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Why Big Oil and Biden can’t agree on oil prices amid Russia crisis

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Permian Basin drilling rigs in 2020 as U.S. crude-oil production declined by 3 million per day because Wall Street pressure forced reductions.

Getty Images| Afp | Getty Images

Where? Devon EnergyOn February 15, when the fourth-quarter results were announced, the world seemed to have regained its fiscally cautious and comfortable state.

The Oklahoma City-based producer of oil and natural gas was the best-performing stock for 2021, despite losing almost 90% of its value between 2014-October 2020. Standard & Poor’s 500Thanks to a coordinated strategy of cutting back on exploration and taking less risks, it was able to achieve this feat. After spending only $38 million in the previous year, it turned its 2020 loss of $2.5billion into a profit of $2.8billion for 2021. It also raised its dividend by 45%, plowing almost $600m into stock buybacks and putting nearly $600m into stocks.

“Devon generat[ed]”We achieved the most cash flow over our 50-year history,” Rick Muncrief, CEO, proclaimed on a conference phone. We delivered precisely what our shareholder-friendly model was meant for: to be the leader in cash returns. 

Russia invaded Ukraine 9 days later.

Now Devon and other producers face demands that the U.S. and Europe cut Russia off from world energy markets – not easy, since Russia’s 10 million barrels a day make it the world’s No. The number 3 global oil producer and the natural gas it produces is used to supply much of Western Europe’s electricity and heat. Even though a new Quinnipiac poll says 71% of Americans favor expanding sanctions on Russia to include its oil and gas industry, U.S. oil isn’t dying to pick up the slack – including Devon. 

It’s not surprising that oil doesn’t want to help Ukraine. In 2015 alone, the exploration industry had almost $20 billion of negative cash flow. This was after $78 billion lost between 2005-2017 when hydraulic fracking overtook the industry. The industry drove crude prices down due to oversupply markets and extended drillers. A financial measure that tracks the money oil companies spend on new wells. It is subtracted from their accounting profits over the anticipated life of those wells.

Big Oil’s recovery and unwillingness to drill

Devon’s dramatic turnaround was among the most notable. It reinvested 32% of its operating cashflow in new wells in 2021. The company also retired $1.2 Billion in debt and raised its dividend. In the fourth quarter, they bought back almost $600 Mn of their stock. This year, it planned for more of the same: Another $1 billion in debt reduction and $1.6 billion in stock buybacks,  a company worth $32 billion before war broke out, with only a third of cash flow being reinvested in more drilling.

Goldman Sachs’ analyst Neil Mehta didn’t mention Ukraine in the bullish report on Devon that day. It was not mentioned by any analyst on Devon’s quarterly conference call.

As they stated in The Godfather: Just when Big Oil believed it was over, the people are eager to get it back. One thing is clear: Rick Muncrief (Devon CEO) doesn’t want to rush for more production, at least not with more specific instructions from White House.

Muncrief said last week that when considering investment decisions and increasing capital budgets to try to grow, it is important to consider inflationary pressures. He also stated that it would take about one year before you begin to see production coming in. “So publicly traded companies like ours will be extremely thoughtful and cautious about this. While we have some concerns, such as the concern about commodity prices, our head fakes are not real. However, it is important to remain focused and be patient.

He had told Bloomberg days before, however, that he was still “mystified” by the situation. President Biden has not reached out to discuss raising oil production, as that might allow energy companies to make the case to shareholders more easily.

On Wednesday, in a speech to oil and gas executives at CERAWeek by S&P Global, the energy industry’s main annual conference, Secretary of Energy Jennifer Granholm called on the industry to produce more.

Granholm stated that “We’re on a war footing.” Granholm stated that “We are currently in an emergency” and she advised to increase the short-term supply as responsibly as possible to stabilize the market, minimize damage to American families, while also indicating that additional releases from the Strategic Petroleum Reserve were not out of the question.

Granholm stated, “I trust your investors are saying the same thing to me: In these moments of crisis, there is more demand… Right now, oil production needs to increase to meet current demands.”

A Devon spokesperson said Wednesday afternoon that nothing has changed since Muncrief’s comments to Cramer. However, she added that things are fluid.

Russia’s 10,000,000 barrels of oil need to be replaced

According to the International Energy Agency (IAEA), replacing the 10,000,000 barrels per day Russia produces of crude oil would require both money and time. Biden’s announcement on Monday that the U.S. would prohibit Russian imports was simple. According to data from recent years, the U.S. has imported just 90,000-100,000. This represents a fraction of the 18.3 million barrels Americans consume each day. Replacing the four million Russian barrels that go to Europe daily – as well as Europe-bound natural gas – is much harder.

As the industry hopes to remain on the sidelines as it is, politicians like Senator Elizabeth Warren rageAnalysts say that even though crude oil is now at $125 per barrel, they will continue to be optimistic. Rob Thummel is the portfolio manager of Tortoise Capital and a major investor in energy stocks. Wall Street is pleased with the new arrangements in oil finance after losing so much money over the years on energy. S&P 500 Energy IndexHe stated that 75% of the market share has fallen between 2014 and early 2020.

“The sector went through the last decade growing production like crazy, and energy was the worst performing set of stocks in the S&P 500,” said Thummel. So people began to question the business model. This led to the shift towards a “prove it” model. Investors want cash flow and to have their debt paid. They also desire stock buybacks. 

Is the U.S. financially insolvent? Where would oil be likely to come from to make up the remaining 95 million barrels per day of world oil markets that are affected by sanctions or Russian production losses?

Goldman Sachs analyst argue that increased U.S. oil production is only the fourth-largest source of new barrels for Russia.

OPEC is where replacement barrels will come from. This Organization of Petroleum Exporting Countries works with Russia and has not officially accepted it into its ranks. Goldman claims that the core OPEC countries of Saudi Arabia and the United Arab Emirates could produce an additional 2.1 million millions barrels daily within just a few months. 

However, prospects for this are limited by recent reports that the leaders of Saudi Arabian and UAE declined phone calls from President Biden while they were talking with Putin.

According to Jeffrey Currie and Damien Courvallin analysts, such an outcome seems more probable the more Russia is left out of the global economy. This would drive core-OPEC Iran, the West and central-OPEC closer together in order to increase supply. But, this could take up to weeks and supply may not start increasing for a few months,” they wrote. 

As many as 12% of crude oil fell on Wednesday signs of more willingness from OPEC nationsTo increase supply, include the UAE

Goldman analysts on March 7 wrote that the second source would be Venezuela and Iran. They get exemptions for past violations of the U.S.  

Since Biden’s election, the U.S. attempted to bring Iran into compliance with 2015’s nuclear disarmament agreement so that any sanctions placed by Trump in 2019 could be lifted. Barack Obama and Donald Trump sanctioned Venezuela for their previous actions in retaliating against protests and cooperating with terrorist groups that seek to overthrow Colombia’s government.

Goldman, however, is wary of the prospect that these countries will produce more. The company believes Venezuela can only increase its production by 500,000 barrels daily if sanctions are lifted. It also thinks Iran’s output won’t recover until at least the summer. Iran will not produce more than 1 million barrels each day from now until fall. 

Too, oil companies face inflation

This leaves the U.S. where oil production dropped by nearly 3 million barrels per hour between 2019 and 2021. However, it has bounced back about half way. According to data from the industry, 250 oil rigs were down to work in the middle of 2020, from 1 077 in the late 2018. Baker Hughes.

Matt Portillo, research chief at Tudor, Pickering and Holt, an energy bank, stated that there are many logistical obstacles to quickly increasing production. This includes labor shortages which would prove difficult to solve, since workers who were laid off due to production cuts found new jobs. Supply chain problems, that affect everything, from steel tubing and specialized sand for hydraulic fracking. Ryan Lance, ConocoPhillips’ CEO, stated in an interview with CNBC that the supply chain for oil production is experiencing double-digit inflation of key inputs such as sand.

Portillo predicts that U.S. Shale Production will increase by approximately 650,000 barrels per hour this year. Most of these gains are coming from small producers who have not yet been publicly traded but can ignore investors pressure. The integrated oil companies such as Exxon MobilHe said that although some companies have made small increases in production, the smaller exploration firms responsible for most of drilling, are trying to resist. 

Portillo stated that there is little likelihood of capital commitments changing in 2022. There are also physical restrictions that restrict expansion in the near term.

According to Peter McNally (Vice President and Global Energy Sector Lead at Third Bridge), there isn’t much that the Biden Administration can do in order to accelerate new production. Options like expanding drilling leases on federal lands, as some politicians have urged, wouldn’t deliver new barrels fast enough because of the time needed to build wells and prepare to drill – a point echoed by Pioneer Natural ResourcesScott Sheffield, CEO of CNBC stated that most U.S.-oil comes from land owned privately. 

McNally stated that “that won’t work in the next twelve months.” That’s three years.

This means consumers will see little relief at U.S. gasoline pumps. Average prices have risen 50c to $4.10 for regular fuel within the last week according to U.S. Department of Energy.

At the top is an industry and an investor base that aren’t convinced today’s high prices will provide a long-term, reliable return for investors’ capital.

Sheffield stated that “We have an agreement with our shareholders to return 80% of our cash flow free to the investors.” We need shareholder support.” 

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