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May 3, 2015

How Will The Fast-Changing Energy Market Affect The Supply Chain?

MSCI is a member of the Energy Equipment Infrastructure Alliance (EEIA) and two weeks ago EEIA representatives attended a conference in Houston designed to give suppliers insight into how the fast-changing energy market will affect them. “CERA Week,” the largest annual convocation of senior oil and gas executives from the U.S. and around the world, is one of the best places to get the latest information on trends that will impact suppliers of construction, equipment, materials, supplies and services to oil and gas operations. 

The coalition provided a synopsis of the event to MSCI. 

First, Exxon Mobil’s CEO Rex Tillerson said prospects are not strong for a near-term recovery in crude oil prices and production activity. This comes as no surprise to supply chain companies, who are feeling the pain of producers slashing capital and operating expenditures. Costs have been reduced through operating efficiencies and forced concessions on supply chain vendors, as well as by technological advances to increase productivity. One widespread and growing tactic with market implications: wells are being drilled but not completed (i.e. leaving the wells unfracked). Since up to 70 percent of the investment in a new well goes into the completion process, it preserves capital and sets up a quick production response to take advantage should favorable market conditions occur. It is estimated there is a current inventory of 4,000 unfracked oil wells and another 2,000 or more natural gas wells. 

These numbers are growing and will grow. Participants speculated that the moment a price recovery reaches a certain level, well completions will quickly pour new production onto the market and force prices back down. One credible estimate is that a WTI price of $65 per barrel would quickly unleash about 500,000 barrels per day of new production – bearish for the near term. As a result, estimates are for pronounced volatility – perhaps swinging between $45 and $75 per barrel – until demand catches up with supply and the market comes back into balance. The impact on suppliers will continue to be pronounced. For example, EEIA heard from producer executives that operating costs are down 20-25 percent, that they are “aggressively” forcing concessions on vendors, and that combined drilling/completion costs are down 50 percent and may drop another 15-30 percent. (About 50 percent of the cost reductions will be permanent, participants said, while the rest will recover.) 

Producers are also unbundling services and bidding them separately to yield cost savings, drilling wells in half the time, or only drilling in most prolific plays. As a result of cost pressures, one executive of a major well services firm predicted that, by the end of 2015, about half of the current 41 U.S. well services firms will be gone. 

CERA participants also discussed lifting the ban on crude oil exports. A recent IHS study (co-sponsored by EEIA) forecasted that lifting the ban would give U.S. producers access to higher global pricing, currently about $8 per barrel more than in the glutted U.S. market. This would spur about two million barrels per day of new U.S. production, which in turn would generate about $50 billion per year of business for suppliers by 2018. Participants said lifting the ban would be the best prospect for a turnaround. Sen. Lisa Murkowski (R-AK), who addressed the conference, said she would soon introduce a bill to lift the ban and was hopeful there would be bipartisan support for it. Companion legislation has been introduced in the House EEIA is working to support it as well. 

Please contact MSCI Vice President of Finance and Government Affairs Jonathan Kalkwarf to receive EEIA’s full summary, which includes an outlook for LNG exports and natural gas production.