Oil producers are ramping up drilling and fracking activity, preparing to push domestic production near to pre-pandemic levels of 13 million barrels a day by the end of 2023 — if the Biden administration doesn’t get in the way.
America’s return to its premier position in global oil production would be an astonishing feat considering the depth and intensity of last year’s COVID-19-related downturn and price collapse, which caused output to fall to 10 million barrels a day last May. The collapse appeared so complete that it was heralded as the end of the shale revolution. Such dire predictions look like hyperbole in hindsight.
The recovery of the domestic oil sector is good news for consumers, who recently received a supply scare from the temporary shutdown of the Colonial Pipeline, and for the broader economy.
Rising domestic output will help keep fuel prices under control and put more people to work — the American Petroleum Institute estimates that the oil and gas industry supports over 10 million jobs. Many of those jobs were lost in 2020 but are slowly returning as the industry recovers and oil prices flirt with $70 a barrel.
Stronger oil prices are part of the recovery story, but they don’t explain it all. The downturn and investor pressure have forced producers to become much more capital-efficient through cost cuts, lower investment levels, and strategic mergers and acquisitions that have consolidated the industry.
The consultancy Rystad Energy says the industry’s impressive efficiency gains have positioned the shale sector for substantial output growth in the coming years, even at conservative reinvestment rates — so long as the price of West Texas Intermediate holds above $45 a barrel. In fact, the industry is on pace to post record revenues of $195 billion this year if WTI remains above $60 — and it would generate record free cash flow too, if not for the impact of price hedges, which will weigh on earnings.
Shale producers have figured out how to do more with less and are no longer chasing huge growth rates when prices rally. Their capital discipline allows them to satisfy investor demands for higher free cash flow, which can be used to reduce debt load or reward shareholders with dividends and stock buybacks.
A WTI price of $45 a barrel is now considered the new “maintenance” level, the price point at which producers can earn enough cash flow to maintain current production volumes. Anything above $45 is gravy and generates free cash flow. And while most publicly traded producers are committed to debt reduction and improving shareholder returns, they are increasingly finding that they can satisfy investors while continuing to grow.
The U.S. oil rig count this year stood at 352 on May 14, twice what it was in mid-August of last year during the worst of the COVID-19 downturn. But that’s still nearly 50% below the 650-plus drilling rigs that were in operation before the pandemic reached U.S. shores.
Even so, the rig count continues to grow steadily, led by the Permian Basin, while production volumes are rising.
U.S. oil production rebounded to nearly 11 million barrels per day in April after falling to around 10 million barrels a day in May 2020, according to the U.S. Energy Information Administration. The EIA forecasts output will average 11.3 million barrels a day in the fourth quarter of 2021 and continue to rise next year to an average of 11.8 million barrels a day. The independent government agency expects production will reach 12.3 million barrels a day by the end of next year.
Executives at pipeline giant Enterprise Products Partners told investors recently that they see U.S. crude output growing by 250,000 barrels per day from the end of 2020 to the end of this year. They expect output will add an additional 1.5 million barrels a day by the end of 2023, putting total daily U.S. output at about 12.9 million barrels.
The wild card in this rosy outlook is the Biden administration and its pursuit of liberal climate and tax policies that could harm the oil industry.
Rystad studied the potential impact of President Joe Biden’s policy goals, including hiking the corporate tax rate from 21% to 28%, eliminating some drilling deductions and incentives, and a hypothetical carbon price of $100 per ton on companies’ operational emissions. If all of these policies were implemented, the outlook for the oil industry would be markedly different as producers would need a $65-per-barrel WTI price to encourage sufficient investment to keep current output levels.
Even under a strict environmental regulatory scenario, the consultancy says production could still return to 13 million barrels a day by 2025; it would just fall 1.4 million barrels a day short of Rystad’s more bullish “status quo” scenario.
Biden probably won’t get everything on his policy wish list, given the slim majority that the Democrats hold in the Senate. There will be other competing considerations for the president too, such as the outcome of the midterm elections and how his economic policies could affect his chances of winning a second term in 2024 in oil and gas-producing swing states such as Pennsylvania, Ohio, New Mexico, and Colorado.
JPMorgan Chase and other experts warn of a looming supply crunch and skyrocketing oil prices as high as $200 a barrel if the Biden administration clamps down too hard on fossil fuels. Such predictions, combined with the recent Colonial Pipeline scare, could prompt the president to tap the brakes and take a more cautious approach toward the oil industry to avoid the electoral backlash that tends to accompany big economic shocks.
Dan K. Eberhart is a managing partner of Eberhart Capital and the CEO of Canary, one of the largest independent oilfield services companies in the United States.
