Some Thoughts on Contraction in the Fossil Fuel Industries

Some Thoughts on Contraction in the Fossil Fuel Industries

As our energy systems decarbonize and fossil fuel extraction continues to improve efficiencies, the necessities of contraction are becoming more apparent. The coal industry is being gradually paired down and phased out due to reduced overseas demand, emissions, supply, cheap gas, and technology. CCS technology will save bits and pieces but it will continue to contract. Oil & gas are currently contracting mainly due to oversupply/overproduction. The Saudi game plan to recover lost market share worked in some ways (they are selling more oil) but failed in others (the price is horrible). When oil and gas recovers, the level of activity of unconventionals in the U.S will likely not be anywhere near that of the past boom, although gas especially is expected to continue to replace coal and capture more market share in transportation and industry. The boom was brought on initially by a shortage of supply, exploration uncertainty, and high prices. The high prices allowed producers to experiment with new techniques like horizontal drilling and high volume hydraulic fracturing. The supply issue is reversed into oversupply. With unconventionals there is no exploration uncertainty – the reserves are there to be produced. Prices will rise eventually, but probably only modestly as supply is easier to access quickly. 

Contraction in the Coal Industry

There are five basic reasons for contraction of the coal industry: power plant emissions regulations, low-cost natural gas, decreased exports (brought on by the first two reasons), technology improvements, and depletion of the highest quality supply. There is also contraction in employment in terms of less workers needed due to technological enhancements that require less workers to extract more coal. Less workers are also required to operate gas power plants than are required to operate coal plants. Other environmental regulations such as power plant coal ash management, decreasing limits of pollutants, and clean water rules also make it more expensive to extract coal. Carbon capture and storage will help some coal plants to continue but it seems likely the power production share of coal will continue to contract significantly. The biggest current issue for metallurgical coal (met coal) is the decreasing demand from China due to less demand for steel, the main use for met coal. That demand is not likely to increase to its past glory as China’s economy slows its growth from its mammoth growth of the past 15 years. 

Finding other uses for coal offers a bit of hope. New methods of separating Rare Earth Elements from low-grade coal, coal shale, and coal ash are being developed. This might also weaken the Chinese monopoly on REEs. Cell-phone batteries, wind turbine parts, computer parts, electric vehicle parts, magnets, and chemical catalysts are among the uses for REEs. The race is underway to extract these elements with minimal energy use and at low cost. Another potential use for coal that has generated much interest and investment is carbon composite materials which are durable and lightweight. Products are being developed in the aerospace, airline, building composites, wind, and solar industries, among others. Carbon-graphite fibers and foams are versions of these new lightweight carbon composite materials. The future looks promising as coal conversion technologies continue to get cheaper. Some of these can also be produced from petroleum so the coal price vs. the oil price could be an issue. Carbon graphene nano-tubes are another version. These products can have many potential uses and can replace wood and plastic with their longevity and durability far exceeding that of similar wood and plastic products. They can be mixed with plastic and cements as well. Their strength far exceeds any other known construction material. Commercialization of graphene materials is an area of intense current research and is likely to yield some pretty interesting results. If so, then eventually much of our mined coal won’t have to be burned as the energy mix moves away from coal. Coal replacing wood can also have the effect of reducing deforestation. It can also replace metals and plastics in many applications. There are even new uses for coal ash, or fly ash, being developed. One is a fire resistant composite material called Eco-Core which is 95% coal ash and 5% resins. It has applications in thermal insulation. It also has a massive compressive strength. These new benign uses for coal should be able to replace some of the necessary contraction in the industry as we move to decarbonize our atmosphere. 

While there have been attempts to re-purpose reclaimed mountaintop removal sites for other uses such as business hubs (the new flat hill tops can be easy to build on) these schemes are thought to be limited overall. Mingo County, West Virginia built an airport on an abandoned mine site. Other ideas have included hemp farming, planting native trees like chestnut, the Hatfield-McCoy trail system, and even golf courses. Presidential candidates have indicated that they will appropriate money for miners who have lost their jobs and those that will lose them as coal continues to lose market share to gas and renewables. However, such re-employment schemes have not been very successful in the past. More than likely the coal producing areas will continue to de-populate as people move to cities to find work.

 

Contraction in the Oil Industry

Contraction in the oil industry, particularly in the U.S., even after it recovers will be due to several factors: loss of market share to lower cost OPEC producers, consolidation due to bankruptcies, M & A activity, less available capital as risk aversion becomes more common, risk of stranded assets, decreased demand growth due to efficiency improvements and better fuel standards, loss of some market share to lighter hydrocarbons like CNG and LNG for transport fuel, loss of some market share due to more electric vehicles, and in general a slightly more readily accessible supply due to onshore unconventionals, which can ramp up quickly compared to offshore and deepwater projects and those in remote areas. Due to increasing efficiencies in unconventionals, less wells are required to produce more hydrocarbons. This affects both oil and gas in terms of deployment of rigs, day rates, field workers, and generally decreases the amount of people and time required to extract equivalent amounts of hydrocarbons as previously done. EIA categorizes these efficiency and production improvements in their charts on ‘production per rig.’ Production per rig has improved substantially over the last few years. All of these improvements have kept companies producing with lower prices which has exacerbated the glut. During the initial shale boom there was a big increase in hiring and more people entered the field. Now with activity rates more than two-thirds less than they were at the peak of the boom there are many field people laid off – some more or less permanently. Among those oriented more to field operations the newer hires and people who started their careers during the boom may be at an advantage to those of us who entered the boom mid-career in that they don’t have decades invested in a newly contracting industry. Oil prices will inevitably rise again but probably not to the high level of the boom years. Obama’s proposed $10 per barrel oil tax, though extremely unlikely to be enacted, did not come at a good time for the industry and thus is eliciting quite a few snide comments perhaps well-deserved, although there have been calls for a tax on imported oil, particularly for oil that is not produced in accordance with our own environmental standards, which theoretically Obama should favor. Refineries are mostly set up to process heavy oil, ie. imported oil, although some have changed over, increasing refining capacity of our domestic light oil. Some is apparently being exported to Venezuela to mix with their super heavy oil there to make it more refinery-ready. The lifting of the oil export ban helps to some extent to increase market share for our light oil, although it came at a time when oil prices went from low to lower. Now the Brent to WTI differential is slightly less than it was and the gap is likely to close further as more oil is exported. Increased exports of NGLs (ethane, propane, butane, etc.) are set to occur this year which may offer some relief. NGL prices are more tied to global oil prices than natural gas but there are some local markets for NGLs in the Gulf Coast and plans for ethane crackers, fractionation plants, and an alkylate plant (that processes butane into a gasoline additive) in the northeast that should eventual make it a small NGL hub. There have also been calls to develop underground storage fields for ethane and propane.

In terms of employment there is currently an excess of technical people but some are migrating away. When the oil and gas recovery occurs there should be more of an ideal amount of qualified people especially as expected retirements increase as part of the so-called “great crew change” where there was a shortage of people aged 35-55 in the industry due to past downturns. Preparing for the retirement of the people with the knowledge has led to ideas of the need for “knowledge management.” However, it seems to me that so much has changed in the industry since the advent of unconventional reservoir characterization, 3D seismic, horizontal drilling, high volume hydraulic fracturing, geosteering, microseismic, water management, green completions, leak and spill management, and other new regulations, that these “new” technologies and requirements have come to dominate the industry so that the emphasis on previous focuses is less than it was before. Thus I think the transfer of older knowledge, though no less important, has become more manageable. On the other hand, talent is important for an industry that has long relied on innovation to succeed.

Contraction in the Natural Gas Industry

The natural gas industry is less tied to the global oil and NGL prices and more national with local hubs. Most growth, nearly 90%, and near-future growth potential is in the northeast, particularly the Appalachian Basin giants, Marcellus and Utica shales. Contraction in the natural gas industry has been due strictly to oversupply and a regional glut in the northeast. In both oil and natural gas, overproduction was exacerbated by companies gathering large and expensive land positions (the land grab) and getting locked into lease requirements which compelled them to drill within certain time frames. This is still true to some extent but has lessened as newer agreements have been made. Some larger companies also made pipeline commitments to provide gas volumes in exchange for firm capacity and favorable hedges. However, as low gas prices have lingered some of those hedges have been expiring. The same is true for oil. Bankruptcies and restructurings, layoffs, and cost-cutting have become the norm for the industry. The discovery of prolific dry gas wells in the Utica and production improvements in the Marcellus have helped to keep production high enough to keep the glut going. Natural gas is still fairly localized in the northeast even with new takeaway capacity coming on line. In that respect local prices are still dependent on winter weather to some extent. As takeaway capacity increases, the effects of the drop of two thirds of rigs drilling become apparent, and LNG exports come online, the negative basis differential will decrease and that is beginning to happen at the moment. Lower than expected storage drawdown and still high production may slow the process. The recovery will likely be modest and gradual with some spurts but more caution overall. Even with the drop in rigs drilling, the production has been slow to drop. As prices rise there are still wells drilled that have not been completed, some shut-in gas, and several companies that are poised to ramp up quickly in the core areas so that responses to better pricing will likely be swift. 2015 was a year of small drilling programs and 2016 will be as well. 2017 is projected to be when things will begin to change for the better industry-wide. Since gas is more local and regional than global it is more sensitive to supply and demand spiking. With the reserve certainty of shale the future response to upward prices is likely to be competitive with those companies in core areas with pipeline capacity set to bully for local market share. Finding a supply-demand balance between all the players might be interesting. A good exercise I think would be to keep count of wells drilled-not-producing, currently shut-in production, permits, and rig counts in order to predict production ahead in order to optimally strategize. Once pipeline bottlenecks are relieved somewhat it should not be difficult to keep the gas flowing and when LNG exports ramp up a nice balance could occur. Until then it is still likely to be a bumpy ride with some ups and downs. Another issue is the current small profit margin of LNG due to global gas prices and reduced global demand. There are also predictions that Russia will attempt a price war to keep market share, although that is likely to fail as European countries would probably favor energy security over dependence on Russia, even if it costs a little more.

  

Oil & Gas Employment Issues and Supply-Demand Imbalance

One situation that is occurring in the oil & gas industry, especially among those who provide services and consulting, is that of underemployment, where there is some work, but not enough. It is typically not part-time, but full-time only in pieces and spurts. That is what I have experienced over the last few years. This is in combination with delays and waiting for price improvements that have also been delayed. There is some drilling to make pipeline commitments but much is likely due to the need to hold leases. Many wells drilled have yet to be fracked. This creates a backlog of wells that can be completed and put on-line quickly, which can keep up the oversupply situation. The reality is that in the past five years as new areas and core areas were being delineated and proven up and equity was flowing, that gas and oil have been oversupplied for quite a while. The corporate brag of organic growth, of ‘growing through the drill bit’ is one thing that helped lead to the supply-demand imbalance. Over-drilling in times of low prices might be considered fiscally irresponsible but there is a tendency to look ahead three to six months to when that “pad” will be fracked (as “zipper fracks” of several wells on a pad typically take place simultaneously) and try to predict prices then when the wells will come on line. Looking at a graph of the North American rig counts one can see that there were too many running as the shale boom continued to increase rigs just before OPEC decided to increase output. It seems that an oversupply situation, though maybe less severe, was bound to occur even without OPEC. Producers around the world found it hard, and some nearly impossible if they rely on that revenue for basic government services, to cut back. Now many around the world are producing at a loss. In addition, there are demand issues due to some economic contraction, especially in China. Demand for coal, oil, gas, LNG, and NGLs are all down from previous expectations. The hope for oil is for OPEC cuts and non-OPEC cuts in cooperation. The hope for North American gas in the northeast is for further relief from pipeline bottlenecks in the northeast but especially for ramp-up of LNG exports. Increase gas usage in power burn is important as well as increased industrial usage. Demand for gas and NGLs as feedstock for fertilizer and chemical plants will also likely increase in years to come. Adding more residential natural gas and CNG or LNG transportation is increasing demand a small amount, but that is insignificant at present compared to the demand potential of LNG exporting. 2017 should be a modest recovery year for both gas and oil. 2016 is expected to continue to see contraction in the industries with the likelihood of a long flat bottom before things begin to rise. In the northeast it looks like gas production is peaking, rig counts are at bottom, takeaway capacity is increasing, but demand has been modest and the market still faces considerable uncertainties due to winter heating demand. Energy efficiency, although a desirable goal, has also reduced demand somewhat.  

          

References: 

Innovative New Uses for Coal Offer a World of Possibilities – by Rick Lucas, posted on website of Robert C. Byrd Institute for Advanced Flexible Manufacturing, Spring 2010

Coal Doesn’t Have to Die – We Can Make Furniture Out of It – by James Conca, in Forbes (Energy), July 14, 2013

New Use for Coal Ash – University of North Carolina TV (Science)

New Use for Coal? Battelle Finding New Ways to Extract Rare Minerals – by Tom Knox, in Columbus Business First, posted Jan. 21, 2016

Extracting Rare Earth Elements from Coal Could Soon Be Economical in U.S. – by Liam Jackson, in Penn State News, Feb. 9, 2016

Industry Experts See Tide Turning Worse Near-Term for Appalachia Operators – by Jason Cocklin, in NGI Shale Daily, Jan 27, 2016

The Big Crew Change: Knowledge Loss or Management of Change – by Robert Mathes, in Oil Pro, Feb. 12, 2016

Energy Information Administration (EIA) – various graphs and tables

Coal Wars: The Future of Energy and the Fate of the Planet – by Richard Martin (Palgrave Macmillan , 2015)

The U.S. Coal Industry is Falling Apart. Here’s the Surprising Reason Why – by David Roberts, posted at Vox.com, Feb. 22, 2016

The Domino Effect: How the Shale Revolution is Transforming Energy Markets, Industries, and Economies – by E. Russel Braziel (2016)