Chevron and Exxon Say They Can Turn Around the Failed Finances of Fracking Industry

Jerri-Lynn here. The latest in Justin Mikulka’s excellent series on fracking follies.

By Justin Mikulka, a freelance writer, audio and video producer living in Trumansburg, NY. Originally published at DeSmog Blog

After a decade of the American fracking industry burning through hundreds of billions of dollars more than it earned, this industry previously dominated by shale drilling specialists is entering a new phase. The oil majors — a group of multinational companies that typically have divisions throughout the oil supply chain — now are investing heavily in fracked oil and gas operations.

The latest development is Chevron acquiring shale oil and gas company Anadarko for $33 billion. One of Chevron’s current “human energy” ads uses the catchphrase “We do difficult.” Which is good for Chevron if the oil major hopes to profit off this investment, because making money on U.S.shale oil has proven very difficult for the current players.

Why would major oil companies choose to invest in an industry that has failed to turn profits in the past decade? It helps to consider the state of the broader oil and gas industry.

Oil producers working in Canadian tar sands have been losing money for years, a trend that continues. The natural gas industry in Canada is in even worse shape.

In the U.S., natural gas prices are so low that in areas flush with it like the Permian Shale in Texas, gas is selling for negative amounts — meaning gas producers have to pay someone to take it. Norway’s state-owned investment fund — an international leader with approximately a trillion dollars under management — recently announced its divestment from U.S. shale oil and Canadian tar sands oil companies.

Chevron CEO Mike Wirth recently told investors of the shale decision, “There’s nothing we can invest in that delivers higher rates of return.”

To put that in perspective, Reuters recently concluded, “U.S.shale producers last year again spent more money than they collected.” Chevron’s top executive says the company’s best investment option is a business model that consistently has delivered negative returns.

Not to be outdone, ExxonMobil is also making a big move into U.S. shale, with plans focused on the Permian Basin in Texas and New Mexico. As DeSmog reported, Exxon is selling the idea that a partnership with Microsoft and the use of cloud computing will help it unlock the secret to profits in the Permian. Reuters reported that Exxon CEO Darren Woods “said on March 6 that Exxon would change ‘the way that game is played’ in shale.”

The way the game is played now involves spending more money to produce shale oil than companies have been making selling that oil.

Without a doubt, the Permian Shale produces a lot of oil via horizontal drilling and fracking. And oil companies are in the business of producing oil, even if that means losing money doing it. This business has no guarantee of profits but has very strong evidence that oil is present in shale basins and can be produced by fracking. However, the steeply declining production rates of fracked oil wells raises the question of how long U.S. shale basins will continue producing record amounts of oil.

Chevron’s CEO says fracking is the best option right now for delivering higher rates of returns. Chevron also has stated it doesn’t expect to make money on shale oil production in 2019 but that should change in 2020. The refrain of “we’ll make money next year” is one constant in the shale oil industry.

Betting That Bigger Is Better

This week the Permian region hosted an annual conference where the unconventional oil and gas industry gathers to talk shop. (Horizontal drilling and fracking for oil and gas is considered “unconventional” by traditional standards for accessing these fossil fuels.) And the message coming from the conference supports the latest approach the oil majors are embracing: scale.

The promise to investors is that the oil majors will use economies of scale plus technologies like artificial intelligence and cloud computing to finally make a profit — at some point in the future. There are a few obvious flaws with the idea that bigger is better in shale oil.

The first is a limited supply of what the industry calls “sweet spots,” or “good rock,” the areas with highly productive, and even profitable, wells. The oil majors have acquired the rights to large amounts of land in shale basins to frack but how much of that area holds sweet spots? History indicates the answer to that question comes on a well-by-well basis and a company can’t know for sure until it drills.

Scott Sheffield has a long history in the shale oil business and was the founder of Pioneer Resources — a company working in the Permian for decades. Sheffield recently returned from retirement to take the helm again at Pioneer.

Reuters recently reported that in Sheffield’s opinion, the majors “are eventually going to run out of inventory.” Buying more inventory could be an option, but what is the quality of that inventory, that rock? There are plenty of signs that the shale industry has already tapped out many of the known shale sweet spots in shale plays like the Eagle Ford and the Bakken.

This week the industry publication Natural Gas Intelligence reported on a new analysis by the financial services firm Raymond James & Associates Inc., which warned that not only might the rapid ramp-up in U.S. shale oil production be slowing — it may be ending:

“….it is important to note that there is a very high likelihood that well productivities turn negative in the next few years as parent-child, and core acreage issues overwhelm the industries ability to complete longer laterals with more sand.”

DeSmog covered the issue of parent-child wells in August 2018 (a “parent well” is the primary test well and “child wells” are drilled around it). We also have noted that the shale industry is running up against the limits of fracking and horizontal drilling technology and the way these issues contribute to industry losses.

However, this latest prediction by Raymond James & Associates is a first. The fracking industry has proven it can produce large amounts of oil and gas but, overall, has lost money doing that. This new warning questions the industry’s ability to produce ever-increasing amounts of oil from shale.

Raymond James summed up the issue, saying, ‘To simplify, as each play/basin’s sweet spot is drilled out, it’s reasonable to assume that well productivity will eventually be hampered by a shift to tier two acreage.’

Author Bethany McLean wrote about a similar sentiment in her book Saudi America about the failed finances of the fracking industry.

In the book, McLean quotes one industry investor, whose words presaged the warning from Raymond James.

“Our view is that there’s only five years of drilling inventory left in the core,” one prominent investor told McLean, whose book was published in September 2018. “If I’m OPEC, I would be laughing at shale. In five years, who cares?”

The major oil companies are making big predictions about how much oil they will be producing in five years, even though right now, Chevron admits it won’t make any money on shale this year.

The mantra of the shale industry to investors has been one asking for patience because payoff is still coming. But payoff, after a decade, has yet to arrive. Now major oil companies are making the same claim.

Will Hickey, the co-CEO of Permian oil producer Colgate Energy LLC, this week explained to Reuters the reality of producing shale oil: “You’re at the mercy of what your acreage produces.”

Do the oil majors own enough sweet spots and will those areas produce prolifically for the next five to 10 years? Unlikely, based on history, but as Chevron’s CEO has explained, right now this is their best bet.

Alta Mesa: A Cautionary Tale

Anadarko is not only in the news this week because of the Chevron deal. Another reason tells a cautionary tale for the industry.

Jim Hackett was the CEO of Anadarko before he retired in 2013. However, in 2017 he was lured back to the shale patch with a billion dollars of investor money, which he used to form the company Alta Mesa Resources. Who better to start a new oil fracking company than a former shale company CEO?

Hackett spent the billion dollars, but it was not on “good rock.” His move led the Wall Street Journal to now call this “one of the more spectacular failures met chasing the next big thing in the American shale boom.”

In 2017 Alta Mesa told investors “its average well would produce nearly 250,000 barrels of oil over its life.” In 2018 the new number was 120,000 barrels, and now Alta Mesa is in the midst of investor lawsuits, layoffs, and financial reporting issues. In about two years, a billion dollars is gone and Hackett is borrowing more to try to keep the company afloat.

The Wall Street Journal calls this “[a] cautionary tale for investors chasing wealth in the boom,” but this is just the latest high-profile example of how shale oil is a capital destruction machine and how sweet spots can make or break a business.

However, Chevron, Exxon, and other oil majors are ignoring these cautionary tales and believe that this time, with them, it will be different because as Chevron puts it, “We do difficult.”

That may be true, but so far, trying to make money on shale oil production suggests requiring, “They do the impossible.”

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  1. PlutoniumKun

    The thing that really worries me about this is that if a crunch comes, and these companies face irrecoverable losses in the tens or even hundreds of billions, it will occur to them that they can only be saved in one way – by a huge spike in oil and gas prices. And the only sure way to achieve this is to encourage a Middle East war involving Iran and the Saudis.

    1. a different chris

      That is the worst.

      Not as bad but still horrible is that they will certainly stick their hands even deeper into the taxpayer’s pocket, if that’s even possible.

      1. jsn

        That last is what occurred to me: one power of fiat is to make malinvestment profitable until reality intrudes politically.

        1. Andy Raushner

          Fiat, please, malinvestment is a capitalistic feature, which commodity money created in spades.

          1. jsn

            Yes, but you can keep the ponzi going indefinitely with fiat, at least until political reality intrudes

      2. Adam Eran

        GND says the Job Guarantee is a solution to the social displacement of labor implied by climate fixes. After all, the government props up prices for corn, soy beans (and mortgage-backed securities), why not compensate labor for its suffering?

        So…minerals owners get displaced too. Why bother debating the merits of their case? Why not buy their minerals with the caveat that they have to spend the proceeds of sale to invest in renewables?

        …just sayin’ … oilmen are people too. Removing the sting of financial penalties keeps an unnecessary argument from stalling solutions. After all, they’re already in denial to keep from such solutions, so better to comfort them that they win even if they don’t produce oil.

  2. gsinbe

    This quote caught my eye, “Scott Sheffield has a long history in the shale oil business and was the founder of Pioneer Resources — a company working in the Permian for decades.”

    So, 1) the Permian isn’t a new play and has been worked by hungry professionals for decades and 2) depletion rates for fracked wells are much higher than traditional ones. No wonder Art Berman said the fracking wasn’t a revolution, but a retirement party.

  3. NY Geezer

    Much has been written about the fact that fracking as a method of producing oil is loss producing not profit producing and that the private equity companies that support it make their money by selling financial instruments to the public for profit as producers sink deeper in debt.

    This author poses the question “Why would major oil companies choose to invest in an industry that has failed to turn profits in the past decade?” The clear answer is not that the majors will be more successful in producing a profit from fracking but rather that those in control of the major oil corporations know their business is in terminal decline and are masking the stripping the corporate assets for themselves.

    1. Jeremy Grimm

      Your comment suggests these odd moves by the petroleum majors serves to mask executive looting of their corporate hosts — which in turn makes a broader suggestion. There may be some angle to this play by the majors that’s not obvious to those like me who aren’t “in-the-know”. If this is a cover for executive looting activities, why aren’t they investing more heavily in alternative energy sources instead? [Or maybe they are?] I doubt executives at the oil majors are stupid or irrational [in the sense of going against their own short-term interests] so there must be some other play going on. Terminal declines and executive looting in several industries have been going on for several years now in fairly plain sight. Why might they feel a need to hide that activity now? Are they masking their activities or simply confident they can use their corporate glamor to sell even more financial instruments to the public than the private equity players? Maybe they have quietly bought up interests in water companies and water purification companies and can use their fracking activities to help drive the demand for potable water — just a WAG. Maybe the majors can take public-subsidized loses in the fracking fields to create supply for driving down world prices for oil at the well-head and somehow make up the difference between the foreign well-heads and the products they sell from their refineries. I can’t get past feeling there is something more than meets the eye here.

      1. Knute Rife

        Given the instability of prices and supply for the foreseeable future courtesy Trump’s brilliant Iran strategy, this may well be another asset consolidation in preparation for yet another monopoly squeeze play.

  4. Norb

    This dive down a blind alley begs a larger question. Is there larger forces at play in these decisions, even if they are operating on a subconscious level? It seems those with the money and power no longer consider tightly focused rational to their actions. Production in many spheres, energy being just one, resembles an attitude of production for production sake. Similar to the desire to climb mountains with the rationale that they are just there. Why do people climb mountains? Ans: because they are there. This is seen as some mystical epiphany. A form of elite virtue signaling.

    Allowing corporations to become larger, and more powerful, perpetuates this vicious cycle of growth to protect the interests of those on top of the organizational hierarchy. Losses are absorbed by those on the bottom. Combine this dynamic with the ability to create money at will, the quest is less about monetary amounts than about positioning in the hierarchy. Who really cares if this all comes crashing down, as it surely will, and must?
    The scales will just be reset, but the hierarchy will remain intact.

    Why is the quest for higher returns never questioned? By not addressing that question, it seems irrationality has triumphed. Actions seen as irrational for those on the bottom of the social hierarchy is rational for those on the top. For them, it is get big or die.

    In order for all to survive, a new relationship must be formed in the social hierarchy. Those on the bottom must be seen as more than a means to absorb losses and those on the bottom must demand this is so.

    Who bears the cost is the ultimate question.

  5. Steve

    This reminds me of the piece Yves posted by Gail Tyverberg. These industries and our global economy in general is so tethered and intertwined with cheap fossil fuels that we will probably do anything to keep oil available. The recent survey of the Arctic by scientists working with the Geological Survey of Denmark and Greenland are really tragic. The question at this point is not how to keep fossil fuels from critically damaging the climate. We won’t. As species we totally lack the capacity to make the needed changes. Our most powerful institutions have proven to have too much resistance to any necessary change. The real question now is how we die. What the coming years are going to be like? It is time to accept that the earth is now in hospice.

    1. Chris_from_georgia

      Take a wider angle view. The earth will be fine on a geologic time scale. It’s humanity along with much of the current biodiversity that is on hospice watch.

      1. sierra7

        Chris from Georgia:
        We will be the latest “bacteria” to disappear…….
        Fracking is just another long line of extractive practices that have no regard for not only the planet but the people themselves. How we as a society allow such insanity is beyond me.

  6. Ptb

    Good article, the quality of the research has improved fast, very good to see.

    In addition what is described, the are a couple more oddities about how overproduction relates to price. I think these are covered already but worth repeating.

    First, oil vs gas. Everywhere except in the Marcellus, the moneymaker is oil. Natgas comes out as a byproduct, and it’s price is a secondary factor at best in the decisions and economic fate of the various stages of production and companies doing them.

    Dry gas production, i.e. Marcellus, is its own thing. And it is pipeline contained AND natgas is storage contained on a national level, because the annual demand cycle for winter heating and the fact that artificial storage is ecomically impractical. This all means, unlike oil, we cannot infer much about production costs from NG prices.

    While on the subject of NG… The big change artiving right now is that LNG export infrastructure is spooling up. This will increase prices in the coming decade, until as long as US has cheaper NG. That will last until… China. They are trying hard to duplicate the production technology, and they will. When they do, they will not hesitate to export it to Belt/Road partners like SE Asia, Africa, S.America etc. Much of the world is burning way more coal than they want to, for lack of affordable alternatives. They will be happy to reduce that pollution by switching that to NG. Global NG price dynamics are quite different than US, and ship transport is $$$ vs pipeline. The expected impact on US prices, is unclear, or least not widely reported, as is the break even level for dry gas producers, and how long it will last. (5 years? 30 years?)

    Finally, with the oil producers… when it becomes clear that their business case is blown, and the creditors come calling, the investors can lose everything but production doesn’t actually stop. (As long as the liquids can be sold for above the marginal cost of the remaining production steps, which as always comes down to the local pipeline situation)

    The most important question is, will big investors finally sober up and stop subsidizing hydrocarbon production? It seems, not yet.

    The take-away as always is that the free(ish) market will not help in guiding us to any kind of rational climate compatible energy decisions. (Nor is it particularly rational even if we look at just hydrocarbons.). Claims that non carbon energy also minimizes cost, I fear, is going to set a lot of people up for disappointment, including those who can least afford it. Reducing carbon use has to be a conscious national level investment, and policy making it happen is inherently redistributive.

    One is that

  7. California Bob

    “Exxon is selling the idea that a partnership with Microsoft and the use of cloud computing will help it unlock the secret to profits in the Permian”

    Must be awful good Kool-Aid.

  8. Chauncey Gardiner

    Zombie company poster children, but losing OPM (Other People’s Money) just doesn’t matter in this subsidized macro environment where the dominant view is that the politicians have their backs and it’s “Money for Nuthin, and Chicks for Free”, as is evident from the moonshot in Junk bonds. So why not speculate? Besides, the sector, its suppliers, transport and downstream operations employ a lot of smart, hard-working people. So never mind those pesky environmentalists, “I’ll be gone, you’ll be gone.” It really doesn’t cost anything to create electrons anyway, but oil… that’s different. It has real value. As far as the “sweet spots” go, just frack ’em again.

  9. Fred

    Well one thing that will restore fracking to profitability is $100 a barrel oil. By hook or by crook.

  10. Eugene Morley

    Next year, the profits will show up. Right now, tax write offs. The payee, from the U.S. taxpayer. If the U.S. DoD can do it, which they have been doing for a very long time, then so can the Oil companies. I.E., invest in this, we will win the war, that we may or may not fight in the future. Slick P.R., profits are made to some, most are left holding the bag. In the meantime, the infrastructure continues to deteriorate, the educational institutions continue to decline, the American Dream, a thing from the past. “MAGA”, now that’s the slickest flim flam if there ever was one. More tax cuts on the way, that will really hasten the U.S. Treasury to $ 0 valuation.

  11. Roger Chittum

    I get that the fracking industry as a whole is cash-flow negative. Is that different from how the oil business has always been? Shouldn’t one should expect a few winners and lots of players who lose their stakes put up by the dumb money? Another driver is the eternal hope that oil prices will “get back to normal” and make everybody rich if they can just hang on long enough.

  12. irenic

    The oil and gas industry has lost $280 billion since 2007 on the shale boom. The U.S. is now the world’s largest oil producer. The U.S. military is the world’s largest oil consumer. It would not surprise me if the DoD made a classified decision to subsidize the increased production of oil in the U.S. to domestically obtain the oil they need for worldwide operations.

    What’s $30 billion a year for oil out of over a trillion dollar budget to defend a worldwide empire.

  13. Aarond

    On an optimistic note, maybe this will compel fuel import Tarriffs. It’d be the fastest way to wreck the Saudis and start reducing co2 emissions by reducing consumption.

  14. Keith Howard

    In Colorado, where the voters last year gave control of the State government to the Ds, an oil/gas bill has recently been enacted. The O&G interests were hysterical and apoplectic about this measure and its (modest) effect on their cost picture. I wonder whether the pipeline infrastructure that is absorbing a good deal of investment $ now (in CO and other places, especially the Permian Basin) will ever pay for itself. Can better-informed NC commenters discuss this subject a bit? My instinct is, that the taxpayers will wind up being stuck with much of the cost — one way or another.

  15. Knute Rife

    I see another page in The Book of Asset Consolidation. Once they’ve snapped these assets up on the cheap, Big Oil will be able to warehouse them, trotting them out occasionally for PR purposes. As for the costs, their accountants and tax lawyers already have plans in place for writing them all off.

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