Written by: Greg Rogers, Theron Horton, Rob Schuwerk
Is the goal to get out all of the oil, or get out of the retirement obligation?
California’s idle and low production oil and gas wells are stripping assets needed to pay for their retirement. Californians may get the bill.
Stripper wells don’t make much money, but do delay closure costs
‘Stripper wells’ are oil wells that produce less than 15 barrels per day. They’re called ‘strippers’ because their raison d’être is to strip the last remaining value out of the ground—or at least that’s the pretense. But there’s a second, less parsimonious objective—to put off the day of final plugging, abandonment and cleanup. Eventually, every well, no matter its pedigree, dries up and dies, at which time it must be lawfully closed to protect human health, safety and the environment, at significant cost. But in their old age, many wells become strippers for minimal profit or even at a loss just to delay the inevitable day of reckoning.
According to Rystad Energy,[1] at $20 per barrel, 25 percent of strippers cannot cover their cash costs.[2] Even so, Rystad argues, it is unlikely that these wells would be permanently shut-in because the cost of cleanup exceeds the losses incurred to keep them running. The California Council for Science and Technology (CCST) report suggests that it costs on average $86,000 to close all oil and gas wells in the state.[3] CCST found that the median daily production of California’s 106,687 active and idle wells is only 2.7 boe per day.[4] Even if oil prices are $10/bbl below costs, assuming production of 2.7 barrels per day, a stripper will lose only $810/month, or $9,720/year.
One might expect that companies would set aside money to plan for retirement or, at the least, that profits earned by strippers would be set aside. But that’s not how the game is played. Instead, big companies sell or spin-off late-life, minimally productive wells to smaller companies with a single-minded goal: strip all value from the ground and leave the cleanup bill to someone else.
Zombie wells make no money, but remain “idled” in the hope that they will come back online
Worse than stripper wells are (idled) zombie wells. Zombies are wells that aren’t pumping oil at all. The pretense for keeping them around is that, someday, they might be brought back online. But the ranks of zombie wells are growing, not shrinking. Idle wells in California increased 78% from 21,346 in 2014 to 37,997 now.[5] Assuming regulators are cooperative, when strippers can’t earn their keep, oil companies simply idle them, indefinitely.
Privatizing profits, socializing liabilities
The Wall Street version of stripper wells is asset stripping—selling off a company’s assets to improve returns for investors. Occidental (Oxy) Petroleum’s 2014 spinoff, California Resources Corporation, is a poster child.
In 2014, Oxy transferred its California oil and gas production assets, along with their related asset retirement obligations (AROs),[6] in exchange for a $6 billion dividend from CRC, funded entirely by debt.[7]
CRC currently operates more than 16,000 onshore wells (over 15% of all unplugged wells in the state) and more than 1,500 offshore wells. Forty-four percent of CRC’s onshore wells are now idle, and 59% of those idle wells are zombie wells that have been idle more than 8 years. Over 1,600 are super zombies–idle for more than 20 years! Using CCST’s figures, the estimated cost to retire CRC’s onshore wells is $1.4 billion. Closing the offshore wells could cost another $2.3 billion, allocated in uncertain portions among CRC, the City of Long Beach and the state. CRC’s stock is now trading at less than $2 with a total market capitalization of less than $79 million as of April 15, 2020. Even before the price collapse, California had required CRC to post a mere $3 million blanket bond as security for its billion dollar plus environmental debt to plug onshore wells. Such bonds are not well correlated to either the number of wells, the costs, or the credit risk of the entity.
California law gives CRC wide latitude to either plug its zombie wells or pay fees to keep them active. Idle well fees, which start at $150/year for wells idle less than 8 years and max out at $1,500/year for wells idle for 20 years or longer, are small by comparison to asset retirement obligations (AROs). CRC pays about $3.5 million per year in idle well fees to defer more than 285 times that amount in environmental cleanup costs that it will likely never be able to afford. These kind of practices have left California with a multibillion-dollar toxic legacy of old oil wells.[8]
State regulations now require a series of tests to ensure that aging oil wells are not impacting groundwater and could actually be brought back online. Unfortunately, the California Geologic Energy Management Division’s (CalGEM) implementation schedule is far too slow—testing won’t be completed until 2025, five years in which more money that could have serviced CRC’s environmental debt will have been stripped away.
That said, the timeline of these tests is a creature of regulation so the state can revisit whether it serves the interests of Californians. CalGEM should hurry.
By loading it up with debt, Oxy made CRC vulnerable to other forms of privatizing profits, but socializing liabilities. As Covid-19 threatens the survival of the domestic oil industry,[9] major U.S. energy lenders are preparing to seize control of oilfield operations to cut losses on hundreds of billions in distressed loans. Surely, their lawyers aim to shield the banks from “operator” liability by distancing them from AROs and other environmental obligations with layers of limited liability and holding companies.
The situation seems dire, but California is not powerless. CalGEM can demand full bonding from banks as a precondition for transferring CRC’s operating permits. And if and when CRC defaults on its AROs, California’s statutory regime allows it to seek recovery from past operators such as Oxy.
Written by: Greg Rogers, Theron Horton, Rob Schuwerk
[1] https://www.argusmedia.com/en/news/2092308-us-stripper-wells-among-first-to-face-shutdown-rystad.
[2] Rystad includes capital spending, production costs, administrative and transportation costs, and gross taxes in “cash costs” to produce a barrel of oil.
[3] https://ccst.us/wp-content/uploads/CCST-Orphan-Wells-in-California-An-Initial-Assessment.pdf. CCST estimated it will cost $9,226,000,000 to close 106,687 onshore wells, for an average cost of $86,477. See Page 28, Table 8: Total potential orphan well costs among active and idle wells.
[4] https://ccst.us/wp-content/uploads/CCST-Orphan-Wells-in-California-An-Initial-Assessment.pdf. CCST estimated it will cost $9,226,000,000 to close 106,687 onshore wells, for an average cost of $86,477. See Page 28, Table 8: Total potential orphan well costs among active and idle wells.
[5] https://www.conservation.ca.gov/calgem/maps/Pages/GISMapping2.aspx: “All Wells”: This dataset provides oil and gas well locations and associated records covering the entire state published by the California Department of Conservation, Geologic Energy Management Division, Updated Daily; CVS Document: Data Date 2020.03.27; Idle Well Sort.
[6] https://carbontracker.org/reports/the-flip-side-stranded-assets-and-stranded-liabilities/.
[7] See https://www.sec.gov/Archives/edgar/data/1609253/000110465914084170/a14-25233_1ex2d1.htm.
[8] https://www.latimes.com/projects/california-oil-well-drilling-idle-cleanup/.
[9] https://truthout.org/articles/could-covid-19-spell-the-end-of-the-fracking-industry-as-we-know-it/.
