After the COVID-19 pandemic-related lockdown in 2020 that shook the global economy and shattered oil prices to record bottoms, the upstream oil and gas industry rebounded strongly throughout 2021 with oil prices reaching record levels not seen in past six years. Upstream oil and gas performed better than expected in 2021 and future trends will rely on how the upstream producers and investors go along in 2022. We expect 10 key trends that will shape the upstream oil and gas industry in the coming years.
1. North American shale producers will show greater capital discipline
Despite high oil prices, O&G companies will show greater production and capital discipline and we expect global upstream capital spending to grow marginally in 2022. Even as WTI oil prices returned to pre-pandemic levels of just above $70 per barrel, shale producers are choosing to conserve cash rather than spend it on new production. Historically, shale companies have reinvested all their discretionary cash flow back into new capital spending and then borrowed extra to reinvest on top of that. But now this reinvestment rate, once as high as 110-130% of cash flows, has fallen sharply. A fall in drilling but uncompleted (DUC) wells inventory, flat crude oil production levels, and slow rise in rig count suggests that the industry is no longer following the traditional price and investment cycle.
2. Share of oil companies’ capital spending on renewables will increase as part of their commitments to energy transition
More and more companies have announced their net-zero goals and robust oil prices will allow them to fund their net-zero commitments going forward. High oil prices will allow producers to comfortably invest in riskier and costlier green energy solutions such as carbon capture, storage, and utilization (CCUS). Oil majors will lead the transition with a greater share of capital spending in renewables which will be followed by O&G independents, Canadian oil sand producers, and national oil companies.
3. U.S. oil production to remain ~12 MMbpd with producers maintaining production discipline even as oil prices are rising
Oil companies will continue to draw down their inventory of unfinished wells as they are limiting new drilling to satisfy investors who want to see financial discipline after the pandemic-driven oil bust. Drilling but uncompleted wells (DUCs) help operators produce oil and natural gas at a lower cost and with high decline rates per well, operators are drilling new wells by first exhausting their DUC inventory to maintain production levels before putting their money on a new well. The DUC inventory declined by ~27% in 2021 from the previous year and is expected to decline further through 2022 before the producers start to drill new wells.
4. Conventional oil production will reach pre-pandemic levels
OPEC maintained its forecast that world oil demand will grow by 5.65 million bpd in2021, after last year’s historic decline at the start of the pandemic. In 2022, OPEC expects further growth in demand of 4.15 million bpd which will push world consumption above 2019 levels. OPEC and its allies, known as OPEC+, are gradually unwinding record output cuts put in place last year. Recently, they agreed to boost monthly output by 400,000 bpd in January 2022, despite the concerns about the new variant. A new drilling program will get Russian supply growth back in line with its OPEC+ quota hikes, allowing crude production to increase by nearly 500,000 b/d by June 2022.
5. ESG, sustainability, and net-zero commitments will lead to big portfolio shifts
Investors are increasingly seeking out positions that reduce their exposure to climate change as well as the risk of stranded assets. Several oil and gas companies have already set net-zero-emissions targets. Occidental Petroleum partnered with the Canadian start-up Carbon Engineering to build a plant that will capture and bury 500,000 metric tons of CO₂ each year. Oil majors’ low-carbon investment guidance shows that BP and Equinor will invest ~35% of the total capex followed by Shell and ENI will invest ~20-25% going forward. Apart from the doubled investments in clean energy, a major difference from 2020 is that U.S. supermajors, ExxonMobil, and Chevron, have also pledged investments in low-carbon energy.
6. Business model restructuring will significantly impact oilfield service companies
Revenues and earnings of most of the oilfield service (OFS) companies have fallen sharply as most upstream companies have reacted to investor skepticism and negative market sentiments cutting their cost structure with the goal of decoupling their costs from the movement of hydrocarbon prices. With margins at the mercy of another price cycle and reduced spending, many OFS companies are crafting a new strategy for the future of energy. They have restructured their business by making big bets on cloud and edge computing, partnered with startups and institutions through development centers, and investing in low-carbon technologies as a secondary solution provider to upstream players committed to energy transition.
7. Operators will continue investments in their offshore oil & gas assets albeit at a slower pace of growth
High oil prices will allow oil majors to continue offshore oil and gas discoveries and invest in and highly productive Deepwater assets. Prospects in Brazil, Guyana, Suriname, Namibia, and South Africa will see high capital investments. By the end of 2022, 13 new projects could account for about 12% of total Gulf of Mexico crude oil production, or about 200,000 barrels per day. Another relevant discovery was made offshore Malaysia when Nangka-1 became the second successive exploration well drilled within Block SK 417. Furthermore, Norway continues to unearth small-to-medium finds, providing an opportunity to materialize these discoveries with available infrastructure.
8. Non-public shale companies will capitalize on high oil prices but may disrupt the balance going forward
After years of unwieldly supply growth, large E&Ps and oil majors have shown restraint in capital spending and production volumes but private operators’ ambitious growth plans present the industry with a wild card as prices rebound and it attempts to lift its own production and financial situation. At one point, DoublePoint Energy was running more rigs in the Permian Basin than Chevron, and meanwhile, family-owned Mewbourne Oil had about the same number of rigs as ExxonMobil. Private equity-backed companies are being driven to pump harder than ever before because of a more complicated exit strategy. We expect a lot of private operators will return in an aggressive manner to add wells and rigs because they are able to realize returns faster as oil prices are improving.
9. Gas players will make it big going forward
Global natural gas production dropped by almost 2.5% or 10 billion cubic feet per day in 2020 impacted by reduced demand due to the COVID-19 pandemic and resulting economic recession. Demand recovery in 2021 and growth in emerging markets from continued displacement of coal with natural gas drove the gas supply growth although most of it mainly came from projects already under development. Going forward, Europe, mainly led by Russia, followed by Middle East, Africa, North America, and Asia Pacific are collectively expected to grow at 7-9% through 2025. North American gas supply growth will mainly be driven by U.S. LNG exports of natural gas produced primarily from plays such as Appalachian and Permian. European gas production growth will be driven by Russia, which will benefit from projects such as the Power of Siberia and Nord Stream 2 pipelines, and the Yamal and Arctic LNG 2 plants.
10. Geopolitics are likely to play a longer role in oil markets than ever before
The steep rise in oil and gas prices was probably the most dramatic development in commodities markets in 2021. The surge in energy prices fueled high inflation worries as soaring costs badly affected businesses and consumers globally. Western countries accused Russia of limiting gas deliveries to put pressure on Europe amid tensions over the Ukraine conflict and to push through the controversial Nord Stream 2 pipeline set to ship Russian gas to Germany. Increased shale gas and shale oil production in the USA will affect global geopolitics and national security considerations. An influx of Qatari LNG into Europe and Asia, which is diverted from the USA, will erode the tremendous market share held by Gazprom and significantly reduces its pricing power. Crude oil prices also rocketed in 2021, gaining more than 50% as demand recovered and oil-producing nations led by the Organization of the Petroleum Exporting Countries (OPEC) and allies including Russia modestly boosted supplies. Powerful alliances will play a key role in determining the future trends of oil prices.
ADI Analytics will continue to monitor, track, and research the upstream oil and gas market. Please review and contact us to learn more about our research.
Utkarsh Gupta
