Week Ending May 8, 2020

Texas Opts Not to Proration Oil; Takes Other Steps to Ease Producer Pain

This Article Appears as Published in Foster Report No 3298
Texas Opts Not to Proration Oil; Takes Other Steps to Ease Producer Pain

Texas regulators took several steps May 5 to address the pain the oil market is inflicting on producers, but declined to step in and limit production as requested by some companies.

The decision to let the market determine drilling levels was made after consulting with other states and regulatory entities, and the market continued to show the dual effect of the COVID-19 pandemic lowering demand and excess global supplies.

Companies are cutting back on drilling and production activity, with the number of active wells in the U.S. now below 400, according to analyst reports. Rig counts dropped in all producing basins, moving down more than 30 to 398, with the Permian Basin dropping 16 rigs. That 398 figure has been reached after roughly two months of incredibly low prices, from a rig count of more than 800 in early March.

Liquid fuel storage capacity is filling up everywhere, with inventories at about 83% of working capacity for the week ending May 1, according to the U.S. Energy Information Administration.

Storage was one of the elements addressed by the Texas Railroad Commission at the May 5 meeting, where commissioners voted to not use its prorationing authority. Chairman Wayne Christian commented that policy is topping politics with the decisions from the meeting. Those decisions included waiving fees for some producer activities, allowing oil storage in underground formations that are not salt caverns, taking comments on flaring of natural gas at oil production sites, and receiving a report from a blue ribbon task force that examined prorationing and economic issues associated with the oil market downturn.

The two orders waiving fees and allowing exemptions to Rule 95 for underground storage of oil in alternative formations stemmed from the many suggestions in the task force report. Commissioner Ryan Sitton raised questions about both moves but supported them in votes, along with Commissioner Christi Craddick and Christian. Waiving fees could limit the resources available to the Railroad Commission and force it to seek more funding from state lawmakers, Sitton said.

The backdrop for the meeting was an oil market decimated by low demand due to the COVID-19 pandemic and increased production from Saudi Arabia, Russia and allies that flooded the market with supplies. Even after a production cut was reached by OPEC+ nations, oil supplies have outpaced usage and anything that holds oil is being considered as storage vessels for when prices rise. Crude oil prices have rallied a bit as companies announce production cuts and U.S. firms are shutting down rigs, but West Texas Intermediate prices have generally stayed in the $20’s/barrel. WTI was around $23/barrel early May 8.

Christian said producers are already limiting production, and prorationing is not the “magic bullet” that would stabilize a global market where Texas production only accounts for about 5% of supplies. By not using its prorationing authority, the Railroad Commission is enabling the companies to decide for themselves what level of production makes sense as they struggle with market instability, he said.

A free market approach is better than government fiat, which would bring regulatory instability to an already unstable market, Christian said at the meeting. The Railroad Commission held a 10.5-hour session receiving comments on prorationing in April and Christian has consulted with regulators in Oklahoma, North Dakota, and Alberta Energy Minister Sonya Savage on whether regulatory actions could be coordinated.

The “cold, hard truth” is that “the price of oil is not going to stabilize until the pandemic is behind us and the world is once again open for business,” Christian said. He labeled the market and pricing issues about 90% demand related, and noted that almost every major energy trade group came out opposed to prorationing.

Christian and Railroad Commission staff crafted the two orders to waive fees and allow oil storage in alternative formations based on the task force report, and Christian vowed to do everything he can to address industry concerns and protect employment in the state.

After an April 21 meeting, Railroad Commission staff sought input on oil storage capacity from refinery and pipeline owners, and at the May 5 meeting, staff reported initial results showing 71.2 million barrels of unfilled capacity, with responses still coming in from companies.

Market analysts have commented that unused capacity likely is already accounted for through leases and future deliveries of oil, with producers, marketers and others scrambling to store the fuel while prices are so low.

Sitton, who is an engineer and who lost his election bid to stay on the commission, questioned the move to allow storage in formations other than salt caverns, which have a proven record of preventing leaks into groundwater sources or other underground formations. “This is a big deal,” and he received the order only the day before the meeting, so he posed some questions about safety and environmental concerns.

The order does not suspend any rule that protects public safety or the environment, and if Railroad Commission staff determine that a hearing is needed on a company application to store oil in an alternative formation, a hearing could be called for, Christian said. Staff said applicants would have to demonstrate that they would not let oil escape the formation they use for storage, ensuring protection of groundwater resources in compliance with the Texas administrative code.

“It sounds like you’re on top of it,” Sitton said before the vote. “I don’t want to hear a story in three months of how we put oil in some sort of cave somewhere and ended up having groundwater pollution,” he said.

Environmental groups took note of the items addressed at the meeting, including more permits for producers to flare natural gas at oil production sites and waiving rules for plugging wells on a temporary basis. Instead of protecting the people of Texas, the Railroad Commission waived rules for the benefit of industry, said Robin Schneider, executive director of the Texas Campaign for the Environment. “Texans will all pay in water contamination and other environmental damage. They took these actions without any public comments or real discussion even though members of the public were signed up to speak,” Schneider said.

At the beginning of the meeting, which was conducted online and with the three members and staff speaking remotely, Christian said he is asking the task force for input on the flaring issue. The perception of the Railroad Commission has raised questions and Christian is seeking feedback from the industry on how it could better regulated flaring. He is hoping for some answers before the June 16 meeting, commenting that industry is more likely to live with results it comes up with instead of government telling it what to do.

Among the companies reacting to market conditions, Marathon Petroleum reported a $12.4 billion impairment charge as fuel demand has plummeted. The company reported a loss of $9.2 billion in the first quarter, with capital spending and expense reductions for the future of about $1 billion.

Showing how Wall Street has adjusted to the grim news coming from the oilpatch, Marathon’s stock price rose on the day of its earnings announcement. The adjusted loss of 16 cents per share beat some expectations that were bracing for a 25-cent loss, analysts noted.

Another indication of the market impact was MPLX saying it will not pursue a natural gas liquids pipeline as originally planned to move NGLs from the Permian Basin to the Gulf Coast. The BANGL project is a casualty of the down cycle, as is the associated fractionation capacity and export facility, where spending has been deferred. The original scope of the BANGL project is no longer being pursued, but work on the Wink-to-Webster crude oil pipeline and the Whistler natural gas pipeline, which is planned to move 2 Bcf/d from Waha, Texas, to the Agua Dulce hub, will continue, MPLX said May 5.

Numerous other producers have announced drilling reductions in different shale plays. The North Dakota Oil and Gas Division reported 20 active rigs as of May 8, compared with 34 in mid-April and 52 in March. The state has taken some steps to mitigate the effects on the upstream sector and the resulting reduced revenue for state coffers, and it recently announced a Bakken Restart Task Force to facilitate a recovery in the region.

The task force will include the Public Service Commission, Department of Mineral Resources (DMR), Office of Management and Budget, Department of Environmental Quality, the state Pipeline Authority and others. It will seek input from varies industry experts, officials said.

North Dakota has roughly 6,800 wells shut in, amounting to 450,000 b/d of production, which DMR Director Lynn Helms termed staggering. Helms said it was clear, however, from the first meeting of the task force, “that many great efforts are already underway across agencies to secure, strengthen and stimulate North Dakota’s energy future.”

The task force will meet weekly and focus on the core areas of regulatory relief, economic stimulus – which includes environmental remediation and research projects to boost employment – and a smart restart. The latter element will examine proposals for tax relief and low-cost financing.

North Dakota’s oil and gas industry contributes about 72,000 jobs and was expected to generate $4.9 billion in revenue from July 1 through June 30, 2021, which would account for 57% of all revenue collected by the state. Helms has noted in the recent past how DMR and other state officials are working on budget projections to account for the industry downturn.

By Tom Tiernan ttiernan@fosterreport.com

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