Neal Dingmann sounds off to OGFJ

However, there are other factors as well. There has been a little bit of an easement of demand in some of the emerging markets such as China. Also, the US dollar started to strengthen at about the same time, which makes it tougher for others to come in and buy oil. Production increases from US unconventional no doubt played a part. So it was a combination of all these factors, but the main factor that caused the slide was the OPEC decision.

OGFJ: So why did the Saudis suddenly become concerned about preserving market share?

DINGMANN: I believe they took a look at what was happening with US production from shale and other unconventional plays, and they recognized that US unconventional is likely here to stay. Then they had to decide what to do to compete against that. Their answer was to no longer be the swing producer, but to retain market share at whatever the cost.

OGFJ: In the past, oil markets seemed to have a kneejerk reaction at the first sign of a geopolitical crisis, especially if it involved an oil-producing part of the world. That doesn't seem to be happening today. The Middle East is full of potential flash points with ongoing conflicts in Syria, Iraq, Libya, Yemen, etc. Saudi Arabia is battling what the government says are Iranian-backed Houthi rebels in Yemen, which has the potential of growing into a larger conflict between Iran and the Saudis. Since the Middle East is a huge oil exporter, why aren't these violent conflicts causing more concern in oil markets?

DINGMANN: I think it's the supply cushion that's out there. We haven't always had that. In the past, we looked at OPEC's capacity and what they were actually producing. Now we have to look at OPEC capacity and non-OPEC capacity and what they are actually producing. Saudi Arabia has the biggest cushion of anybody. They are capable of producing maybe an additional two or three million barrels. But if Libya, Iraq, or Iran come back on and reach their full potential, that is a significant amount to add to the cushion. Add Russia and the US to the equation, and you might have a 10 million barrel cushion. That baseline cushion is obviously much larger than it was in the past.

OGFJ: Will this cushion keep prices down for the foreseeable future?

DINGMANN: I don't think we'll see the traditional V-shaped recovery or even a W-shaped recovery. Not only is the storage there, but advances in technology will enable producers to find and extract oil at much cheaper prices. As a result, the breakeven price for oil has gone down a little and may continue to drop. Although the days of $100 oil may be gone, there's still a good chance we'll get back to good oil prices - the $60s or even the $70s - sooner rather than later, but not in the shape of that V-shaped recovery. The cushions that have been built up help prevent these sudden price spikes resulting from a geopolitical crisis, such as you mentioned, or a major pipeline spill.

OGFJ: One of your competitors - I won't mention their name - recently called the current oil price gains a "junk rally." Do you agree? Do you think the oil price gains and energy company stock gains will fall again and stay lower for longer, as they suggest?

DINGMANN: Well, as I said, I don't think the recovery is going to be V-shaped. However, I do think there is going to be a recovery. What's the biggest driver of low prices? It's low prices. So I'm not inclined to say take all the risks you want and go with this junk trade or high beta trade because I do think they're going to be under a bit of pressure. But I am willing to take a bit of a risk and go with some of the smaller companies that have an average-type balance sheet.

OGFJ: In your view, will the current down cycle have a long-term adverse effect on shale development?

DINGMANN: I think the current market conditions will make us take a closer look at the decline rates in these wells. That's something we don't know much about right now - how well they hold up over several years. We need to look at older liquids-rich plays like the Eagle Ford. We know how the wells perform in various parts of the play as you move from southwest to northeast, but we don't know how they perform in year two, year three, year four, and so on. A lot of the EUR estimates are based on 20- and 30-year type curves. You have the typical hyperbolic decline, say around 60% or 70%, after the first nine months. Our models run about a 30% decline in the next several years thereafter. Others say 15% after the initial hyperbolic decline. But we really don't have long-term information about these wells. Once we get the answer to that question, we'll know more about what the future has in store for shale development. Beyond year five, there is a vast disparity of opinion about how these wells will perform long-term.

OGFJ: How about offshore development, particularly in the Gulf of Mexico? Can we expect GoM development to continue regardless of commodity prices?

DINGMANN: There are only a handful of smaller independents left in the Gulf, but I think there will continue to be opportunities for the most efficient smaller companies to pick up pieces that might be too small for the majors offshore. There will be plays, especially in the deepwater, that are going to be very economic. But the other side of that coin, what makes it much more difficult today is that you're seeing gas wells coming on line in the Marcellus and Utica that are producing 30 million, 40 million, even 50 million cubic feet a day. Five years ago, I would have been ecstatic to hear that you had a deep GoM well coming on line with that volume.

To me, the best of the best are still going to be able to pick up opportunities in the GoM because the M&A is so cheap right now in the Gulf of Mexico. You're buying it at one times cash flow or just barely over one times cash flow. So there will be a demand for good companies like a W&T Offshore or other companies that have a low cost of operation to expand their operations in the Gulf. But it will force them to rise to the top. Otherwise, why would they take the exploration risk offshore when they can go to Appalachia and get similar results at less cost and less risk? For example, Range Resources had a well come in in the Utica at a reported 59 million cubic feet a day and more recently another well in the Marcellus at 42 million cubic feet a day. As I said, not long ago, I would have been ecstatic to hear of a well producing 10 or 12 million cubic feet a day.

OGFJ: Mexico has recently instituted some reforms in its energy sector in hopes this will spur investment capital that will help it increase steadily declining production. However, response by the investment community seems to be lukewarm so far. Will Mexico need to offer greater incentives to attract investors?

DINGMANN: Yes for oil investments, but not for natural gas infrastructure investments. Because of past geopolitical risk and volatility, Mexico likely will have to offer foreign companies high motivation in order for bids to be strong when the first auction begins July 14 for shallow-water fields. However, Pemex landed its first major investment in March with BlackRock/First Reserve US$900 million for a 45% stake in a gas pipeline project after opening their energy sector to private investors last year. The investment gives BlackRock and First Reserve a 25-year gas transportation agreement for the Los Ramones II pipeline, which will run 430 miles in two sections from northern to central Mexico with a capacity of 1.4 billion cubic feet of gas a day. Construction of the pipeline is already under way, and completion is expected by the end of 2016. The project was a direct result of years of natural-gas shortages as pipeline capacity from the US failed to keep up with Mexico's growing industrial demand for the fuel, and Pemex focused mostly on more profitable oil production. As such, we see many US gassy E&Ps as potential beneficiaries as the build-out takes place.

OGFJ: Global shale development has not kept pace with development in the US and Canada. What are the main constraints - politics, infrastructure, etc.?

DINGMANN: The United States, Canada, China, and Argentina are currently the only four countries in the world that are producing commercial volumes of either natural gas from shale formations (shale gas) or crude oil from tight formations (tight oil). The slow development in other countries seems to be a combination of numerous variables, some of which are: a) lack of an internal and external market for the gas; b) land-owners and local communities are still not willing to accept drilling given all the environmental risks to be taken into account and addressed; c) the appropriate fiscal and regulatory frameworks are not in place; and d) there is not yet an economical way to link the project to pipeline infrastructure already in place.

OGFJ: For a number of E&P companies, 2015 may be the "Year of Bankruptcy" in the oil and gas industry. Smaller, highly leveraged companies have been hit the hardest. In your view, will this result in significant additional consolidation in the industry?

DINGMANN: While highly levered E&Ps could be hit hard this year, we do not consider 2015 the "Year of Bankruptcy" given that we have heard there is more than $75 billion in private equity currently available to E&Ps - more than double any prior down cycles. Nonetheless, we would not be surprised to see more consolidation like the recent Rosetta Resources deal because higher-levered companies have few options to grow the business, especially as commodity prices remain challenged.

OGFJ: 2014 was a record year for energy M&A. With a few notable exceptions, such as the Shell-BG deal, we haven't seen much this year. Do you think more deals will occur only after prices rebound, or do you think other factors will influence M&A activity in the second half of 2015?

DINGMANN: There has only been about $5 billion in deals this year, excluding the Shell-BG deal you mentioned. I believe that a period of relatively stable prices - more than just a rebound in prices - is needed in order for deals to increase, as the price stability would likely cause the narrowing of bid/ask spreads, which appears to be the reason for the lack of recent deals.

OGFJ: Oil service companies have been called the "canaries in the cage" during down-cycles. They get hit first and hardest. We have witnessed tens of thousands of layoffs in this industry segment. Have the layoffs peaked, or do you expect this to continue?

DINGMANN: It appears the material layoffs have peaked as we predict oil prices should recover over the next year, so companies, especially oil producers, may be reluctant to fire employees incurring severance and other related expenses only to have to hire them back a short time later. Another factor likely mitigating further layoffs is E&Ps discussing about potentially increasing CAPEX by adding rigs again, or at least no longer slashing spending.

OGFJ: At what point do layoffs become counter-productive? Wall Street generally reacts positively when companies slash their expenditures, but as we've seen in past cycles, the industry suffers. When conditions improve and the market comes back, it gets harder and harder to find qualified, experienced professionals to fill jobs. Has the industry learned anything from past cycles?

DINGMANN: Our channel checks indicate that companies have been less likely this downturn to let skilled workers go over fears of the difficulty of replacing them though companies are still relatively willing to let go of roughnecks or more unskilled labor. A number of companies no longer have as many training programs in place to re-educate workers, so it continues to be important to keep the current workers on the payroll.

OGFJ: The US government has been slowly approving LNG export facilities. When these start to come on-stream in several years, will this have a major impact on natural gas producers in the US? Where will the major overseas markets be for US LNG - Europe, Asia?

DINGMANN: Of the seven or eight LNG projects conditionally approved by the DOE, only one has won final approval and is expected to begin exports late this year. Other projects, if approved, would not start exporting until at least 2017. At the end of the day, if all seven projects receive final approval, it would mean the export of natural gas daily for non-FTA countries of up to 9.3 Bcf/d, which would be meaningful given today's total US natural gas production of about 75 Bcf/d.

OGFJ: Are oil and gas company stocks a good investment today?

DINGMANN: If you believe that oil and natural gas prices will stay at current levels or increase, then a number of lower-cost E&Ps present opportunities. We are bullish on some top names operating in the Permian Basin, Utica Shale, and Eagle Ford Shale.

OGFJ: Final question: Where are prices headed, and what is a sustainable level?

DINGMANN: We calculate that the break-even price of oil is just under $65/bbl on average in the US and just over $63/bbl on average worldwide. As such, we forecast prices soon coming back to at least these levels on a more sustained basis and likely higher when some middle- to higher-cost players drop out of the market.

OGFJ: Thanks very much for your time today, Neal .