There are two oil wars going on right now, the Saudi-Russia price war, which kicked off in early March and has kept oil prices below $30 a barrel, and the domestic war between U.S. oil majors ExxonMobil and Chevron and small and medium-sized independent shale companies.
Global oil prices jumped 25% on Thursday thanks to some morning tweets in which President Trump claimed that Saudi Arabia and Russia would cut production by 10 to 15 million barrels per day.
It's an improbable number given that Saudi Arabia and Russia each produce about 11 million barrels a day. The likelihood that either country would cut their production in half is slim, particularly since Trump has said he will not ask U.S. producers to reduce their production.
That's despite the fact that shale companies have been begging for production cuts. The top oil and gas regulator in Texas, Texas Railroad Commissioner Ryan Sitton, was dropping his own tweets just a few hours after Trump, chronicling his conversations with Saudi and Russian politicians. In an unprecedented move earlier this week, shale companies asked the Texas Railroad Commission to order statewide production cuts.
It's all part of that domestic battle between the U.S. oil majors and the independent shale companies. DeSmog's Justin Mikulka joined us on the Drilled podcast this week to explain it all (transcript below).
Welcome to Drilled, the There Will Be Fraud season. In short weekly episodes we're going to be covering the ongoing ways that the fossil fuel industry is using the COVID-19 pandemic to push all sorts of de-regulation, secure funding for itself and get up to various other things. Today I am joined by Justin Mikulka. He is a reporter for DeSmog and he's been looking at the financial straits of the fossil fuel industry and particularly shale gas companies for the last couple of years. Way before anybody else, Justin was pointing out that, hey, these companies have never made a profit. Seems weird! Last week, Justin published a story about how the biggest obstacles to a bail out for shale gas companies right now might surprise you: Exxon and Chevron joined by the American Petroleum Institute.
Amy Westervelt: Maybe I can have you start by talking a little bit about why it might be that the larger oil companies don't want a bailout for the sort of smaller, independent shale companies.
Justin Mikulka: You know, there's currently the international price war going on between the Saudis and Russia. And, you know, obviously that's driving the price of oil down, which is hurting the U.S. industry. What's hurting the most is the shale companies, because they've failed to make money for the past decade. And they have a lot of debts that they need to pay back. But the situation we're in right now is the two majors, Chevron and Exxon, who are already into the shale business in a big way in the Permian region, which is really the last shale play that anyone wants to be in, because it's the only one that really still is profitable in any way. So if you step back from the global price war going on, there's a war going on in the Permian region where Exxon and Chevron are happy to see no bailouts for the shale companies because that will make them go bankrupt more quickly. And then Chevron—and Exxon more so because Chevron is in a much stronger position— have overpaid for a lot of assets in the past. And so they're looking at this as a real opportunity to hopefully watch the shale companies go bankrupt and then buy those Permian assets for pennies on the dollar.
AW: Where does that leave OXY [Occidental Petroleum] in the Permian?
JM: Well, speaking of shale gas, one of the reasons Exxon wants to pick up assets cheap is because they made one of the worst acquisitions ever in 2009 when they bought XTO, which was their way to get into the shale market, mostly gas at that point, and they paid $41 billon for it. And it probably was worth a billion dollars a couple of years later. So. But right now, Oxy is looking to maybe take the place in the history books as the worst shale acquisition, you know, worse than XTO acquisition by Exxon. A similar price tag of $38 billion is what they paid for Anadarko. And it's just turned out to be a disaster. But an important part of that story is Chevron had an offer of $33 billion in for Anadarko. And then they, Occidental, came in and Anadarko wanted to get a bidding war going. And Chevron just backed out and said, we're not going over, you know, $33 billion is our highest offer. And so $38 billion was the offer that came through from Occidental. So, you know, you can see in hindsight, Chevron made a very smart move. Plus, because they were already in negotiations, they got a billion dollar payout just for walking away, which they used to buy back stock. So Chevron has paid very little for their assets in the Permian. They seem to not be desperate in any way, whereas Occidental certainly overpaid for those assets. And it looks like even Warren Buffett, who put in 10 billion dollars into that deal, is going to lose money on this deal. So, yeah, the Permian is really where money goes to die at this point.
AW: Can you talk a little bit about why the Anadarko purchase was a bad one and what made it seem like it was worth that much money initially? And why has it turned out to be a bad purchase with all of these shale plays?
JM: The companies make these mistakes where they think scale is going to help. They wanted to acquire more assets and become a major player in the game. And they've wiped out. A year ago, Occidental stock was around $67 and now it's around $10. And so they've saddled themselves with all this debt, which is the classic model for a shell company. You know, you might owe money to get these wells, but you have to keep getting more wells because they deplete so quickly. You know, I started writing about how the industry wasn't making money two years ago. And it was pretty clear a year ago that that there were serious structural problems in the finances of the shale industry. And then they went in and you know, it's the classic buying at the top of the market. They overpaid. And now just so much equity has been wiped out. And then that was even before …The oil prices right now are you know, if you look at the stock ticker, it says oil prices are $20 a share. But in Texas, you know, in the Permian, they're probably getting $10 a barrel in the pocket. In some places, it's between five and 10. So, I mean, it's going to be just a downward spiral for all these companies. Which is exactly what Exxon and Chevron are enjoying watching and waiting for.
What Buffett did apparently was the CEO of Occidental had a 90 minute conversation with him and convinced him to put the 10 billion dollars into the deal for the acquisition for Anadarko. Probably should have done a little bit more homework. You would have expected from Buffett. But what he did. It's the same thing he did during the housing crisis. Goldman Sachs was insolvent. And Warren Buffett came in and gave them 10 billion dollars too. What he does, you know, the way these deals are structured is if the company makes any money, he's first in line. He has preferred status. So it's a pretty safe bet, unless Occidental goes bankrupt, which is, I think, a real chance right now. What's happening right now is they're looking instead of paying him back with money in dividends because they don't have any anymore, they're looking at paying back stock, which is all well and good. If they survive and the oil price goes back up, then he does very well. If they go bankrupt, he's in trouble just like everyone else.
AW: OK, so say OXY goes out of business and a bunch of these small shale companies go out of business, and Chevron and Exxon pick up cheap property in the Permian. But the price war continues for like another year or who knows how long. I think ultimately the Saudis and the Russians can withstand a low oil price for longer than any U.S. company. So is there a point where even Exxon and Chevron would be in trouble?
JM: Well, that's the thing. I'm actually writing an article about that right now. You know, there's kind of this mythology that, well, once Exxon comes in, they know how to make money on these properties and make money in the shale business. But all you have to do is look at the XTO deal to know that they're not the best judge of investing in shale. Goldman Sachs just came out with a research note on the shale industry this week. And one of the things that they noted was Exxon and Chevron have no ability to produce oil more cheaply than any of these other companies. Which really makes sense. I mean, companies like Pioneer have been doing this for a long time. You know, they hire the best people and they understand shale very well. So it's not like Exxon can come in and just has some magic formula to be able to make money when oil is $30 a barrel. So I expect Exxon to continue losing money on shale. But, you know, if you look at their corporate strategy, basically what they're saying is we're going to refine as much oil as we can and we're going to produce it. And we plan to burn every last drop into the next three to five decades. There is oil in the Permian in that shale. It's just no one has figured out a way to get it out of the ground profitably on a large scale. And the other thing that everyone is facing in the Permian—and the Bakken has already peaked—essentially, they've drilled all the best spots. So, you know, it's not like Exxon can go in and say, we're just going to pick up the best spots. Most of the sweet spots have already been drilled. So I don't foresee a future, especially if oil prices remain low, where Exxon magically figures out how to make a profit in the Permian, even at $50 a barrel, because no one has consistently shown they can do that.
I mean, Exxon right now has been borrowing money to pay its dividend, which is just not a sustainable business model. And so this crisis is going to certainly be used—as you've talked about—they're going to get bailouts in some way, whether it's from the Fed or from these big slush funds. And certainly at one point, Trump tweeted out about the oil industry and he specifically used the phrase national security. So they’re certainly going to try to do those things.
But again, Exxon and Chevron do not want those shale companies bailed out. Just this week, the Scott Sheffield, the CEO of Pioneer, and then the CEO of Parsley have written a letter to the Texas regulatory agency asking for production cuts, basically saying you need to step in and tell the Texas producers we need to limit production so we can bring prices back up. And so that I mean, that's unprecedented to ask for that kind of control of the markets, the free markets in America. But in the reporting on that day, you know, the one sentence that mattered was that Chevron and Exxon do not support production cuts.
So once again, the shale companies are trying whatever they can do to stay alive. And at every turn, Chevron, Exxon and the American Petroleum Institute are stepping in, in the way. And, you know, they just have more power.