A disturbing blog article...
A disturbing blog article...
If you have been to Europe lately, you are aware of the ever shrinking dollar. I used to tease my Canadian friends by calling their "loony", ie the Canadian Dollar, the "North American Peso". My Canadian friends are having the last laugh, it seems.
Our markets seem very sensitive to the price of oil... to the extent that I read articles about how high oil prices are keeping the economy down. That begs the question... is it "high oil prices" or "weak dollar"? Here it is...
This first graph shows the Price of a Barrel of Oil in North American Pesos... er, I mean US Dollars in red, and the Price of a Barrel of Oil in Euros, normalized to US Dollar/Euro exchange one year ago.
This graph shows the variation in $/Barrel. In other words, this is the component of the price per barrel of oil due strictly to further devaluation of the dollar relative to the Euro (and, in reality, a whole basket of other currencies).
This chart just relates it to the percentage of the price per barrel of oil that can be attributed to dollar devaluation... also known as dollar inflation. Is it any wonder the Chinese are worrying about their trillion dollar holding of dollars? 20% of it has magically disappeared in the last year, at least in regards to buying energy by this Inconvenient Truth.
We all know the story... straw, sticks, and bricks. But do you know the aftermath?
After the carnage brought about by the Black Swan Event known as the Big Bad Wolf, insurance carriers quit covering straw and stick houses. Brick Only, with details about how to create the foundations, plumb it, and mortar and plaster it all built right into the code.
Fully protected against Wolves, the insurance piggies said to themselves.
Soon, Piggie Zoning and Planning Commissions were implementing the insurance requirements into their own building codes.
For Safety, they said. Who could possibly argue with that?
Of course the brick manufacturing piggies loved this, and made sure that every piggy community was on board with all brick construction. The cement pigs and the plaster pigs likewise were all on board. Its for safety, you see.
One inventive little piggy, after a delicious meal of roast beef, thought to build himself a straw bale house.
This is house is completely immune to huffing and puffing, thought the little meat eating pig. Surely the insurance pigs and the ZAPCO pigs will see that and allow me to build straw-bale pig homes, he thought.
He was wrong. Clearly in violation of the code, he was told.
But the code is meant to protect against huffing and puffing, not to stop innovation in low cost building methods, he answered.
Read our pig lips, they said. Not up to code. Go away.
Our inventive little piggy ended up a disillusioned drunk, telling his story for a glass of slop to any stranger at the trough. Other inventive pigs came and went. One came up with a clever way of creating a stick frame home that could withstand hurricanes, not to mention wolf breath.
Not up to code. Our code is here for a reason. Safety. For the piglets. We are Noble Pigs, and we anly do this for safety. Anyone wanting or suggesting we do it differently is Unsafe by our very definition. They must be Greedy pigs that don't care about safety of piglets, said the brick making pigs.
So, Pig Town ended up with all brick houses. Not all pigs could afford these houses, so a bipartisan group of pigs passed a law that would allow pigs to buy houses they couldn't afford, and tanked the piggy economy altogether. For the piglets.
I was lucky enough to recently have a piece of a big producing asset sale recently in what might be termed an "Unconventional Resource" oil and gas play. An "Unconventional Resource", to those non oilpeople that happily stumble across this blog, is the thing that wet oilman dreams are made of. Real lubrication. Forget jets and hookers. The best thing? We are finding them across the whole USA... mostly gas, but a fair amount of oil starting to flow as well. The even more interesting part? We are finding them in old oil and gas basins that we have drilled through hundreds of thousands of times and that we never recognized being there in the first place!
This has had a phenomenal effect on the price of leases. Old style Conventional oil and gas projects... $10-$200 an acre. Unconventional Plays? $400 to $15,000 an acre. What, just 5 or 10 years ago, might have bought a farmer a new pick up truck as a bonus on the 160 acre tract now could buy the old boy an island in Micronesia. In other words, these are a BIG DEAL, and they are adding HUGE reserves of good ol' US born and bred oil and natural gas to offset the "damn furrin'" stuff, and helping the trade deficit and the economy, particularly the rural economy, along the way.
In any case, let's compare this deal to a "Conventional deal" of 5 or 10 years ago.
In this recent divestiture, we got paid $25 per barrel of oil equivalent for Proven Producing Reserves. We got paid around $12 per barrel of oil equivalent for Proven Undeveloped Reserves... the stuff engineers say is recoverable between the current wellbores and obtainable at no geological or reservoir risk by drilling a new well, meaning you are only dealing with mechanical risk of drilling to get at the resource.
To drill, complete, and frac one of these wells will cost you $14 per barrel of oil equivalent net to to 100% working interest. This means that we sold yet to be drilled locations for a slightly highercomponent price as a proven producing well ($12 per barrel for the location + $14 for the drilling cost = $26 versus $25 for the already drilled producing wells). That´s like selling a commercial lot for the NPV of the business that will locate there minus 97% of the building cost. Woof.
These are the important facts. Other facts are that the engineers tell us this play will produce 750,000 barrels of oil per section. Given that this play is at least 600 sections (our puny piece was 12 sections, or a maximum 2% of the play), we are in the range of a half a billion barrel oil field. Oh yeah. This also suggests that this play, by itself, will contribute 30 to 50 billion new dollars to the US economy, and spread out pretty widely. It is also one of many of these emerging.
How does this compare to the "old days" before we knew about these "Unconventional Resources"?
Acquisitions could be had on a reserves basis of between 1/3 to 1/4 the price of a barrel of oil equivalent in Proven Producing Reserves. PUD's, if you could get ANYTHING for them, were likely to fetch you 1/30th to 1/4oth the price of a barrel of oil equivalent. The big differential here is the PUD value, and the decreasing "risk discount" put on a PUD barrel. In fact, in this case, you can see that there was NO risk discount on the PUD. In fact, the PUD barrels were not time discounted either. They were, in fact, given a Premium!
Why is that? A couple of reasons come to mind. The first is that one of the purchasers was Publicly Traded. They bought two years of steady reserve and production growth, and, with it, predictable revenues and earnings growth... mother's milk to an oil and gas company. Publicly traded oil companies sell for more than their reserves are worth, usually, so what you see is a Public Valuation arbitrage. "We lose money on every sale, but we make it up in volume".
The second reason would be the pile of private capital looking for somehere to invest. These guys have preferential rights on getting their money back with some sort of coupon... ie an interest rate that would make the old time usery folks blush, along with a significant equity kicker. They bet on "proven management teams" who are proven by having done it once before. Like betting on a coin toss being heads because the last flip was heads. You gotta have a method, I guess. Don't get me wrong. There are some incredible teams out there that are the Real Deal. They don't pay these rates. It's the other guys that Hope that they are a Real Deal.
Since they are going to get first money out and great rate of return locked in, their are plenty of folks that will take the money on a non-recourse basis. Like playing the slots in Vegas with someone elses money with the only proviso being you have to pay the first 1.30 in winnings per dollar you spend back to the person who gave you the money.
In other words, it is a perfect storm. A great confluence of events in which to to sell producing "Unconventional" assets. The time window is dictated by two factors: The Price of Oil or Gas... actually, more importantly, the Future Oil and Gas Price deck. Todays spot price is much less important. The futures decks dictate whether you can lock in a 1, 2 or 3 year price for your products, thus insuring the asset you are buying against commodity price risk. The second factor is the discount rate. With the Fed keeping interest rates low in order to avoid a housing mortgage meltdown, income producing assets can be sold for breathtakingly high prices... ie the equivalent of a Cap Rate in real estate. With low interest rates, a 6 or 8 percent return looks attractive when T-bills are at 3 or 4%. When T-Bills are at 6 or 8%, then the real estate or oil and gas properties have to produce minimally 10% or higher. To get higher returns, the asset you buy has to have a lower acquisition cost relative to its cash flow stream. In real estate, you can raise the rents to maintain value. In oil and gas, you.... do whatever the world market tells you to do. Basically, you are held hostage by swing producers, the latest, and perhaps late, thought to be Saudi Arabia.
As a domestic producer, you are also ready to get gutshot by politicians, who apparently blame the independent US oil and gas producer for the fact that we don't have windfarms that are efficient but nonetheless are subsidized to create a trillion dollars in sales for GE and for farmers that are too stupid to raise crops that have the magic properties our legislators mandate... like high BTU efficiency to power vehicles AND provide a food crop. Damnit farmers! We wanted Candy Cane crops, you losers! Why else did we subsidized to the tune of billions per year, primary to super giant corporations?
But, you say, Choke, we hate Big Oil, not you guys! BS I say. If that were the case, you would tax imported oil to pay for follies. Instead, we see US well head taxes and takings as the preferred method at "getting at big oil", never mind the fact that they have a disproportionately small amount of US well head production...
The Fed today is walking a tightrope. It WANTS to raise rates, so as to more attractively sell our debt in a sinking market to the Chinese, perhaps our Real Mandarins, ironically. Our Inscrutable Dollar savers/saviours might lose interest in buying dollars for toilet paper. But it CAN'T raise rates just now because the sub prime mortgage fiasco, which is, in reality, a much ado but something minor that revolves around mortgage brokers and insurers choosing to ignore the pesky "validating the real risk" part of a bunch of applicants, known as Fraud, and then compounding it by presuming that the American Consumer was anything BUT a whiny bitch.
"But, I didn't know that the 1.0% interest rate was going to go to market rates 3 years in the future", or "I didn't take arithmetic in grade school, so I didn't know that if interest rates went up my monthly payment was going to go up too". Fine. Let's make sure the folks that default or are bailed out NEVER get access to credit again. Let´s put the fraudsters in jail, and let´s get on with our lives. Let's not kill access to debt or credit for those that were poor that dealt with it responsibly.
Sorry... off on a tangent, as I am wont to do. In any case, WHEN fed rates go up, the window for selling at these prices goes down. Today, we live in a historically high oil and gas price environment combined with a historically low interest rate environment. Our window closes when either swing the other way, or, God forbid, both do. That's why it is a good idea to pay just as much attention to interest rates as it is the price of West Texas Intermediate or Henry Hub. I will work on a couple of examples to show you how these swings can affect sales prices for assets. Sorry for such a rambling Saturday morning blog...
Open Choke reader Tex Dinero, a hell of a great American, who said he was gonna name his next hunting dog after me, asked me where I would put 50 mil... in shallow State waters wells or Horizontal Bakken wells. What a GREAT question, and one that allows me to further explain the inner workings of the US oil and gas business.
To begin, let's describe each play. The target for State waters wells are gas sands visible on seismic data. The prospect brochures I have seen tell me that wells cost around $6 million drilled and completed, $7 mil with land, geology and geophysics, and can produce 40+ million cubic feet of gas per day, with ultimate EUR's of 40-60 BCFG. Of course, those are brochure stats. Real stats, like those available from my friends at Drillinginfo, tell a somewhat different story.
The real story... the average Texas State waters well will make between 3-4 BCFGE, and the best wells will make a little over 20 BCFGE. The average initial production is around 4 million cubic feet of gas per day.
I ran a quick ec0nomic analysis for a 3.25 BCFGE proxy well, and found that the ROI is around 2.5:1, and the IRR is around 60% using todays oil and gas prices and a $5k per month operating cost. Payout for one of these bad boys is 20 months. Not too bad.
Next, we gotta factor in the dry hole rate of around 50%. Think of it this way. You have a 1 in 2 chance of losing all of your money, and a 1 in 2 chance of getting some to a whole lotta money back. Of the 1 in 2 where you get money back, you have a 1 in 2 chance of not getting your money back, so a 3 in 4 chance of not breaking even. You have a 1 in 4 chance of making a profit. You have a 1 in 10 chance WITHIN the 1 in 4 chance of making, or a 1 in 40 chance of making 7.5 times your money. You have a 1 in 4 chance of making 2.5 times your money. If your brain spins thinking about this kinda thing, stay the hell outa the oil business!
Typical Strategy, the old style portfolio management approach, dicates that you earmark the 50 million to drilling 8 net wells (40 million dollars) that yield 4 net producing wells (8 million in completion costs) that will ultimately return 13 BCFGE (1.3 to 2.1 MMBOE) for a net return of around 80 million on your 50 million dollar investment. As we say in the usiness, Rope Soap and Dope, meaning all in. Your IRR should be around 30% in a global commodity that is less and less tied to the dollar. A pretty great hedge against Chinese threats to the almighty dollar and stock market collapse. A lot worse places to put your moolah.
The Bakken. Oil. Lets compare... First, let's create an oil to gas equivalency... BCFGEquivalent. Engineers like to create an equivalency on a heating, or BTU, basis... 6000 cubic feet per barrel of oil. 600,000 cubic feet per 100 barrels per day. 6 billion cubic feet per 1 million barrels. I am not a huge fan of this method. Since oil sells for more on a BTU basis than gas, and since we are in the business of manufacturing dollars, I like to make a dollar equivalencybetween the two. Gas is around $7 per MMCFG, and Oil is around $75 per BO. For the sake of simplicity, let's just say 10:1.
The Bakken is what's called in the industry a statistical play. It comprises a dolomite "bench" within a very rich source shale. Statistical plays mean that you drill every legal location. Unlike a more classical oil and gas deposit, where the reservoir is very discrete, and you lease a lot of unproductive land to get at the small pearl of valuable acreage, every bit of land you lease in a statistical play is drillable. In fact, the amount of hydrocarbons you can produce is linearly dependent on the amount of land you lease. Think of your land position to the size of an assembly line. A typical Bakken well produces 195k barrels of oil equivalent per well, or 1.95 BCFGE at an initial rate of 175 barrels of oil per day equivalent ( 1.75 MMCFGE). Drilling costs are around $4 million with 320 acre spacing. Lets compare to offshore Texas waters.
Bakken Offshore Texas
Drill/Complete $4 million $6 million
Land/Geol/Geoph $0.165 million $1 million
Reserves 1.75 BCFGE 3.25 BCFGE
Initial Daily Production 1.75 MMCFGE 4 MMCFGE
Raw $/MCF $2.38 $2.15
Drilling Success 95% 50%
Risk Adjusted $2.50 $4.30
So, on a well by well basis, the Bakken looks better on a Risked ROI point of view and the Offshore looks better from a risked IRR point of view. Either look good, right? About the same? This completes the easy, learn it in a schoolbook assessment. Now lets look at the REAL assessment.
The answer is that the Bakken is a far FAR better investment... if you do it right.
The reason? Instead of 2 MMBOE, you will be accessing 52 MMBOE, and your challenge will be to make it more economic, which means betting on human ingenuity instead of betting on Mother Nature. How to do it right? Here's how.
Step 1. Invest most of your money in leasehold. In this case, pick up 150 sections at $400 per acre, or $38 million... hopefully in ten year leases,
Step 2. Drill 3 wells to establish production. Not only do you establish production, but you define 12 Proven Undeveloped Locations (PUDs). While you are at it, get the best completion engineer knowledgable in the trend and pay him or her whatever they ask.
Step 3. Use your initial declining 500 barrels per day from those three wells and your leasehold position to access Mezzanine financing, which will cost you all in 18-30%. Don't worry if the financing cost exceeds the per well return. Pretend you're Enron. You will see why later. You should be able to structure it so that you are guaranteed, say $20 million, with expansion financing based on success.
Step 4. Hire two rigs to drill 2 wells per month on your PUD's. IMPORTANT- make sure you drill your furthest out PUD's first to establish even more PUD's and continue to drill your furthest out PUD's in order to create even more PUD locations. The WORST thing to do is to drill your original PUD locations. You haven't expanded your leveragable property if you do that.
Step 5. After 2-3 months, expand your program to 3 rigs per month. What you are playing here is nested time series of numbers... and your limits are your acreage position and access to rigs. I happen to know that using this scenario, it will take 63 wells to achieve the cash flow needed to have the operation sustain itself from cash flow. You are asking yourself, What the hell? 63 wells x 4 million dollars is 252 million dollars! Well, that IS all in. If you use your cash flow to offset, you will see you will need to borrow only about $130 million. Unless you are a typical oilman and borrow $15o million and upgrade your offices and get a G4 with some of that cash flow. Jets are 100% financable right now. In any rate, at this point, you have drilled 63 wells of your 300 legal locations, and you are 2.8 years into your project. Might be a good time to sell.
Step 6. You should be able to sell your deal now for between $600 million and $750 million. Your Mezzanine lender gets his $150 mil principal, leaving between $450 and $600 mil. If you signed a crappy deal with your banker, you might need to pay him another $135 to $180 mil for the equity portion of the Mezzanine, leaving you with $315 to $420 mil. That's a cool 6 to 8.5:1 return on your original 50 mil investment and well over 100% IRR in 3 years.
Alternative.- Now that you can drill from cash flow, refinance your Mezzanine to Bank finance, you have an asset of a scale to do so. Drill it all up, have a bunch of free cash flow to live the life of Riley with little exposure, and sell it to a company that is sure that it can drill it on 160 acre spacings.
Early Alternative- After your first three wells, sell 50% of your deal for $50 million and have a no risk hedged position for half the upside.
Of course, this is the perfect world scenario. The real world is a l'il different, and I will cover that in a later column.
That is the game with these land plays... and why we pay so much per acre... the opportunity to hugely leverage. The richest sons of a bi... guns know this fundamentally. While everyone laughed at John L. Cox in the 1950's for drilling his crappy little Sprayberry wells while they were drilling 25k foot Ellenberger barn burners, he quietly put half of the Midland Basin into HBP for his own account.
As ol' Jack Hightower told the Executive Oil Conference in Midland, the most important thing you can do is to cultivate close friendships with good bankers, and have a million singles lined up in front of you. The most successful oil guys I know have never hit a home run in a well or a classical prospect basis.
By the way, Tex Dinero, I hope your dawg doesn't end up a fat, lazy porch pooch with no taste for feathers like his namesake!
US Big Oil... When people think about Big Oil, they immediately think "how badly I'm getting screwed by the "ridiculous price of a gallon of gas"". After all, it's common knowledge that Big Oil sets prices arbitrarily and chooses to screw the consumer at will, right? I mean, the oil industry is the only industry to ever have its profits, which are historically lower than nearly any other industry, be named "obscene" or "windfall", and to be taxed above and beyond based on its "windfall" profits. Strangely, our politicians usually choose to tax "windfall" profits for production at the wellhead... you know, the what a producer is paid for a barrel of oil at the US wellhead. So let's look to see if that makes sense.
Today, 60% (around 13 million barrels fo oil per day) of our US oil consumption is produced overseas. That percentage AND gross barrels of overseas oil is INCREASING while domestic production and percentage is DECREASING.
The United States Geological Survey reports that the US and its waters contain over 100 billion barrels of oil equivalent of economically recoverable accumulations yet to be found by todays technology standards. This does NOT count unconventional resources. 100 billion barrels is equivalent to three Prudhoe Bay fields, or 1/3 of Saudi Arabia's proven reserves.
Foreign oil imports account for 1/3rd of our $60 billion per month trade deficit. Said another way, if we could produce the same energy here, we would slash our trade deficit by 33%.
Of the 7-8 million BOPD produced domestically, some 32% is produced by Major Integrated Oil Companies... Big Oil. The remaining 68% is produced by Independent Oil and Gas Companies, defined as "non-integrated companies that recieve nearly all of their revenues from production at the wellhead, and that have no marketing or refining component in their operations".
QUESTION 1. If the goal of a hydrocarbon tax is to generate a consistent revenue stream, which oil should be taxed preferentially? Domestic or Imported?
QUESTION 2. If the primary goal of a hydrocarbon tax is to promote energy independence and/or to weaken Big Oil's hold on politics and the economy, which oil should be taxed preferentially? Domestic or Imported?
So. Let's focus on these ever-increasing barrels of foreign oil. Where do they come from? Top 5 sources of US oil are..
Canada-1,823,000 BO/D; 3% increase over last year; 55% of Canada's production; over 100% of its excess production over internal use.
Mexico- 1,475,000 BO/D; 5% decrease over last year: 40% of Mexico's production; 88% of its excess production over internal use.
Saudi Arabia- 1,330,000 BO/D; 7% decrease over last year; 12% of Saudi's production; 15% of its excess production over internal use.
Nigeria- 1,156,000 BO/D; 14% increase over last year
Venezuela- 1,033,000 BO/D; 14% decrease over last year (hmmm. does this mean that Chaves style socialism is destroying wealth?)
Of these, only Canada and Nigeria (around 3 million of the nearly 7 million barrels produced by the top 5) today allow Major Oil Companies to drill and/or produce their hydrocarbons. The rest of these are nationalized or the production is otherwise controlled by the governments of those countries. The production mix of Canada is similar to the US... around 40% production by Big Oil, while Nigeria is close to 90%. Thus, only 1.8 million barrels of some 7 million barrels (around 26%) of the top 5 producing countries exports to the US can be attributed to Big Oil produced oil sold here in the good ol' US of A.
Question 3.- How does Big Oil control worldwide wellhead prices in light of its small percentage of worldwide production and OPEC and nationalized oil supplies?
OK, clearly any reasonable Kennedy Assasination Conspiracy Theorist would admit by now that it is unlikely that Big Oil has much of a role in setting global wellhead prices for oil. But, being conspiracy theorists, and true blue believers that the Big Oil invisible hand is still at work, we must then focus on Big Oil evilly manipulating prices at the processing/refinery level... you know, the place that crude oil is delivered to to be processed into Gasoline and assorted products. First, lets note that a barrel of oil is 42 gallons, and, on average, it "cracks" down to 19.5 gallons of gasoline.
There are 60 refining companies in the US. Let's look at the top 5. 4 of the top 5 are majors... and the top 5 control some 47% of all refining capacity. Here is the list
1. ConocoPhillips- 2,229,600 bopd capacity; 13% of US capacity
2. ExxonMobil- 2,860,000 bopd; 11% of UScapacity
3. BP- 1,475,5000 bopd; 9% of US capacity
4. Valero- 1,345,000 bopd; 8% of US capacity
5. Chevron- 1,011,901 bopd; 6% of US capacity
Wow, Pretty disturbing, huh? Big Oil controls nearly 40% of the US refining capacity. Or is it? Let's compare this to a couple of other industries... The top 4 companies in automobile manufacturing, brewing, tobacco, floor coverings, and breakfast cereal account for between 80% and 90% of those respective markets., and the top four banks in the US control 75% of all credit transactions. Then, bake in the fact that the other 60% of refining capacity is owned by 55 other companies that all in, operate 149 refineries in the US. If Big Oil is manipulating the price of gasoline at the refinery level, they are doing so in conjunction with a variety of several very difficult to control partners. This would be the greatest coup of a conspiracy of all time!
As painful as it might be, we must admit that maybe, just maybe, the possibility exists that the price of gasoline is not manipulated by these guys in smoke filled rooms. If that might be the case, then why are gas prices higher in some parts of the country than others? Let's try an analogy... 'cause you know I love a good analogy! Let's take raspberries. Why is my brother, a Californian, able to buy an entire flat ( 6 pints) of raspberries for $3.00 in June where he lives and I have to pay $5.00 for a friggin' pint in Texas? Is this a conspiracy on the part of "fat cat Big Ras" folks?
Probably not. The cause is due to a variety of factors... among these are 1) distance from the source (refinery) (berry farm), 2) number of wholesalers (berry farms) in the area, 3) number of different retailers buying from various wholesalers in an area (you know, that pesky competition thing that seems to keep prices low for people that live close to a variety of choices). Just like California is easy living for raspberry lovers, Gulf Coast is easy living for consumers of petroleum products, because the Gulf Coast accounts for 46% of all refining capacity (Texas- 27%, Louisiana- 16%, and Mississippi- 2% and Alabama- 1%) combined with lots of choices of refiners. For instance, Texas has 23 refineries operated by 16 companies that produce 27% of all gasoline... It isn't any wonder why Texas gas prices are lower by 5% or more from the rest of the country and 10% cheaper than California, right?
But, you might note, California has a lot of refineries. Well, we already know that although California has a lot of refineries, their capacity, at 12% of national capacity, is less than half of Texas'. Kind of like saying Texas has as many raspberry farms as California (which we might), except that Texas' raspberry farms are boutique mom and pop operations with a tiny fraction of the output to California's larger factory farms. So, although California has 21 refineries to Texas' 23 and 15 companies to Texas' 16, in general, like raspberry farms, the bigger the refinery, the more efficient it is. Of course, if a market has only a single refinery serving it, or, for that matter, a single raspberry source, then the market can be gamed by the refiner/farmer by "going down for unscheduled maintenance". The answer to this? Promote more refineries/farmers in an area. Instead, we have promulgated policies to keep new refineries from coming on line by grandfathering in low cost refineries, while holding new refineries to much higher standards. Our choice is to either implement a time frame to make existing refineries comply with existing laws and regulations or to provide tax credits for new refineries. Supply scarcity nearly always promotes iffy behavior.
That isn't the whole story, though. Add to this California's much stricter than federal air quality standards along with the dubious benefit of letting local California politicians design their own gas boutique formualtion standards for their communities, as if Fresno would have a significantly different need than Bakersfield. With several special blends to make, every batch o' gas cracked for the Calif0rnia market is a custom one, and saleable only in one particular community. Kinda like triple latte skim mochacino for Eureka, and frozen expresso for Sacramento. Anyone waiting in line at a Starbucks knows that this kind of customization adds time and cost to the basic product.
Face it, not even Texans are dumb enough to let politicians dictate what exact hue and size their raspberries should be, although we seem to support the Starbucks kind of customization heavily For idiocy that runs taht deep, we would probably have to visit the EU. The citizens of California benefit from this kind of moronic interference by having, arguably, 1 less ppm of crap in their air than they might have otherwise, while enjoying that dubious benefit by paying a price at the pump of over 10% more than Texas, or any other state in the country, for that matter. Yes, we Texans too could have consistent colored and sized raspberries, with each town having its own signature look, mandated by our mandate-happy elected officials if we were willing to pay 10 times the cost for a raspberry. Californians do benefit indirectly from this added expense by feeling smug about their "choice" that they have mandated on the filthy non-enlightened masses.
Question 4. Who/What should we tax to keep gas prices down at the pump?
Question 5. Who/What should we tax for energy security?
Question 6. Who/What should we tax for promulgating bad public policy?
You know, forget all this stuff I have just written. You're right, it really is just a bunch of Republican fat cats smoking stogies and figuring out how to screw you. You have to admit it is amazing how they have manipulated market forces all over the world to pull this off, though... genius, really. Considering how "stupid" republicans are... I hear how dumb republicans are all the time from my democrat friends, I am amazed at how they could manipulate gas prices while owning as small a percentage of the feedstock as possible, own far less than a controlling interest in the processing or delivery mechanisms of the product, do everything possible to alienate themselves from the citizens and politicians that depend on them, AND be forced to buy their retail product from 60 some-odd competitors, all IN PUBLIC VIEW with everyone KNOWING their diabolical plan to screw them!
Even Alex Jones would have troubling believing the audacity of this!
Or, alternatively, you can choose a more boring, mundane explanation... Big Oil has been supplanted long ago by a world oil business largely owned and controlled by oil producing state governments that use their oil as a global strategic tool to ensure good multilateral trade and defense agreements. Sure, Big Oil may be the occasional beneficiary of scraps thrown to it by the oligarchists worldwide, but it so bloated with huge bureaucracy that they cannot compete in arenas other than the tired old school ones where they cut deals with 3rd world leaders by throwing around huge amounts of cash for exclusive drilling rights and praying that their multibillion dollar investments don't get nationalized.
Anyone really watching how a tin-pot like Chavez or Putin are stuffing gimp balls into the mouths of so-called Big Oil cannot keep a straight face when watching some dumb Hollywood type expound on how scary, corporatey, Big Oil controls the world, while at the same time having such poor PR that they cannot even manage to be appreciated for selling the world's least expensive commerial liquid, along with cold beer, ribbed condoms, and tasty fried chicken all in a single swipe of the credit card!
Independent US oil producers are the Baby Seal of the oilpatch and American energy independence. Beg your local congressperson to QUIT clubbing our endangered Independent Producer Baby Seals! Do it today!
With oil a hot topic these days, I thought it might be a good idea to reprise my "REAL Oil Business" columns from 2007. The factual information that strips away the myth of US BIG OIL...
I love reading about the oil business in the press... You know, Big Oil, popularly portrayed as a monolithic behemoth run by fat American men that rule the world and screw counsumers while gleefully counting their vast supplies of money... the Clooney version... the Hollywood version... the CNN version of the world that defines what typical 'Mericans think. I have spent my entire adult life working in this industry, several years of it with Big O'l, and have never seen anything that even remotely resembles this cartoon. Except for the fat American men part, o'course.
So, truth seekers, here is the Oil Business from puny insider American Producer of American Energy point of view... be patient... this could take several posts....
The REAL BIG International Oil Business... The Big Picture... Over 70% of the world's reserves are produced by National Oil Companies... Companies with reserves and production that dwarf those of ExxonMobil or Shell, and with names you have probably never heard unless you are in the bidness... Pedevesa, Aramco, PetroBras, CNOOC, Gazprom, Yukos, Pemex....
Some of these companies are owned by countries that enjoy membership in OPEC, some by those that don't. Of course, being "National Oil Companies", ie those owned ostensibly by "the people" but controlled by the "peoples representatives"... you know... politicians and despots... profitability and sustainability aren't the rule of the day. "The people" as shareholders have a very different ethic from "the people" as "owners" of something nebulous that they cannot sell or control. Thus, the politicos use the oil companies as golden geese to provide... noble things, like class warfare that to allows the leaders to confiscate whatever other wealth still exists in a country while being lauded as a "Friend of the Poor", ala Jugo Chavez, or the more mundane efforts of the less visionary leaders, like stuffing Swiss Bank Accounts to the bursting point with the "people's" cash flow. Another popular practice is to use National Oil Companies to "Provide Employment", an especially enticing carrot to the command and control types, which, ironically, actually minimizes the value of labor.
A quick example... I was vacationing in Central Mexico last year. An old man was sweeping the street with a stick with three twigs nailed to it. I suggested to my friend, a Wharton grad and part-time resident of the picturesque village we were visiting, that a village investment in a whisk broom might provide much higher productivity.
"Oh, no, no ... " , replied my friend smilingly, "if he had a whisk brooms, then the village couldn't provide jobs for the other 8 old men it has hired to sweep streets".
"But isn't there a more productive use for them?" I asked?
"Welcome to the third world, amigo. When you have a permit process that stifles private enterprise, and endemic corruption that signficantly retards success, you get a country where people pay to become cops and villages provide toothbrushes to old men to clean the sidewalks", he replied.
Wow. Paying people to do something, anything, as an end and not the means, without any thought to productivity. This is why the Soviet Union had the dubious distinction of selling a loaf of bread for LESS than the component cost of the grain. Value destruction all along the production chain. In the words of my environmentalist brethren... this isn't "sustainable".
In any case, these third world nation-owned companies provide the bulk of the worlds hydrocarbon, and together dictate the raw commodity price of oil.
"But, but... third worlders, those "live off the land" victims of western imperialism wouldn't manipulate prices for economic gain... like, like... business men, would they?" one might ask with quivering chin.
Oil price manipulation isn't a huge secret... there is a little cartel created to do just that... its name is OPEC, and its official, publicly-stated mandate is to... manipulate world oil prices. Last I checked, NONE of the hated major oil companies were members. They were BUYERS of that oil.
Saudi Arabia, being the world's supposed swing producer, meaning it can single handedly raise or drop the price of oil by merely by turning a valve... ok, maybe 3,000 valves... is even rumored to have hedged a significant partion of its production before it tanked oil prices in the early 1990's. Ahhh... to make no-risk money in high price AND low price environments! The sweet perquisite of being the swing producer.
Why would anyone in their right mind take a futures contract position opposite Saudi Arabia? Basically, because Saudi Arabia supposedly made those contracts through hundreds of intermediaries with shadowy ownerships.
So why would Saudi Arabia LOWER the price of oil? Well, as I just pointed out, they can do so with only minor revenue repercussion to themselves. In the early 1990's, OPEC was watching its pricing power deteriorate due to significant North Sea production being brought online, and many OPEC members were cheating on their production quotas, as is their wont. Saudi, in addition to swing producer, has by far the lowest lifting costs per barrel of oil, maybe $0.25 per barrel compared to $10 per barrel or higher for the western world (this does not count FINDING costs), and once its hedges were in place, announced it would increase production by 2-4 million more barrels per day. The price dropped to $10 dollars per barrel, OPEC cheaters were chastised and financially hurt, worldwide capital projects for new oil came to a screeching halt because no one wanted to invest in money losing captial projects, the bankers of the world were reminded once again of the risk endemic to oil investment, and Saudi was banking close to the old price per barrel of oil. The world was brought to heel one again and all was well again in the kingdom of heaven.
Oh, and it wasn't a one time thing. Saudi helped spark the American economy and bring the Soviet Union to its knees by doing the same thing in 1986 at the behest of Ronald Reagan. The price? Letting the Saudies buy significant refinery capacity in the US, so it could make money upstream in low price environments.
When Matt Simmons questioned Saudi reserves and deliverability in the early naughts (00's), The Saudis responded by sending their Oil Minsister and the head af Aramco to discretely meet with oil producers, bankers, and engineers to talk up their 300 year plus reserve life. I attended one of those meetings at the Dallas Petroleum Club, all the while choosing which fat white man I was gonna dive under to provide me with a human shield if some sort of Jihadist burst in given the minimal security... "business card, please... ok, yes, you are on the list". There is huge political value in them preserving at least the illusion of swing producer status... whether they are actually still swing producers or not. I mean, how satisfying must it be to have your **** ****** on command by the Leaders of the world? OK, Figuratively. Literally, mebbe not so great. An interesting aside, the Texas Railroad Commission was the most powerful political entity on Earth until 1973 because up until then, IT was the world's Swing Producer based on its control of Texas production allowables. Remember those days? When we shut in portions of our production?
Why would Saudi let the price get higher? Well, you can't hedge forever. You want to maximize your cash flow, but you don't want to let it get so high that alternatives are given much financial traction.
So when I think "Big Oil", I think of a couple of Middle Eastern countries. Fat Brown Men, so to speak, with National Oil Companies that are not preserving the patriarchy, but, instead, act as huge piggy banks that help build huge personal fortunes safely esconced in Geneva and the like, and to fund wasteful social experiments to allow despots to stay in power THAT much longer.
What I DON'T think about is ExxonMobil, or Shell, or the like. Maybe at the turn of the Century, and maybe as late as the 1960's, but for the last 40 years, these companies have been robbed via 'nationalization", where the product of their investment and intellect was taken without compensation because armed robbery is perfectly legal once your assets are big enough.
All of this reminds me of a couple of stories, one true and the other possibly true. The possibly true story was when Lee Raymond, then CEO of Exxon, was introduced to the head of the Soviet Oil and Gas Ministry. Raymond introduced himself as CEO of the "largest oil company on Earth". His Soviet counterpart countered by introducing HIMSELF as "head of the largest oil company on Earth".
The second story, absolutely true, was the rage expressed by the Saudi oil minister at an OPEC meeting after several Western European countries instituted gasoline taxes greater than the price of the raw commodity. "Britain and France make more off of a barrel of Saudi oil than we do" he exclaimed. Given that fact, and the fact that, say, ExxonMobil pays twice as much in taxes, duties, and tarriffs than they have in profit, I would characterize Governments as BIG OIL much more than ExxonMobil. How would YOU like to get taxed or "fee'd" at 90%, then get back 40% of that as some sort of deduction or credit, and have that 40% derided as "Corporate Welfare"? If you appreciate that sorta thing, welcome to the Oil Bidness!
NEXT... BIG U.S. OIL...
I have learned a lot of facts over the last few weeks...
1. Ida Tarbell, the muckraker journalist who turned popular opinion against John D. Rockefeller, and eventually the dissolution of the Standard Oil trust, was driven in her efforts because Rockefeller had put her father, an oil refiner, out of business. Standard did so by using innovative new technology that caused refined products to fall in price to the consumer.
2. The cost of Medicare to the 40 some-odd percent of us who pay taxes is over $1.2 MM. That is, 40+ years of 100% of taxpayer income.
3. The average taxpayer pays in $100k into Medicare over his or her working life, and will use $440k in Medicare. This differential is not paid for. The Chinese are balking about paying for our healthcare, and are warning us our kids and grandkids better pay for it.
4. Polls overwhelmingly say that Americans don't want politicians to mess with their stash of Medicare. In other words, f*** the kids and grandkids. I need my "free" heroin.
If I were running for office (and most of you dear readers are hugely relieved that I am not), I would run on the plank that I would defend to the upmost American's rights to free healthcare, to the current point of bankrupting the country, enslaving future generations, making sure there is no future opportunity other than life in the grey world of totalitarian state benevolence, perhaps forcing doctors and nurses to work for no compensation as well, and wear attractive, multi color gimp balls while at it. It is an AMERICAN right, goddamit, to have free stuff! Free healthcare! And all of you would vote for me, relieved that SOMEONE understands your noble right, and is willing to fight to the political death for your free stuff. Anyone who denies you, dear reader, of free stuff you want or need, is a greedy inglorious basterd. That's what you want to hear, isn't it?
I was thinking that every American should have free oilwells. How would that work? We take a few dollars out of every paycheck, and when you are 65, you get to drill two wells. So, ten years ago, when the average was a 5000' vertical, unfracked well, the cost would be only a half million or so... about the amount of medicare we would use. With the government paying for everything, they would fix prices. Or, if they privatized it, and used insurance, the insurance companies would fix the price of a various components of drilling a well.
Thusly, since everyone will drill wells, and the government will pick up the tab, any efforts to reduce costs will go straight to the oil field service provider, because the price is fixed, to "control" costs. What a beautiful system... don't have to compete for market with cost, so all your R&D pays off as attractive profits. In this world, all sorts of innovation takes place, because the price is fixed and you don't have to compete on costs. You the sole provider? Hell, a million dollars for a screening mechanism that works on certain formations is the "Cost". It gets baked in as a fixed cost, and the result is cheaper and cheaper screens that don't cost less and less, just more profitable. Why limit ourselves to vertical wells? Lets go out horizontally 12,000'? We still have a two well limit. We can do this! Our costs are now 4 times higher than the vertical world, with no chance of going down, because there is no cost competition on services. Now, lets do 30 stage fracs! Its still two wells. Now the cost is 12 times what it was! It is a beautiful renaissance for oilfield services! No price competition at all, and every cost breakthrough goes straight to the bottom line! Plus, we have created a God Given RIGHT for Americans to drill two oil wells! We LOVE government intervention in the market place! It makes everything better, doesn't it?