Tuesday, February 24, 2015

Summing up the ‘crude’ mood in Houston

The Oilholic finds the mood in Houston to be rather dark on his latest visit, and the weather here seems to be reflecting it. Oil price remains shaky, local refineries are battling strikes and shutdowns.

Meanwhile, as expected the Obama Administration has vetoed the Keystone XL pipeline project as the farcically prolonged tussle about an extension that’s meant to bring Canadian crude to Texan refineries continues.

Unsurprisingly, Texas is mirroring the globally evident trend of oil and gas sector job cuts, and costs of redundancies are more visible in an oil hub like Houston.

However, local commentators say the city (and by extension the state) has seen slumps in the global oil markets before, will see it again and remains capable enough to weather this latest one.

Dr Vincent Kaminski, an industry veteran and prominent academic at Rice University, says there’s no panic in the ranks even if the euphoria of a $100 per barrel price has long gone. “The word ‘caution’ is being branded about. No one can predict how long this period of lower oil prices is going to last. There is consensus that the price will bounce back, though not to the highs of 2013-14 unless there is a geopolitical development of a magnitude that would neutralise the impact of oversupply. Right now, there isn’t an obvious one.”

Kaminski feels what’s critical here is the management of this period of depressed prices, especially on the human capital front. Anecdotal evidence and published data suggests companies that are firing are not hiring with the same pace for the moment.

Deborah Byers, Managing Partner of global advisory firm EY’s Houston Office, says managing human resources is critical in the current climate. “My fear is that not everybody will get it right. Letting people go in a tough climate is a reactionary move; re-hiring talent when the market bounces back isn’t. A lot people in Houston have reacted very quickly. I agree that the supply glut has infused a bit of disciple in the sector, but it’s a nuanced situation to 2008-09.

“What we are seeing is a profound structural change leading to a transition towards a different type of market. In wake of the global financial crisis, we had a lack of demand scenario; what’s afoot now is a story of oversupply. That said, over the long-term the current situation would turn out to be a good story.”

Louis J. Davis, Chair of international law firm Baker & McKenzie’s North America Oil & Gas Practice, says the speed of the oil price decline caught many in Houston by surprise. “Some clients foresaw it, but not with the speed with which the decline hit home. Companies in the exploration and production (E&P) business are going to hold back on activity, lay down rigs and wait for a level of stability in the global markets. That’s unless they have existing well commitments.

“Nobody wants to drill uneconomic wells; including those who are hedged. It’s about keeping reserves up; and hedges are going to periodically roll-off within a 3 to 12 month window. By then, if a broader recovery, or at least a level of stability within a price bracket that's considered viable, is not achieved you'll find a lot of worried people.”

Furthermore, as Davis points out, even for those who are neatly hedged, their borrowing base is going to drop because they are not going to replenish their reserves by drilling additional wells. The Baker & McKenzie veteran says quite a few of his clients are in fine fettle but cautious.

“Many see opportunities when the market goes through a cyclical correction, and that hasn’t changed. There is a lot of money out there to buy promising assets at better prices. That said, interaction with people I’ve known for 40 years, as well as anecdotal evidence from a recent NAPE expo suggests the M&A deal flow is very slow right now. 

“Some deals that have been signed up are not closing, and no one is in a rush to close. Some are even taking the pain of letting their holding deposit slip. Yet, I’d say the present situation is troubling, but not an unseen one for Houston. We've been here before.”

Kaminski, Byers and Davis are united in their opinion that Houston’s economy is way more diversified than it was in the 1980s. As Kaminski points out – the city’s thriving Medical Center, adjacent to Rice University, employs more people than back office and ancillary staff at oil and gas companies.

Services, higher education, real estate and technology sectors are other major contributors to metropolitan and regional growth. There is evidence that the real estate market is slowing down in wake of oil and gas sector downturn. However, this is also not uniform across the greater Houston area; there are discrepancies from area to area.

Finally, Byers says corporate leaders within the sector always pause and reflect at such junctures. “For me personally, this is my fourth cyclical downturn – 1986, 1999, 2008-09 and now 2014-15. Couple of CEOs I’ve known and worked with for decades, say we’ve seen this before and we know what levers to pull. The question is how long will the duration of the downturn be and how long do we need to pull those levers before we switch back to an offensive mode.”

That’s a billion dollar question indeed; one that's guaranteed to be asked several times over the course of this year. That’s all for from Houston folks. Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2015. Photos: Glimpses of downtown Houston, Texas, USA © Gaurav Sharma, 2015

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