OPEC, FLARING, OFFSHORE DRILLING AND MORE...OPEC, FLARING, OFFSHORE DRILLING AND MORE FundamentalEdge Report | July 2018 ... (Nov. 2016) +180 Iraq 4,351 4,550 -199 4,680 (Dec. 2016)

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OPEC, FLARING, OFFSHORE DRILLING AND MOREFundamentalEdge Report | July 2018


Contents

INTRODUCTION 3

OPEC QUOTAS AND CRUDE OIL UPDATE 4

NATURAL GAS FLARING: TX AND ND CASE STUDIES 7

OFFSHORE DRILLING ACTIVITY 11

FERC MLP’S RULE ANALYSIS 15

US/EU AGREEMENT AND IMPACT TO US LNG EXPORTS 16


Introduction

This monthly update of the FundamentalEdge report presents an analysis of key market dynamics

currently impacting the energy market.

➢ Crude oil prices have climbed on a balanced supply & demand reality coupled with geopolitical

tensions, continued Venezuelan production declines, the reinstatement of Iranian sanctions, & periodic

supply outages. Prices were initially driven up by speculators, but this segment has played a lesser and

lesser role in recent months as the long positions have retreated. OPEC has decided, after a long

period of overcompliance, that they will normalize production to quota levels.

➢ Gas flaring is part of the exploration, production and processing process of crude oil, gas and NGLs

from shale plays. In North Dakota, the flared volumes became so large that regulatory agencies had to

intervene. Regulations of gas flaring incentivized the addition of infrastructure, mainly processing plants,

in order to move gas to markets. In Texas and specifically in the Permian Basin, production is

growing faster than processing and pipeline takeaway capacity. Flaring is at record highs with 1Q018

volumes four times higher than levels seen before 2010.

➢ Since the US shale era started, offshore drilling has seen its contribution to total US production

reduced significantly. However, earlier this year, President Trump proposed a plan to open up nearly all

US offshore areas for drilling. Major offshore producers are expecting a rebound in activity. Offshore

projects have long lead times and are very capital intensive. They must compete with quicker turn-

around onshore unconventional projects.

➢ Finally, FERC’s rule on MLP’s and the US/EU agreement are also analyzed in this report (Slides 15-

16)

© 2018 Drillinginfo, Inc. All rights reserved. All brand names and trademarks are the properties of their respective companies. 4 OPEC, FLARING, OFFSHORE DRILLING AND MORE

OPEC: Compliance, SANCTIONS, & The Adjustment

OPEC Quotas Update

TABLE 1

Member Quota (MBbl/d) June 2018 (MBbl/d) Compliance (MBbl/d) Max. Prod. (MBbl/d) Spare Cap. (MBbl/d)

Saudi Arabia 10,058 10,460 -402 10,640 (Nov. 2016) +180

Iraq 4,351 4,550 -199 4,680 (Dec. 2016) +130

UAE 2,874 2,900 -26 3,180 (Dec. 2016) +280

Kuwait 2,707 2,720 -13 2.940 (Aug. 2016) +220

Venezuela 1,972 1,300 +672 2,610 (Jul. 2012) +1,310

Angola 1,673 1,450 +223 1,850 (Aug. 2012) +400

Algeria 1,039 1,050 -11 1,200 (Jan. 2012) +150

Qatar 618 1,050 -2 750 (Sep. 2012) +130

Ecuador 522 620 -8 560 (Sep. 2016) +30

Gabon 193 530 -7 253 (Dec. 2012) +53

Iran 3,797 200 +7 3,850 (Oct. 2016) +60

Eq. Guinea 128 3,790 -2 272 (Jun. 2012) +142

TOTAL 29,932 29,700 +232 32,785 +3,085 +982

97%

84%95%

86%92%

77% 75%

87% 91%

105%115%

134% 138%

152%

165%174%

158%

120%

60%

80%

100%

120%

140%

160%

180%

1/17 2/17 3/17 4/17 5/17 6/17 7/17 8/17 9/17 10/17 11/17 12/17 1/18 2/18 3/18 4/18 5/18 6/18

Co

mp

lian

ce (

%)

OPEC has had above 100%

compliance since October 2017.

This has driven declining global

inventories & increasing prices. In

the last OPEC meeting, members

holding quotas agreed to return

compliance to 100% (increase

production).

Compliance returned to 120%

quickly and the normalization to

100% is likely to continue.

DI estimates 3,085 MBbl/d could

come online if all quota holding

producers achieve maximum

volumes since 2012. This is

defined as “spare capacity”.

Reinstated Iranian sanctions may

take some production off the

market. This could cause a loss

of 961 MBbl/d of global supply.

The recent maximum production

from these countries since 2012

were used to estimate “spare

capacity”. When questionable

volumes (much earlier peaks,

Venezuela, & Iran) are removed,

there is an additional 982 MBbl/d

that may come online.

Source: IEA and DI Analysis


SHORT-TERM FORECAST: GLOBAL SUPPLY/DEMAND

-0.1

8

0.4

7

0.5

5 1.2

6

1.3

4 1.7

7

0.9

4 1.6

1

1.3

3

0.2

6

0.1

5

1.3

2

0.2

9

-0.9

1

-0.4

1

-0.1

9

-0.0

5

0.0

0

-0.0

4

0.0

3

1.5

2

0.4

8

0.5

6

0.6

3

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

86

88

90

92

94

96

98

100

102

104

1Q

20

14

2Q

20

14

3Q

20

14

4Q

20

14

1Q

2015

2Q

20

15

3Q

20

15

4Q

20

15

1Q

20

16

2Q

20

16

3Q

20

16

4Q

20

16

1Q

20

17

2Q

20

17

3Q

20

17

4Q

20

17

1Q

20

18

2Q

20

18

3Q

20

18

4Q

20

18

1Q

20

19

2Q

20

19

3Q

20

19

4Q

20

19

World

Oil S

up

ply

/De

man

d Im

ba

lan

ce

(MM

Bb

l/d)

Worl

d O

il S

up

ply

(M

MB

bl/d

)

Supply/Demand Imbalance [RHS] Demand Supply

Global Supply and Demand Outlook

CHART 1The global crude market has had

a supply deficit for a longer than

a year but that deficit has

dwindled despite all of the

troubles impacting supply.

If OPEC returns to 100%

compliance, the US continues on

its current trajectory, and demand

follows IEA’s forecast, then,

contrary to popular opinion, the

market may be heading towards

an oversupply situation.

The recent slow down in the pace

of inventory declines shows that

this has already started.

However, it must be noted that

there are some factors that could

reverse this course:

- Continued Venezuelan

declines.

- Libyan & Nigerian production

fluctuations.

- Inability of OPEC countries to

offset these declines by

bringing back online spare

capacity.

Source: IEA and DI Analysis


Crude Oil Prices: 2014-18 Drivers

$0

$20

$40

$60

$80

$100

$120

1/1

4

4/1

4

7/1

4

10

/14

1/1

5

4/1

5

7/1

5

10

/15

1/1

6

4/1

6

7/1

6

10

/16

1/1

7

4/1

7

7/1

7

10

/17

1/1

8

4/1

8

7/1

8

Fro

nt

Month

Futu

res (

$/B

bl)

Brent WTI

Start of 3 yrs.

of Oversupply Start of 7 mos. of

Price Capitulation

False sense of hope

from summer demand

The low point

following continued

inventory builds

OPEC & Non-OPEC

quotas agreed upon

Inventory worries

continue. But OPEC

extends quotas

Supply

outages

Supply outages & geopolitical

tension continues, helping normalize

inventories

OPEC decides to increase

production

Global Supply and Demand Outlook

CHART 2

Source: EIA and DI Analysis


Gas Flaring in North Dakota

0%

5%

10%

15%

20%

25%

30%

35%

40%

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

Jan

-13

Ma

r-1

3

Ma

y-1

3

Jul-

13

Se

p-1

3

Nov-1

3

Jan

-14

Ma

r-1

4

Ma

y-1

4

Jul-

14

Se

p-1

4

Nov-1

4

Jan

-15

Ma

r-1

5

Ma

y-1

5

Jul-

15

Se

p-1

5

Nov-1

5

Jan

-16

Ma

r-1

6

Ma

y-1

6

Jul-

16

Se

p-1

6

Nov-1

6

Jan

-17

Ma

r-1

7

Ma

y-1

7

Jul-

17

Se

p-1

7

Nov-1

7

Jan

-18

Ma

r-1

8

Gas F

lare

d (

%)

Gas V

olu

me (

Pro

duced/F

lare

d)

[Bcf]

Gas Produced (Bcf) Gas Flared (Bcf) Flared Gas (%)

Gas flaring has been a key issue

in the Williston basin in North

Dakota.

It offers great insight into impact

of effective implementation of

flaring regulations.

North Dakota regulatory agencies

released upcoming policy

changes with an 88% gas capture

expectation.

ICO- 24665 gas

capture regulation

implemented

88% gas capture

(Nov. 2018)

Gas Flaring in North Dakota

CHART 3

Source: www.nd.gov, DI


North Dakota Processing Plant Capacity

The additional gas in system

was handled by a significant

growth in processing plant

capacity.

The capacity of processing

plants doubled in the two years

following ICO-24665

implementation in 2014.

North Dakota Natural Gas Processing Capacity

CHART 4

Source: www.nd.gov

0.9

1.3

1.5

1.92.0

0.0

0.5

1.0

1.5

2.0

2.5

3.0

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Bcf/

d

+1.1 Bcf/d


Permian: Gas Flaring Trends

The Permian Basin has seen

significant growth in the last 5

years. This has also been

accompanied by increased

flaring of natural gas produced

from the Basin.

Flared natural gas went from

0.31 Bcf in Jan 2011 to 7.74

Bcf in 2018 (2,384% increase)

Although still volumetrically

small in comparison to overall

production, the growth

trajectory may indicate a

potential problem in the future.

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

0.00

50.00

100.00

150.00

200.00

250.00

300.00

350.00

400.00

450.00

500.00

Jan

-01

Au

g-0

1

Ma

r-0

2

Oct-

02

Ma

y-0

3

Dec-0

3

Jul-

04

Fe

b-0

5

Se

p-0

5

Ap

r-06

Nov-0

6

Jun

-07

Jan

-08

Au

g-0

8

Ma

r-0

9

Oct-

09

Ma

y-1

0

Dec-1

0

Jul-

11

Fe

b-1

2

Se

p-1

2

Ap

r-13

Nov-1

3

Jun

-14

Jan

-15

Au

g-1

5

Ma

r-1

6

Oct-

16

Ma

y-1

7

Dec-1

7

Gas F

lare

d (

%)

Gas V

olu

mes (

Fla

red/P

roduced)

[bcf]

Gas Produced (Bcf) Gas Flared (Bcf) Gas Flared (%)

Recent growth in

Permian Flared

gas ratios

Permian Gas Production and %Flared

CHART 5

Source: TXRRC


Permian: Gas Flaring Trends

Current trends show potential

for increased flaring in the

Permian Basin.

The Base Case shown depicts

a scenario where the current

rate of flaring of 2% is held

steady throughout the

forecast.

The Growth Case takes into

consideration the rate at which

the flared gas ratio has been

growing over the last 4 years.

0.00

50.00

100.00

150.00

200.00

250.00

2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035

Gas F

lare

d (

Bcf)

Gas Production (Bcf) Flared Gas Growth Case Flared Gas (Base Case)

~ 5 Bcf (base case)

~ 30 Bcf (growth case)

Permian Gas Flaring Scenarios

CHART 6


Offshore Drilling

Gulf of Mexico Oil and Gas Leasing Program

CHART 7

Source: BOEM

President Trump proposed a plan to open up

nearly all US offshore areas for drilling,

including 25 of 26 regions of the outer

continental shelf. On January 4, 2018, US

Secretary of the Interior Ryan Zinke announced

the National Outer Continental Shelf Oil & Gas

Leasing Program (National OCS) for 2019–

2024. The lease program is estimated to

provide 90 billion barrels of undiscovered

technically recoverable oil as well as 330 trillion

cubic feet of undiscovered technically

recoverable natural gas.

The first lease sale, Lease Sale 250, for almost

14,000 blocks produced very little interest, as

only 815k acres of the 77MM acres were bid on.

The Bureau of Ocean Energy Management will

hold another lease sale, Lease Sale 251,

scheduled for August 15th, 2018. This sale

includes more than 78MM acres in the Gulf of

Mexico. It will be interesting to see the attention

Lease Sale 251 receives.

Offshore drilling projects are capital intensive

due in part to the long lead times, making it less

attractive when oil and gas prices are in a

downturn.


Proposed Offshore Projects 2018-19

Gulf of Mexico Crude Projects

TABLE 2

Source: EIA July18 Short Term Energy Outlook

In the near term, there are multiple projects

expected to come online.

Most offshore projects are taken on by the

major players in the oil and gas industry.

Mentioned on the previous slide, investing in

offshore projects makes a company vulnerable

to significant price changes.

Non-major players are more comfortable drilling

onshore shale, where you can drill a well and

have production online in several months and

stop drilling when needed based on market

conditions.

However, without these more capital intensive,

long lead offshore projects (globally), there may

occur a shortage in supply due to lack of

investment in the longer run.

FieldMajority

Operator

Water Depth

(ft)

Discovery

Year

Anticipated

Start Date

Amethyst Stone Energy 1,200 2014 2018

Stampede-Knotty Head Hess 3,557 2005 2018

Stampede-Pony Hess 3,497 2006 2018

Otis LLOG 3,800 2014 2018

Bushwood Apache 2,700 2009 2019

Gotcha Shell 7,844 2006 2019

Phobos LLOG 6,919 2013 2019

Rydberg Shell 7,500 2014 2018

Tomcat Stone Energy 1,200 2014 2018

Kaikias Shell 4,575 2014 2018


Offshore Projects Map


Gulf of Mexico Production

Gulf of Mexico Dry Gas & Crude Oil Production

CHART 8

Source: DI ProdCast

0.0

0.5

1.0

1.5

2.0

2.5

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

13

20

14

20

15

20

16

20

17

20

18

20

19

20

20

20

21

20

22

20

23

Cru

de P

roduction (

MM

Bbl/d)

GOM Crude Production

Natural gas production in the Gulf of Mexico

has been on a steady decline since 2005 when

levels reached over 10 Bcf/d and accounted for

19% of total US dry natural gas production.

In 2017, the US produced 9.2 Bcf/d and

represented only 4% of total US gas production.

Drillinginfo expects GoM dry gas production to

increase to ~3.3 Bcf/d by 2023, up 0.3 Bcf/d

from 2017.

On the oil side, crude production averaged 1.4

MMBbl/d in 2015 for a 27% share of total US

production. In 2017, crude production was

higher and set a record high at 1.7 MMBbl/d.

That represents 19% of the total crude

produced.

Drillinginfo expects GoM crude production to

reach ~2.2 MMBbl/d by 2023 as the projects

listed in the previous two slides are placed

online.

0.0

2.0

4.0

6.0

8.0

10.0

12.0

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

13

20

14

20

15

20

16

20

17

20

18

20

19

20

20

20

21

20

22

20

23

Dry

Gas P

roduction (

Bcf/

d)

GOM Dry Gas Production


FERC MLP Rule Change

MLP Consolidations

TABLE 3

On March 15th, 2018 FERC proposed a rule on

MLP owned interstate gas & liquids pipelines

following a FERC v United Airlines court case.

MLPs would no longer be able to include

income tax in their cost of service tariff rates

because it caused a double recovery of income

taxes. FERC produced a final ruling on July

18th, 2018, which was a relief to many.

FERC provided 4 options to pipelines to

address the Tax Cuts and New Jobs Act.

1) File a rate reduction with FERC.

2) Commit to file a rate case in the future.

3) File with FERC reasons why you should

not be subject to a rate reduction.

4) Do nothing.

As for MLPs, FERC gave them a choice as it

relates to option 1. The MLP can keep the

income tax allowance in their cost of service

tariff calculation, however, they must adjust the

calculation based on the reduction of corporate

taxes from 35% to 21%. MLPs can otherwise

choose to do away with the income tax

allowance to lower the cost of service tariff to

be more “just and reasonable”. Note, they can

also choose to do nothing. This rule is merely

guidance on how FERC will handle future

cases.

Before FERC announced the final ruling on

July 18th, buyouts or restructurings happened

for some MLPs. Williams Cos had attempted to

purchase it’s MLP back in 2015, so Williams

buying the remaining units for the MLP was

only a matter of time. However, for the other

companies, it is unknown if these companies

would have completed this kind of transaction if

FERC hadn’t announced a rule change in

March.

Buyer Seller Price ($MM) Stock Premium

Williams Cos. Williams Partners LP $10,500 6.4%

Enbridge Spectra Energy Partners LP $4,185 0%

Enbridge Enbridge Energy Partners LP $6,592 0%

Loews Corp Boardwalk Pipeline Partners $1,500 0%

Cheniere Energy Inc Cheniere Energy Partners LP N/A 1%


US/EU Agreement and Impact on LNG Exports

2017 US LNG Exports and Price by destination

CHART 9

$-

$1.00

$2.00

$3.00

$4.00

$5.00

$6.00

$7.00

0

100

200

300

400

500

600

700

800

900

1,000

Asia Americas Europe Other

LNG Exports (MMcf/d) Average Price of LNG ($/MMBtu)

Source: EIA

On July 25th, President Trump

announced that the United

States and the European

Union have agreed to

strengthen their strategic

cooperation with respect to

energy. This includes

facilitating more US natural

gas shipments to the EU.

In 2017 and as shown in

Chart 9, the US sent most of

its gas (45%) to Asia where

gas prices are more

favorable. Only 14% of US

gas found a home in Europe

where prices are 20% lower

than in Asia,

Therefore, although this

agreement may have an

impact in the longer term after

LNG terminals are built, Asia

will continue to be main

destination for US gas due to

the competitive advantage in

terms of higher prices.


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Documents

OPEC, FLARING, OFFSHORE DRILLING AND MORE...OPEC, FLARING, OFFSHORE DRILLING AND MORE FundamentalEdge Report | July 2018 ... (Nov. 2016) +180 Iraq 4,351 4,550 -199 4,680 (Dec. 2016)