Challenging times

Bruce Vincent, Chairman of the Independent Petroleum Association of America (IPAA), believes that energy policy is one of the biggest risks the independent oil and gas industry faces. He says that the US has yet to see a comprehensive energy strategy focused on trying to develop our own resources and become less dependent on foreign sources. And he doesn’t foresee this changing any time soon. “This is really nothing new, but what we see happening today in the current administration is a desire to take away incentives that are in place in the tax policy arena that both mitigate risk and provides economic return for producers to drill wells in America,” explains Vincent. “They want to create further regulation, particularly in the form of an environmental legislation focused on hydraulic fracturing, which is used in probably 90 percent of the natural gas wells in America, that would at a minimum, slow down, inhibit and push up costs, but could in many places, perhaps, shut it down.”

Painting a gloomy forecast for the future of independent oil and gas producers, Vincent believes that the government appear to want to take away a producer's ability to hedge its future products, which is a way producers mitigate risk, protect cash flows and help make investment decisions. "On top of that, they want to create climate change legislation that actually favors other types of energy, in particular coal. Natural gas is clearly a big part of the energy future in America. It's certainly a big part of a clean, environmentally friendly energy future and to not recognize that in the policy doesn't make any sense."

In March, President Obama revealed his proposed 10 year budget and virtually every tax incentive and cost recovery mechanism in the tax code will potentially be taken away, explains Vincent, and examples of those include intangible drilling cost deductions. "This is something that has been in the tax code since 1913, when the tax code was first developed - it's built into the fabric of industry economics. Another good example is percentage depletion and that was actually introduced just a few years later than that in 1926. If these are taken away it would have a dramatic impact on both existing production in terms of economics and production, and in the industry's cash flow and its future investment, all of which would lead to lower domestic supplies and greater dependence on foreign sources."

Vincent also believes that the volatility of price will be big a big threat to the industry, making investment decisions and predicting future cash flows difficult. Independent have always invested 100 percent of their cash flow into the business and have recently been investing 150 percent of their cash flow, but Vincent believes that by taking away the predictability of return on investment there will ultimately be less investment. And less investment means a reduction in supplies and therefore greater dependence on foreign sources leading to higher prices.

Access to resources is another area that Vincent voices his concern over. He says that 85 percent of the coastal areas in the US are off limits to developing America's resources, and that it is the only country in the world to limit such a significant portion of resource space to development. "Many countries are actually trying to encourage companies to come in and develop their resources instead of discourage, which seems to be the policy that we have in Washington," says Vincent. "And there's a significant amount of what we refer to as the 'intermountain west of the US' that's also off limits and in order to become more energy secure and less dependent on foreign sources, clearly we need to have access to America's resources so that we can develop better supply domestically as opposed to importing it from foreign sources."

And Vincent does not see this changing any time soon. Towards the end of the prior administration Congress let the restrictions on offshore drilling lapse, which allowed the Department of Interior to begin nominating leases for the industry to bid on, providing an injection of optimism into the industry. "The new Administration has basically shut that process down and delayed it further. I do think it will ultimately change, but it will take some time. If you look at the behavior of the previous administration, you see them delaying access to those prior restricted areas at the beginning of their time in office too.

"The industry of course will continue to pursue other opportunities, but the real impact will be seen on America. It takes time to develop resources, particularly offshore resources, and if we don't ever start we'll never be able to create anything. And there have been studies to prove that if you actually get in there and get access to resources, there's a significant amount of oil that would power American homes for decades. And so if we don't ever start, the long-term negative consequences is to all Americans, not just the independents or the industry itself."

Technology

Despite a tussle over the future direction of the industry, it is certainly moving forward in one sector: technology. By reducing the per barrel cost of producing oil the industry has looked to lower the cost of finding, producing and accessing reserves. Vincent believes that contrary to popular opinion, a down cycle is often when the industry works with their service companies to develop these new technologies. "Better image and target potential reservoirs deep under the oceans or underground are being developed and continue to be refined that allow us to drill the wells better, smarter, more efficiently and at less cost. And it's a combination of those many technologies that ultimately drive down the cost of finding and producing natural gas, delivering a better product at a better price to the marketplace."

Vincent believes that there are a couple of technologies with the potential to unlock natural gas in America. For decades much natural gas has been locked in shale formations, but because of the nature of these formations didn't allow for the gas to flow well out of them and therefore were not economic to produce. Today, the combination of horizontal drilling, hydraulic fracturing and the ability to conduct several or multistage fracture stimulations with a horizontal wellbore has given the ability to capture this natural gas locked in shale formation in a very commercially viable way.

Looking at revolutionary technologies, how does Vincent hope to encourage innovation and make changes to drilling? Firstly, he believes that the government should let companies, particularly small independents, get on with their business. "Government interference slows the innovation process down, and I can appreciate people's concern over regulation and the like, but the fact is that the oil and gas industry is an incredibly entrepreneurial group of people, which has created many technological advances," explains Vincent. "They've been able to access reserves and resources in America that no-one ever thought possible. It's astonishing to me today - and I know we've been doing it for a while - that we can drill in 10,000 feet of water and then we can drill another 25,000 feet below the subsurface of the ocean and find large oil fields, develop and produce them. Technologically, if you just think about that, that's pretty remarkable and we've done that because we've a very innovative bunch and the best way to continue that is to let government let business do what it's good at."

And with anywhere from 30 to 70 of oil and 10 to 20 percent of natural gas not being recovered in field development, technology has a role to play in improving recovery rates, with shale gas a prime example. The industry has known about the resource for decades, but it is only now that shale gas is being developed. "Shale has always been thought of as a source rock, meaning that it provided hydrocarbons that actually migrated into reservoirs that you could produce out of, but it's the technology of the hydraulic fracturing, horizontal drilling and multistage fracking coming together that have allowed the industry to tap this resource base. While it was previously an unusable resource base, it may now be the key ingredient to America's energy future over the next 100 years."

Continuing to look to the future, Vincent sees energy as a key driver in economic well-being: the better the economy's doing, the more energy is used. "Having the global economic recovery continue and progress is important to the future of America's oil and gas producers," he says. "On a big picture basis the other thing that I believe impacts the industry is living in a stable a world as we can live. We always worry about significant political events that create problems with economic activity and the way we run our lives and certainly energy is a big part of that because so much of the world's oil supply is in the Middle East, which is where you find a lot of potential instability."

Obama's energy policy is yet to be unveiled in full, but there is no doubt that Vincent believes it will have one of the biggest impacts yet on the future of the oil and natural gas industry, particularly in regard to the independent producers.

'Energy In Depth'

For months, IPAA's government relations and communications teams have been working around-the-clock on a new industry-wide campaign known as 'Energy In Depth' (www.energyindepth.org) to combat new environmental regulations, especially with regard to hydraulic fracturing.

The 'Energy In Depth' project results from the realization that American production opponents are spending millions of dollars throughout the country. This project is a major initiative to respond to those attacks. It reaches into the new communications tools that are becoming the pathway of choice in national political campaigns. It connects IPAA at the federal level to state associations and member companies across the nation.