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Energy Insights: Energy News: Margins for fracking drillers shrink – Peak Oil

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Margins for fracking drillers shrink – Peak Oil



We’ve known for a while now that natural gas fracking companies weren’t making a lot of money.

The low cost of natural gas and the high supply meant margins were tight or nonexistent. That’s why experts like Keith Kohl have been digging into balance sheets and picking the winners from the losers.

In my trading service Crisis and Opportunity, I haven’t been buying fracking companies — rather, I’ve been buying those companies that benefit from the fracking boom. For example, there are firms selling fracking sand (one company is up more than 350%) that are growing 30% a year.

One company that makes railcars for shipping oil and gas just got a 7,000-car order. And others that provide storage tanks and port facilities have doubled in the past year.

It is no surprise to us here at Energy and Capital that a fracking shakeout is coming. We’ve been ahead of the fracking curve for about ten years now.

But yesterday, Bloomberg stated the obvious in an article entitled, “Shakeout Threatens Shale Patch as Frackers Go for Broke.”

Asjylyn Loder writes:

“The U.S. shale patch is facing a shakeout as drillers struggle to keep pace with the relentless spending needed to get oil and gas out of the ground.

Shale debt has almost doubled over the last four years while revenue has gained just 5.6 percent, according to a Bloomberg News analysis of 61 shale drillers. A dozen of those wildcatters are spending at least 10 percent of their sales on interest compared with Exxon Mobil Corp.’s 0.1 percent.

“The list of companies that are financially stressed is considerable,” said Benjamin Dell, managing partner of Kimmeridge Energy, a New York-based alternative asset manager focused on energy. “Not everyone is going to survive. We’ve seen it before.”

Survivor Time

That’s right, booms don’t last forever, and running on debt will only get you so far. You only have to look at Chesapeake Energy (NYSE: CHK).

Chesapeake was a first mover on fracking. It ran up and down the Marcellus buying up land rights and making deals like mad.

But the bottom fell out when the price of natural gas dropped from $12 to $4. The company’s share price went from $70 to $15. Chesapeake ended up selling large chunks of its portfolio to Exxon Mobil so it would remain solvent.

That said, taking on a ton of debt and moving fast without a care for shareholders works well for insiders. Those of you who remember the heydays of Enron or AOL can vouch for that.

No Free Lunch

However, one can’t expect to get free money forever. Some of the 61 U.S. fracking companies are now paying 20% interest on their debt. These companies are over-leveraged and using up large chunks of revenue to pay off this monthly expense.

This means they can’t afford to keep drilling new holes, which in turn means less revenue. It is a balance sheet death spiral.

This is why exploration companies have always sold rights and/or partnered up with others to balance risk and control costs. It is just part of the game. Some of these frackers are going to go broke, and others will be “diamonds in the rough.” Look for an increase in M&A throughout the summer.

The way to invest in these companies is to buy those that benefit from low-cost natural gas or those who will be the winners after the shakeout.

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