Texas oil regulator weighs 20% production cuts against 'free market' opposition

Houston —

Texas energy regulators began debating Tuesday whether the state should impose 20% crude oil output cuts on producers to help stabilize prices amid the global coronavirus pandemic.

The issue is under consideration after OPEC+ agreed to cut production by nearly 10 million b/d, although that's still far short of at least 20 million b/d of expected global demand destruction. With Texas producing close to 5 million b/d of crude, a 20% reduction would remove roughly 1 million b/d, but opponents said the state should let the free markets work to trigger organic reductions.

Pure-play Permian Basin producers Pioneer Natural Resources and Parsley Energy led the argument in favor of requiring cutbacks during the marathon Texas Railroad Commission hearing, likening the effort to social distancing to "flatten the curve" of coronavirus cases so fewer people die and the hospitals aren't overwhelmed.

"If we do nothing, it will spike and cause chaos," said Parsley CEO Matt Gallagher. "It will really wipe out the industry in a dramatic fashion."

"And we will disappear like the coal industry," said Pioneer CEO Scott Sheffield.

Interview: Omani oil minister says OPEC+ production cut deal will not balance market

Pragmatic actions by producing countries will stabilize oil market: Saudi energy minister

Texas intervention could push NYMEX WTI prices closer to $30/b, crippling the industry temporarily but allowing it to survive. Inaction keeping crude closer to $20/b may push 80% of the shale companies into bankruptcy, Sheffield added. He said Texas stepping up would push other US states and G20 nations to take more direct action as well.

NYMEX front-month crude futures settled at $20.11/b Tuesday, down $2.30.

VOLUNTARY REDUCTIONS

However, a larger group of opponents Tuesday argued the free markets are working and Texas producers already are rapidly scaling back, including cutting capital spending by more than 30% and removing drilling rigs from the oil fields at a record pace.

"Waste is not occurring because producers already are voluntarily reduction production," said Todd Staples, Texas Oil and Gas Association president. "This is an automatic, self-regulating market process."

Marathon Oil CEO Lee Tillman implored the commission not to push Texas away from its free market history. Companies could move their production to other states and basins to avoid government interference, he said.

"Support Texas as a free market state that promotes freedom and competition," Tillman said. "The bottom line is we're already cutting and cutting deeply."

The commission hearing wasn't expected to lead to any final decisions Tuesday, and with more than 50 scheduled speakers, the meeting was expected to drag on late into the day.

Only commissioner Ryan Sitton has more publicly supported mandatory cutbacks by means of "prorationing" volumes from oil wells. The other two members of the three-person commission have emphasized their support of free markets, although they said they were open minded.

They discussed exempting smaller Texas producers from any intervention because more than 90% of the crude volumes come from the largest 100 producers.

And several smaller, private producers churning out less than 10,000 b/d argued in favor of mandatory cutbacks, saying that it would be harder for major producers to push them out of the market and that unprofitable natural resources wouldn't be wasted for now.

"If everyone had to share the pain and the percentage equally, I believe it would equal the playing field between us and the larger producers," said Jim Wilkes of Texland Petroleum.

STORAGE CONCERNS

A major factor in the debate is the concern that US commercial crude storage could fill up as soon as May, causing deeper dips in crude prices.

Major crude pipeline operator Plains All American Pipeline asked producers in late March to scale back their volumes, arguing storage space could disappear in mid-May.

"There's a wall coming and you have a chance to be proactive," Plains President Harry Pefanis said Tuesday.

Plains expects upward of 4 million b/d of US crude production to eventually come offline as storage space fills. But producers have only scaled back "a little bit" thus far, with deeper reductions expected to begin in May, Pefanis said. The US is currently producing more than 12 million b/d.

Instead, more producers would just need to export more of their cheap barrels to other markets where storage volumes might fill up more slowly, said Diamondback Energy CFO Kaes Van't Hof.

"Those barrels need to move to Asia," Van't Hof said. "I'm not going to like the price, but at least those barrels will move."

If Texas does intervene, he said, Diamondback will suspend all of its drilling and completions activity and shut in more production, costing more jobs in the process.

Pipeline operator Enterprise Products Partners argued Texas could only make a small dent in the global demand gap and that any state intervention would prove futile.

"Until these economies are back open, the healing will not begin," said Enterprise co-CEO Jim Teague. "The Texas Railroad Commission cannot solve a global pandemic issue."

The US Energy Information Administration's drilling productivity report released Monday projected oil production from shale plays would decline 183,000 b/d month on month to 8.53 million b/d in May.

THE GAS ISSUE

Any required cutbacks on crude oil also would force reductions on the production of associated natural gas and liquefied petroleum gas products.

Enterprise is a top shipper and exporter of LPGs as well.

"If you prorate, this is rich gas with a lot of LPGs," Teague said. "That's one part of our business that has remained strong."

Attendees also discussed helping to solve problems with gas flaring and venting in the Permian. The commission has never denied a flaring permit request, and more flaring has occurred in recent years as production has outpaced the construction of new natural gas pipelines.

Pioneer said the commission could consider requiring production curtailments for companies flaring more than 2% of their natural gas volumes.

"The flaring has to go down," Sheffield said. "I wish y'all would get stricter on flaring permits."

And reductions also would cut into associated gas production from the Permian that has caused an oversupply before the pandemic. The Permian is the second-largest gas-producing basin in the US, after the Appalachia region.