Impact of OPEC+ cuts on E&Ps likely a top topic of Q1 upstream earnings calls

The impact of the surprise OPEC+ production cuts in early April that immediately boosted oil prices will likely take center stage in upstream companies' Q1 earnings calls, as they have the potential to affect capital spending, rig count and output levels.

Mergers and acquisitions may also be a target for questions analysts pose to E&P executives as Q1 calls roll out later in April and extend through early May, analysts said.

Upstream companies are likely to discuss if their plans will change in light of the recent OPEC+ cut of 1.6 million b/d that initially drove up WTI oil prices about 20% into the low $80s/b, Rene Santos, managing director for North American supply and production for S&P Global Commodity Insights, said.

"Also, natural gas activity is probably going to be a topic," Santos said, noting that during fourth-quarter 2022, several gas operators said they plan to reduce activity and keep production flat in 2023 due to low US gas prices.

"Since gas prices have continued to get lower, will they reduce activity even more?" he wondered.

Many analysts believe a few to several dozen gas rigs will be dropped from US fields. While mostly that hasn't happened – the Baker Hughes rig count on April 6 reported 158 gas-directed rigs working domestically, down from 166 in September 2022 and 160 in late January 2023 – a gas rig count drop is anticipated as current prices hover just above $2/MMBtu, down from $6-$7/MMBtu in Q4.

As for the OPEC+ cuts, Santos and a number of other analysts don't believe they will make a significant difference in US activity. Given current WTI oil prices around $80/b, larger E&P companies particularly aren't likely to deviate much from their capital spending plans set earlier in 2023.

Private operators may add rigs

"Prices will improve but operators, particularly public ones, will stick to capital discipline and not chase the higher prices," Santos said. "Private companies' geographic footprints are often in more mature basins and mainly home to vertical oil wells, which have higher breakevens," Santos said. Those companies will likely show show an uptick in activity due to improved oil prices.

Public upstream operators are less likely to change their activity plans than privately held companies – especially those backed by private equity, which "take their rig counts up and down as commodity prices go up and down," Sean Mitchell, managing partner of energy market intelligence firm Daniel Energy Partners, said.

"To see the rig count come down significantly for some of those publics, you're going to have to see prices for oil drop into the $50s per barrel and stay there for a couple of months," Mitchell said. "A blip to $65 [per barrel] won't get people dropping a bunch of rigs. They just don't react that way, and and quite frankly their shareholders don't want them to [do it]."

"This industry has changed so much in the last few years," Mitchell noted, "Reinvestment rates are 30% to 40% whereas five years ago they were like 120%. Large cash flows have given them plenty of room in their budgets so it's just a function of how they think about it."

Cost creep causes concerns

In a March research paper, consultants McKinsey & Company said oil and gas industry costs could increase 6% to 10% in 2023 due to labor uncertainties and raw materials inflation.

"Primary operational tasks, such as regular inspections and maintenance, are becoming more expensive as labor rates grow upwards of 9% per [year] and costs for steel casings and tubing also rising at 5%" per year," McKinsey said in its analysis. "This, coupled with spiraling marine and aviation logistics prices, is causing increasing operating expenditure rises."

"These issues mean supply chain security should be catapulting to the top of the CEO agenda as organizations must swiftly implement a nimble, comprehensive strategy to navigate this turbulent period," McKinsey Partner Johann Raunig said.

"Production efficiency is dropping while operating expenditure is rising, project budgets and schedule milestones are being missed, and key suppliers are struggling to provide labor and materials on time," Raunig added. "It's a vicious cycle: more work is carried out under emergency conditions, which is increasingly expensive."

M&A had also been on industry's radar screen as deal flow began to stir, even before recent merger talks that were reported to have occurred between ExxonMobil and Pioneer Natural Resources gave the subject more heft.

Waves of oil and gas sector M&A have occurred over the years, but "the difference this cycle is a cohort of upstream operators intent on squeezing every penny from both the cost structure and the rock, creating a lower risk set-up" for mergers, Evercore ISI analyst Stephen Richardson said.

"There are good reasons why M&A activity in this sector continues despite the backdrop of economic uncertainty," Richardson said. "The desire for scale is real and the opportunity to transact from a position of strength is likely fleeting."