Severance tax collections dip as drillers cut spending in Arkansas

As natural gas drillers and oilfield equipment firms continue to cut their capital spending in the Fayetteville Shale, there are already signs that severance tax collections in Arkansas began to weaken at the beginning of the year.

The state’s record tax revenues from natural gas production – which have been supported by former billion dollar capital budgets that poured into the Arkansas shale play over the past decade – will eventually start to slide because of lower capital spending in the shale, according to John Shelnutt, chief economist at the Arkansas Department of Finance and Administration (DFA).

“Yes, eventually the decline in capital spending will impact production and tax revenue,” Shelnutt told Talk Business & Politics on Tuesday. “The rig count in Arkansas had already declined precipitously before this news.”

The news that Shelnutt was referring to was the fact that severance tax collections for the month of January were down year-over-year for the first time since February 2013.

That came after Arkansas’ severance tax collections hit a record for the month of December, rising a whopping 81% to $7.8 million compared to $4.3 million a year ago. For the three month period ended Dec. 31, 2014, collections were up 41.6% from $14.1 million for the same quarter of fiscal 2013, according to tax data compiled by the Revenue Division of the Arkansas Department of Finance & Administration.

The monthly and quarterly totals are a record for those respective periods, as new drilling techniques and high well production continues to fill state tax coffers. At the end of fiscal 2014, which officially ended on June 30, 2014, severance tax collections in Arkansas reached an all-time high of $77.3 million.

SEVERANCE TAX DIP
That pace continued through the first six months of fiscal 2015 with collections at an all-time high of $44.8 million at the halfway mark. But momentum came to halt in January as collections for natural gas production were down 4.8% to nearly $6.3 million, compared to almost $6.6 million during the same period a year ago.

“The decline in capital spending will be a delayed effect though,” Shelnutt said “In the short run, natural gas severance is still being influenced positively by the earlier surge in gas production now moving into the full-rate tax category of the natural gas severance law.”

Shelnutt explained that the controversial severance law change from the special session of 2008 allowed for tiered tax rates for cost recovery of shale, or so-called high cost natural gas wells. That would be followed by full-rate taxation after a designated cost recovery period.

“Much of that initial drilling and production surge is now migrating into the full rate gas column in the rate structure,” the Arkansas economist said. “But in general, prices are the main determinant of this valued-based tax system that started with the law change in 2008, from a volume-based system previously.”

FEWER RIGS
As Shelnutt stated, the number of drillings actively in operation in Arkansas through March 13 (Friday) fell by one from the previous week, continuing the production swoon in the state’s unconventional shale play driven by continued downward pressure on natural gas prices, according to Baker Hughes’ weekly national week count.

Overall, the number of rigs operating in Arkansas is now down to only 11, falling to its lowest level since Dec. 12, 2014, when there were only 9 rigs in operation. Two years ago, there were 27 rotary rigs operating in Arkansas, with 25 of those located in the state’s unconventional shale play.

The number of drilling rigs in Arkansas peaked in September 2008 at 59, when the wellhead prices for sellers at Henry Hub topped $8.60 per million cubic feet (Mcf). Since October 2011 when the state’s rig count hit 34, that number has trended downward.

Nationwide, Baker Hughes reported that the number of oil and natural gas rigs actively drilling through Friday fell by 67 rigs to 1,125. The rig count is down 684 from the same time last year. The number of oil rigs fell 56 to 866, while rigs drilling for natural gas are now at 257, down 11.

As previously reported by Talk Business & Politics, Southwestern Energy recently announced it was cutting 40% of its investment in the unconventional Arkansas shale play. BHP Billiton has also cut its budget in the Arkansas shale play to only $100 million – a fraction of its original spending plans when it bought those assets for $4.75 billion in 2011.

Weak commodity prices also are causing oil and gas producers and related oilfield and drilling specialty firms to revisit their earlier announced 2015 capital plans, including a growing number of companies that operated in the shale play.

The U.S. Energy Information Administration reported last week that the decline of spot oil and natural gas prices has reduced oil and natural gas production tax revenues in some of the largest oil- and natural gas-producing states. That report didn’t mention Arkansas, but noted that Texas’ tax revenue from oil and gas receipts in January was down 40%.

Shelnutt also noted the effect of Arkansas severance tax collections for crude oil production, mainly in the emerging, liquids rich Haynesville Shale oil and gas play that encompasses most of northern Louisiana and a few adjacent counties in South Arkansas. For January, Arkansas’ oil severance collections fell 34% to nearly $1.5 million, compared to $2.24 million a year ago.