Topic Directors or Experts, nor of any individual or organization. Comments by and opinions of Expert participants are their own.

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