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Tight Oil and The Willing Suspension of Disbelief College of the Coast & Environment Louisiana State University November 22, 2019

Art Berman Labyrinth Consulting Services, Inc.

Slide 2 Labyrinth Consulting Services, Inc. artberman.com

• Any movement, activity or event in nature requires energy
• Human society runs on energy

Ø Work requires energy—joules/calories. Ø Subsistence: energy intake = energy expenditure. Ø Surplus: energy intake > energy expenditure. Ø If I accumulate excess energy such as grain, I may choose to have you do some

• f my work in exchange for some of that energy.
• Money is a call on work

Ø Today, most work is done by oil, natural gas and coal. Ø 1 barrel of oil contains about 4.5 years of human manual labor.

“Energy is and always will be the currency of life” –Nate Hagens

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13.1% 30.6% 36.5% 8.3% 2.7% 0.9% 2.5% 5.1%

Wind was 2.5 % of U.S. Primary Energy Consumption & Solar was 0.9% v

COAL NATURAL GAS PETROLEUM NUCLEAR HYDRO GEOTHERMAL SOLAR WIND BIOMASS

Petroleum Natural Gas Coal Energy is the Economy For now, that means oil, natural gas and coal

Source: EIA & Labyrinth Consulting Services, Inc. Table_1.3_Primary_Energy_Consumption_by_Source

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9.64 8.97 5.00 10.74 2 4 6 8 10 12 14 16 18 1900 1905 1910 1915 1920 1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025 2030

Crude Oil and Condensate Production (mmb/d)

Conventional Lower 48 States

Source: EIA, EIA AEO 2019, Drilling Info & Labyrinth Consulting Services, Inc.

U.S. oil production peaked in 1970 & declined by almost 50% by 2008 Production surpassed its previous peak in 2017 because of tight oil Alaska Offshore Tight Oil

Peak OIl 1970

EIA 2019/Monthly Updates/CRUDE OIL PRODUCTION ANNUAL.xlsx.

Prudhoe Bay 1985 2008 2018

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U.S. Tight Oil & Shale Gas Plays

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• Conventional oil plays involve drilling reservoir rocks with vertical wells.
• After all the commercially attractive conventional fields in the U.S. were discovered and

were in depletion, unconventional plays were the only option.

• Tight oil plays (fracking) involve drilling the source rock with horizontal wells.
• Tight oil horizontal wells cost 2-3 times more to drill and complete than conventional

vertical wells.

• There is considerable fanfare about the new volumes of oil but little discussion about the

cost of the technology and its effect on the price of oil.

Conventional and Unconventional Oil

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2 4 6 8 10 12 14 Jan-00 May-00 Sep-00 Jan-01 May-01 Sep-01 Jan-02 May-02 Sep-02 Jan-03 May-03 Sep-03 Jan-04 May-04 Sep-04 Jan-05 May-05 Sep-05 Jan-06 May-06 Sep-06 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09 May-09 Sep-09 Jan-10 May-10 Sep-10 Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Jan-13 May-13 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Sep-15 Jan-16 May-16 Sep-16 Jan-17 May-17 Sep-17 Jan-18 May-18 Sep-18 Jan-19 May-19 Sep-19

Crude Oil + Condensate Production (mmb/d)

Chart Title

CONVENTIONAL DEEP WATER TIGHT OIL 2000-2011 AVG 2019 AVG

Source: EIA DPR, Drilling Info & Labyrinth Consulting Services, Inc. EIA 2019/DUC-DPR/U.S.UNCONVENTIONALVS CONVENTIONAL MASTER

All increase in U.S. production since 2011 has been tight oil 55% of U.S. crude + condensate production is from tight oil plays 14% is from deep water and 31% is from conventional plays

Conventional Deep Water Tight Oil

2000-2011 average 5,440 b/d 2019 average 12,131 b/d +6,700 bopd

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• 1.0
• 0.5

0.0 0.5 1.0 1.5 2.0 2.5 3.0

• 5

5 10 15 20 25 30 35 Jan-71 Jan-72 Jan-73 Jan-74 Jan-75 Jan-76 Jan-77 Jan-78 Jan-79 Jan-80 Jan-81 Jan-82 Jan-83 Jan-84 Jan-85 Jan-86 Jan-87 Jan-88 Jan-89 Jan-90 Jan-91 Jan-92 Jan-93 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18

U.S. Consumer Prices Inflation Rate Growth (Annual Percent) World Oil Demand Growth (mmb/d/yr), 10-Year U.S. Treasury Bond Rate (%) and 2019 Brent Price Index

Chart Title

10-Yr Treasury Bond Rates INFLATION OIL DEMAND GROWTH POS OIL DEMAND GROWTH NEG CPI BRENT INDEX INFLATION GROWTH

High oil prices & inflation caused negative demand growth during oil shocks of 1970s 2011-14 high oil prices not accompanied by negative demand growth possibly because of long-term decline in interest rates & inflation

Source: EIA & Labyrinth Consulting Services, Inc. Oil & Gas General/Inflation Annual Master

Interest Rates 2019 Brent Price Index Inflation Growth (RHS) Oil Demand + Oil Demand - Inflation

High Oil Prices 1973-74 Oil Shock 1978-80 Oil Shock 2008 Financial Collapse Financial Collapse Negative Demand

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35 42 5 10 15 20 25 30 35 40 45 50 55 2 4 6 8 10 12 14 16 18 20 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 2021 2023 2025 2027 2029 2031 2033 2035 2037 2039 2041 2043 2045 2047 2049

U.S. Crude + Condensate Proved Reserves & Reserve Forecast (billions of barrels) U.S. Production & Production Forecast (mmb/d)

Source: EIA, EIA Annual Energy Outlook 2019 & Labyrinth Consulting Services, Inc.

Production Forecast (LHS) 42 Billion 2017 Reserves Highest in U.S. History from +4.4 Billion Tight Oil Increase Reserve forecast based on production forecast implies step-change in U.S. reserve levels 2018-2030 annual reserve additions based on 2009-2017 historical average Proved Reserves (RHS) Proved Reserves Forecast (RHS) Production (LHS)

2017

EIA 2019/AEO 2019/Table 14. Oil and Gas Supply.xlsx

Not realistic

Slide 16 Labyrinth Consulting Services, Inc. artberman.com 7.63 10.28 8.38 6.95 8.53

2 4 6 8 10 12 14

• 10

10 30 50 70 90 110 130 150 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 2036 2037 2038 2039 2040 2041 2042 2043 2044 2045 2046 2047 2048 2049 2050

EIA Tight OIl Production Forecast (mmb/d) Proved Reserves & Cumulative Prodtion (billions of barrels of oil)

Source: EIA Annual Energy Outlook 2019 & Labyrinth Consulting Services, Inc.

Production Forecast (RHS)

Cumulative Production (LHS)

Proved Reserves Depleted in 2023

IEA tight oil forecast for 11 mmb/d in 2030 exceeds EIA AEO 2019 forecast by 7% 2019 EIA estimate already +0.7 mmb/d (+10%) too high Adjusted forecast suggests peak tight oil production of 8.5 vs 10.3 mmb/d in 2031

112 billion barrels

20 billion barrels 2017 Tight Oil Proved Reserves

EIA 2019/AEO 2019/Table 14. Oil and Gas Supply.xlsx

2019 2031 Adjusted Forecast (RHS) 91 billion barrels 2026

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2.82 2.59 2.09 2.01 1.77 1.74 1.48 1.45 1.44 1.40 1.37 1.36 1.24 1.24 1.23 1.15 1.09 1.04 0.57 0.00 0.50 1.00 1.50 2.00 2.50 3.00 3.50 4.00 HES CPE FANG LPI PE EPE DVN CXO APA OXY CRZO OAS MUR EOG PXD ECA MRO CLR COP

Capital Expenditures/Cash from Operations Ratio

Chart Title

HES CPE FANG LPI PE EPE DVN CXO APA OXY CRZO OAS MUR EOG PXD ECA MRO CLR COP

95% of sampled tight oil companies had negative cash flow in Q1 2019

Source: Yahoo Finance & Labyrinth Consulting Services, Inc Oil & Gas General/Sampled E&Ps/Sampled E&Ps MASTER

Capex/Cash Flow > 1 Capex/ Cash Flow < 1

Capital expendiures/cash from operating activities

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1.50 1.49 1.41 1.27 1.09 1.08 1.07 1.00 0.90 0.89 0.86 0.81 0.75 0.75 0.75 0.73 0.61 0.56

• 0.4
• 0.2

0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 0.00 0.50 1.00 1.50 2.00 2.50 3.00 APA FANG HES CPE PE CXO WLL PXD MRO DVN CLR LPI EOG OAS ECA OXY MUR COP

Normalized Net Income-Enterprise Value Capital Expenditures/Cash from Operations Ratio

Chart Title

CAPEX/CF NORM NI-EV Linear (NORM NI-EV)

61% of tight oil-weighted U.S. companies had positive cash flow in Q3 2019 compared to only 50% in Q2 Good correlation between cash flow & net income-to-enterprise value ratio

Source: Yahoo Finance, SEC 10-Q filings & Labyrinth Consulting Services, Inc Oil & Gas General/Sampled E&Ps/Sampled E&Ps MASTER

Capex/Cash Flow > 1 Capex/Cash Flow < 1

Capital expendiures/cash from operating activities

Normalized Net Income-Enterprise Value Ratio (RHS)

Slide 20 Labyrinth Consulting Services, Inc. artberman.com

Oil prices have been substantially lower since 2014 And investment has fallen correspondingly

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$30.32 $45.18 $57.88 $63.70 $70.75 $56.96 $49.52 $54.81 193 558 617 523

• 100

100 300 500 700 900 1100 $0 $5 $10 $15 $20 $25 $30 $35 $40 $45 $50 $55 $60 $65 $70 $75 $80 $85 $90 $95 $100 $105 $110 $115 $120 $125 $130 $135 $140 $145 $150 $155 $160 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 May-17 Jul-17 Sep-17 Nov-17 Jan-18 Mar-18 May-18 Jul-18 Sep-18 Nov-18 Jan-19 Mar-19 May-19 Jul-19 Sep-19 Nov-19

Tight Oil Horizontal Rig Count (lagged 12 weeks) WTI Price ($/barrel) Source: Baker Hughes, EIA & Labyrinth Consulting Services, Inc. Rig Count 2019/Monthly Shale Gas-Tight Oil Rig Count Data

WTI Price 2-month lagged (LHS)

$60/barrel

May 2016 Mar 2018

Rig Count (RHS)

Dec Oct 2018

BUY LOW, SELL HIGH! Tight oil rig count tripled (2.9x) May 2016 to Mar 2018 as WTI went from $30 to $60 It has decreased -94 since December 2018: SELL!!!

3x Rigs < $60 WTI 193 - 558 rigs

Oct 2019 Aug 2019 Dec

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0.31 0.38 0.38 1.10 1.16 1.18 0.31 0.35 0.36 1.12 1.35 1.43

2.25 3.25 3.75

5.09 6.49 7.057.117.16 21% 17% 18% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 1 2 3 4 5 6 7 8 9 Jan-17 Feb-17 Mar-17 Apr-17 May-17 Jun-17 Jul-17 Aug-17 Sep-17 Oct-17 Nov-17 Dec-17 Jan-18 Feb-18 Mar-18 Apr-18 May-18 Jun-18 Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 Jan-19 Feb-19 Mar-19 Apr-19 May-19 Jun-19 Jul-19 Aug-19 Sep-19 Oct-19 Nov-19

Tight Oil Annual Production Growth (%) Oil Production (mmb/d)

Chart Title

ANADARKO EAGLE FORD NIOBRARA BAKKEN PERMIAN TIGHT OIL TIGHT OIL GROWTH

Anadarko +1% Niobrara +3% Eagle Ford +2% Bakken +6% Permian +16%

Source: EIA DPR, Drilling Info & Labyrinth Consulting Services, Inc. EIA 2019/DUC-DPR/dpr-data_MASTER

U.S. tight oil production increased from 7.05 to 7.11 mmb/d in October Production growth is fairly flat at about 18% annualized Most 2019 growth is in Permian (+16%) & in the Bakken (+6%) Production Growth (RHS)

Nov 2019 Dec 2018 Jan 2018

Slide 23 Labyrinth Consulting Services, Inc. artberman.com

Markets never valued WTI at more than $65/barrel Share prices failed to out-perform WTI after prices reached $70 in May 2018

$66.27 $72.26 $77.41 $76.40 $66.24

• $30
• $25
• $20
• $15
• $10
• $5

$0 $5 $10 $15 $20 $25 $30 $35 $40 $45 $50 $55 $60 $65 $70 $75 $80 $85 $90 0.2 0.4 0.6 0.8 1 1.2 1.4 1/4/16 3/4/16 5/4/16 7/4/16 9/4/16 11/4/16 1/4/17 3/4/17 5/4/17 7/4/17 9/4/17 11/4/17 1/4/18 3/4/18 5/4/18 7/4/18 9/4/18 11/4/18 1/4/19 3/4/19 5/4/19 7/4/19 WTI Price ($/barrel) Normalized Price (2016-2019)

Chart Title

WTI EOG FANG CXO PXD WTI NOT NORM Source: Yahoo Finance, EIA & Labyrinth Consulting Services, Inc. Oil & Gas Supply/Sampled E&Ps/Sampled E&Ps MASTER.xlsx

Markets never valued WTI at more than $65/barrel Share prices failed to out-perform WTI after prices reached $70 in May 2018 WTI (RHS) CXO EOG

$65

Normalized WTI (LHS)

Slide 24 Labyrinth Consulting Services, Inc. artberman.com

• Inventory is part of supply. Demand is consumption, net imports & movements into & out of

inventory.

• A cross-plot of C.I. vs price results in a yield curve.
• The comparative inventory yield curve uses C.I. instead of maturity & oil price instead of yield.
• The concept is identical.
• The yield curve crosses the y-axis at the 5-year average.
• That is the “mid-cycle” price, the market-clearing price of the marginal barrel needed to maintain

supply.

• The market is short on oil price when C.I. is positive, or more than the 5-year average, & long when

C.I. is negative or less than the 5-year average.

• The slope of the yield curve reflects the market’s sense of urgency about supply.

Comparative Inventory (C.I.) Supply Less Certain Supply More Certain

Mid-Cycle Price Marginal barrel or mmBtu price at the 5-year average needed to maintain supply

Yield Curve

Higher Price Needed to Maintain Supply Lower Price Needed to Maintain Supply

Source: Aperio Energy Research & Labyrinth Consulting Services, Inc.

• +

Market Clearing Price Comparative Inventory-Price Yield Curve

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$20 $25 $30 $35 $40 $45 $50 $55 $60 $65 $70 $75 $80 $85 $90 $95 $100 $105 $110 $115 $120

• 50
• 40
• 30
• 20
• 10

10 20 30 40 50 60 70 80 90 100 110 120 130 140 150 160 170 180 190 200 210 220 230 240 250

Mar-June 2015 False Optimism Late 2015-Early 2016 Market Pessimism Dec '16 - Apr '17 Production-Cut Optimism Early 2014 Market Optimism

U.S. crude + products comparative Inventory (C.I.) Millions of Barrels

Source: EIA & Labyrinth Consulting Services, Inc.- Aperio Energy Research EIA 2019/Monthly Updates/MER/ Table_3.4_Petroleum Stocks_MASTER

WTI Price ($/barrel)

WTI comparative inventory continues to indicate $60 mid-cycle price on blue yield curve but October C.I. is at the 5-year average suggesting that price may have been devalued to the green yield curve

July 2017-2019 Yield Curve 2014-June 2017 Yield Curve $70

May 2018

$71 $50 DEC -18

Nov 2014 $76 Dec 2014 $59

OCT $53.96 at the 5-yr avg

Slide 27 Labyrinth Consulting Services, Inc. artberman.com

Good and Bad News About Permian Production

• Bone Spring evaluation indicates commercial area is 1.2 mm acres with 3,807 wells

= ~300 acre/well spacing—lots of room for “Tier 1” infill.

• Average break-even price is $60/barrel based on company-stated future cash flows

from proved reserves.

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$10 $12.50 $4.75 $4.75 $7.50 $0.50

Here’s the Problem Here’s Another Problem

Keeping Them Honest

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End of the Age of Oil?

0% 20% 40% 60% 80% 100% 120% 2018 2020 2025 2030 2035 2040 2045 2050 Percent of Total World Energy Delivered

Chart Title

Coal Liquids Renewables Natural gas Nuclear

Renewables to increase from 15% to 28% of world energy consumption by 2050 as coal decreases from 26% to 20% and liquids decrease from 32% to 27% Natural gas will remain at 22% & nuclear will decrease from 5% to 4%

Source: EIA & Labyrinth Consulting Services, Inc. EIA 2019/EIO 2019/table_f1_WORLD ENERGY CONS BY FUEL

Coal Liquids Renewables Natural Gas Nuclear

• 100

100 300 500 700 900 1100 2018 2020 2025 2030 2035 2040 2045 2050 Total World Energy Delivered (Quadrillion Btu)

Chart Title

Coal Liquids Nuclear Natural gas Renewables

Consumption of all world energy sources expected to increase by 2050 Renewables and natural gas increase the most Coal and liquids increase the least

Source: EIA & Labyrinth Consulting Services, Inc. EIA 2019/EIO 2019/table_f1_WORLD ENERGY CONS BY FUEL

Coal +12% Liquids +22% Renewables +166% Natural Gas +44% Nuclear +35%

• Consumption of all world energy sources expected to increase by 2050.
• Renewables and natural gas increase the most.
• Coal and liquids increase the least.
• Renewables to increase from 15% to 28% of world energy consumption by 2050.
• Coal decreases from 26% to 20% and liquids decrease from 32% to 27%.
• Natural gas will remain at 22% & nuclear will decrease from 5% to 4%.

Slide 31 Labyrinth Consulting Services, Inc. artberman.com

Peak Demand?

$21.17 $51.57 $107.26 $31.60 $43.58 $18.72 $114.39 $125.67 $46.20 $71.90 $65.74 45.3 55.8 54.5 64.1 57.9 64.9 54.6 66.5 63.5 75.1 64.4 64.7 $0 $20 $40 $60 $80 $100 $120 $140 $160 40 50 60 70 80 90 100 110 120 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019E

Oil Price (2017 $/barrel) Supply and Demand (mmb/d) Source: IEA, OPEC, BP, U.S. Bureau of Labor Statistics & Labyrinth Consulting Services, Inc.

Brent Price (WTI before 1975) LHS Demand Supply

• 6.2

mmb/d

• 10.7

mmb/d

World demand growth has been remarkably consistent at average of 1.25 mmb/d annually since 1970 Only 7 out of 49 years of negative demand growth (1980-83, 1985, 2008-09)

+20.5 mmb/d +18.8 mmb/d

IEA/IEA MASTER FILES/IEA MASTER.xlsx

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Concluding Thoughts

• Energy is the economy and oil is the master energy

resource.

• Oil will continue to dominate the world energy

landscape for decades because no other energy source can meet global needs.

• Unconventional oil has bought the world a few

decades of high density energy but does not offer a meaningful long-range alternative.

• Humans have never gone from higher- to a lower-

density energy source.

• While increased use of renewable energy is

inevitable and desirable, it is not a satisfactory substitute for oil.

• A transition away from an oil-weighted energy

supply will be complex, costly and lengthy despite supporting arguments or preferences.

• There is no clear way forward that includes

sustaining current levels of energy use.

• The best path forward is to stop looking for

improbable solutions that allow us to live like energy is still cheap, and find ways to live better with less.

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