Utah’s oil industry is paying a heavy price for all that cheaper gas as demand plunges

That $2 you’re paying at the pump for gasoline exacts a hefty toll on Utah’s oil and gas companies, whose industry has been turned upside down from the historic crash in oil prices because of the coronavirus pandemic.

With transportation nearly at a standstill, the collapse in demand for gasoline and jet fuel has sent shock waves to the wellheads in the Uinta Basin, where Utah’s oil producers are running out of options for what to do with the oil they extract. There is now almost nowhere to ship this oil, said Rikki Hrenko-Browning, president of the Utah Petroleum Association.

“There is a real domino effect,” Hrenko-Browning said. “I don’t think the industry has experienced this type of double shock from both the supply and demand sides at the same time. The response to COVID-19 has reduced demand at the same time we have this supply shock with OPEC and Russia flooding the market.”

Given that oil-storage facilities have reached capacity, Uinta Basin producers have little choice but to turn off producing wells and shelve drilling projects.

“It won’t be relieved until the economy gets back to normal and demand starts to pick up again,” said Kathleen Sgamma, who heads the Western Energy Alliance, a regional trade group representing oil and gas producers. “People are being laid off, and companies are going bankrupt.”

While officials suspect Utah’s oil production is already in steep decline, they can’t say by how much until producers report their monthly numbers for March, which won’t be posted until mid-May, according to John Baza, director of the Utah Division of Oil, Gas and Mining.

Before the price crash, five to seven drill rigs were operating in the Uinta Basin, he said, but by Thursday only three were still sinking wells.

“The immediate impact is a drastic slowdown in drilling,” he said. But, more significantly, producers must now cope with ongoing production that could get stranded on the way to glutted markets. Shutting down this production carries risks to well integrity and to the oil reservoir itself.

“At some point, they will choose not to transport oil to the refineries and shut in wells,” Utah’s top oil and gas regulator said. “We will be monitoring to see how many operators are doing that. It’s a difficult business choice for operators. Oil economics have fallen off a cliff. It will be long, slow climb back to where they were.”

Storage space

Hrenko-Browning said she believes the Salt Lake City area’s five oil refineries, which typically process around 90,000 barrels a day, can scale back fuel production by 50% to 60% to match shrinking demand. That could eventually leave 50,000 barrels of daily production without a destination.

“The dust is just settling,” she said. “There is going to be a significant reduction in production out of the Basin.”

All around Utah and the rest of the world, facilities that store oil are reaching capacity, and now oil is being held in tankers, trucks and rail cars.

“We don’t take the decision to shut in wells lightly,” Sgamma said, “but when there is no physical space to put oil and when it cost more to sell than holding on to it, producers are left with no choice but to shut in production.”

Oil wells don’t come with an on-off switch or even a dimmer that conveniently paces output to match the market. Shutting down or stanching a well’s flow requires additional work and careful monitoring to ensure no oil or production water is released into the environment.

“It is costly to shut in a well and extremely costly to bring it back online,” Sgamma said. “This is not unique to the Uinta Basin but affects it more because they are already paid a [discounted] differential.”

The waxy texture of Uinta crude puts Utah producers at a disadvantage because there are fewer refiners that can accept it, so those that do pay several dollars less per barrel for it.

Oil and gas royalties represent a key revenue stream for the Utah School and Institutional Trust Lands Administration, which is bracing for a painful decline in profits from its energy holdings.

“We won’t really know for another month. We won’t get the April royalty reports until June 1,” said Wes Adams, SITLA’s assistant director over oil and gas. “Because of of the lag, it’s hard for us to get a read on the drop. We expect it to be pretty dramatic.”

Adams figures this quarter will see a 22.5% decline in oil production from SITLA holdings, along with a 60% plunge in the prices its producers fetch for that oil. He anticipates revenues for the current quarter will be half what they were over the same quarter last year, when the agency reaped $6 million off oil and gas.

SITLA is looking at policy changes to give operators some relief, Adams said, such as waiving the standard penalty on those who shut in wells and extending the terms of leases.

Seeking relief

For now, Utah oil producers are seeking regulatory relief to help weather the crisis.

For example, the Utah Petroleum Association, in a March 25 letter to Gov. Gary Herbert, asked his administration to relax bonding requirements, extend time periods for approved drilling permits from one to two years, stretch the deadlines for reclaiming shut-in wells from five to seven years, pause inspections, extend reporting deadlines, and defer royalty and rent payments.

“We request you postpone those tasks in which a delay will not jeopardize human health or the environment and extend deadlines that are now virtually impossible,” Hrenko-Browning wrote to the governor, “except, again, for those few instances where doing so would cause identifiable harm to human health or the environment.”