These Are Not the Earnings We're Looking For, Part LXIX

 Reflecting back on the work that I’ve done I feel People, Ideas & Objects have been able to accomplish many things that I didn't think were possible. I’m fond of the Preliminary Specification and the profitable environment it will establish for the oil and gas industry. The bureaucrats expressed satisfaction with today’s performance contrasts with the actions they took to earn the claims they’re now making. In reality they’ve done nothing, as testament to their repeated call over the past decades to “build balance sheets” based on their “muddle along strategy.” A legacy they’re satisfied with and looking forward to securing for the future. With everyone so happy and satisfied, how could there be any difficulties? Producer bureaucrats are the ones who have consistently feigned their actions are precipitated on the demands of their shareholders. Such as Exxon's Annual General Meeting “voting” climate change enthusiasts to their board. Yet, they’ve done nothing about their profitability for the time that I have been offering the Preliminary Specification as a solution, or since it was raised by their investors in 2015. I’ll be speaking to many more of these larger issues after the People, Ideas & Objects August 31, 2021 board of directors deadline has been determined. They would normally fit well within the context of this series however their deferral is the appropriate step at this time. 

My first job in oil and gas was with Shell Canada for the summer between grades 10 and 11. I was training to help out and to learn the role of mail clerk! We also stocked the office supply room. Between grade 11 and 12 I washed dirt (tailing samples) in Shell’s geological lab. If I knew then what I know now I would have stayed in that first position and worked to become the Senior, Executive Vice President and Chief Stationary and Mail Clerk Officer (CS&MCO) of a producer company today. The proliferation of vice presidents in oil and gas is incomprehensible. It’s a farce and a facsimile of their chronic mismanagement. Or is it, in our enlightened world, these bureaucrats are just looking to share the personal risks they’ve earned?

I’m on record for my distaste of the practice of hedging commodity prices on any portion of a producer's production. They’re designed to inspire mediocrity throughout the organization. When performance is predetermined what purpose is there in trying? The Preliminary Specification precludes the need for any hedges in the calculation of profitability at the Joint Operating Committee level. Maintaining the edge within producer organizations that is necessary to sharpen the pencils and to ensure their properties were always profitably produced at the objective of 100% capacity of their production profile. Therefore if a producer continued to pursue their hedging activities, then that would be their own corporate gambling activities. If all production was produced profitably at each and every Joint Operating Committee, and always, what purpose would hedging provide? Management by exception continued in the second quarter of 2021 with profit hedging taking a front seat in terms of their exceptional costs that management should have paid attention to. Losses through both recognized and unrecognized commodity hedging totalled $8.107 billion for our sample of 18 producers. Alternatively these costs of hedging across the industry would have easily provided the financial resources for the producers to have hedged their bets on their future that the Preliminary Specification may be needed and therefore provide People, Ideas & Objects and our user communities funding as a viable alternative. The value proposition of the Preliminary Specification puts it well within the region of the best investment producers could be making but it also disintermediates their bureaucracies.

Granted only a small percentage of these hedges were realized in the second quarter. Most will be realized and extend throughout 2021 and into 2022 and be incurred at that time. They were contracted as a result of chronic North American overproduction in combination with the virus demand destruction in early April 2020. All of the hedges thankfully were contracted to command positive commodity prices in the range of $20 to $40 per boe. Future oil prices may decline to the April 2020 period as a result of OPEC+ increasing production by 5 - 10 million boe / day. Or prices could play a windfall role in the producers future where these hedges would offset those larger, speciously reported profits. Either way the future is fixed and clear.

Had I mentioned that cash and working capital were issues in oil and gas? Since the withdrawal of investors which began in 2015, there have been critical shortages of cash in the industry. We’ve identified the key point of cash drainage as the overheads of the industry are not included as costs in the prices of the commodities that are passed on to consumers, instead they are capitalized. We believe producer overheads which include the excessive, and growing list of vice presidents, their excessive executive compensation are capitalized to property, plant and equipment to the tune of 85% across the industry. Therefore the cash consumed in paying these monthly recurring costs is not returned to the “cash float” in the current month and therefore new cash needs to be sourced each month these expenses are incurred. All as a result of the investors no longer willing to play along. Average prices in the quarter of $68.00 oil and $3.25 natural gas prices just weren’t enough to overcome the overhead. Paying out an annualized dividend and stock buy back rate of 18.96% for our sample of producers may appear to them to have been onerous. However, I would suggest it’s only onerous in contrast to the producer's history. For example Apple’s annualized rate of payback was 86.73% or actual cash of $77.05 billion for three quarters in 2021. One company is successful, one industry complains. I only mention this as Apple is a New York Stock Exchange listed company with a 28.61 P/E ratio. Shell’s P/E ratio is 28.96%, which in a way is competitive?

The point regarding working capital is of critical importance. Although we see the high prices being realized, “profit hedges” were on a large percentage basis unrealized and extended well beyond the next quarter, yet working capital continued to decline. Consolidation was effective for our sample which acquired four producers, one member of our sample was acquired by another sample member, for a net three new producers increasing our samples production over last year's production volumes. This moved the overall production profile from 10.056 mm boe/d on December 31, 2020 to 10.354 mm boe/d on June 30, 2021. For the 2021 calendar year this has totalled on a rounding basis to a 2.9% production increase. Yet there was a disproportionate increase in short term liabilities of over 17% which had the commensurate effect of reducing working capital. I only highlight this to point out that it’s tradition in the industry to always have someone else pay for any of the difficulties being experienced by the producers. 

What is clearly coming into focus for all those that held out hope for the resurrection of the industry due to the moderation of commodity prices. Is that at any time and given any set of variables whether they be good or bad, oil and gas producer bureaucrats will seek to make the industry take another step down on the ladder of success. What we must understand is that they are hopeless victims of society, incapable of helping themselves or doing anything about their issues. But they’ll “muddle through.” The level of excuses, blaming and viable scapegoats diminished lately and I’m therefore unable to determine who it was they allege were responsible for their current difficulties. Maybe they're getting the point of my criticism and are stopping that whining. There was and is gripping going on that is somewhat new and it seems to already be achieving a remarkable level of push back. Gripping occurs when you complain up the chain of command. In this case to the shareholders, and most specifically in this case regarding the amount of dividends and other payments being made to shareholders. And yes even Exxon was brought into the discussion and questioned why they were paying their debts instead of spending more on shareholders? Which is an interesting question from a number of points of view and particularly this pushback being at Exxon’s level of the industry. 

Looking at the Exxon pushback, the shareholders of producers are fed up to a level that is unsatisfiable, it would appear. Such is the level of betrayal orchestrated by the bureaucrats, and the final act that the board of directors will be conducting during this month of August 2021. I am suggesting here that they won’t be responding positively to our July 2021 RFP to fund the Preliminary Specification. And therefore lose the opportunity to ever gain their credibility again. That however is their objective of the exercise. Of course this is just one man's pious, obnoxious and self serving opinion. With the organizations consolidated mega-corp cash flow funding whatever their desires may be, in completely unaccountable fashion, as the objective that is attainable in the next few quarters, why destroy that opportunity? The tug of war with the banks is another interesting point. Is Exxon being kind and paying their debts off quickly? Or, as I suspect, are banks taking the money that they want? Investors have now learned the revolving oil and gas bankruptcy game / strategy. Consolidation is just another name for the bigger they are, the harder they’ll fall and the even greater the chance the bureaucrats survive the bankruptcy process. Banks own everything in the process of bankruptcy and investors get zip. If investors don’t make hay in the next few minutes before the sun completely sets they’ll be out of pocket for good. They want out and they want what they’re entitled to and were promised. Please note, it is through my audit experience that I learned that Bankruptcy Judges are more intoxicated by the thought of cash flow than bureaucrats. They seem to think that if there’s money being generated there then there’s value that needs to be managed. And as such will gladly go along with the plans that management put in front of them. What choice do they have? Shareholders and directors are not party to that circus and as such the appeal for action that we made in our July 2021 RFP Response to the directors last month.

It is these niggling little issues that I’ve been criticised for in People, Ideas & Objects. Focusing on profits, performance, time, a sense of urgency and I think a few times I even stated this should be operated as a business. These are counter to the culture of the industry that is best expressed by the bureaucrats when heard by them in absolute resonance and harmony “we’ll muddle through.” That these are parotted by all the old and new vice presidents doesn’t mean they personally believe them; however, it’s the best cover story of the century. With our July 2021 RFP Response we identified only five of the organizational constructs inherent in the Preliminary Specification. Turning the industry into a dynamic, innovative, accountable and profitable industry where everything that is produced in North America is always produced profitably. And these second quarter results are the producers' response to their legacy of greed and inaction.

People, Ideas & Objects pursuit has and is constructive which looks to solve the industries difficulties and make producers profitable everywhere and always. That has made me a pariah and the poor bureaucrats the victims. It’s a role they’ve cherished for a long time now. We see the financial situation as presented today being celebrated. They’re in the black according to their accounting and we’ll need to go through another cycle of temporary “good times” and be back to where we’ve resided for all but 5 of the last 35 dismal years of their management. The fact of the matter is they’re closer now than ever to a permanent, independent and unaccountable state.

The only solution as it stands today, from a creative destruction and disintermediation point of view, is People, Ideas & Objects, our user community and their service provider organizations implementation of the Preliminary Specification. The natural forces of disintermediation and creative destruction are being obstructed through the diversion of industry revenues away from the development of initiatives such as the Preliminary Specification. And therefore are unnecessarily directly supporting the status quo behaviors that have been proven to be disastrous.

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. We’ve joined GETTR and can be reached there. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXVIII

 We noted in our last number of posts that in the future, unsuccessful oil and gas producers would be parking themselves in the reception area of all the major investment houses. Unable to achieve profitability through their continued support of the bureaucracy and lack of desire to be transparent or accountable by using the People, Ideas & Objects ERP system that comes about from the future development of the Preliminary Specification. While at the investment firm they’ll watch as the industry's successful and profitable producers are continually and repeatedly greeted with open arms and warmly welcomed while the producer proudly delivers another handsome dividend check. This is the alternative vision that is painted by us when we’re provided with the financial resources to proceed with building the Preliminary Specification. 

Using an innovative business model designed to ensure that the producer firms are provided with the most profitable means of oil and gas operations everywhere and always. Addressing the two critical issues that have plagued the industry for the past number of decades. Overproduction as a result of no production discipline anywhere in North America. And the pure symptom of that issue, the chronic lack of any capital discipline. Or do I have the source and symptom of the issue backwards? No one doubts the bureaucrats have feathered their nests as their one and only priority. In doing so the consequence is the size and disproportionate appearance of their “balance sheets” and the pride they show in them. The fact that they strut these things about has to be the modern equivalent of the emperor's new clothes. They are disgusting vile things that show they are heavily indebted and have never made any real or fake money. That’s right, it’s been so long now that the quality of their earnings generated through their specious accounting are being seen as inadequate and a disgrace too. 

We recently discussed the cultural trend of the bureaucrats “groupthink” that we call the “Keystone Cops.” Traveling about the continent at full tilt to the next great thing, only to find the riches really weren’t there and then immediately, in lock step, on to the next. Clean energy being the direction we’re all headed to now in an unauthorized and unaccountable manner. Clean energy has never been considered an area where investors have been provided strong accountability or where anyone has sought performance, it’s the base where the greens do their moral preening. Therefore bureaucrats anticipate a warm welcome and to be treated as the kings they believe they are by bringing legitimate, recurring revenues to the table. Iterations through each stop along the Keystone Cops route are coming faster and faster. Just yesterday it seemed that consolidations were the new nirvana that held so much promise. Strapping another equally large albatross on top of your albatross will certainly assist in overcoming any airborne issues. The destruction of Occidental through the process of acquiring Anadarko was not instructive. Occidental, one of the premium independent producers was well positioned to weather the storm and prosper however the industry developed. At the time the Keystone Cops were after the Permian and what better than Occidental to take the wealth of value they had and acquire Anadarko for an enterprise value of almost $70 billion. To make it even more real they had the stamp of legitimacy with Warren Buffett putting in tens of billions of dollars to finance it. The acquisition was made a mere 18 months ago and it's times like these that Occidental can look back, already, and say those were the good old days. But here’s a tip, don’t mention Warren Buffett’s name, I did, but I think I got away with it. 

I've been running around writing about solutions to what bureaucrats believe are invisible issues in oil and gas. Making accusations about the quality of their earnings and the value of the assets that are reported on their “big, bold, beautiful balance sheets” of producers. Their attempts to sell properties to generate the cash to make up the difference from the investors' absence haven't worked as the entire industry is having to live off the net proceeds that it generates. Which is almost nothing after the bureaucratic take. These property sales were not effective in raising any money as there was no market or cash held within the industry, however they had the effect of diminishing the perception of the value of oil and gas assets in the marketplace. If oil and gas producers began trading properties for $0.10 on the dollar they’d finally come around to reality, I thought. Therefore I believe the purpose of these consolidations was to ensure they reestablished the “asset markets” value based on evidence of the value producers had recorded in property, plant and equipment. Somebody then brought up the dusty share printer from the basement, cleaned it up and the bureaucrats began issuing share certificates to other companies as currency in the “consolidation” process. Lawyers were even thinking their days had returned. Producers then used their favorite currency, shareholder dilution, to reinstate the value of their balance sheet assets by paying full book price and more for the acquired companies. Brilliant? With the small amount of cash available to purchase shares in the first quarter being so much smaller than in 2020. The amount of shares purchased in the first quarter was $754 million in 2021 down significantly from 2020’s purchases of $1.28 billion. We’ll have to wait for the full picture to be reflected in the second quarter. This has been a long term “feature” of the bureaucrats' management. For example stock repurchases in 2019 were $3.04 billion in the second quarter for a total of $6.34 billion in the first half of that year. The point being that once reestablishing the market price of these assets of other oil and gas companies they only needed to purchase their own shares aggressively to bring that price up. This may go down as one of the hallmarks of a well “managed” business in bureaucratic mythology.

If you consider the value proposition that the oil and gas producer bureaucrats have been using. Which is also the business model they are proposing to continue with. Theirs seeks to allocate these inflated capital costs equally across each molecule of petroleum reserve that they’re able to book as reserves. Recognizing only the current production volume / the reserves volumes as the percentage of capital that is recognized in the current period. This is a reasonable and valid business model that would provide long term value for all stakeholders, in 1820. A time when incidents and accidents, events and occurrences didn’t happen over the period of time in which the thirty years those reserves remained potentially productive. Today, the industry itself is challenged with many business issues that question how and what will the future of oil and gas be even next year. Consumers are being educated today as to the real value of gasoline as a result of a pipeline cyber attack. Investors today are being treated to a wealth of options that were never considered even a decade ago. These are providing real value and a performance trajectory that is setting the standard for all investments to compete within capital markets. 

Oil and gas can’t, won’t and will never achieve the types of performance trajectory that are available in other industries today. What they can offer is substantial performance on a reliable, consistent and secure basis. Using the People, Ideas & Objects Preliminary Specification we provide for the dynamic, innovative, accountable and profitable oil and gas producers with the most profitable means of oil and gas operations, everywhere and always. Once we’ve built the system that is. Where if the property is producing its profitable, and profitable from the real sense of the term profit. The performance trajectory of each producer will still be differentiated in the marketplace as the key capability in the market is their land & asset base, their earth science & engineering capabilities and capacities the producer is able to employ and deploy. Profitability in the real sense is not a fixed characteristic; it is a variable that is defined as anything above the threshold of costs. This is People, Ideas & Objects, our user community and their service provider organizations definition of the value proposition that we provide oil and gas. Contrast the current value proposition of the 1820’s model; which reflects a calm and serene environment, to the management effectiveness reflected in the Keystone Cops routine we’re presented with. 

Lastly we should all welcome Chesapeake back into our sample of producer firms. Reviewing their first quarter financial statements are quite remarkable. If all of our good friends the bureaucrats were considering bankruptcy you’d be crazy not to pursue it as aggressively as you could. And don’t forget to declare those $29 million pre-bankruptcy bonuses for the bureaucrats. With an increase in working capital of $1.7 billion to negative $253 million, $1.4 billion of this being a reduction in short term liabilities. Reduction in long term debt of $7.3 billion and a reclassification of retained losses of $23.9 billion to retained earnings of $295 million. All thanks to the service industry, investors and bankers being cast adrift in the middle of the Pacific ocean to experience the real consequences of the bureaucrats actions and the bankruptcy courts. The one consequence that I could see is they dropped 15,575 boe / day and now only produce 431,000 boe / day. Such is the cost. The CEO did vaporize in the first part of May. Was he pushed or did he leave? Now would be a good time to exit but there is one question remaining. Chesapeake the corporation declared bankruptcy and absolved itself of its obligations. The officers and directors did not do so, and as a result remain accountable and could be sued for their actions in causing the well quantified damage to the service industry, investors and bankers prior to and creating the bankruptcy. If only the service industry, shareholders and bankers could source some evidence such as the July 26, 1986 Calgary Herald Page 33 on newspapers.com documenting the beginning of the OPEC war on North American overproduction and the beginning of their financial demise. Or the Preliminary Specification which resolves this specific issue that was published in its final form in December 2013 to the bureaucrats. Then they might have a case against Chesapeake or any other producer in North America.

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXVII

 There is remarkable news in the industry. What has been denied by bureaucrats for over thirty five years is now considered the common sense, de facto logic of how the industry has always operated. Oil and gas commodities are now considered price makers. From Forbes.

To conclude, the U.S. shale revolution has been in full force for 12 years, but I think that the industry just now might be waking up to the fact that we could have much higher prices and Americans would still require massive amounts of oil and gas.

The Colonial pipeline attack just demonstrated how entrenched these commodities really are in our daily lives - not nearly as replaceable as some suspiciously insist that you think.

The definitions of both price maker and price taker are provided from Investopedia.

A price maker is an entity, such as a firm, with a monopoly that gives it the power to influence the price it charges as the good it produces does not have perfect substitutes. A price maker within monopolistic competition produces goods that are differentiated in some way from its competitors' products. The price maker is also a profit-maximizer because it will increase output only as long as its marginal revenue is greater than its marginal cost. In other words, as long as it is producing a profit.

And

A price-taker is an individual or company that must accept prevailing prices in a market, lacking the market share to influence market price on its own. All economic participants are considered to be price-takers in a market of perfect competition or one in which all companies sell an identical product, there are no barriers to entry or exit, every company has a relatively small market share, and all buyers have full information of the market. This holds true for producers and consumers of goods and services and for buyers and sellers in debt and equity markets.

Given that the industry has now accepted price makers, why has it taken so long to come around to this fact? I first mentioned “price maker” in the sense of implementing it within the industry through what eventually became the Preliminary Specification on our November 11, 2008 blogpost entitled “Times Like These Call For…” Granted this was in the middle of the financial crisis and bureaucrats may have had other things on their minds, such as their deteriorating personal fortunes. That was twelve more years that I’ve been ostracised, vilified and run out of the industry for only stating what is now considered to be the common sense, the prevailing logic. Well to be honest, I’ve always been attacking the bureaucrats too. A guy has to have some fun!

What might have happened in this past decade if the Preliminary Specifications price maker strategy was operational and providing shareholders with the appropriate returns for their investment, keeping the industry intact and together. All this devastation and destruction throughout the greater oil and gas economy was not by accident. It was deliberate and a consequence of the ignorance, uncaring and self involved nature of these bureaucrats. Officers and directors who went out of their way to silence me as the Preliminary Specification is a direct threat through disintermediation to their ways and means of operating the oil and gas industry. I repeat myself again when I state that the overproduction was known to be an issue since at least July 26, 1986. I chose to do something about it in May 1991. They chose to ignore it, blame others, lie and raise viable scapegoats for their inactions. I subsequently published the Preliminary Specification in December 2013. Now bureaucrats think they have a solution with consolidations which will provide them the answer to the problem of overproduction, the cause of which is from “small producers having to pay their debts.” The lies and viable scapegoats only become more surreal. From the above noted Forbes article.

Yet still, U.S. shale gas (and oil) producers must be cautious to not overproduce.

The days of double-digit annual percentage increases should be over. 

Pioneer Natural Resources CEO Scott Sheffield thinks that the shale industry should consolidate more to maintain operational and curb volume increases from smaller producers – firms that need more production to pay down debt.

Moreover, the smaller players are less tangled in the ESG web and typically go under the radar of environmental groups obsessed with “Big Oil:” “Energy Giants Ditch Oil and Coal Projects. Smaller Rivals Want Them.”

This is nothing more than the bureaucrats' admission of guilt. The history, between People, Ideas & Objects and these bureaucrats, tells a distinctly different story and clearly defines the legacy of their management. Providing the evidence of their culpability. Thirty five years of an ever present overproduction issue staring them in the face and they did absolutely nothing. Seven years of our solution being screamed at them, and all they did was fight as vigorously as I feel they possibly could have. Now, after the wanton destruction that they caused for everyone concerned in the greater oil and gas economy. This destruction being obfuscated through bureaucratic lies, blaming, deception and viable scapegoats that makes no one believe a single word any of them says. With everyone turning their backs on these bureaucrats they now realize they’re truly alone and their only hope for survival is to enhance their revenue stream, to make themselves truly profitable. They expect that the “business model” of consolidation will lead them back onto the road of bureaucratic nirvana. This too is nothing more than an admission of guilt. If their consolidation issue is as effective as they assume it will be. Why didn’t they implement it sooner? Or is "consolidation" itself the real viable scapegoat?

You have to admit that Donald Trump's comment in defence of Jimmy Carter the other day was appropriate. Someone suggested the Biden administration was as bad as the Carter administration. Trump replied that “Jimmy Carter mishandled crisis after crisis, whereas Biden has created crisis after crisis.” How would our good friends the bureaucrats justify their existence if not for the problems they face? How many times have we heard them say that “oil and gas is so hard to manage?” What would any bureaucracy be without a long list of crises and difficulties to define why they exist? What bureaucrats are saying over these past thirty five year period is the destruction caused in their business is a result of the difficulty and complexity of the oil and gas business. I would have to add under their management. Consolidation is nothing more than the expansion of the bureaucracy. Expanded bureaucracies are good for bureaucrats, a strengthening and broadening of their domain serves to entrench them further. Bureaucrats don’t exist to solve problems, they justify their existence through the creation of them. Primarily in the effort to ensure they’re seen as the ones who are active and involved. How long do you think it will take for these dastardly “small” producers to rear their despicable heads once again, and dare to produce in a newly configured producer firm? What will be the solution for the bureaucracy when they’re faced with new production that destroys their price maker strategy? Be careful with your answer, you may just become the next viable scapegoat. The question that I’ve asked many times before is who is going to be the bigger fool five years from now, but let's change that to two years? Will it be these bureaucrats thinking as they do today? Or will it be everyone else holding the bag and counting the losses of what could’ve, would’ve and should have been, again?

The Preliminary Specification does two critical things that the industry will need to be doing on a go forward basis. Ensuring that the industry is financially robust where profitable energy independence is achieved throughout North America. Producers must be profitable, in the real sense of the term to ensure that it remains viable for all concerned. That people can plan careers and families around their commitment to the producers and there is a constant source of new and innovative companies that are being brought along in the service and oil & gas industries. And the second aspect is that the consumer not only needs to be assured of a stable supply of energy. That the energy it does consume is the lowest cost available to it. This demands the producers undertake a reorganization to establish innovation throughout the greater oil and gas economy. That is done throughout the Preliminary Specification but most specifically in the Resource Marketplace, Research & Capabilities and Knowledge & Learning modules. Innovation needs liberty and free speech not incrementally higher levels of bureaucratic malaise. Thirty five years is a long time to address an issue as devastating as the destruction of the commodity markets. Innovation in the creation of issues is not a value generating exercise. And consolidation is not an innovative approach to what has ailed the industry for thirty five years. When people can’t contribute openly, then nothing innovative is going to happen. Would this be the case in a consolidated bureaucracy? In our research we learned that innovation was not a happenstance occurrence. Organizational structures had to be purpose built with the associated industry resources aligned to support them to foster the innovation within the producers but most specifically in the service industry. This is the second element of the Preliminary Specification ensuring that the consumers are provided not only with a secure energy future, but also an affordable one. 

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXVI

 In reviewing our sample of producers' financial statements the contamination from consolidations in the first quarter 2021 is too prevalent to be making any reasonable decisions regarding comparisons to prior periods. As a result of these consolidations our sample size has been reduced by 1 to 18 with 5 companies participating. The acquired producer in our sample was acquired by another producer in our sample. Many of these acquisitions were material in terms of their size with the overall production profile of our sample increasing 8.9% to 10.05 mm boe / day. Debt of the producers is another telling factor that shows the inability to make any worthwhile conclusions or comparisons. It appears that banks were leaning heavily on producers to have their debts paid down. This is best expressed in their diminished working capital, making any claims of capital discipline suspect when they have no cash, no access to capital during a time while their banks are this demanding. Clearly the banks want out of the oil and gas business. Working capital of these consolidated producers was up 10.2% to total $12.85 billion. Even though the banks were drawing down many of the producers' loans, the number of companies who completed consolidations increased our sample's overall debt load by 6.5% or $10.09 billion. We anticipate further difficulties in making these comparisons in the second quarter as there have been some material acquisitions and other activities in the second quarter.

I’m still at a loss to find any detail regarding overhead. In addition, the enhanced detail we were beginning to see regarding the capitalization of interest appears to be waning. Additionally the fact of the matter is that reported overhead never made any sense to me in comparison to the real numbers when I was on the inside. I have only been asking for transparency in these numbers for many years. And let us not confuse this argument with the standard bureaucratic talking points of “overhead allowances.” They are not relevant to this conversation as the gross total of all overhead allowances across the industry or any specific Joint Operating Committee are $0.00. 

It is People, Ideas & Objects' argument that overhead is the second reason, after pricing issues, that profitability is never earned in the industry. The accounting method of capitalizing the (alleged and unknown) majority of overhead proves that its effect on profitability is material. However, it is also the key reason for the discharge of cash out of the business, with little to no cash being returned to the firm. From an administrative and accounting perspective each producer must attain a certain level of capacity and capability in these fields in order to maintain compliance with regulations etc. These capabilities and capacities are not shared or shareable in their current configurations between producers and are replicated and incurred within each producer. Nor do these capabilities and capacities form any part of the distinct competitive advantages of any of the producers. It is through the capitalization of the majority of these costs, we have alleged capitalizations are as high as 85% on average across the industry and will hold to that until we’re proven wrong with the facts. The producers current capitalization policy diminishes overheads level of materiality in the financial statements. 

Another key point that we’ve made to bureaucrats about their overhead capitalization policies is the erosion of the firm's cash resources. Which is also part of the reason that capital was demanded each year from shareholders and how working capital now diminishes each quarter. Overheads are incurred each month. The capital or cash consumed by the capitalized overhead costs are not recognized as a current cost by producers and are deferred for as long as possible. On a straight mathematical basis of property, plant and equipment / depletion is currently at 15.05 years for our sample of producers in the first quarter of 2021. In reality, due to annual capital expenditures, it may take three decades for that specific overhead incurred today to be fully realized as a capital cost and passed on to the consumer as depletion in the income statement. This is as they say in the industry “putting cash in the ground.” This is done for no other purpose that I’m aware of than to hide the scope and scale of overhead, but also to defer the discussion of what may be included in overhead. A topic we’ll leave for another day, but be assured it involves our good friends the bureaucrats. These overhead costs are not being passed onto the consumers in a timely manner as a result of the specious accounting of capitalizing a sizable volume of overhead and then not recognizing the full capital costs of each barrel of exploration and production. Hence the invested cash is not returned to the producer, it only sits in the ground for thirty years or however long it takes to be recognized. In the meantime the producer scrambles to find the cash to pay for next month's overhead as they, as a result of this accounting treatment, do not maintain what is commonly referred to as a “float” in business. We’ve pointed this fact out to the bureaucrats for many years now and there has been no change in the methods they’ve used. What is in those costs that they’re concerned about? Another question that would / should be asked is. What is the materiality threshold of the producers audit firm during their annual audit? When I was auditing it was a percentage of revenue, I don’t know what it is today, but I’m sure if we asked a bureaucrat they’d know. 

It is the deferral of recognizing the cost of capital in the exploration and production of oil and gas that is what enables producers to claim “profitability” consistently. Enhancing “profitability” at the expense of operating the business appropriately. Enhancing “profitability” to attract the investors to make up the difference. We feel that property, plant and equipment is best understood as 65% of it should be reclassified in a pro forma adjustment to depletion as we consider it to be nothing more than the unrecognized capital costs of past production. Our pro forma adjustment establishes the past performance of the firm without this monkey business. Additionally, the deferral of material volumes of overhead exacerbates this issue by deferring even more costs. But also drags the firm's cash with it as these are the monthly incurred expenses that consume cash, which are not recognized in the current period, passed onto the consumers and hence returned in a timely manner to deal with the following months expenses. When investors and bankers are abundant, this is not an issue. When investors and bankers are absent, it’s a cash crisis of monumental proportions even though overhead is just 4.33%? Why is it that when producers are faced with difficulties immediately begin trimming a percentage of their staff? If they laid off 20% then they’d only save 0.866% of revenues and profits. Do you think there’s maybe more to the overhead story than what’s being reported in the financial statements of the producers? And why has our discussion and our solution, which deals with the lack of profitability, the demand for cash from investors, bankers or working capital, been ignored and denied?

The Preliminary Specification handles overhead in a fundamentally different way. We are disintermediating the producer bureaucrats. We are using specialization and the division of labor to enhance the capabilities and capacities of the administrative and accounting requirements in the oil and gas industry. We are removing the administrative and accounting resources from the producers to allow them to focus on their key competitive advantages of their land & asset base, and their earth science & engineering capabilities. Moving the accounting and administration to the service providers that are organizations headed up by a user community member affiliated with People, Ideas & Objects. There they will specialize in one process and manage it on behalf of the entire industry. Charging each of the Joint Operating Committees for any work that is completed by each of the service providers in that production month. If there is no production from a property, then the service providers will receive no data and no work will be conducted and subsequently no billings will be sent to the non-producing Joint Operating Committees, creating what we call a null operation. Enabling producers to have truly variable overhead costs, based on production. As a result the property that is profitable, from a real profit point of view, will produce and not be diluted by the losses from the unprofitable properties. Reserves would be saved for the day when they can be produced profitably, those reserves will not have to incur the ongoing losses as incremental costs if they continued to produce and the commodity markets would have the marginal production removed from the market enabling them to find their marginal prices. 

People, Ideas & Objects ERP system includes the service providers, and user community members as principles in their organization, in preparing and providing the accounting and financial statements of each and every one of the Joint Operating Committees. Information that is not produced today. In addition to what is produced today, but with enhanced transparency and accountability. That’s maybe why we have such difficulties with bureaucrats about the acceptance of our Preliminary Specification? The accounting provided by the service providers will be standardized as the process will be comprehensively reviewed during our development to enhance these processes to their ultimate level. Therefore they will be for each and every producer standard and objective. If a Joint Operating Committee is reporting a loss at a property it will be taken as valid that it would be in the best interest of the producer, their reserves and the commodity markets to ensure that the property was shut-in for the next production month. They will know that all other Joint Operating Committees received the exact same accounting treatment as theirs and it will be incumbent upon them to ensure that they maximize profits for their shareholders. Invoking the long lost production discipline throughout North America and a new capital discipline as to what wells were drilled, where and when as the ability to attain real profitability to achieve production would be a real threshold to secure funding. Producers that didn’t adhere to these principles would not be profitable in the real sense of the term. Leaving them forever waiting in the receptionists waiting room at all the major investment houses.

It is these points of view that have diminished the bureaucrats claim to continue. Why have they refused to consider what People, Ideas & Objects suggest is real profitability? Why have they refused to account for the overhead they incur? Why have they refused to change to a method of overhead and accounting that is more transparent, detailed, standardized and objective?

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXV

 The first quarter 2021 reports of our sample of producers are out and I have to say that I am disappointed. There appears to be a significant regression to the old methods of reporting profit. Stuffing balance sheets by putting cash in the ground is culturally instinctive. Bureaucrats have a heritage of their past efforts, are proud of those efforts and as a result have returned to strutting their achievements down mainstreet to determine who wins the annual biggest balance sheet competition. Any recognition of the capital costs in the cost of the commodity of a capital intensive industry will have to wait once again until such time as the oil and / or gas prices turn negative. 2020 saw what I feel was a reasonable amount of depletion being recognized and the subsequent losses of almost $70 billion being reported for the year. Now, one Canadian producer has even reversed some of their 2020 depletion and reported only $0.68 of capital costs per boe for the first quarter. But of course, and why wouldn’t they? It is a simple matter of regression towards the mean, the mean of the past forty years reporting methods. It’s not that last year began to address the overcapitalization issue, it only addressed the results, symptoms and consequences of that issue. Which of course is the chronic overproduction in the industry. Leading to the April 2020 negative $40 oil prices which proved our good friends the bureaucrats couldn’t care less. We’ve moved from recognizing the capital assets of these producers over the course of 5.2 years at the end of 2020, to now 15.08 years in the first quarter of 2021. It is far better, in the bureaucrats mind, to “build balance sheets'' and “put cash in the ground” than evaluate the performance of the producer by passing these capital costs on to the consumer and recover that previously invested capital for reuse in the process. Investors can be assured that producers don’t need any cash is the message they’re sending, therefore they’ll have no cash from production, profits, investors or banks. If they critically evaluated their performance on a business basis they’d have many more losses such as 2020’s than what their massive “profitability” that 2021 is reported and shaping up to be. If only they’d realize that “putting cash in the ground” could be used as their future “bank” if they began working with People, Ideas & Objects Preliminary Specification.

My comments certainly contrast the spontaneous “boom” proclamations coming out of nowhere these days. And I resent having to be the one that looks at things critically. I would prefer to build solutions but there are irresponsible bureaucrats in control who only state “Forget about the past, that’s history, and only listen to what I say today.” Which oddly seems just like what was said each and every year before doesn’t it. But does anyone remember these types of statements from all of the producers last year? From WorldOil April 9, 2020 Entitled “Oxy Wants Financial Aid, Not Market Support, For U.S. Oil Companies.”

In a sign of how important the appeal is to Chief Executive Officer Vicki Hollub, employees are being urged to send a pre-written wish list to Congress members. Among other things, the company wants the government to “provide liquidity to the energy industry through this period of unprecedented demand destruction and unsustainable pricing until normal economic conditions return.”

Or from the same article,

“This letter lists the steps our government needs to take immediately,” Hollub said in the email to employees. “Now more than ever, we all need to inform our elected officials that inaction could result in long-lasting harm to the U.S. economy.”

I’m only rubbing salt in their wounds however, how can they now stand there and say “boom.” The quoted article reflects the difficult time a year ago when the government was the viable scapegoat at that moment. The time when they had really faced the music, as for some reason no one else they betrayed would step up and help anymore. Ultimately they were turned down and it appears, once again, as it has so many times before, taught them absolutely nothing. Which leads me to question whether it's that they don’t read their financial statements or they don’t understand them. What I’m disappointed about is how could these producers be so poorly managed? I’ve been accused of having a disproportionate sense of urgency and should be more patient. I understand that however I would ask, who is it that needs to be the patient when cash is as critical as it’s being reported. When it’s understood the bureaucrats are not focused on the business of the oil and gas business. And they’re focused on the business of their personal business and don’t have the time to concern themselves with their responsibilities as officers and directors of the producers they’re supposed to be managing. How else does a primary industry with the potential of oil and gas fall into such a state as it is currently and record the kind of performance over these past four decades? I only reviewed a few of the Annual General Meeting materials to gain a better understanding of the topics of concern and issues to be addressed and voted on. Only reviewing a few was all that I could stomach. Accountability is not something that has been expected of these bureaucrats over these 40 years, it’s not part of their culture. Being unaccountable is a bureaucratic feature of the business. Another feature of the business has always been the declining value of the stock once the AGM’s are complete. Who is it that specifies the time of the year in which stock repurchase plans can be implemented?

These reflect the culture of oil and gas is incapable, and has no capacity to change. In a world of disrupted business, the destruction authored by our good friends the bureaucrats and the uncertainty in the global economy. It’s nice to know that the producers are as well managed as they claim to spontaneously be in these times of difficulties. The wall of trillion dollar costs that include rebuilding, refurbishing and reclamation of the infrastructure and the seven crises that we’ve listed are not an issue if they never acknowledge them. “Boom” is the key word that makes it all go away and the sunshine pour in. What we listed as Crises number seven was the Biden administration. Last week we saw a hint of even further dealings to come. The Biden administration has now instructed the Fed and Treasury to figure out ways in which to write policies that are pro climate change. This has been interpreted to mean they’ll pressure banks to stop loaning money to producers. Being that the shareholders of the producers are as disenchanted as they are. That the bureaucrats are using once again their share certificates as their printable currency, this time to fuel their “consolidations.” Chronic, repeated, unnecessary and unwise dilution of shareholders is also a feature in oil and gas. Banks are already hesitant and withdrawing. Now the government wants to instill an even stronger bias against the industry. With  the comical routine of their “capital discipline” invoked in harmony by producers once more. Capital structures being diluted and leveraged far beyond what is acceptable or reasonable for anyone to glean any value from the industry. And if there was any value it would only be diluted in some manner in the future. With real profitability never seen and fundamentally misunderstood or corrupted. What would be in it for anyone other than the bureaucrats for their take off the top?

If only someone would come up with a solution to these issues and provide a means where the producers would have an organization and method that could provide them with the most profitable means of oil and gas operations everywhere and always. That is People, Ideas & Objects Preliminary Specification, our user community and their service provider organizations. But those have been rejected by these bureaucrats as too radical. It stops the bureaucrats from destroying the industry any further by disintermediating them and replaces them with the means to better manage the industry here in the 21st century with the issues and opportunities it faces. Consolidation is the answer to the problem, according to the bureaucrats. I happen to think the bureaucrats are the problem and building bigger bureaucracies through consolidation will be far more detrimental than good. 

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXIV

 The fourth quarter 2020 earnings of the producers continued the downward trajectory that we’ve seen over the past decade. This downward trajectory is in almost perfect symmetry with the trajectory of care and concern expressed by the bureaucrats involved in this business. How this approach continues with these difficulties with no recognition of the critical issues is beyond me. The belief in the effectiveness of “muddle through” is absolute. There was however an interesting trend that appeared in the fourth quarter. Just before the release of the earnings report there would be an announcement of a merger, divestment or acquisition of material size. These of course were designed to distract from the performance issues presented in the financial statements. Very effective I have to say. And for the first time I can remember in my life I’ve experienced two major producers, Occidental and Pioneer, claim the dog ate their financial reports, would not make their deadline and needed more time. That is they were unable to meet their previously announced deadlines and extended their release an extra week due to the Texas energy crisis. I’ve seen it all now.

All of our sample of producers that have issued audited financial statements have included Critical Audit Matters (CAM). (Definition provided below.) We expect the rest of our sample’s CAM’s will be seen in the annual reports and we expect to see all of them include the same CAM associated with the amount of depletion recognized in 2020. The industry has essentially been put on notice by the SEC that it is investigating Exxon and all the shale producers regarding their valuation of oil and gas reserves / assets. This being the issue that People, Ideas & Objects believes has led to the distortions and disruptions in the financial performance of the industry and a major contributor to what has caused its financial difficulties since 2015. It is an intrinsic part of the bureaucrats culture of “muddle through,” “building balance sheets,” and “putting cash in the ground.” That over reported asset valuations lead to commensurate over reported profits, which attract disproportionate investors which lead to excessive over investment in the industry causing overproduction of oil and gas commodities. These have been taken to obscene valuations and are represented on any and all producer balance sheets by their disproportionate size of property, plant and equipment. It is our belief that audit firms should have been dealing with this issue four decades ago. Their acceptance of the bloating and “building of balance sheets” and the culture of “you have to put cash in the ground” while on their watch makes them culpable and these CAM’s are the beginning of these audit firms house cleaning. A key issue that we’ve resolved within the Preliminary Specification, by our user community and their service provider organizations. Just one of the many issues which this community of software and services were designed to, and indeed, resolve. In addition we establish a solid footing for innovation within the industry. 

Critical Audit Matters

The Board is issuing this concept release to seek public comment on potential changes to the auditor’s reporting model based on concerns of investors and other financial statement users. Auditors, as a result of the performance of required audit procedures, often have significant information regarding a company’s financial statements and the audit of such financial statements, that is not today reported in the standard auditor’s report to the financial statements users. This information might be useful to investors and other financial statement users and could lead to more efficient markets and improved allocations of capital.

One of the more difficult aspects of the outsized nature of property, plant and equipment is the capitalization of overhead and interest that has occurred since the 1980s. Today the detail regarding interest costs is enhanced even further in 2020s fourth quarters reporting. With most of our sample producers now participating in the full disclosure of the treatment of interest costs. Many also reduced the capitalization of interest to zero in the fourth quarter. The detail of what and how interest costs are handled compared to many of the prior periods is very informative. I however still wonder why we never get any level of detail with respect to overhead costs? Overhead costs are capitalized on average by 85% in the industry. It's as I’ve repeatedly stated this is based on my knowledge and experience only. If any producer bureaucrat wants to educate me on what their specific practice is, I’m open to consideration of their facts. My email address is provided below and I see no harm in their being the first to do so! Although interest rates are very low, bordering on negative at times. The interest costs being incurred are becoming material to the producers for two reasons. 1) The revenues being generated are certainly not what they were, particularly in light of the soon to be incurred costs of rebuilding, refurbishing the infrastructure across the continent, and lets not forget the reclamation costs. All of these and more of the expected incremental costs of oil and gas exploration and production process were detailed in our series entitled New Cost Structures. If it is as we suspect that the valuation of these assets are becoming more suspect throughout the regulatory environment. Precipitating more rapid write downs in the future, leverage will quickly become an issue to the banks. 

But the interest paid will become more significant as the rates potentially go higher. The second point on interest rates becoming material is that since the November 3, 2020 election the ten year bond rate has increased by 113.67%. I assume the declared revisions to monetary policy by the Chairman of the Federal Reserve, being the democratic party's attitude of who cares about the debt, is having an effect on the market's perception of interest rates. This trend of increased interest rates, on top of the massive and detrimental effect that write downs will have on leverage may need to be sold as a feature in oil & gas and not a bug. People, Ideas & Objects identified the potential of escalating costs of money and bank leverage as potential crisis # 3 in our series New Cost Structures. We should anticipate this feigned attempt at honesty and transparent reporting to dissipate fairly soon as the demand for profits, real or otherwise, and the ability to produce them will require all the CFO’s tools to be on the table. That will demand the capitalization of interest to begin again, and the process of transparency will need to become more ghost-like. 

I don’t think at times producer bureaucrats fully comprehend the consequences and implications of the issues that I write about. Except I know they know better. Just for those bureaucrats that like to feign the inability to comprehend the tragic aspect of these CAM’s towards their future. They should ask the following questions, have all of the write downs been satisfied? Is the SEC satisfied now? Why have hundreds of lawsuits, some specifically citing the reported SEC investigation launched against Exxon, been started? Will the SEC look for the one scalp that will establish the example for all of the market to respond to. Just as they did with PennWest in September 2014 with their fraud charges for the ineligibility of capitalizing royalties and operating costs. The SEC has done the single violator example once now, it’s only reasonable that the industry did not take PennWest as an example to clean up their act beyond correcting the capitalization of royalties and operations. Therefore the SEC may feel they have to take the process further and extend their sample beyond just Exxon. The knowledge that subpoenas have been sent to other shale producers reflect only SEC fact finding inquiries at this time. Nonetheless, whatever happens with the SEC, the producer bureaucrats may not want to wait until the knock on the door before action is taken. Remember, “issue mitigated, nothing litigated” as expressed in our January 11, 2021 blog post. In addition their bank leverage is going to be increasing due to the reduction in assets as a result of audit and SEC regulatory actions. As it was quickly learned with the demise of PennWest and the prosecution of fraud of its officers by the SEC, capitalizing royalties and operations needed to be reversed quickly throughout the industry by all of the producers. Over the course of the time that we’ve been analyzing our sample of producers, which has been since the third quarter of 2016, the leverage of producer firms is getting more disproportionate by the day. A trend we see accelerating uncontrollably now. How much longer will the banks tolerate this erosion of their risk profile? 

If we take the proceeds from revenues less commodity purchases, transportation and production costs which make up the core of the costs of the producer we come up with the gross profit. These values are never in line, in my opinion, with what a productive, profitable oil and gas industry should be conducting. If we take our sample of producers for the 2020 year. Some may think the 2020 year was exceptional which it was. However these are all variable costs and would be the same percentage of revenues at whatever volume of production. Our sample of producers produced a gross profit of $51.6 billion in the 2020 calendar year. How inadequate the revenues of the producers is reflected in the overall loss of $60.7 billion, as reported based on the specious financial statements that I repeat chronically overreport profitability. This is usually where I’m told oil and gas is all about cash flow.

When considered over the life of the firm. A properly managed enterprise will produce x profit. The amount of that profit is dependent on the management of those assets and should be considered widely variable based on the quality of its management. It is also reasonable to assume that the life of those assets will produce, under an appropriate manager's hands, a similar profitability each and every reporting period. What can happen however is that the assets can be leveraged at any point within their lifetime to generate a reported profitability that boosts the earnings in the short term in order to enhance their position and standing in their community as a good manager. This may have been real valid profitability. Or it could have been specious accounting that did not recognize all of the costs associated with the reality of the situation. This latter situation creates a shortfall in cash that demands the necessity to be augmented in time with outside sources of cash to cover the alleged “profitable” periods that generate no cash. Over time, a firm such as this will have all but extinguished the opportunity to generate these false profits and be subject to the fact, as is the case in oil and gas, the property, plant and equipment account is disproportionate to all else and as a result will need to be drawn down much faster that would otherwise be necessary to correct the historical imbalance. Therefore creating losses that will be equal to the excessive profitable amounts reported on the basis of the falsity of those earnings reported earlier. 

Wise and astute readers may suggest that the fact that profitability was reported without cash will be offset by the periods in which losses will be reported with the generation of cash. And this would be the case in an appropriately managed enterprise. However, as we see the industry was not appropriately managed when the earnings were massaged to the short term, the softness of the management who believed they were superior managers were in reality pikers. Their best day would be to possibly manage the assets as a zero sum game. Which is what they’ve sort of been telling us for a few decades now. We must not have been listening or misunderstood their language. For me to understand or envision how they’ll suddenly become the requisite super-managers that are required demands that I assign a probability of 0%.

As was inevitable at some point, producers will be reporting greater losses than our model for the industry would have reported. Yet remain reporting significant losses under any basis of their management. This becomes inevitable over time as organizations grow older. The young organization may create the opportunity for the greater volume of the deferral of the depletion. As the organization reaches mid age, the amount of depletion begins to increase in excess of what “would have been” required due to the need to catch up with the need for more appropriate reporting. 2020 seems to be the definitive time in which we’ve crossed over that threshold. 

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXIII

 In the broader sense of spelling out a compelling vision. I’m finding once again some discussion within the industry that bureaucrats will continue with the work they’ve been doing in reducing the costs of oil and gas exploration and production over the past half decade. 

In Forbes

Let’s all remember that the U.S. shale industry boomed like never before throughout 2018 and 2019, a time during which WTI traded in a range of $53 to no higher than $72 per barrel. While it is true that the financing market for new shale projects remains tight, it is also true that shale producers who have spent the last two years heavily-focused on cutting costs, increasing efficiencies and deploying improved technologies are now able to present a far more attractive profile to potential investors than they could in 2018. That’s what a depression will do to the companies that manage to live through it.

In World Oil

A round-up of data on shale drillers shows they’re sticking to their pledge to cut costs, return money to shareholders and reduce debt. If they stay the course, it would validate the OPEC+ alliance’s high-stakes wager that it can curb output and drive crude prices higher without unleashing an onslaught of supply from U.S. rivals.

We’ll recall that while oil and natural gas prices were in steep decline the producers were able to sharpen their pencils and what could be produced “profitably” yesterday at $60 / boe could suddenly be produced “profitably” at $50 / boe. This went on from $50, to $40 and $30 and so on. I marveled at this capability and suggested that it may be the most miraculous occurrence in the history of business. As oil and gas prices continued to collapse due to overproduction the immediate bureaucratic response was to claim they could still make money at the new threshold of pain the market was applying. Market signals be damned. The difficulty that I have is that these comments and commentary that were asserted over the past half decade and these quotes from Forbes and World Oil, and particularly that which I’ve italicized, are contrary to the reality of the situation and these claims took on mythic proportions throughout the rampantly optimistic oil and gas industry. Bureaucrats obviously have some method of distributing their talking points so that they’ll all be singing from the same hymn sheets. This ensures that no alternative “thinking” as to how they so radically reduced their costs would ever be heard or considered. 

My response to these claims of reduced costs was a further assertion of the nature of their specious accounting that has been undertaken in oil and gas. Where “building balance sheets” and “putting cash in the ground” became a key part of its culture. If we think about the producer firm they’ll have thousands and in the larger producers hundreds of thousands of wells that have been drilled over the prior decades. Of the current year's activities which will total as many as a few hundred wells, I do not doubt that costs have been reduced, and we’ll discuss how later in this post. However, the question that needed to be asked was how is it that the historical cost of all the properties of those thousands and hundreds of thousands of wells that were drilled many years before suddenly had their costs reduced and can now perform profitably at the lower price, and remarkably even half the commodity price? In a capital intensive industry how is this possible? Have there been new innovations in historical accounting that I am unaware of? Or is this just an extension of the specious accounting that People, Ideas & Objects have been writing and concerned about? 

Well it turns out that it has nothing to do with accounting or the financial statements of the producer firm. It’s a story about what could or might possibly happen in the future, if they chose to drill wells in the places where the bureaucrats have identified future drilling locations. These costs and their declining costs per barrel are what are called “Recycle Costs'' in oil and gas. A mythic being that roams the earth at night and invades only the minds of those bureaucrats who need an excuse, someone to blame or a viable scapegoat. They are the answers to questions such as “With today’s depression era service industry prices, what could we contract a drilling rig for, and how much would it cost for the lateral to be fraced?” It’s not that they would ever contract the rig for the work being asked about, they’re only wanting to spec out the cost of a well and then determine what that cost would be and if it would be “profitable,” from their perspective, in the current commodity market. 

How these recycle costs have become so much more “profitable” than what the historical costs of the producers have been. Is easily understood when we consider the devastation that occurred in the oil and gas service industry. If oil and gas we’re in a depression, then the service industry would be devastated. First, when producers did not want to spend their cash they cut their field activities in half, and then significantly further from there. The service industry was faced with layoffs, idling capacity and difficult business decisions as to what to do. At one point producers, unable to find the funding to maintain their contractual obligations in the service industry, were willing to continue the work and extend the payments for these services up to 18 months. That time has now passed and is history, however the service providers were not aware of these changes in payment policies. Having financed the producers activity for a period was not what they wanted or were capable of doing, even though they were at half capacity or less. However, producers being the smart ones they are, knew they were the ones with the money, eventually, and had leverage over the service industry who they knew were desperate. They therefore were cutting the day rates and service costs of any activity to the level where the service industry was experiencing their revenues would not provide for anything more than the variable costs of the activity. After all, the bureaucrats thought, if the producers were conducting their business in that manner for the last four decades, why wouldn’t everyone else? 

Therefore just using these two factors the service industry was faced with a drop of approximately 75% of their revenue streams. Conversely producers were receiving bids for their recycle costs where the costs of the service industry was at best half of what the “normal” business environment would have offered. The two factors that I’ve used here are also incorrect and only used as an example for simple math purposes. We know for example that drilling activity decreased approximately 75 - 80%, therefore the revenues were barely 10 - 12.5% of what they were. And, if we were to look at that from the producer bureaucrats point of view. When producers pay the service industry on an 18 month schedule that’s not a lot of money the service industry had to finance. 

It was about this time, if anyone wants to recall, that scrap metal was all the rage in the oil and gas service industry. Cutting up oil and gas field equipment was sometimes enough to pay for the light bill. Except, some weren’t able to maintain their operations and closed permanently. The devastation in the service industry has always been historically worse than what is experienced in the producers. The producers earned the primary revenues, or as People, Ideas & Objects call it the bureaucrats money, which although were lower from the low commodity prices, were still enough to keep the bureaucrats happy. The service industry has no customers or hopes of any customers in any other industry other than oil and gas. The commensurate drop in the capacities and capabilities of the service industry can only be exacerbated in knowing that oil and gas is up and running, but truthfully who cares? People in the service industry will want and need more than just the first paycheck promised and the vendor will need more than just a purchase order. The expectations will be different and they will be driven out of necessity. Business done the old way will be a bit of a stretch to consider. The ability of the service industry to restaff with experienced personnel may be difficult. How much of the critical knowledge has walked, taken their family and mortgage to work at WalMart where at least they know they’ll be able to work continuously and also be paid? The offer of lucrative pay is not going to offset the poor quality of life they experienced when working in the field and the shoddy treatment producers inflicted on the service industry. 

This also assumes that the service industry vendors will be lining up to receive their beatings once again. Where is Schlumberger, Halliburton and in Canada BJ Services and why are they no longer answering the phone? Enough of the big guys how about so and so, where are they? The fact of the matter is the service industry has been at the beck and call of the oil and gas industry for the past four decades in ways that would redefine customer service as spectacular. These people should be commended and thanked for their service to the oil and gas industry for stellar service that always went twice as far as what was expected of them. They were also the innovators that had their hands and eyes on the issues and opportunities that were happening in the industry. The development of coil tubing and Packers Plus, for example, took almost a decade of hard work and slogging to finally get the attention of producers. Prior to that they were shunned and had to persevere much as what People, Ideas & Objects have had to do. The innovators that producers claim to be is nothing more than hog wash and lies. Regardless, when times were good in the mid naughts in oil and gas, all that the service industry ever heard from oil and gas producers was how greedy and lazy they were. These producer bureaucrats have earned the right to be shown the door with a swift and stern kick from the muddiest work boots that can be found. They are despicable. Such a history should be bronzed for permanent display in the town squares where all the producers reside. 

The costs of rebuilding the service industry was part of the New Cost Structure series we detailed and wrote about in late January 2021. The service industry investors and bankers were left holding the bag, as they say. They’re not standing up for another round and the ability to recapture the North American service based capability and capacities are going to be done on a volunteer basis by the producers philanthropic efforts. This is going to cost more money than what bureaucrats could ever imagine. If they want to contract a new rig, they’ll need to find the operator qualified to build and operate it for him. All on the producers gracious willingness and courtesy, but mostly those primary revenues they’ve been hoarding. And pay the day rates, or whatever basis the driller determines they’ll charge the producer to drill wells in the future. And the producer will be so grateful and thankful for the next few decades they’ll buy all the drillers kids Christmas presents. Bureaucrats should understand that it’s a new day, one in which you get to reap what you sow. And though the producers have always been standing on the top of the heap because they owned the Petroleum & Natural Gas Lease, as I’ve shown them the 21st century is not about physical assets, it's about Intellectual Property. It is the means and methods to have things done in the field that is held in the minds and hands of the service industries operators. This Intellectual Property, much like People, Ideas & Objects Intellectual Property and all Intellectual Property in the 21st century, is going to be expensive.  

It’s good to criticize, which I subscribe to and am endearing at. Far better to have a solution. The Preliminary Specification was published in December 2013 and contains the Resource Marketplace module which captures these facts in the same form. From seven years ago! Nothing ever changes with the producer bureaucrats, something you can bank on. The Resource Marketplace has the means and methods to rebuild the service industry based on the understanding that these resources are a critical part of the North American oil and gas industries, profitable and energy independent production profiles capability and capacity. The service industry is solely responsible for 100% of the industry's innovation. Never let a bureaucrat mouth anything different. I just didn’t know when I published the Preliminary Specification that the bureaucrats would destroy things as badly as they have, however that is where we are today. 

And that is how the industry will have to deal with the service industry or there will be no service industry capable of dealing with the producers needs, ever. In addition to that stack of other costs we identified in our New Cost Structures series of blog posts. Those being the reclamation costs that have even Shell trying to avoid, rebuilding and refurbishing the infrastructure that has aged. There is the expansion of that infrastructure which emulates much of what the service industry has gone through and will need to rebuild its capabilities and capacities. Remember the producer bureaucrats who were standing in front of everyone selling the needs for the Keystone XL Pipeline, or in Canada with the Transmountain Pipeline that Kinder Morgan started? Actually no one remembers these things because they never happened. Kinder Morgan gave up the fight, as I think all the pipeline companies will be doing, and sold to the Canadian government for similar reasons in the failure of Keystone XL. If producers want a pipeline from there to there, then the pipeline companies can talk, but they’ll want to see all of the money upfront just like People, Ideas & Objects and the service industry either demands today, or in the near future. Issuing a purchase order, sitting back on the couch and waiting for someone else to do the job, while you belittle them as greedy and lazy while you never lend a hand is over. Maybe if the bureaucrats had some skin in the game they would saunter down to where the rest of us live and start doing some work too. And when it comes to paying the blackmail from Greenpeace and all those environmentalists threatening to protest you in front of your head office, bureaucrats can continue that, however as the pipeline companies have learned it's very counterproductive to do so. “Muddle through” and “putting cash in the ground” have certainly made it into the bureaucratic hall of fame. Management should be there to manage the business and build value, mostly by way of real profitability, everyday and everywhere no matter what the situation is. 

So where are we going with this one sided dissertation that is well past due. Oh yes, “Recycle Costs.” That utterance right there may be the last time anyone, anywhere says those words again. “Recycle Costs,” no wrong again, will be a minimum of 4 times higher than what they were before. These are the consequences of filling one's pockets at the expense of everyone else in the industry. Filling out the balance sheets as if they’re wish lists. And saying things in the public domain that are just not true, are absolute falsehoods and could never be because they defy reality. 

Producers only wanted to work with the service industry members of size and therefore new and innovative service industry providers were shunned. Then when the depression hollowed out the service industry, much of the critical infrastructure was cut down for scrap metal etc. Schlumberger walked as did many others. Not much can be done with that scrap metal today and the service industry, much like the oil and gas producers themselves don’t have a deep rolodex of investors anymore. Their only source of capital for their rebuilding is the producers themselves. By having them fund much of the rebuilding process of their industry with much, much higher oil and gas prices. Rebuilding the service industry with those primary revenues of theirs. Primary revenues that were generated in the past with the efforts of the service industry and pipeline companies that have been fundamentally betrayed by the oil and gas bureaucrats. These new costs will be reflected very soon in the “Recycle Costs.” As a result of these factors the days of having these “Recycle Costs” quoted may be over. No one will claim they can be profitable at $200 / barrel. Unless that’s a real good price in 2025.

I have to suggest that the bureaucrats be advised not to go on the record today and make these claims to World Oil and Forbes. This would be for two reasons. The first is that those ambulance sirens they’re hearing are really lawyers who have all that they’ve needed to file a variety of class action lawsuits. They’re coming for all of the bureaucrats, what we kindly call the officers and directors of the producer firms and the more they draw attention to what it is they're doing the more difficulty they’ll be causing themselves. Secondly, this is exactly the issue that has motivated these lawyers. They see the SEC investigating Exxon and issuing subpoenas to the shale producers for their asset valuations and now bureaucrats decide to run around town fudging the numbers (again) with mythic tales of super hero status. Can I hear that production can be had profitably in single digits? Oh come on, why not?

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here. 

These Are Not the Earnings We're Looking For, Part LXII

 On Tuesday March 2, 2021 the CERAWeek conference had producers claiming “capital discipline'' as their “new” tool to deal with their issues. This has been their go to claim when oil prices begin to show some strength. And an implicit recognition of their history in crashing prices through overproduction and ensuring that no one really ever makes any money, but they’ve learned “and this time is different.” That reputation is intact today. Cash balances and the generation of surplus levels of cash would reflect that the bureaucrats have been able to “manage” themselves in an appropriate manner. After all a profitable organization would denote that abundant cash was being generated. Which begs answers to two critical questions that these bureaucrats either don’t understand or don’t know the answer to. 1) Why did oil and gas producers need to have annual shareholder issuances for decades at a time in the 1990s, throughout the 2000s and up until 2015? 2) Where’s all the cash that had been raised before and the profits that were reported from those investments?

I am getting tired of people telling me that I’m wrong about what’s going on in the oil and gas marketplace. “There are a lot of people around the city with a lot of cash and are very wealthy.” I’ve been told on many occasions. And I tell them that is what I’ve been saying. No one seems to understand that having an oil and gas industry that is decimated, the service industry all but looks for new ways to deal with the producers, mostly in cash, and the people working within oil and gas actively contemplating what industry they should move to. Instead the excessive wealth held by the small population of oil and gas bureaucrats is somehow acceptable? I am all for wealth, don’t get me wrong but you have to earn it by building value which is what I believe the Preliminary Specification, our user community and their service provider organizations do, mostly by getting rid of the bureaucrats and other means of value generation. Solving problems is the method chosen by People, Ideas & Objects, our user community and their service provider organizations. I deplore the lining of pockets due to “one’s position in life.” Which is nothing more than what the former Soviet Union did, only the powerful get anything, everyone else gets nothing and absolutely nothing happens about it or solves the chronic problems. They’ll “muddle through.” Holding out to me the handful of wealthy oil and gas bureaucrats as an example of why I’m wrong is only evidence that there has been one objective in the industry at the expense of everything else. 

I now know where the cash is! It’s in the ground. Just exactly where the bureaucrats said they put it. And there you have the natural complement to “muddle along” and “do nothing,” by saying “you have to put cash in the ground.” Oil and gas is a capital intensive industry. The SEC allows the industry to record their account of property, plant and equipment to be anything below the reserves value. I’m using the bureaucrats' interpretation here. If any of these producers were dynamic, innovative, accountable and profitable producers they would be seeking to reduce their property, plant and equipment as quickly as possible. That way their cash which had been invested in prior periods is being recaptured when profitably sold to the consumer and either returned to be used for reinvestment, dividends or retiring bank debt. In healthy companies they do all three of these tasks equally each year. Instead all the bureaucrats' costs are capitalized except for royalties and operating expenses as they’ve learned through the infamous SEC investigation of PennWest and that scandal. Never heard of it, don’t worry PennWest doesn’t exist anymore. Overhead is capitalized to the tune of 85% of its cost on average, interest is capitalized at around 35% today. Therefore the only costs hitting the producers income statements are royalties, operations, 15% of the overhead and 65% of interest costs and the woeful amount of capital depletion when allocated over the next 20 years or more. Depleting only the capital costs of the current periods production from the total reserves of the producer will always amount to low percentage depletion of the total amount in property, plant and equipment. Therefore the amounts of the North American producers exploration and production costs that have and are being passed onto the consumer is how much of the real cost of oil and gas exploration and production in North America? No one, and I mean no one knows. Balance sheets have existed to be “built,” they represent the “value” of the firm as far as bureaucrats are concerned, that accounting should be about performance is a novel and unknown concept in oil and gas. 

As a result of no one knowing or understanding the real cost of North American based oil and gas exploration and production. We’re building balance sheets remember. The prices that are realized will always be adequate to show a profit when few of the costs are recognized in the current period. Many costs have been deferred and the investors provide the liquidity necessary to pay for next year's costs. The real damage to the industry comes about when the price discovery mechanisms for oil and gas, on a global scale, are lost due to the high cost producers in the world dumping products at whatever cost onto the market causing the prices to collapse, repeatedly. This is done as a business model, while blaming others for the difficulties in negative $40 prices. Never knowing or understanding the dynamics of costs or prices in the business that you operate is an advantage when you have a willing group of investors and bankers believing the financial statements that have been produced along the way. Oil and gas bureaucrats considered this to be their business model. Most would consider it to be a luxury or benefit. However, as we’ve learned in the financial statements of 2020, the loss of investors and to a large extent bankers, it can now be considered the tragedy People, Ideas & Objects have been saying and warning that it would become. 

One aspect of the simple answer to the question of why bureaucrats needed annual shareholder issuances was to make up for a chronic shortfall in cash. This shortfall was a result of all of the costs of the producer being capitalized and only a portion of the overhead and interest costs, royalties, operating expenses and small portion of the capital assets that were depleted were ever recognized as the costs being passed to the consumer. As bureaucrats were “building balance sheets,” we can see how the ridiculous nature of their claims of “putting cash in the ground” only gets worse, yet contains a granular bit of truth to keep the machine rolling forward. 

What bureaucrats feign not to understand is they were expending cash on all of these costs during the course of the month. Cash was not being returned to them from the consumers as a result of the low commodity prices their producers' chronic overproduction was responsible for. Therefore the monthly “float,” as it is known in all businesses, never existed as the cash balance was extinguished each month and could not be replenished due to the imbalance created to capitalize everything and “build balance sheets.” When investors were plentiful this monthly cash deficit was filled with an annual infusion to get them through an entire year. Now with nothing coming in as a result of low commodity price sales from the consumers, and no investors and scarce bankers, the scramble for cash just to keep the lights on continues anew each and every month. In any business this would have become evident within a month through basic daily cash management, in oil and gas it took four decades to understand so bureaucrats would have us believe. With the abundance of willing investors there was never any issue and certainly no need as far as the bureaucrats were concerned. They also had the CFO pumping out specious financial statements that stated spectacular profitability was continuing and growing. Which kind of indicates the cash was continuing to grow too, yet here we are.

The Preliminary Specification is different from the current status quo. Hence the abuse and difficulties that People, Ideas & Objects have had in getting traction in the industry. We disintermediate the industry. Which of course means we’ll be sending the bureaucrats packing for a long trip away from here. It’s up to them if they live in the retirement style of life they’ve envisioned for themselves. Or if they’ll be waking each morning in a cold sweat about the day's legal actions that have started. I would not want to go into court and try to defend myself on the basis of the quality of the accounting that is conducted in oil and gas. To determine the performance of the producer, in my opinion, does not exist. To determine the performance of any specific property does not exist. Also an opinion of mine and one that I’ve detailed on this blog before. To prove it, just ask what the actual overhead is on a property, make sure you receive the actual overhead and not the overhead allowance. Those latter numbers are moot and inappropriate. To prove that the overhead allowances are moot, ask for the total overhead incurred across the industry vs the total overhead allowances incurred across the industry. That comparison will show that the numbers are not relevant. Hint, industry wide the overhead allowance total begins with the letter Z as in $0.00. It would nonetheless be interesting to see what the actual overhead numbers of any producer or the industry were. They for some reason continue to be the most invisible numbers known to mankind. 

The previous statement has nothing to do with the high quality people who are preparing and conducting the accounting information in the industry. The bureaucrats have, as I’ve stated before, not changed anything in their systems since I published the fact in May 2004 that software defines and supports the organization and to make any organization change you therefore need to change the software first. And the bureaucrats interpretation of that being was they’ll secure their franchise by not changing any of the producers software. Therefore the analogy that best describes the situation is the architects design spec out a spectacular 50 story office building and details the building materials to be balsa wood. What are those involved in the building of that structure going to do to make the building structurally sound? Very little, just as the many individual accountants are unable to effect the necessary changes to deal with the producer or industry issues. 

The Preliminary Specification, our user community and service providers provide for a dynamic, innovative, accountable and profitable oil and gas industry with the most profitable means of oil and gas operations, everywhere and always. Setting the foundation for profitable North American energy independence. People, Ideas & Objects have published a white paper “Profitable, North American Energy Independence -- Through the Commercialization of Shale.” that captures the vision of the Preliminary Specification and our actions. Users are welcome to join me here. Together we can begin to meet the future demands for energy. Anyone can contact me at 713-965-6720 in Houston or 587-735-2302 in Calgary, or email me here.