(Oil & Gas 360) – Over the past few weeks, several headlines regarding the international oil business have surprised market watchers:
A note on the news: “Break-even” oil prices- oil and gas 360
The news that the OPEC+ group decided to increase its production rate in May by 411,000 barrels a day (b/d).
The Trump Administration decision to tighten sanctions, including secondary sanctions, on Iranian-exported oil. Iran exports 1.8 to 2.0 million b/d. This exported oil is mostly bought by China.
The next headline last weekend noting that OPEC+ would increase production in June by another 411,000 b/d. This was a bigger surprise to the markets because the price of oil was already soft.
Questions arise about the effect these lower oil prices will have on oil supplies and company performance. The oil industry should be considered as the international industry and domestic US industry separately. Over 80% of the world’s oil is produced by governments or by companies dominated by governments, which dominate international industry. Some of these companies have shares traded on public exchanges and behave much like private enterprise companies, but have large share ownership by their government, and they act as government agencies.
The domestic US oil and gas industry is mostly composed of several hundred private enterprise companies ranging from small operators with a few wells up to the major integrated international companies, Chevron and Exxon. In recent years these companies made the US the world’s largest oil producer. This was done with the individual initiative and innovation available from free enterprise. Other countries find it difficult even to implement the technological innovations developed by American companies.
Many oil-producing countries have little income from other sources. The IMF estimates a “break-even” oil price for their oil income to meet the national budget of the country. These estimates range from about $50/barrel for the UAE to between $115 and $125 for Kazakhstan, Algeria, and Iran. Saudi Arabia’s is $90.94. With low oil prices, these countries must adjust their budgets, dip into reserves, or they can increase their production rates which amounts to cheating on quota agreements with other producers.
RBC Capital estimates’ “break-even” London-quoted Brent oil prices for large integrated international oil companies:. $56 and $57/barrel for Chevron and Exxon, respectively, and for the British companies, $48 for Shell and $71 for BP. These estimates include maintenance of dividend payments.
Private enterprise companies operating in the domestic American oil and gas business are surveyed by the Dallas and Kansas City Federal Reserve offices with 130 respondents to the first quarter Dallas survey and 36 to Kansas City. The companies surveyed are divided into “large” producers which produce more than 10,000 b/d and “small” which produce more than about 1000 b/d up to 10,000.
These surveys compile “break-even” WTI prices corresponding to their operating costs for several different field areas. Figures commonly quoted are the average company response. These costs range from about $26/barrel in the Eagle Ford area of South Texas, through about $33 to $35/barrel for the Permian Basin, and up to $42 to $45/barrel in other basins including non-shale production. These are the oil prices needed to pay operating costs for existing production.
The Fed surveys also ask the price necessary to drill new wells. The average company response for the oil price necessary to drill a new well to replace production decline ranges from about $50/barrel up to about $65/barrel.
As mentioned above, the figures quoted widely in the press are the average of company responses. The range of responses is quite wide – roughly from $12 to $80/barrel. Some companies require much higher prices than these quotations, and some can operate or drill at much lower prices. A major point is that the quoted WTI price of oil is the price between traders on the New York Mercantile Exchange and the Brent price is that on the London ICE. This is not the price paid an operator in the field. An oil company’s field sale price is what the buyer will pay and is influenced by the nature of the oil and its location (transport distance from refinery). A company will sell different oils from different projects at different prices but generally will be well aware of its price spread above or below prices quoted on exchanges.
The Kansas City survey also asked what oil price would be required to initiate an aggressive growth drilling program to increase production. These responses ranged from about $78 a barrel up to about $85 a barrel with an average of $81 a barrel.
The surveys include general questions as to the outlook of the operators. Comments indicated a general feeling of uncertainty. As we go through a period of re-structuring the US economy and trade relationships, disruption and uncertainty are to be expected. The Federal Reserve Chairman reported on an economy in good shape, however. Although apprehension regarding a possible recession seems to be common, such a recession has not yet developed. The Big, Beautiful Tax Bill working its way through Congress with reductions of income and capital gains taxes, with expensing of capital costs retroactive to January, should cut costs and reduce “break-even” costs.
In summary, without major upheaval, oil prices should remain in a narrow range for the rest of the year and contribute to lowering inflation. Various world conflicts may disrupt supplies or affect demand. Europe will be busy trying to sort out what it wants its future to be. The Iranian confrontation is an immediate problem and may lead to short, strong military action to terminate Iran’s nuclear program. I expect the Trump Administration’s disruption of the economy will largely sort itself out and settle down by fall. I expect drilling will be maintained at a modest rate tp maintain production rates but a “Drill, Baby, Drill” boom will not happen at these prices.
