UPSTREAM NEWS

OPERATORS FAVOR KARNES COUNTY WELLS

Operators in the Eagle Ford shale are reigning in new activity as a whole, but Karnes County's new production capacity showed a net increase for gas of 18.6%, noted DrillingInfo in its October Drillinginfo Index. The index is reflective of the wells drilled in September and, notes DrillingInfo, is usually a 5-6 month forward indicator of what production might be.

Karnes County showed a smaller decrease for oil of 27.2%, while other counties, such as Dimmit, have shown a dramatic decrease in NPC for both oil and gas of above 70%.

"This shows that operators strongly favor the wells in Karnes County, at the expense of other Eagle Ford shale counties," DrillingInfo commented.

WOODMAC: NEAR-TERM FINANCIAL RISKS FOR US INDEPENDENTS EXAGGERATED

The high-growth business models of the US Independents are being tested by low oil prices and tougher access to capital. Two recent Wood Mackenzie reports conclude that concerns surrounding October reserves-based-lending (RBL) redeterminations have been exaggerated. One report, in examining the financial health of the top 26 US Independents, concludes that the larger producers - which, along with the Majors, account for the majority of upstream investment and production - have the required flexibility to tide them through the near term at the very least.

"Most companies in the peer group have rising absolute debt levels, and October's RBL redeterminations have been latched onto as a potential catalyst for sector implosion. But at least two thirds of Lower 48 production is attributable to companies with no RBL exposure at all, or have no redeterminations until 2016," noted Fraser McKay, Corporate Analysis Research Director for Wood Mackenzie.

Of those larger producers with near-term debt redeterminations, Wood Mackenzie estimates most can accommodate a borrowing-base cut of over 50% before their situation becomes imminently critical. "We anticipate discomfort in the coming months and expect some more companies will inevitably fail, which is clearly a catastrophic event for lenders and equity holders. However, most of these companies will be small, with pre-existing structural portfolio issues. Even in the worst case scenario, the assets of these companies will be salvaged through restructuring or assets sales; creditors will keep wells producing as long as possible. The strategic actions and cash flow neutrality goals of the largest producers in the sector will have a far greater impact on capital spend and therefore supply,"McKay continued.

Concerns regarding the roll-off of hedging protection are warranted. For the top-26 Independents, cash flow from hedging will fall from US$9.1 billion in 2015 to US$2.2 billion in 2016, by WoodMac estimates. "The most financially-stretched operators may be forced to enter into unattractive hedges, just to guarantee debt repayment and satisfy lender conditions" McKay noted.

In a separate analysis, Wood Mackenzie looked at the upcoming borrowing base redeterminations for 17 high yield operators, concluding that far fewer companies will struggle with liquidity after the October borrowing base redeterminations than speculated.

"The upshot is that nearly all operators we looked at have sufficient liquidity to absorb the anticipated decline in their borrowing base this October. That said, as we look forward the next twelve months, closer to one third of these companies will need to adjust their activity levels, capital structure or make asset sales, this assuming no change in the price deck applied by lenders. The handful of high yield operators without the required liquidity to make it through the next twelve months account for an insignificant amount of production," noted Thomas Rinaldi, Institutional Investor Service Director at WoodMac.

"Although development drilling consumes cash, few consider the added liquidity provided by the resulting added production. Banks basically lend on the net present value of production so even if development well breakevens are below the bank price deck, the capex is partially offset by a larger base from which to borrow. When we take that added production and the related increase to the borrowing base into consideration, the time to liquidity crisis for many becomes much more manageable for most," said Rinaldi.

TEXAS CRUDE OUTPUT UP, PETRO INDEX SLIDE CONTINUES

Crude oil production in the state of Texas continues to post numbers that are higher than they were one year ago, said the Texas Alliance of Energy Producers. In an early October note, the alliance estimated Texas crude oil production for the month of August to be roughly 12.3% higher than in August 2014, noting that production is on track to "break the annual production record set more than 40 years ago."

The Texas Petro Index reflected the ongoing contraction of the upstream oil and gas economy in Texas, falling by 10.7 points from 246.1 in July to 235.4 in August, which was 24.3% less than in August 2014 and about 25% less than the peak index value of 313.0 achieved in October 2014.

"The Texas Petro Index is designed to filter out day-to-day fluctuations and chronicle substantive upstream oil and gas economic trends in Texas, notably industry expansion and contraction," said Karr Ingham, the economist who created the TPI and updates it monthly. "Through August, the TPI leaves little doubt that the contraction remains firmly in place, and that the change from contraction to expansion is not yet in sight."

Ingham said even though the rate of production growth is slowing with each passing month, analysts have continued revising estimates of monthly oil production upward, both in Texas and across the US.

"The Energy Information Administration has revised its production-estimation methodology and now says Texas production likely peaked in April," Ingham said. "That may be right, but either way Texas production is still significantly higher this year compared to last, and that's not likely going to change by year-end."

Crude oil production in Texas totaled an estimated 110.5 million barrels, about 12.1 million barrels more than in August 2014. With crude oil prices averaging $39.67/bbl, the value of Texas-produced crude oil totaled more than $4.38 billion, 51.9% less than in August 2014.

Estimated Texas natural gas output was about 755.2 billion cubic feet, a year-over-year monthly increase of 1.8%. With natural gas prices in August averaging $2.74/Mcf, the value of Texas-produced gas decreased 28.2% to about $2.07 billion.

The Baker Hughes count of active drilling rigs in Texas averaged 385, compared to 900 in August 2014. Drilling activity in Texas peaked in September 2008 at a monthly average of 946 rigs before falling to a trough of 329 in June 2009. In the most recent economic expansion, which began in December 2009, the statewide average monthly rig count peaked at 932 in May and June 2012.

US CRUDE OIL PRODUCTION

Total US crude production increased to 9.4 MMb/d in July, up 94,000 b/d month over month, but nonetheless a decrease from the April peak of 9.6 million b/d, noted Roth Capital Advisors in an email following the most recent EIA data release. Onshore production of 7.31 million b/d fell by 55,000 b/d month/month, representing the fourth consecutive monthly decline from the March peak of 7.59 million b/d, detailed Roth senior research analyst John White.

"Offsetting the decline in onshore production was a large month/month increase in production in the GoM, up 147,000 b/d month/month. A combination of the gradual start-up of the 100,000 b/d Delta House field and the return from June maintenance of the 94,000 b/d Jack/St. Malo 1 field resulted in this increase in July. This represents the highest level of production in the GoM since March 2010 (pre-Macondo)," he continued.

Overall, he noted, "this report is mixed for crude oil prices: Positive in that onshore oil production continues to decline, for the fourth consecutive month, and neutral in that total US production increased, month over month. The onshore crude oil production is, in our opinion, the figure most focused on by investors."

FREEPORT-MCMORAN RESTRUCTURES BOARD, REVIEWS ALTERNATIVES FOR O&G BUSINESS

Freeport-McMoRan Inc. has reduced the size of its board, and is undertaking a review of strategic alternatives for its oil and gas business, following discussions with many of its largest shareholders.

In October, the company said it had entered into an agreement with investor Carl C. Icahn and his affiliates. As part of the agreeement, Andrew Langham and Courtney Mather were appointed to the board. The FCX board, formerly comprising 16 directors, now has 11 members - nine independent directors, and two executive directors. The company will no longer have an Office of the Chairman management structure.

Langham has been general counsel of Icahn Enterprises LP since January. Mather has served as a managing director of Icahn Capital LP since April 2014. Icahn, together with his affiliates, beneficially owns approximately 100 million shares of FCX common stock, which represents 8.8% of FCX's outstanding shares.

FCX is also reviewing its oil and gas business (FM O&G) to evaluate alternative courses of action designed to enhance value to FCX shareholders and achieve self-funding of the oil and gas business from its cash flows and resources. The previously announced potential public offering of a minority interest in FCX's oil and gas business remains an alternative for future consideration.

Other alternatives under consideration include a spinoff of FCX's oil and gas business to its shareholders, joint venture arrangements, and further spending reductions. In preparation of a possible separation of the oil and gas business, five directors have left the FCX board and have been appointed to the FM O&G board. Two directors have retired from the FCX board.

FCX's strategy will focus on its global position in the copper industry.

FCX's portfolio of oil and gas assets includes US oil and natural gas assets in the deepwater Gulf of Mexico, onshore and offshore California, in the Haynesville, and onshore Louisiana.

CANADIAN UPSTREAM M&A REBOUNDS

The Canadian upstrem oil and gas sector saw a significant uptick during the month of September, noted CanOils in a recent report. The analysts found that Cdn$563 million in upstream M&A deals were announced during the month. The numbers mark "a steep improvement on the approximate Cdn$59 million of deals that were witnessed during August 2015, the lowest monthly total in at least the past 8 years, as the double dip in oil price experienced that month, allied with an already deflated gas price, led to a tentative industry," CanOils noted.

API: OIL, NATURAL GAS DRILLING DOWN IN THIRD QUARTER 2015

Estimated total US oil and natural gas well completions decreased by 44% in the third quarter of 2015 compared to year-ago levels, according to a late October report by the American Petroleum Institute. Estimated development oil well completions in 2015 third quarter decreased 45% compared to year-ago levels. Estimated development gas completions decreased 39%. Exploratory well completions for oil and natural gas were also down, and total well completions were down 44%.