Eli Hartman/Odessa American via AP
A pair of pumpjacks is seen on March 30, 2022, near Goldsmith, Texas.
Back in February, in the days before the Russian invasion of Ukraine, the top players in the shale industry warned that they would choose not to increase oil output to fill the supply gap created by the war.
“We’re not going to change our growth rate,” said Scott Sheffield, the CEO of Pioneer Energy, on an investor call. “We think it’s important to return cash back to the shareholders.” A survey from the Dallas Federal Reserve found that 60 percent of producers cited “investor pressure to maintain capital discipline” as a main reason for constrained growth.
However, a few months later, the industry is warming to the idea of increased production, especially in the Permian Basin of Texas, the country’s largest oil field. The state oil regulator awarded a record number of new drilling permits during March and April, presaging significant growth this year. The leaders of this renaissance are not large public companies but private operations, many of them backed by private equity and not subject to the whims of shareholders. Unfortunately, these private operations also tend to be the worst offenders when it comes to excess emissions generated by flaring during the oil production process, meaning their surge in the Permian could have dire implications for the climate.
The gap between public and private operators in the Permian has been growing since the nadir of the coronavirus shutdown, when nearly all producers shut down their wells in the basin. As the price of oil rebounded to around $70 a barrel in the autumn of 2020, private operators began to revive their drilling operations, both restarting their old ones and drilling new ones on untapped territory. Public operators, meanwhile, were more likely to sit on the sidelines, in large part out of deference to their shareholders. After the roller-coaster ride of the past decade—especially memories of the many producers that took heavy losses when the oil price collapsed in 2014—these investors were adamant about capital discipline.
That was not the case for private drillers, who have every incentive to drill as long as the oil price is high enough. They don’t have shareholders who demand dividends and capital discipline, and so they can chase short-term profits. Some of these companies are family-owned concerns, while others are new entities backed by private equity money, but the economic incentives were the same regardless. An analysis from Wood Mackenzie showed that the 30 largest private operators in the Permian have driven most of the growth in the oil patch since the 2020 crash, while public operators have seen very little growth at all. Private operators now account for about 30 percent of basin production, almost double what it was before the pandemic.
“In the current price environments, you have unlimited commercial drilling opportunities—a lot of projects are generating three-digits rates of return,” said Artem Abramov, head of shale research at the analytics firm Rystad Energy. “As long as you know that it could generate these returns, and you don’t have some sort of responsibility to return a lot of cash to public investors, you are incentivized to leverage these price environments.” The private equity firms that back these concerns have very different goals from the shareholders who back public companies like Pioneer, and are much less likely to sacrifice immediate returns to long-term growth discipline.
Shareholders have pushed public companies to impose internal flaring regulations, but the same hasn’t been true for private concerns.
Private and public drillers are all pulling the same oil out of the ground, of course, but the faster growth in private production could have significant implications for the climate. That’s because private drillers tend to be among the worst offenders when it comes to flaring, or burning off the excess gas associated with oil production.
When a fracking operation brings oil out of the ground, it also unearths large quantities of methane gas, another fossil fuel used to heat homes and feed power plants. In other large shale plays, like the Marcellus in Pennsylvania, drilling operators capture almost all that gas and route it into the pipeline network; the natural gas is part of the reason the drillers are there in the first place.
In the Permian, by contrast, the main appeal is oil, and the gas is just a by-product, which means that for many drillers it’s not worth the time to capture it. Instead they just burn it off into the atmosphere, a process that is as wasteful as it is emissions-intensive—most burned gas enters the atmosphere as carbon dioxide, but some gas escapes during the flaring process and enters the atmosphere as methane, a much more potent greenhouse gas. One reason was lack of infrastructure: During the first zenith of the shale boom, the flaring in the Permian reached record highs, says Abramov, in part because drillers hadn’t built the infrastructure necessary to take away all the gas. The focus was on getting as much oil out of the ground as possible, with no regard to the short-term waste of gas; as a result, more than a trillion cubic feet of gas has been flared in the Permian since the start of the shale boom.
“If it’s an oil well, most of your revenue will come from oil, and you have to make a decision about whether you wait for the [gas] pipelines and delay your cash flows,” said Abramov. In the years since the shale boom began, he said, there has been significant improvement among public producers.
“We have definitely seen a big structural change in operational philosophy. Most public producers … now have very strict internal policies that their teams are not allowed to request [flaring] permits if it’s due to infrastructure unavailability.” It helps, he said, that the drillers have an economic incentive to capture and sell the gas, and also that many of their shareholders are pressuring them to reduce their flaring in service of meeting ESG targets.
But private operators are still lagging behind. An analysis from Rystad found that private companies flared an average of 423 cubic feet of gas for every barrel they produced, compared with 74 cubic feet for public operations, including supermajors like Shell and Exxon. The worst offenders were little-known operators like Ameredev, backed by the private equity firm EnCap, and MDC, a closely held concern that went belly-up in 2021.
Shareholders have pushed public companies to impose internal flaring regulations, but the same hasn’t been true for private concerns.
“Oftentimes these are probably private equity–backed companies, where somebody’s providing money at a desk in New York, and no one’s giving them guidance on flaring,” said Colin Leyden, the Texas political director at the Environmental Defense Fund, who works on shale issues. “Some of the larger investment firms are saying [to public drillers], ‘We want to see your numbers on flaring, and the next tranche of mine is going to be held up until we understand what your emission profile looks like.’ That’s not happening all that often probably in the private equity world as much as in the larger capital market. And then, look, let’s be honest, there’s a percentage of the industry that still thinks climate change is a hoax.”
Leyden said the only way to ensure these operators reduce their flaring is to pass far stricter regulations than the Texas energy regulator currently has in place. New Mexico and Colorado have adopted stringent flaring regulations in recent years, which Leyden says seem to be leading to improvements, but Texas is still the elephant in the room, accounting for around half of the nation’s crude production.
It’s too early to tell whether the private drillers leading the Permian renaissance will continue to make improvements on flaring as they ramp up their operations. The newest shale wells tend to flare the most, in part because they don’t have the requisite capture infrastructure, so there’s a chance that a surge in production could lead to a surge in flaring. On the other hand, though, the industry as a whole is facing significant supply chain disruptions, leading to shortages of everything from labor to steel to the special sand used in fracking. Abramov said it’s unclear how these shortages will affect the trajectory of production in the basin.
Even if flaring goes down, though, there are still other emissions to worry about. In addition to burning off excess gas, many Permian drilling operations have leaks that allow methane to escape directly into the atmosphere, where it warms the earth about 72 times more than carbon dioxide does over a 20-year period. Satellite surveys and thermal imaging scans conducted by nonprofits like Earthworks have revealed that these fugitive methane emissions are much larger than companies and regulators have assumed.
“Getting any sort of uniformity of standards, or continuity, is very difficult,” said Leyden. “That’s why you need a strong regulatory hand, and we don’t have that.” Pressure from shareholders might lead some producers to reduce their emissions, but it will take government action to reach the worst and most inveterate offenders. It just so happens that those companies are the ones leading the charge right now as the price of oil reaches new heights.
