A year characterized by persistently low crude oil and natural gas prices, decreased capital expenditures, and falling revenues included dramatic downward reserve revisions by the 50 largest exploration and production firms in the US, according to Ernst & Young LLP’s US oil and gas reserves study 2016.
Yearend proved oil and gas reserves estimates in 2015 from the group as a whole fell 12% to 24.1 billion bbl and 21% to 147 tcf, respectively, compared with 2014 totals (OGJ Online, June 3, 2015).
Midsize independents’ proved oil reserves were impacted most with downward revisions equal to 20% of their beginning-of-year levels. Large independents, which trend toward being predominately oil-focused, took downward revisions of 16% compared with 7% for integrated firms. The largest downward revisions on an absolute basis were reported by ConocoPhillips Co. at 269 million bbl, Occidental Petroleum Corp. at 248 million bbl, and Continental Resources Inc. at 246.8 million bbl.
Oil extensions and discoveries declined 24% to 3.1 billion bbl, with the largest recorded by ExxonMobil Corp. at 387 million bbl, EOG Resources Inc. at 190.5 million bbl, and Marathon Oil Corp. at 179 million bbl.
Oil production in 2015 rose 10% year-over-year to 2.4 billion bbl, with the largest increases posted by BHP Billiton Ltd. at 22.7 million bbl, Encana Corp. at 20.2 million bbl, and Chevron Corp. at 17 million bbl. The downward revisions in reserves eclipsed other additions, resulting in an all sources production replacement rate of 45% for 2015 compared with 40% for finding and development (F&D) including revisions.
Purchases of oil reserves were 517 million bbl while sales were 627 million bbl. Herb Listen, E&Y US oil and gas assurance leader, explained during the June 14 presentation in Houston that the discrepancy was due to a large number of smaller independents outside the top 50 and private equity acting as buyers. Noble Energy Inc.’s acquisition of Rosetta Resources Inc. accounted for the largest transaction activity during the year (OGJ Online, May 11, 2015).
As for proved gas reserves, the largest downward revisions in 2015 on an absolute basis came from ExxonMobil at 6.7 tcf, Chesapeake Energy Corp. at 4.2 tcf, and Southwestern Energy Co. at 3.5 tcf. Gas extensions and discoveries declined 37% to 18.7 tcf, with the largest coming from Antero Resources Corp. at 2.3 tcf, EQT Corp. at 2 tcf, and ExxonMobil at 1.2 tcf.
Gas production increased 2% year-over-year to 13.6 tcf, with the largest gains from large independents Southwestern Energy, Antero Resources, and EQT each rising more than 100 bcf. Purchases of gas reserves during the year were 2 tcf, with the Noble-Rosetta deal again accounting for the largest activity.
Despite the across-the-board downward revisions, John Russell, E&Y US oil and gas assurance partner, noted that those oil and gas reserves “are still in the ground” but “just don’t meet the definition to be reported” by the US Securities and Exchange Commission within the current low-price environment.
Listen added that some proved undeveloped (PUD) reserves booked by firms in previous years have recently been excluded—even though they were economical—because those firms didn’t have liquidity or capital to develop them.
‘Structural shift’ occurring
The group of 50 reported total capital expenditures of $117.5 billion, a 41% drop from the 2014 level. “The significant spending cuts and downward reserve revisions reported in 2015 are illustrative of a structural shift taking place in the industry as a result of abundant oil,” said Listen. “No longer are capital investment decisions driven by the pursuit of growth—instead the industry and those investing in it are progressively more focused on cash flow and returns.”
Amid less merger and acquisition activity than many projected, proved and unproved acquisition costs dropped 79% to $5.4 billion and 63% to $10 billion, respectively.
WPX Energy Inc. was the leading purchaser in 2015, with total property acquisition costs including proved and unproved of $3.2 billion as the firm acquired RKI Exploration & Production LLC (OGJ Online, July 15, 2015). Noble followed with total property acquisition costs including proved and unproved of $3.1 billion, primarily related to the Rosetta deal.
“While many expect an uptick in asset sales due to oil and gas companies’ need for capital, the most valued E&P assets in this current environment are frequently the lifeblood of their companies’ operations,” said Mitch Fane, E&Y US oil and gas transactions leader in the Southwest region. “As a result, the bid-ask spreads for quality, producing properties, and declining values of some nonproducing properties have hindered transactions and private equity investment thus far.”
Declines in exploration and development spending of 28% and 31%, respectively, were evident in the study firms’ reduced drilling activity. The number of exploratory wells drilled declined 41% and development wells 31% in 2015.
Exploration spending totaled $17.1 billion in 2015, compared with $23.6 billion in 2014, led by midsize independents at a decrease of 39%. Listen noted that much of the exploration spending cuts came in the deepwater Gulf of Mexico, which will impact future reporting of proved reserves. Development spending declined to $84.7 billion in 2015 from $122.8 billion in 2014.
“The [midsize] independents and large independents accounted for the most significant cuts to exploration and development spending while the integrateds actually increased exploration spending by 9%,” Listen said. “Looking forward to 2016 and 2017, the full range of US producers will face continued pressure to reduce spending if prices remain at current levels.”
The firms did somewhat benefit from a 12% year-over-year decline in production costs in 2015 to $56.6 billion, driven by a 45% drop in production taxes and smaller declines in lease operating expenses and transportation costs. However, low oil and gas prices ultimately caused revenues to decline 41% to $129.8 billion, which, coupled with substantial property impairments, led study companies to report net losses of $112 billion.
The largest impairments were reported by companies that follow full cost accounting, which requires a “ceiling test” be conducted each quarter to review properties for impairment. These tests require companies use a 12-month average of the first-day-of-month reference prices.
Of the 50 study companies, 44 recorded oil and gas impairments including ceiling test charges in 2015, totaling $141.8 billion, up more than 600% from a year earlier. Even though just 14 of the firms follow full cost accounting, those firms altogether accounted for 74% of the total impairments reported in the group during the year.
The largest impairments were reported by Apache Corp. at $19.6 billion, Chesapeake at $18.2 billion, and Devon Energy Corp. at $18 billion, each of which uses the full cost method.
“Amid low prices, declining hedges and the drastic drop in revenues, many US producers are experiencing rating downgrades and lower reserve base borrowing limits and, consequently, less cash flow and liquidity,” said Mitch Fane, E&Y oil and gas transactions leader in the Southwest region. Midsize independents in particular utilize reserve base borrowing, Russell said.
E&Y noted that first-quarter 2016 revenues for the study firms fell 21% from fourth-quarter 2015, with asset impairments totaling $17 billion, as oil prices dipped toward the mid-$20s/bbl. James Bowie, E&Y US oil and gas assurance sector resident, said he expects impairments to continue in the second quarter as oil and gas prices remain down year-over-year.
What remains to be seen in 2016, Listen concluded, is whether “there will be an even further stepdown in reserves” or the firms will benefit from “a bullish run in oil and gas prices between now and the end of the year.”
Contact Matt Zborowski at firstname.lastname@example.org.