BKR U.S. Land Rig Count: -1 rig w/w to 763 rigs.
WSJ-Oil Price Rises After Russia Cap Kicks In- Link
WSJ-OPEC+ Keeps Oil Curbs Despite Russia Price Cap- Link
WSJ- Chevron’s Long Game in Venezuela Brings It Political Risk Link
WSJ- Japan Looks to Build Buffer of Natural Gas in Case of Supply Crunch Link
DEP Update: Our Christmas Party is this Thursday in Houston. For those who are joining us, consider taking Uber (we’ll have about ~70 attending this year and parking is tight). For those interested in learning more about the party, shoot us an email. As for upcoming trips/meetings, we’ll be in Dallas on Tuesday/Wednesday this week followed by a trip to Denver next Monday/Tuesday. Let us know if you are free to meet up.
THRIVE Energy Conference: The worst part of our job is soliciting readers for sponsorship money. It feels awkward. That said, this past Monday we formally launched the sponsorship request process for the THRIVE Energy Conference (February 22-23, 2023). Most of you should have received the sponsorship brochure. To the extent you believe this conference is worthy of your marketing dollars, we would appreciate the support as the Thrive conference is an expensive endeavor. We would like to give special thanks to following companies for quickly responding to our brochure blast from earlier this week – your support is hugely appreciated: Diamondback Energy, P2 Energy Services, OSP Microcheck, FESCO, Abaco Technologies, Axis Energy Services, Mustang CAT, Patterson-UTI, BlackRock and NOV. Of course, a hearty thanks to our key 2023 sponsors: Winston & Strawn, Dragon Products, Freemyer Industrial, NexTier Oilfield Solutions and VoltaGrid for their early and significant support for the event. Of course, we would like to thank our long list (30+) of Suite sponsors too.
Boston/NYC Takeaways: In our new role, we no longer do the intense investor marketing trips which we did in our previous career as that’s not the DEP business model. However, when we find ourselves in town, we do try to visit with clients. Thus, this week we combined some investor meetings with our trip to New York where we attended the Piper Sandler Energy & Power Winter Symposium (very well organized and well attended event). The following are takeaways from our meetings.
- Investors are constructively positive on medium-to-longer term fundamentals, but bias for E&P over OFS persists. That said, one comment really resonated with us this week. A long-only investor essentially said all of the debate over the rig/frac crew counts is borderline meaningless as the real story is the fact that the oil service sector will show y/y improvement in earnings in 2023 whereas much of the broader market might see y/y declines. Therefore, whether the rig count gains +20 rigs, or +80 rigs doesn’t really matter as PM’s, particularly those focused on growth, can’t dismiss the earnings rebound opportunity within OFS given that pricing is resetting higher along with most companies showing higher y/y activity.
- As we shared this observation with other long-only clients, many agreed. However, one hedge fund client opted to spoil the party by pointing out the forward curve for oil in 2024 is in the mid-$70’s, a level which might argue for a moderation in activity and would seemingly necessitate lower service costs. Time will tell, but we are inclined to bet on near-term earnings growth vs. the strip in 2024 (lots of reasons why this could reprice higher).
- Investors believe E&P capital discipline is real given years of continued financial stewardship by the E&P leading lights. However, investors do not yet believe discipline exists within OFS. With respect to OFS discipline, the “jury is still out” was a frequent investor observation. For those who may not recall, the big push for E&P capital discipline kicked off about five years ago and since that time, E&P companies have made remarkable strides, nearly all now living within cash flow and returning cash to shareholders. During this same time, OFS companies have generally watched their capex spend, but this largely reflects a lack of cash in 2019-2021 given weak returns and low activity. Today, a number of OFS companies now preach plans to remain disciplined with some having initiated buybacks and/or dividend programs. But with only a couple quarters of “discipline” under their belts, the buyside (at least those we saw) are wary that it truly exists within the OFS community. A key reason is the fact that new equipment orders are now materializing, therefore, a contingent of investors do not believe the OFS sector has changed its stripes. To disprove this fear, the public companies who profess discipline must lead the way with real free cash flow generation and not seek market share gains. Further, a few investors cite concerns about potentially high ongoing capex requirements (i.e., frac specifically) while others raise concerns about newbuild economics and the prospects of new competition. Many clients asked about private equity interest today vs. prior cycles. Notably, some wondering if/when PE may attempt to create NewCo’s as they did in prior cycles.
- Investors are trying to better understand how long NAM onshore stocks will work in a market where growth is slowing. Several investors are taking a closer look at international and offshore OFS. We did have some investors call out DEP as being “bearish” because we have highlighted “white space” on the calendars of some. Not an effort on our part to be either bullish or bearish, simply calling a spade, a spade.
- One investor asked if the best quarters are behind us for E&P companies if crude is $80-90/bbl world in 2023. Several investors trying to better understand the NAM inventory situation for E&P’s.
- Much of our discussions centered around (i) rig count trajectory, (ii) prospects for incremental completion activity and (iii) magnitude of further OFS pricing power. With respect to drilling activity, most investors embrace a flat-to-slightly higher view. Those investors who have spent time with E&P companies generally don’t see how the rig count moves higher as public company messaging to best-of-breed shareholders is flat from here. That would jive with the DEP survey we conducted pre-Q3 earnings. However, there is a modicum of confusion as land drillers continue to see near-term activity gains, a view one land driller shared at the Piper conference. For the OFS sector though, the real story is the earnings upside, the first observation from this epistle. The full year benefit of higher OFS pricing is likely material, and that theme is not lost on smart buyside folks.
E&P Observations (Authored by Geoff Jay / Sean Mitchell): Several developments stood out to us this week. Most notably, the Biden administration wants to halt mandated SPR sales in 2024-2027 to refill the reserve. Slowing SPR releases led to some large draws in commercial inventories over the past couple of weeks, and it seems to us that open-market purchases to top it back up will likely exacerbate the situation (we’ve been highlighting the overall draws including SPR inventories for a while now).
On a perhaps related note, the US Treasury granted Chevron a six-month waiver to expand its operations in Venezuela and import crude from the country to the US. The first shipments may arrive this month and may total about 1MM Bbls. Chevron indicated that it won’t be investing in new drilling in the country (Chevron’s production in 2019 was just over 100 MB/d), likely limiting the impact of this waiver in the near term. Chevron also suggested its Permian output would peak at 1-1.5 MMBOE/d sometime in the 2030’s, up from current levels of ~700 MBOE/d. Simple math implies a CAGR of ~7% over the next 10 or so years. This should be music to the ears of the OFS sector.
In its 2022 ESG and Climate Risk report, Laredo Petroleum announced it is changing its name to Vital Energy (VTLE) on January 9, 2023.
Conversations with several E&P companies last week indicate total well cost y/y from November 2021 to November 2022 could be up 50-90% depending on what basin you are operating in.
Refining Observations: US refiners are hungry for heavy oil, reportedly clamoring for cargoes that Chevron is importing from Venezuela. This makes sense, since the US is short heavier barrels. Both VLO and PBF were once users of Ven crude, but of course, Chevron could opt to use the crude at its own Pascagoula or El Segundo refineries.
The EPA released its proposed biofuel requirements for 2023, 2024, and 2025, and as rumored, much greater volumes are being mandated. This will increase RINs liabilities for refiners who don’t have blending operations. Renewable fuel requirements will jump from 20.6B gallons this year to 22.7B gallons in 2025 under the proposal. The EPA will hold hearings to discuss the changes on January 10-11.
Crack spreads took it on the chin this week, as crude inventories drew by more than 12.5 MM Bbls, the largest weekly draw since June of 2019. Product inventories remain at low levels, with QTD demand clocking in at flat year on year for gasoline, +2% for diesel, and +4% for jet fuel.
HF Sinclair (DINO) released its 2023 capex expectations in a Reg FD disclosure this week. The range of $910mm to $1.1B was well ahead of consensus at ~$600mm and included turnaround spending of $530-$630mm. This suggests that DINO’s 678,000 B/d system could experience a fair amount of downtime next year.
Product Inventory, Demand, and Margin Charts
(Shaded areas show the 5-year range)
Source for Inventory and Demand Charts: Energy Information Administration
Source for Margin Charts: Bloomberg, LP.