An agreement by foreign powers to cut oil production last week, an effort to boost sagging global per-barrel prices, is being met with skepticism from some in the industry. Office market experts say even if the agreement is followed, energy-dependent office markets in the U.S. may not fully recover until the next decade.
On November 20, the Organization of the Petroleum Exporting Countries (OPEC) said it would cut oil production by 1.2 million barrels a day, and non-member Russia joined the pledge by agreeing to cut production by 600,000 barrels a day. The move is an effort to boost oil prices, which have hovered in the $40-$50 range for the past two years, about half their cost during the boom years starting in 2008. However, OPEC has made these promises before, only to break them soon after, says Bruce Rutherford, co-lead of energy group with real estate services firm JLL.
“They won’t hold up to the agreement,” he says. “There’re just tremendous incentives for the members to violate the agreement, and that usually leads to one member cheating, and then the rest follow.”
This uncertainty, coupled with a glut of oil supply in global markets, has kept energy industry-dependent office markets such as Houston on the sidelines during the current surge in nationwide office fundamentals, Rutherford says. Oil and gas firms having to downsize or merge are now offering 22.6 million sq. ft. of sublease space in the top seven North American markets, almost double the 10-year average, according to a recent JLL report. Almost 60 of these firms have filed for bankruptcy this year, with another 44 firms having filed in 2015. More than 72,000 jobs have been cut in the 12 major energy companies this year, according to the report.
Just five years ago, energy firm-dependent markets were making heavy investments in new properties, as prices reached $100 per barrel. Oil and gas company profits grew 27.9 percent during the years from 2011 to 13, according to the recent Cushman & Wakefield report “Oil: The Commodity You Love to Hate.” However, in mid-2014, new supply caught up to global demand, pushing oil prices from a peak of $115.19 per barrel to $26.01 in the first quarter of 2016. Most energy company-dependent markets had been gearing up to handle an expected boom, but were then faced with the bust.
Houston has borne the brunt of the energy price decline, by far. Oil companies trying to stem losses have shrunk personnel and put sublease space on the market, but demand for the space just isn’t there, with available subleases coming to market five times faster than new leases are being signed, according to a recent JLL report on Houston. Sublease space in the city’s top office sub-markets is now more than double the average inventory, with about 587,000 sq. ft. coming on-line monthly. In contrast, only a handful of spaces larger than 20,000 sq. ft. have leased in 2015 and 2016.
There is plenty of energy product for oil and gas companies to work with, according got Rutherford. For example, the U.S Geological Survey reports that a new deposit called Wolfcamp in West Texas likely contains 20 billion barrels of oil and 16 trillion cubic feet of natural gas. However, struggling energy companies can’t justify even pulling it out of the ground until the prices go higher, Rutherford notes.
“Around the major markets, the question has been, ‘Is this ever going to end?’ and we just don’t know the answer,” he says. “The general feeling is that we have to have oil at around $62 per barrel to support land-based drilling, but with prices in the $40s, the firms just can’t get it out cheap enough to make a profit.”
Both JLL and Cushman & Wakefield predict that energy-reliant office markets won’t recover until at least 2018-19, and possibly not for another five years for Houston, as it works through a current vacancy rate of more than 20 percent. ConocoPhillips just confirmed that it plans to move from its large headquarters to a another complex that it has failed to sublease in the city’s Energy Corridor.
“I think the major oil and gas companies have to be prepared for lower prices for longer, there’s just still an awful lot of uncertainty,” Rutherford said. “We have to have oil prices recover before the companies will change their budgets and hire more people. Until then, nobody is going to do anything with energy real estate.”