A Balanced Commodities Mix
by Richard Wade, Chief Operating Officer
There is an old adage, “don’t put all your eggs in one basket”. This has been true for many industries over the years and particularly and sometimes painfully so for the oil and gas industry. Over the last decade and a half, the oil and gas industry has selected an oil and natural gas production mix that best enhanced the bottom line. This chasing of profit inevitably led to an overweighting of investment and resulting production towards whichever commodity generated the best returns on the day.
The majority of junior oil and gas companies in the early 2000’s directed their investment capital towards natural gas production. At the time, gas wells were generally shallower and cheaper to develop than oil wells and with predictable, low cost-to-market revenue streams. Times were good. Then two things happened to natural gas fundamentals in late 2008 that were not easily predicted: 1) a world-wide recession and financial crisis, resulting in reduced natural gas demand and 2) the successful fracking of horizontal wells in previously untapped tight shale formations resulting in increased U.S. natural gas production year-on-year for the first time in over a decade. Natural gas prices crashed – times were not good.
Many junior companies that had natural gas weighted production profiles did not survive the natural gas price crash because they did not have an alternative to natural gas. To survive, they needed to switch rapidly to more profitable oil development and they did not have the capital (difficult to find due to the financial crisis), land position nor prospects to do so. These companies never planned ahead for the day when natural gas might not be the best investment option and so put all of their investment dollars into natural gas development. This is a mistake that should not be repeated.
For the last four years, most companies have been disinterested in natural gas holdings and rightfully so. Prevailing ultra-low prices resulting from oversupply, has made natural gas investment uneconomic - particularly in the western Canadian sedimentary basin. However, data from the U.S. Energy Information Administration (“eia” or www.eia.gov) reveals that natural gas is rapidly becoming the fuel of choice in the United States for heating and electrical generation. Recently proposed CO2 emission guidelines from the EPA could speed up this process as the U.S. moves away from coal as the base resource in electrical generation. Alternative energy sources such as nuclear are expensive and require long lead times while renewables such as wind and solar are not suitable for base load electricity – yet. That leaves natural gas as the fuel most easily available to bridge the gap to lower CO2 outputs. The transformation happening in electricity generation and the resulting increase in U.S. natural gas demand may have removed the oversupply condition of the previous four years’ and has resulted in gas prices that make gas projects economic again. This is definitely an opportunity for the future that we all need to watch.
Does this mean that Forent is going to chase aggressively after natural gas projects? No, it doesn’t mean that at all. Oil production remains the most profitable commodity in our portfolio and will continue to be the focus of the company’s current development efforts. What it does mean is that Forent’s Management will maintain a balance in the company’s oil and natural gas land holdings and future prospects that should enable the company to focus on natural gas development or oil development or both, as margins change. The company has been building its oil production portfolio over 2013 and 2014 yet has significant natural gas opportunities to develop when needed.