BHP plans whopping $7.2 billion writedown of U.S. assets, including Arkansas cuts

In what may turn out to be a preview for the oil and gas sector in the first quarter, BHP Billiton said it expects to recognize a pre-tax impairment charge of nearly $7.2 billion against the carrying value of its onshore U.S. oil and gas assets in the company’s upcoming financial results.

The huge impairment charge follows the recent bi-annual review of BHP’s asset values, which will reduce the company’s U.S. oil and gas net operating assets to nearly $16 billion, which BHP noted “has recently experienced significant volatility and much weaker (oil and gas) prices.”

“Oil and gas markets have been significantly weaker than the industry expected,” BHP Billiton CEO Andrew Mackenzie said in a news release. “We responded quickly by dramatically cutting our operating and capital costs, and reducing the number of operated rigs in the onshore U.S. business from 26 a year ago to five by the end of the current quarter.”

Mackenzie continued: “While we have made significant progress, the dramatic fall in prices has led to the disappointing write down announced today. However, we remain confident in the long-term outlook and the quality of our acreage. We are well-positioned to respond to a recovery.”

According to BHP’s asset review, the U.S. gas price remains low as industry-wide productivity improvements have resulted in higher than expected supplies at lower costs. BHP Billiton had previously suspended development of its dry gas acreage in the Fayetteville and Hayneville shale plays.

In addition, the Sydney, Australia-based industrial and mining giant reduced its medium- and long-term gas price assumptions. It said the price of crude oil has fallen by more than 30% over the last three months following the disruption of OPEC and stronger than anticipated non-OPEC production.

“Although we expect prices to improve from their current lows, we have reduced our oil price assumptions for the short to medium term,” the company said. “Our long-term price assumptions continue to reflect the market’s attractive supply and demand fundamentals.”

REVISED CAPEX 2016 PLANS
The increased volatility in prices has also increased the discount rates applied by BHP Billiton, which has a significant flow through impact on the company’s assessment of its onshore U.S. oil and gas asset value. BHP said the broader carrying value assessment of BHP’s U.S. oil and gas operations will be finalized in conjunction with the interim financial results to be released on Feb. 23, 2016.

Given the current assessment, it is likely BHP will significantly lower its earlier capital spending plan announced six months for the U.S. oil and gas sector ago after last week’s financial review. In early September, the Australian industrial conglomerate said it plans to cut its onshore U.S. capital spending to $3.7 billion for 2016, down 26% from $5 billion in fiscal 2015.

As part of the 2016 capital budget, which began July 1, BHP plans to spend $3.1 billion in the liquids-rich Eagle Ford Shale and Permian shale basins. Only $400 million and $200 million has been allocated respectively for the dry-gas Haynesville and Fayetteville shale plays, essentially shutting down those developments except for administrative and completion and wellhead production activities.

Now, BHP said it will further reduce the number of operating rigs in its U.S. oil and gas operations from seven to five in the quarter ending March 31, 2016. This will include three rigs in the Black Hawk and two rigs in the Permian shale plays in Texas.

“Beyond this, investment and development plans for the remainder of the 2016 financial year are under review, with a focus on preserving cash flow,” BHP said.

ARKANSAS DRILLING LIKELY ON HOLD UNTIL 2017
In late 2011, shortly after the Australian mining giant landed in Arkansas, BHP said it planned to quadruple production from its onshore U.S. shale operations, adding nearly 20 new rigs in the Fayetteville Shale region and increasing natural gas production four-fold by the end of the decade. At the time, BHP said its U.S. capital spending program would jump from $4.5 billion to $6.5 billion annually by 2020, with the lion’s share targeted toward its Arkansas natural gas development.

Like Fayetteville Shale leader Southwestern Energy Inc., BHP officials have publicly said the dry gas assets in the Fayetteville shale play could support production for at least 50 more years. However, both companies have halted all drilling operations in Arkansas until natural gas prices rebound enough to make drilling in the development economically viable.

“We know that we must get better in order to make the economic returns more viable in today’s price environment. That is precisely why I have challenged our team to become more efficient, reduce costs and safely achieve at least a 20% rate of return at a flat $3 Henry Hub gas price,” Tim Cutt, president of BHP Billiton’s petroleum operations, told Wall Street analysts at a New York City conference in the fall. “Based on the significant strides we have made in our focus areas, I am confident we will get there in the near future.”

If gas prices at $3 per million British thermal units (MMBtu) is the goal, it may be at least 12 months or more before drilling rigs return to the Arkansas shale play. In its most recent short-term energy outlook on Jan. 21, the U.S. Energy Information Administration forecasts Henry Hub spot prices for natural gas to average $2.65 per MMBtu in 2016 and $3.22 per MMBtu in 2017.

EIA said it expects production growth will be relatively flat in 2016, partly in response to lower prices and declining rig activity. With higher prices in 2017, and as new consumption and more export capacity comes online, EIA projects production will pick up slightly.

At the close of business on Friday heading into the Martin Luther King Jr. holiday, natural gas prices settled at $2.10 per MMBtu on the New York Mercantile Exchange, down 3.9 cents or 1.8%. Last week, BHP’s American Depositary shares closed down $1.49, or 6.87% at $20.19 on the New York Stock Exchange.