ConocoPhillips (NYSE: COP) is one of a growing number of oil producers that is reevaluating its drilling plans in the Permian Basin because of the region's looming pipeline shortage. Among the options it's considering is redeploying at least some of its resources out of the Basin until new pipes start up toward the end of next year. While that could affect its growth prospects in the near term, it also might provide the company with the opportunity to enhance its longer-term growth potential in the region.
It came faster and harder than we thought
At an investor conference a few weeks ago, an analyst asked ConocoPhillips' CEO Ryan Lance about how the Permian Basin fits into the company's portfolio as well as how it plans to respond to pressures in the region. Lance answered the second part of the question by saying that while the company saw the pipeline constraints coming (as did most everyone else), "we didn't see it coming as maybe as fast or as hard is it came this year." Still, because the company anticipated the problems, and didn't have contracts with pipeline companies to move its oil out of the region, it has "gone slower in the Permian" this year. That more moderate pace would also help the company better understand the best ways to develop the acreage it has in the region.
However, with the pipeline constraints causing regional oil prices to fall, Lance stated in a recent Financial Times interview that he's "not sure it makes sense to drill into that headwind." Because of that, the company is looking at reallocating its resources to other regions like the Bakken or Eagle Ford, which could potentially cause its production from the Permian to head in reverse.
ConocoPhillips isn't the only driller slowing down. According to a recent report, producers in the region are leaving wells uncompleted at a record pace. Meanwhile, others are slowing their drilling activities, including Halcon Resources (NYSE: HK), which decided to reduce its rig count from four to three in the near term. Because of that, Halcon Resources' production won't grow as fast as it initially expected in the coming year. Some oil companies could even shut down producing wells if they don't have ways to get their crude to market.
The silver lining
While pipeline issues are plaguing the Permian's growth prospects in the near term, that problem should go away by the end of next year, when the industry expects to add enough new pipeline capacity to move another 1.5 million to 2 million barrels of oil per day. ConocoPhillips has already secured space on some of those pipelines to support future growth.
However, the near-term issues might be just the solution to a different problem ConocoPhillips had in the Permian, which is that it can't find good values on land to bolster its position. Lance stated at the investor conference that "we've bid on a bunch of deals over the course of the last three years" and "looked at every one of them" but "thought they were too high-priced."
That's why the pipeline shortage could turn out to be a blessing in disguise for the company, because it could compress land values down to its comfort zone. Lance noted that ConocoPhillips is in the "market every day" and knows exactly what it would like to acquire if the right opportunity arose. That's an increasing possibility as the drilling boom takes a breather over the next 18 months because of pipeline problems.
Just a bump in the road
The Permian Basin is a crucial growth driver for oil companies because of its oil-rich rocks and low production costs. However, infrastructure problems could slow it to a crawl over the next year, which might force ConocoPhillips to redeploy resources so it can continue growing. While that's a disappointing development, it's just a temporary problem. Further, ConocoPhillips might be able to take advantage of the situation and buy more land in the region at a lower price. Those are just some of the many reasons the company's future remains bright.
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