State navigates rough waters stirred by low oil prices
Through many decades of playing host to the oil and gas industry, Louisiana has learned to hold tight while riding the economic roller coaster that characterizes the volatile energy business. In 2015, once again, the strength of the state’s grip is being tested.
Following a fairly stable period of $100-per-barrel oil that bolstered the energy industry and generated considerable revenue for both state tax coffers and the many private-sector businesses that service the oilfields, Louisiana now grapples with the darker side of the dynamic: The price of oil in global markets declined by half during the past year.
The reversal of fortunes months ago sparked a contraction in the Louisiana businesses that supply tools, lay pipelines, manage drilling operations and provide a plethora of other services to the energy industry. Recent financial reports from some of these companies tell the tale. Covington-based Hornbeck Offshore Services, for example, announced a 40 percent plunge in profit for second-quarter 2015 as compared with its year-earlier financial results.
Serving the needs of Big Oil is the bread and butter of many Louisiana companies, and when big exploration and production companies become wary of market conditions, the service companies are among the first to get pinched. Thus, Louisiana service businesses began to feel the pain well before major oil companies acknowledged the trouble themselves.
It was only in recent weeks, for instance, that Royal Dutch Shell – long one of the dominant operators in Louisiana – announced it will reduce spending on capital projects worldwide by some $7 billion and lay off more than 6,000 workers around the globe.
Similar announcements by Shell’s peers followed. Exxon said its profits fell by more than half, producing the company’s worst quarterly results in a decade. Chevron, meanwhile, took a 90 percent hit to its bottom line. And BP slashed its spending budget for the second time in months, reeling not only from low oil prices but also from the anticipated impact of a huge financial settlement stemming from the 2010 Gulf of Mexico oil spill.
All this news has Louisiana’s budget managers scrambling for a new game plan because, despite decades of partially successful efforts to diversify the state’s economy, the oil industry continues to reign supreme. Oil and gas extraction accounts for 13 percent of state revenue and employs tens of thousands of people.
Declining oil prices helped push Louisiana’s unemployment rate to about 6.4 percent in June, a full percentage point higher than a year earlier. Meanwhile, with every $1 move in the price of oil translating to an impact of about $11 million on the state budget, analysts in the Legislative Fiscal Office are on alert.
Greg Albrecht, the state’s chief economist, says that members of the Revenue Estimating Conference used an expected average oil price of $61.70 per barrel in making revenue projections for the current fiscal year. That is more than $10 per barrel higher than oil prices were running in early August.
“We will probably revisit the estimates several times this year,” Albrecht says, predicting that the budget will take further hits.
The degree to which Louisiana will feel the pain of this round of declining oil prices depends largely on how long the downturn lasts. And as is always the case, the supply and demand factors that will determine the duration are far removed from local control.
Soaring production from United States shale fields, whose resources are being tapped through the process of fracturing shale rock, have contributed to an oversupply of oil worldwide. And the OPEC cartel, which ordinarily might impose restrictions on its member producers during times of too-cheap oil, is showing no inclination to clamp the flow this time around.
Meanwhile, demand for oil has slackened as the economies of some of the world’s biggest consuming countries have tightened. Economic growth in China, for instance, has slowed, with the result that the country is using significantly less oil than it has in recent years. Demand in a number of other normally oil-hungry countries has followed suit.
The dynamics have some energy analysts predicting that the price of oil could fall well below $40 a barrel before the end of the year – an estimate that could have serious repercussions in Louisiana.
The upside of the story, of course, is that the price of oil is sure to rise, eventually.
While the world has begun to see a need to develop alternative energy sources to address future needs, no prospect shows any sign of replacing fossil fuels anytime soon. And that explains why major oil companies – even as they retrench during the current downturn – continue to make new commitments to massive oil and gas extraction projects.
On July 1, for instance, Shell announced it will undertake construction of the largest floating drilling platform the company has ever installed in the Gulf of Mexico. The installation, dubbed Appomattox, will be located 80 miles off Louisiana’s coast in waters about seven thousand feet deep, and it could produce 175,000 barrels of oil daily when it reaches full production.
The key to Shell’s confidence in the project, even in the current business climate, is time: Appomattox won’t begin operating until at least 2020.