Oil Bust Hits Office Construction Boom, Banks, Suppliers – But Hey, “So Far” No Apocalypse

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“Here in Houston a number of projects have been canceled. Engineers are put on ‘hold.’ There have been some contract engineers laid off, and hiring has been suspended. Everyone is waiting for the other shoe to drop.” That’s how an engineer in the energy sector saw it. And it captured the mood.

So the sky isn’t quite falling on the Houston property market. Not yet. With 18.4 million sq. ft. of office space under construction, the epicenter of the US energy industry is far ahead of number two, New York City with 7.6 million sq. ft. under construction. Dallas is number four with 7.5 million sq. ft. Much of the growth in Texas over the last few years has been spawned by the “shale revolution.”

But the layoff announcements in the oil-and-gas sector are hailing down on the industry.

Weatherford International – headquartered in Houston – announced last week, after reporting a quarterly loss of $475 million, that it was axing 5,000 employees, or 8.9% of its global workforce, to save $350 million per year. Yesterday, Halliburton announced 6,400 job cuts, on top of the 1,000 announced in December. Baker Hughes, which is being acquired by Halliburton, announced 7,000 job cuts. In January, Schlumberger announced 9,000 layoffs. This brings the layoff announcements of the four largest oil-field services companies to 28,400. It’s all about cash flow, now that pricing chaos has swept over the once flush industry.

Oil majors and smaller companies have chimed in with their own layoffs. Privately held companies might quietly proceed with cuts. And many of these folks would have needed some office space.

So the once booming market for office space in Houston has taken a hit. Companies from BP on  down have dumped 5.2 million square feet of vacant space on the market for subleasing, up from 1 million a year ago, the Wall Street Journal reported.

But the current building boom is Houston’s biggest since the 1980s, when an oil bust, coupled with a rash of empty skyscrapers, made Houston a national symbol of overbuilding. Then, armed with debt from a banking sector eager to lend, developers brought a tidal wave of building to Houston, in some years increasing the office stock by well over 10%. Vacancy rates shot up past 30% from single digits, property values plummeted, and landlords defaulted on mortgages.

That contributed to a wave of failures for banks stuffed with commercial-property loans. More than 425 Texas institutions between 1980 and 1989 failed, including nine of the state’s 10 largest banks.

So everyone is hoping for the price of oil to jump back to a survivable level. And everyone figures that it’s not going to be as bad as last time. Houston has diversified. Healthcare, as everywhere, is taking over a big part of the economy. This is going to work out somehow, the thinking is.

“Everybody here in Houston is waiting to exhale,” Michael Scheurich, CEO of general contractor Arch-Con Corp., told the Wall Street Journal. Over the last four years, his company grew from fewer than 25 employees to 80 by building office towers. He is hoping for “a soft landing.”

Some of these buildings, much like during the run-up to the oil bust in the mid-1980s, are built “on spec” without tenant commitments, including a 48-story tower downtown.

It “is going to be a soft year – it’s hard not to see that,” admitted Mike Mair, executive VP at Skanska, a multinational project development and construction company based in Sweden. He’s in charge of its developments in the Houston area. They’re finishing a 12-story building that is 62% leased; but the sister-building still under construction next to it has no tenant commitments. Yet he remains optimistic. “I’m not afraid of ’16 and ’17,” he said.

But it might not get any better in his time frame. Dallas Fed President Richard Fisher told Fox Business TV today that low oil prices would probably stick around “for a year or two” as Saudi Arabia has kicked off the process of “price discovery” in a world where the US shale revolution has changed the equation. Creative destruction is what he has in mind: stockholders and junior debt holders of companies that can’t survive the low price of oil are likely to get cleaned out. But the assets will be picked up by larger players, and the industry will go on [read… Oil-Price Debacle Is Far From Over].

“So far,” the oil bust hasn’t impacted car sales. That’s what two dealers with new-car franchises in the oil patch told me. And the engineer in the energy sector told me, “I had dinner with a couple of my friends who work at KBR” – a global engineering and construction company focused on energy and petrochemicals – “and they didn’t look frightened … yet.”

For most folks, the oil bust hasn’t hit yet – except at the gas pump.

The drilling boom leading up to the bust of the mid-1980s had largely been funded by local and regional banks in the oil patch, 700 of which toppled during the subsequent bust. This time, the drilling boom was funded by private equity firms, Wall Street banks, junk bonds, leveraged loans many of which have been cobbled into CLOs, and IPOs. So the financial shrapnel will hit different and distant players.

But local and regional lenders are still on the hook; they extended loans to companies that offered supporting services, such as motels and other housing options for oil workers, and they supply the industry and its workers with a myriad products.

“Obviously, it’s not a bed of roses, but it’s not as bad as people think,” Randy Gartz, an energy banker at the Mutual of Omaha Bank in Houston, told the Wall Street Journal.

Banks are warning these customers that their credit lines will likely be trimmed in the near future. Bank regulators are waking up to the problem too. The Office of the Comptroller of the Currency, which supervises all national banks and federal savings associations, has undertaken two reviews of the banks in its bailiwick, and according to the Wall Street Journal, “has zeroed in on about 10 that have significant exposure to the oil and gas sector.”

Charles Cooper, Commissioner of the Texas Department of Banking, which regulates among other entities state-chartered banks, explained that his agency is keeping an eye on 15 banks with less than $1 billion in assets that are heavily tangled up in the energy sector. It has so far singled out three of them for closer inspection. And he summarized the meme on the street: his office is “not pushing the panic button by any means.”

That comes later.

Wall Street sees a further and potentially brutal drop in the price of oil this year and a miraculous, vertigo-inducing V-shaped recovery late this year or early 2016, a recovery they must have because at these prices, many players in the oil patch will run out of liquidity in 2016. Read…  Wall Street Has a Dream About the Price of Oil

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  8 comments for “Oil Bust Hits Office Construction Boom, Banks, Suppliers – But Hey, “So Far” No Apocalypse

  1. MC
    Feb 12, 2015 at 3:36 am

    As I said before, there will be no panic this time. Companies may (and will) drop dead by the wayside but there will be no tsunami sweeping away leveraged to the hilt shale and fracking outfits like in the mid ’80s. At least not yet.

    Everybody expects the oil price drop to be nothing more than a hiccup and black gold to resume its frantic climb very very soon. That may be a problem. China’s demand is cooling. Europe and Japan are, well, Europe and Japan: not much hope to see them making up for the difference. That leaves the US, where oil pumped from Venezuela, Saudi Arabia, Nigeria etc is now converging.
    This opens a second problem: oil obtained from fracking and shale sands is generally far too light to be used “as is” in existing US refineries. It needs to be mixed with heavier oil from Venezuela, Alaska etc to be turned into diesel fuel, JP8, Stoddard solvents etc.
    With present oil prices, US refinery owners have every economic incentive to use heavy oil exclusively because, even when shipping costs are included, it’s just so cheap. This incentive may last until oil prices are around $80/barrel. In short shale and fracking depend on high energy prices even more than generally accepted.
    Now, there are literally dozens of oil refineries in the Continental US, but those setting the trend are the colossal, over half a million a day facilities such as Port Arthur, Texas. Port Arthur is jointly owned (50/50) by Chevron and Aramco, the giant Saudi State-owned oil enterprise. These two companies have made very clear in their press releases Port Arthur is operated according to “flexible” principles. Very interesting is this point “This facility can also process shale oil, if it’s economically attractive”. With Saudi oil cheap and Aramco selling it at discount prices on selected markets at the moment, it doesn’t take a genius to do the math: even if oil rebounds to $75/barrel in the short term, fracking and shale will still get a beating. If it stays under $60/barrel for months (well possible), losses will pile up at a worrying pace.

    But we live in a world where bleeding red ink matters to a point. Investors desperate for yield will hold their noses and scoop up everything they are served: higher yields on energy bonds is what may buy many of these companies a few precious months while they wait for oil to shoot in the stratosphere again as many hope. If it doesn’t… oh, well: getting in debt is cheaper than it has ever been.
    And this is the true gamble.

    Everybody and his aunt knows there’s a currency war at foot right now in the world. Spurred on by Hiroshiro “Madman” Kuroda, everybody seems keen to thrash his own currency to offer a sacrifice to the Gods of Merchantilism and Monetarism. Only two central banks haven’t joined the party, at least not with the same enthusiasm as the others: the People’s Bank of China and the US Federal Reserve.
    Leaving China aside, all eyes should be on the Fed. The people at Eccles Building have been musing with interest rate hikes for months now. They won’t admit it in public, but they have long understood ZIRP’s and NIRP’s don’t work. They have observed very intently the desperate attempts to monetize Japan’s debt and to keep Europe’s obscenely bloated wealth transfer schemes afloat by flogging savers until the mood improves. They have noted Denmark’s and Switzerland’s pathetic gambles with their once solid currencies and how they are coming unglued. What has held them back so far is how to “sell” the sharp but brief recession that will follow interest rates normalization to a hissy fit prone Wall Street and a Congress addicted to cheap debt. But it will happen: it’s just a matter of when. Simply put the US cannot afford taking part in a currency war and need to send a strong signal in that sense.
    When interest rates will normalize, leveraged to the hilt fracking and shale outfits will be hit with two quick blows to the head. First will come impossibly high repayments. Then their bonds will become junk, as investors will finally be able to get investment grade paper with something resembling a yield.
    That is what Texas has to fear the most, not “low” oil prices.

    • CrazyCooter
      Feb 12, 2015 at 10:28 am

      So much to disagree with in your post. A few quick comments before I am off to work.

      Refineries are often designed to handle certain types of input stock. Heavy oil processing refineries are expensive to build because they need many specific processes to crack long hydrocarbon chains. Light/sweet crude is always at a premium to heavy/sour because it is very close to valuable products and doesn’t require the expensive special refinery processes.

      If I am not mistaken, pretty much every nation in the world has a central bank and they are all playing the same tune; debase at similar rates. This doesn’t go in perfect lock step, but it is the plan.

      The Fed isn’t participating? And they went from a sub trillion balance sheet of US paper to a 4+ trillion balance sheet of crap and that isn’t kinetic in the currency war sense? They are shoving so much money into the system it is crazy.

      Rates won’t go back up until they lose control of everything. Rates CANT go back up or the whole thing goes sky high. Years ago ZH did a piece on the DV01 of US debt and it was like 1 billion IIRC. If rates normalized, the US would spend a significant portion of all tax income to service interest payments on debt.

      ZIRP is forever and ZIRP destroys capital. Isn’t that what we see in Japan? And Japan was rolling down the tracks for decades while the rest of the world was much more active in economic terms. Everyone is ZIRP now, which is a different critter in that regard. It is competitive ZIRP (a.k.a. currency war).

      The outcome is pretty much inevitable, which is why this has NEVER worked in history, despite being tried over and over.

      Regards,

      Cooter

      • mick
        Feb 12, 2015 at 4:39 pm

        The FED isn’t shoving money into the system anymore, QE’s over, remember? The dream of cheap money has turned into a nightmare and it’s here and now. CB’s have hit the wall on the usefulness of free fiat, that’s why it isn’t flowing anymore.

        We are not Japan, this will not go on for 25 years.

  2. sadsack
    Feb 12, 2015 at 7:06 am

    Cuts are under way in OKC and Tulsa……

  3. NotSoSure
    Feb 12, 2015 at 12:05 pm

    The only thing certain is that stocks will continue to go up. The Feds have to protect the rich at all cost.

  4. Julian the Apostate
    Feb 12, 2015 at 4:33 pm

    Have to agree with Cooter. In the beginning of the oil era they were fortunate to have started with the light sweet crude oil in Pennsylvania. When they hit the heavier crude in the Lima Ohio field they had a problem as, when burned, it smoked up the chimneys on the oil lamps. Rockefeller built a lot of storage tanks and put his chemists on it. When they eventually cracked it Standard Oil had plenty of supply.
    The government is not going to sacrifice their own vote buying funny money to correct the problem, unti they are forced to by the eventual collapse. The ‘normalcy bias’ will prevent them from recognizing it, as happens with every bubble. I see it in the looks of utter disbelief on the faces of people I try to warn. And the more wired into the system a person is, the harder it becomes. They say it’s different this time. That’s because they NEED it to be different this time…not because it is but because they know somewhere in their gut that their survival depends on it. Denial is not a river in Egypt.

  5. Ray
    Feb 12, 2015 at 11:33 pm

    “not pushing the panic button by any means.” – translated “I’m not close enough to the door yet”.

  6. Julian the Apostate
    Feb 14, 2015 at 12:40 am

    LOL. Brevity is the soul of wit, Ray!

Comments are closed.