- Associated Press - Friday, March 6, 2015

WICHITA, Kan. (AP) - When final production is added up, the Kansas oil industry in 2014 may have drilled the most oil since “the Internet” was an unfamiliar term.

That may be the last good thing that can be said for the state’s oil and gas industries in 2015.

Falling oil prices have robbed Kansas companies of their desire to keep drilling at the rate they were, and may push some to stop drilling and nurse their existing wells.

Oil drillers will join the state’s gas drillers - often the same people because well production is usually a mixture - who are on track for their worst production year since the Truman administration.

That’s in stark contrast to recent years, when new technology and more exploration led to increased production.

Now, however, the drop in drilling has been sharp, said Todd Allam of VAL Energy.

“Manpower has been destroyed,” Allam said. “We laid off 70 people and have stopped drilling for ourselves.”

Last year, he had seven rigs going non-stop, six as contract drillers and one for his own wells. He’s now down to two contract rigs, The Wichita Eagle (https://bit.ly/1wE3mwi ) reports.

Allam sees a further drop in Kansas drilling this spring and summer as oil continues to flood in from shale regions, such as the Bakken in North Dakota - but only through the second quarter. Kansas drilling will also be suppressed by drillers leery of restrictions on working during the mating of the lesser prairie chicken in the second quarter.

The country’s oil glut will level off in the third quarter, he said, and start to drop by the fourth. That’s when oil prices will start to rise again. And, he added, drillers will be spurred to activity by the need to spend money for tax purposes in the fourth quarter.

Until the fourth quarter, the Kansas oil patch will slow, he said.

“As you fight your way through this, you switch to survival mode,” Allam said.

Before they drill, oil and gas companies file a form called an “Intent to Drill”. It describes the location and provides other information about the well.

In one 30-day period in late winter of 2014, companies filed 805 Intent to Drill forms for wells across the state. In the 30 days between mid-January and mid-February this year, they filed 228 forms.

Because some work was still under contract when the oil prices started to fall, strong drilling activity in Kansas lingered into December and early January. But that’s tailing off now, said Tim Scheck, owner of Scheck Oil Operations in Russell.

His company drills for oil and gas, but he also has oil trucking and roustabout businesses. All have slowed in the last few months.

“Now the contracts have run out,” Scheck said. “There is still some drilling, but February is slow, and March will probably be slower. We had four Intents to Drill today. We used to have three pages full.”

Those in exploration aren’t doing so well because it costs $400,000 to $600,000 to drill a vertical well. But those who own a lot of producing wells are still making a profit.

He estimates that the average cost to bring a barrel of oil out of an existing well in Kansas as $20 to $30 per barrel. The price of Kansas Common grade crude oil is in the low $40s per barrel, so producers are still making $10 to $20 per barrel.

The falling price of oil has depressed the economics of the whole oil industry. Scheck said he has lowered the price of his oil services by about 20 percent. So far, he said, that has attracted enough business to keep his employees working.

Kansas oil men are accustomed to the ups and downs, he said, and he believes that Kansas oil companies are generally not cutting employees too deeply in hopes that oil prices come back later year.

“Most of us of a certain age went through this a couple or three times already,” he said. “Lots of people put money away for the slow time. They watched what their investments are and are looking to the future.”

SandRidge Energy, one of the state’s biggest drillers in 2013 and 2014, has said it will significantly cut back its drilling.

Based in Oklahoma City, SandRidge was Kansas’ top oil producer and fourth highest gas producer in 2013, the most recent complete year for which information was available. It is, by far, the largest oil and gas producer in the state using horizontal drilling in the state’s Mississippian Limestone formation - and it’s among the last survivors of the state’s horizontal drilling boom.

It may be its horizontal technology that proved its undoing in the low-price environment. SandRidge says it drills a horizontal well for $2.9 million, about six times more than a vertical well.

When it first entered the state in 2010, it bought more than a million acres of land leases from Harper and Sumner counties on the state’s southern border all the way up into Gove and Wichita counties in central western Kansas. Last year, it started to allow leases on about 700,000 acres in western Kansas expire and go back on the market.

However, the company still has $2.6 billion in net debt, mostly from borrowing to buy leases and drill wells.

It takes a lot of cash flow from wells to cover that debt payment. Fortunately the company hedged about two-thirds of its projected 2015 production. It can sell about a third of its production at more than $90 per barrel, another third at the market price, and about a third somewhere in between using a complicated three-way collar hedge. Most of those hedges will expire at the end of the year.

SandRidge, seen as a somewhat risky when oil was $100 a barrel because of its debt, is now seen by many analysts as the walking dead if prices don’t head back up significantly before most of its hedges expire.

The Kansas natural gas industry also remains in survival mode, with prices drifting well below $3 per million cubic feet.

LINN Energy of Houston is by far the state’s biggest gas producer with large holdings in the Hugoton field in southwest Kansas. It’s not a company, but a master limited partnership, designed to deliver strong dividends to investors.

The company, which has gas-producing properties in several states, reported a weak fourth quarter on a Feb. 19 conference call with analysts, but company executives said they were pleased the company was able to swap some of its exploration territories for mature producing fields, such as the Hugoton.

With the price of natural gas so low, the company said its strategy is to cut capital expenditures and generate cash flow from existing wells.

The company has lowered its capital expenditure budget, the money used to drill new wells and install new pipelines, by 70 percent for 2015, the company said.

On the call, executives said they would shut down their last drilling rig in the Hugoton field at the end of February.

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Information from: The Wichita (Kan.) Eagle, https://www.kansas.com

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