New lyrics, same tune for US shale producers
US shale producers are renewing their vows of fiscal discipline and shareholder devotion amid an unprecedented global demand drop and a severe recession.
The refrain is familiar for a sector that borrowed heavily in the past to prioritise production growth over investor returns. But the industry's cash crunch makes this year's promises ring differently, with plans under way for massive cost-cutting, allocating more free cash flow for debt reduction and dividends, and significantly lower production targets. "The days of investing every bit of our cash flow for maximum growth are gone," independent producer Cimarex Energy's chief executive Tom Jorden says.
The crude price crash in the spring has accelerated the trend of technologically driven cost cuts in the US oil patch. Independent producer Diamondback Energy brought down its drilling cost per lateral foot in the Delaware basin section of the Permian shale by 26pc in the second quarter, compared with the end of 2019, while its Midland basin costs were down by 23pc. Cimarex and Callon Petroleum have cut their lateral foot costs by 23pc in the Delaware basin, while Callon achieved a 38pc decrease in the Midland.
Many producers are eyeing flat production despite cuts in capital expenditure (capex). Devon Energy is targeting 141,000-146,000 b/d of crude output next year, 4pc below its 2020 estimate, while next year's capex of $750mn-950mn will be 13pc lower than in 2020, at mid-range. Callon expects to cut its 2021 capex by 20-23pc from 2020 levels, with production down by just 10pc.
Producers are also outlining plans to limit free cash flow reinvested into production to 70-80pc, devoting the rest to paying dividends and reducing debt. Pioneer Natural Resources plans to introduce a variable dividend in 2021, in addition to a base dividend. Other firms are pursuing a similar payout strategy, giving them the flexibility to tie additional returns to market conditions without a cut in the base dividend.
All this adds up to more modest growth targets, with a 5pc/yr goal shared by many firms, down from 20pc/yr and above previously. "You can't have the Permian and the US shale add 1.0mn-1.5mn b/d of new production per year to a glutted world oil market," says Pioneer chief executive Scott Sheffield, who returned to the company in 2019 after several years of retirement to help guide it from annual growth of around 25pc/yr to a new 5pc/yr target. The EIA projects US crude output will rebound after a sharp drop in March-June, but its 2021 forecast of 11.14mn b/d is 1pc below the 2020 projection.
Apple of Wall Street's eye
The new investor-friendly and cost-conscious shale exploration model outlined by firms in the second-quarter earnings season is one that EOG Resources says it has been following for years. The Permian and Eagle Ford shale-centric producer was a Wall Street darling that was called "the Apple of oil" as it combined cutting-edge technology with financial discipline. Over the past three years, EOG has generated more than $4.6bn in free cash flow, increased its dividend by 72pc and reduced its net debt by $2.2bn. The firm has not cut its dividend during the 2020 downturn and does not appear to be cutting staff.
That other companies are prioritising returns to investors over growing production "is fantastic for the industry, for investors, and certainly it is very positive for oil prices as we move forward", EOG chief executive William Thomas says. But even financial discipline is no guarantee of success amid a price downturn — EOG reported a second-quarter loss of $909mn, even with a $639mn boost from derivatives.
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