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Saudi Arabia's Gift to America's Shale Producers: A Supertanker and an IPO

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Saudi Arabia's Gift to America's Shale Producers: A Supertanker and an IPO

Forbes February 21, 2018
Energy & EnvironmentGeopolitics

A sign of the new world oil order: February saw the first ever supertanker fill up on American crude. Now with Saudi Arabia propping up oil prices for its IPO, we see kicking into high gear the digitalization of oil fields that will boost output everywhere, but first and fastest in America.

It’s amazing how fast we’ve come to take for granted that the United States is now a petroleum-exporting nation. The first crude exported in over 40 years left the Port of Corpus Christi for Italy on a small tanker on December 31, 2015. Exports have risen so fast that now America ships out more petroleum than nine of OPEC’s 14 member nations.

But the latest and literally really big news: This week at the Louisiana port called the LOOP, for the first time ever, a supertanker – the Saudi-owned VLCC Shaden -- was loaded with American crude and departed. Destination: China.

The LOOP, the only U.S. port able to accept a supertanker, came online in 1981 at a cost of $2 billion (inflation adjusted) in order to import oil. With the shale gusher continuing, and supertankers the cheapest way to transport oil, the LOOP’s owners sensibly reconfigured the terminal for exports. The future? The Energy Information Agency (EIA) new Annual Energy Outlook 2018 forecasts the U.S. will become a net energy exporter by 2022 (counting natural gas where the U.S. is already a net exporter).

See my Manhattan Institute paper from six years ago in which I forecast the U.S. could and would become an exporting nation, followed by another policy paper calling for the LOOP to be reconfigured for exports.

The Shaden’s voyage comes on the heels of a public spat last month between the Saudi oil minister, Al-Falih, and the International Energy Agency (IEA) over the IEA’s January 2018 report calling America’s shale growth “explosive.” Al-Falih accused the IEA of an “oversized focus” on shale, saying, “we should not be scared.” For its part, the IEA responded: “U.S. shale in the past decade is one of the biggest game changers in oil production history.”

Let me go one step further: The growth of U.S. shale hydrocarbons is the most energy that has been added to world supply in such a short time in all of history, for any kind of energy. The only event that was close was the rise in output in the 1960s from Saudi Arabia’s massive Ghawar oil field. The latter event reset the economics and geopolitics of global energy markets for a half century. The former will too.

Whether you are an investor or a policymaker, trying to sort out shale’s implications for energy markets (more on the investing part shortly) entails a kind of intellectual whiplash. We’ve lived through decades of hearing that the world and especially the United States would soon run out of oil, an ostensibly prohibitively expensive resource. That conviction has driven decades of policies and hundreds of billions of public and private investments intended to replace oil.

Meanwhile, every credible forecast sees global oil consumption inexorably rising. It’s not hard to figure out why. A doubling in the number of cars in the world will push oil demand up no matter how fast batteries get built or how successful Tesla becomes. (For more on that arithmetical reality, see my earlier column.) And a doubling in forecast global air travel will lead to aviation oil demand rising by an amount nearly as great as automobile demand. You can take to the bank that lithium won’t replace hydrocarbons to propel A380s and Boeing 787s.

Last month China, now the world’s biggest importer, set new records buying nearly 10 million foreign barrels per day. While China’s energy growth rate has slowed a little, its demand is still forecast to double over the next 15 years. Then comes India, already importing 50% as much oil as China, on track to double in just a decade.

Still, there is a school of thought that batteries and renewables will expand enough to soon cap and decrease oil demand. But even the most optimistic predictions don’t foresee peak petroleum demand for two decades. For investors and producers that means 20 years of growth. For the record, political aspirations aside, civilization needs so much more energy that the real future is one where both energy domains grow.

With the world already consuming nearly $5 billion of oil every single day, the addition of America as a new supplier is good news for consumers everywhere. The only way oil prices are moderated is when producers supply more than the market needs. The inverse, a supply shortage whether caused by financial or political crises, or by cartels turning down the spigot to manipulate markets, leads to higher prices. Which brings us to a price forecast, at least a short term one.

The second gift the Saudis are handing to America is the planned IPO of Saudi Aramco, or at least part of that behemoth (likely the refining part). For the near-term future, this IPO is the single biggest determinant for oil prices.

An IPO is the fastest way for the Saudis to generate billions of new dollars for domestic programs. Not incidentally, the bet is that the New York exchange gets the listing because a huge financial platform (NYSE is the world’s largest) is needed to handle the world’s biggest oil company, and what will be the biggest IPO in history with a guesstimated $1 to $2 trillion market value.

There is a lot of speculation about whether an IPO will happen this year or next. But it’s no secret that the Saudis want OPEC to cooperate to holdproduction down to avoid over-supplying markets in order to keep petroleum prices up. The goal is a goldilocks zone: not high enough to hurt global economies, not so low as to discourage potential investors about the IPO’s value.

The problem (for the Saudis not consumers) is that the goldilocks’ price is deep in the pay zone for U.S. shale producers. If prices creep too high, the danger is it will ignite a Mardi Gras rush into the shale fields leading to another gusher; U.S. oil (and natural gas) output have already hit new records. America’s shale producers should send a thank-you to Aramco for that planned IPO.

Aramco's IPO comes, coincidentally, at a particularly interesting pivot in energy history. It’s not just that technology has unlocked the long-known abundance of shale resources that were heretofore too expensive, but that the character of that technology is now in transformation. The future is all about a digital and artificial intelligence revolution. The effect of that will be to lower the bar for break-even costs from shale. And if OPEC tries to prop up prices with more cuts to offset additional U.S. output, shale profits will soar.

The maturation of digital technologies from sensors and the Internet of Things (IoT) to industrial-grade artificial intelligence and machine learning has occurred independently from but happily contemporaneous with shale’s rise. The implications for lower costs and more supply are as profound for hydrocarbons as they are in every other domain.

The U.S. shale industry is, for all practical purposes, a brand new and still largely undigitalized industrial ecosystem. It has risen in just one decade from near zero to about $200 billion per year in revenue. That industry’s first phase of expansion has seen a fairly conventional shake-out in the tools and techniques, supply chains, expertise, and players going from a kind of wildcatting to maturity.

Predictions of the imminent digitalization of shale began with my 2015 Shale 2.0 paper (herein a self-serving ‘victory lap’) along with similar forecasts from nearly every analyst since, including recentlyone from Bain & Company. The invasion of software into the shale industry, and every kind of oil and gas field, is no longer notional. The market has moved from prediction to action.

For evidence that the Amazonification of hydrocarbons has started look to all the burgeoning venture capital activity, and the flurry of digital programs underway with shale pioneers including the likes of leaders such as Pioneer Natural Resources, which JP Morgan just compared to Apple and Amazon, and EOG Resources. (For more on shale Amazonification, see my recent Forbes column.) But as big as the shale boom is, the majority of global production comes from oil majors, both state-owned and private. Competition to embrace digital to boost output and cut costs is in full swing there too. Consider just some of what’s in the trade press that rarely makes it into mainstream media headlines.

BP has been bragging about its new supercomputer, the most powerful in the world focused on a commercial activity. Norway’s giant Statoil signed a long-term agreement with Accenture to advance “digital transformation” including robotics and artificial intelligence. Shell, amongst others, is exploring and investing in blockchain. (Blockchain company ConsesnSys just launched an oil industry consortium to drive process efficiencies.) Notably, for the end-of-oil crowd, Shell also announced that its free cash flow in 2017 with oil around $50 was equal to the amount it generated in 2014 when oil was $100 a barrel.

The most portentous bellwether though, for both investors and planners, is visible with the activities at the “picks and shovels” players, the service companies. Here we find giant Schlumberger’s software division in Silicon Valley located just down the road from Facebook’s HQ. Halliburton, in a patent court fight redolent of the Apple-Microsoft dual of days-of-yore, is the only oil company on the list of Top 100 recipients of U.S. patents. Weatherford, which just released new physics-based machine-learning software, is also teaming up with Intel on IoT deployment. Norway’s big services player, Aker Solutions, is collaborating with a data-platform company Cognite.

And Baker Hughes, third in the triumvirate of the world’s biggest oilfield service companies, has long touted digital transformation. Baker is now a “GE company,” a merger motivated in large measure because of digital synergies. (While the trade press wasn’t so enamored with the since failed merger with Halliburton, the news around the GE integration appears more positive.) Baker recently announced a collaboration with NVIDIA, the hottest chip company in the artificial intelligence domain, to bring “deep learning” to oil and gas.

There’s more: Last year Nabors, which owns and operates one of the world's largest onshore drilling rig fleets, bought a Norwegian company (partly owned by Statoil) that developed a practical robotic drilling rig. Oceaneering introduced a real-time digital platform to enhance scheduling at oil and gas terminals (think Uber mixed with Airbnb) claiming big savings from 35% reductions in delays.

Venerable Emerson, not usually on most people’s radar for the oilfield much less software, recently added to its already huge IT capabilities by acquiring GeoFields (software for pipelines) and Paradigm (an oilfield software company), the latter a $510 million buy. Honeywell is launching a cloud-based augmented reality (AR) and virtual reality (VR) offering for the oil and gas industry built on Microsoft’s HoloLens, a technology that has gained traction in medical domains. And, curiously, Google is negotiating with Aramco to build data centers in Saudi Arabia. Maybe the latter hopes for the shine of the former on its IPO.

So back to the Saudi oil minister who, coincidentally, finds common cause with the Post Carbon Institute’s view that the EIA is being too “rosy” about the future potential of America’s shale industry. Perhaps, but Aramco’s and OPEC’s interest in seeking “reasonable” oil prices is likely to fuel precisely the kind of “animal spirits” that propels American firms and investors.

While prices are notoriously hard to forecast, there is an easy bet to make. Higher prices will stimulate more drilling as it always does, but this time it will also stimulate both virtual and physical robots. The inevitable resulting boost to output will, at some point, trigger another inevitable downturn in prices. That’s why commodities are called “cyclical.”

But this is the first time in history that the velocity of the oil cycle has real digital fuel. If the impact of the Cloud and software in other domains is any indicator, the odds are high we’re in for disruption. And the final prediction: a lot more supertankers will be loading up at the LOOP.

This piece originally appeared at Forbes.com

______________________

Mark P. Mills is a senior fellow at the Manhattan Institute and a faculty fellow at Northwestern University’s McCormick School of Engineering. In 2016, he was named “Energy Writer of the Year” by the American Energy Society. Follow him on Twitter here.

Photo by  Salah Malkawi / Stringer (2007 OPEC meeting)
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