Wednesday, April 23, 2014

Is the U.S. Shale Boom Going Bust?

It's not surprising that a survey of energy professionals attending the2014 North American Prospect Expo overwhelmingly identified "U.S. energy independence" as the trend most likely to gain momentum this year. Like any number of politicians and pundits, these experts are riding high on the shale boom -- that catch-all colloquialism for the rise of hydraulic fracturing and horizontal drilling that have unleashed a torrent of hydrocarbons from previously inaccessible layers of rock.
But this optimism belies an increasingly important question: How long will it all last?
Among drilling critics and the press, contentious talk of a "shale bubble" and the threat of a sudden collapse of America's oil and gas boom have been percolating for some time. While the most dire of these warnings are probably overstated, a host of geological and economic realities increasingly suggest that the party might not last as long as most Americans think.
For the better part of two centuries, the American oil and gas industry drew its treasure from porous underground formations where hydrocarbons moved comparatively easily to the surface. The best of those resources began to dry up in the 1970's and imports began to rise. Enter hydraulic fracturing and horizontal drilling, technologies that allow developers to extract oil and gas from much deeper, tighter and far-less-porous rock formations, including shale.
The problems arise when you look at how quickly production from these new, unconventional wells dries up. David Hughes -- a 32-year veteran with the Geological Survey of Canada and a now research fellow with the Post Carbon Institute, a sustainability think-tank in California -- notes that the average decline of the world's conventional oil fields is about 5 percent per year. By comparison, the average decline of oil wells in North Dakota's booming Bakken shale oil field is 44 percent per year. Individual wells can see production declines of 70 percent or more in the first year.
Shale gas wells face similarly swift depletion rates, so drillers need to keep plumbing new wells to make up for the shortfall at those that have gone anemic. This creates what Hughes and other critics consider an unsustainable treadmill of ever-higher, billion-dollar capital expenditures chasing a shifting equilibrium. "The best locations are usually drilled first," Hughes said, "so as time goes by, drilling must move into areas of lower quality rock. The wells cost the same, but they produce less, so you need more of them just to offset decline."
That's a tall order when prices are low. Currently, natural gas is moving at about $4.50 per MMBtu -- a welcome uptick, but by no means ideal for producers. Even if that climbed to $6, Hughes estimates that shale gas growth would last only another four years or so, at which point even-higher prices would be needed to maintain production, let alone keep it growing.
Speaking last month to, Art Berman, a Houston-based geological consultant with a similarly sober (and often unpopular) view of the shale boom, called for more realistic assessments of its longevity. "I'm all for shale plays, but let's be honest about things, after all," Berman said. "Production from shale is not a revolution; it’s a retirement party." Berman and Hughes both presented their concerns at the annual meeting of the Geological Society of America last fall.
Not everyone thinks this sort of pessimism is warranted. With funding from the Alfred P. Sloan foundation, Scott Tinker, a professor of geosciences at the University of Texas at Austin has been leading one of the most comprehensive, well-by-well analyses of the four biggest shale gas reserves in the U.S., including the contentious Marcellus formation in the Appalachians. Tinker doesn't quibble much with Hughes' and Berman's observations about well depletion rates, though he interprets the implications differently.
"Just like conventional drilling, the broad message here is that these basins are going to continue to be drilled and there will be money made by some and lost by others," Tinker said. He prefers to call the shale boom an evolution rather than a revolution, and he suggests that while new wells must consistently be plumbed to address the shortfalls of old ones, this has always been the case. Newer drilling technology that allows several well paths to proceed from a single surface installation will help minimize local impacts, Tinker says -- adding that with higher prices, the shale gas boom could remain healthy as far out as 2040.
That's not an immediate threat, but it's also not exactly the 100-years-of natural gas that President Barack Obama has touted. Clearly, neither shale oil production, which even Tinker concedes is likely to peak just five or six years from now, nor shale gas will escort the U.S. into the era of energy independence. Getting there requires a much more deliberate diversification of the nation's energy portfolio, along with far more aggressive efforts to increase efficiency and eliminate energy waste -- steps that, by the way, are also critical in addressing that other nagging issue, global warming.
(Source: Bloomberg)

Rich Buy Real Estate, Poor Want Gold

If you want to know what someone’s views of society are, ask what they believe is the best long-term investment.
I am fascinated each year when Gallup Poll asks Americans to choose the best option among real estate, stocks and mutual funds, gold, savings accounts and CDs, or bonds. The results are a pop psychologist’s dream of cognitive issues, belief systems and ideologies. See the following chart:
Now, before we get into the details, some caveats: First, people often don’t really know what they want or think. Instead, when questioning people about their hopes and desires, we end up with a distorted mass-media version of a bad Robin Leach television series. Sad but true, often we don't know what we want out of life.
Second, survey responses are not all they appear to be. There is value in the collective data, but we need to dive into the details to tease out some fascinating cultural differences.
Note what happens when we divide the survey responses along income lines. We discover some very telling things about the American psyche.
Consider the differences between what the wealthy and poor believe is the best long-term investment:
Upper-income Americans are much more likely to say real estate and stocks are the best investment, possibly because of their experience with these types of investments. Upper-income Americans are most likely to say they own their home, at 87%, followed by middle (66%) and lower-income Americans (36%). Gallup found that homeowners (33%) are slightly more likely than renters (24%) to say real estate is the best choice for long-term investments.
Now compare that with this:
Lower-income Americans, those living in households with less than $30,000 in annual income, are the most likely of all income groups to say gold is the best long-term investment choice, at 31%. Upper-income Americans are the least likely to name gold, at 18%.
The wealthy like real estate and equities; the poor prefer gold.
It isn't too hard to figure out why. Buying and investing in real estate requires several things: Steady income, saved money for a down payment and decent credit. But it also reflects a faith in the legitimacy of the local property laws and legal system; that you will be secure in that property, and no one can illegally take it from you.
Stocks are similar: Investing in them reflects a long-term faith that the nation will continue expanding its production of goods and services. Stocks are an optimistic asset class almost by definition.
It also is worth noting that starting a business requires more than capital; it requires a specific type of optimism beyond mere economic hope of success -- a belief that the existing economic, legal and governmental system, if not perfectly fair, at least isn't wildly arbitrary or capricious. In other words, your business will rise or fall on its merits.
More pop psychology: Gold is more or less portable; it often can be traded extra-legally. It is a disaster currency that will have value even in a Mad Max era when society breaks down. Gold reflects a hedge against the potential collapse of the existing order; it is a pessimistic investment.
(Source: Bloomberg)

Big land deals return as firms seek to unlock real estate value

Developers are acquiring land at fair valuations without having to pay a premium as companies seek to unlock the value of their real estate assets, stirring the property market out of its stupor.
A slew of land deals in recent weeks also signals that some cash-rich property firms are actively chasing big transactions even as many more still struggle with slow sales and delayed projects in the face of an economic downturn.
On 15 April, Mumbai-based Lodha Developers Ltd sewed up the latest such transaction when it agreed to buy 87 acres in Thane, near Mumbai, fromClariant Chemicals (India) Ltd for around Rs.1,154 crore. The deal was preceded by Oberoi Realty Ltd buying 25 acres in suburban Mumbai’s Borivali neighbourhood for Rs.1,155 crore from Tata Steel Ltd.
“We expect to see around Rs.8,000 crore of land transactions this year from some large deals, besides other smaller deals too,” said Sanjay Dutt, executive managing director, South Asia, at property advisory firm Cushman and Wakefield.
Large corporate groups with substantial debt on their books have been selling assets in the recent past to reduce their debt burden.
Indian corporate entities have sold assets worth Rs.54,900 crore over the past 12-18 months, amounting to 12.7% of their total debt, according to a report by Standard Chartered Equity Research, dated 11 March.
The high debt is a result of a borrowing spree in 2008-2010 when interest rates were low. Most of the assets on block are non-core assets, real estate and manufacturing facilities.
Among assets going on sale are Gammon India Ltd’s land holding in Dombivali, Mumbai for which Cushman and Wakefield has the mandate.
“We will see a number of deals closing in the coming months. While the recent land sales could have happened at a higher premium if market conditions were good, these weren’t distressed sales too, but at fair values,” Dutt said.
According to Standard Chartered report, all large and over-indebted groups, except one, have raised at least Rs.2,500-3,000 crore each through a combination of asset sales and refinancing to meet their short-term debt obligations.
The next government, irrespective of which political formation comes to power in the general election, will have to focus on policy reforms to revive investment demand, the report said, quoting a banker.
Tata Steel spokesperson said selling real estate assets was part of the company’s long-term strategy to spruce up cash flows. However, the company declined to comment on the valuation it received for the Borivali land. The company was continually reviewing the prospects of asset and equity sale, Mint reported on 7 April. Tata Steel had net debt of Rs.70,129 crore on a consolidated basis at the end of December, up 26% fromRs.55,854 crore at the end of 2012-13.
Lodha Developers spokesperson said the Thane land parcel will allow it to develop nearly 8 million sq. ft.
“This also underscores the value of the parcel for the group, with per-sq. ft prices in Thane currently ranging between Rs.9,000 and Rs.11,000 on average,” he said.
In March, KEC International Ltd, an RPG Group company said it will sell a piece of land in Thane to a subsidiary of Tata Housing Development Co. Ltdfor Rs.200 crore.
The sale proceeds will help the company reduce debt and save on interest costs, said Ramesh D. Chandak, managing director and chief executive officer of KEC International. The company has shifted its Thane factory to Vadodara. The Thane plant was old and it did not want to open any new factory in the region, Chandak added. KEC received market value for the deal and is not looking to divest any more real estate assets, he said.
A Tata Housing spokesperson said while the developer continues to look at the low-cost segment, it is aggressively pushing premium housing and looking at suitable land. On the KEC land, it plans to build single floor homes or simplex and duplex apartments and has bid for the Kolkata Tram property in Tollygunge. 
The momentum in land transactions will continue and it will help developers to go out and pursue these deals on the strength of their own cash reserves or with ample private equity (PE) investor interest, said property consultants.
“Many of the land parcels are industrial in nature that are easily converted to residential or office space. The deals are fair-priced and have futuristic values built into them,” said Ambar Maheshwari, managing director, corporate finance, Jones Lang La Salle, a property advisory.
Jones Lang LaSalle recently advised on a transaction in which HCL Infosystems Ltd sold a piece of land to a private investor for Rs.50 crore. HCLdeclined to comment, citing the so-called silent period ahead of its quarterly results.
Deals to look out for would include an asset sale by Jaiprakash Associates Ltd, which intends to raise Rs.10,000 crore in 2014-15 to cut debt, after successfully divesting assets totaling Rs.15,000 crore in the six months ended 31 March, Mint reported on 14 April. These assets include a cement factory, a thermal power plant, some of its real estate assets, and a part of its stake in the Yamuna Expressway.
GlaxoSmithKline Pharmaceuticals Ltd, after closing down its factories, wants to sell 50 acres of land in Thane. It wants to first convert the land for residential or non-industrial purposes before negotiating with buyers, a company official said, declining to be named.
Selling assets is only a short-term solution for trimming debt, analysts say. In the long run, steady and robust economic growth, land clearance policies that will pave the way for new projects and capital expenditure are essential to improve corporate credit health.
Asset sales are essentially a last resort for debt-burdened companies, said an analyst at a foreign bank who requested anonymity.
“The only option that these companies would have if they do not sell assets is to restructure their borrowings, which would hit their credit rating and the credit profile in the future,” the analyst added.
(Source: LIveMint)

Tractor sales register 20 pc growth in 2013-14

 Tractors have brought some cheer, as well as hope, to the nation's otherwise gloomy automotive industry. Tractor sales in India rose 20 per cent to an all-time high of 6,33,656 units in fiscal 2013-14, a year when passenger car sales slumped 6 per cent and commercial vehicles posted an even sharper drop.

Increased mechanisation in the farm sector amid falling labour availability, regular hikes in minimum prices for various crops as well as last year's betterthan-average rainfall that led farmers to expand farming activities were among the chief reasons that drove up tractor sales, say industry experts.
"It has been a real good year for us, and going by the current trend we are expecting 8-10 per cent growth in this new fiscal year too," said Rajesh Jujerikar, head of the tractor, two-wheeler and Swaraj divisions at Mahindra & Mahindra, the largest tractor maker by volume globally. Local sales rose 22 per cent to 2,57,270 tractors in the year ended on March 31, the highest ever by the company.
At Delhi-based Escorts, tractor sales rose 13 per cent to 68,963 in the past fiscal year. Mahindra's impressive performance in tractor sales came in a year when it sold 18 per cent fewer utility passenger vehicles, another segment where it is the local market leader. The year wasn't good for most auto makers in India.
Industry experts see the strong tractor sales as a good omen, an indicator that the economy may be poised for a turnaround after two years of sub-5 per cent growth. Weak consumer confidence in a slowing economy, as well as high interest and inflation rates were seen as the main factors keeping buyers away from the auto market. An improvement in the economy may benefit the commercial vehicle segment more immediately than the passenger vehicle market, they say. Analysts tracking the tractor market say the industry is expected to post double-digit growth for the next five years as well.
"The tractor industry has done well because of good monsoons. In addition, the minimum support prices offered were good this year. All this was helped by positive sentiment in the rural areas," said Abdul Majeed, partner and automotive expert at Pricewaterhouse. "Looking at the efforts to increase the productivity in the farm sector, coupled with the low penetration (of mechanisation in the sector), the tractor industry's long-term outlook remains positive and we expect it to grow in the range of 10-12 per cent CAGR in next five years," Majeed said.
Tractor makers are expecting mechanisation in the farm sector to grow further, and are looking to capitalise on the opportunity. "There is general buoyancy with consumers taking mechanisation as an investment for the future," said Escorts Managing Director Nikhil Nanda. "Farmers and allied services are making smart investment in new-age tractors which come with multiple applications and solutions."
(Source: Economic Times)

Mid-cap capital goods companies discounting recovery ahead

Mid-cap capital goods companies have rallied sharply in the past three months, outperforming the broader markets, on hopes of a turnaround in the economy and expectations that they will be the first ones to benefit from shorter cycle orders and strong export growth.
Shares of companies such as Voltas Ltd and Crompton Greaves Ltd have gained over 60%.
Some fundamental signs of improvement are evident. Order booking in financial year 2013-14 was Rs.1.9 trillion, up 18% year-on-year. This is important as growth returned to positive territory for the first time post 2011, said Motilal Oswal Financial Services Ltd. In the March quarter, these new orders were led by mostly mid-sized capital goods firms. A lower base, some orders from state-owned firms, strong momentum in export orders owing to favourable currency movement and a gradual recovery in demand from global industrial firms helped.
However, the March-quarter results will continue to show weakness because projects which have been awarded might still see a slow pace of execution because of the general election. Earnings for capital goods firms are expected to worsen with revenue declining between 1-4% from a year ago and net profit declining by around 20%.
Will the improvement in order inflows continue? Analysts are expecting double-digit growth forLarsen and Toubro Ltd(L&T). The company is expected to start work on several large orders won over the past year, which is likely to trickle down to medium and small firms in the coming quarters. They are also banking on the continuing exports to the Middle East, Africa, South-East Asia and Latin America. However, while the rupee has remained more or less stable in the past couple of months, it is showing an appreciating trend. A strong currency will derail export growth and earnings. Note that a firm such as Thermax Ltd depends upon overseas sources for one-third of its revenue; the proportion is 15-17% for ABB Ltd, according to management interactions in March.
For now, the stocks of firms such as Crompton GreavesKirloskar Oil Engines Ltd, and Voltas are trading at 20 times their expected earnings for the current fiscal. At those valuations, they seem to be discounting a revival in the macro environment and continued exports. A delayed recovery and the strengthening rupee pose a distinct threat to the sustainability of this rally.
(Source: LiveMint)

The divergence in cement sector

The March quarter may see a sharp contrast in cement sector sales and profits between north and south India-based companies. An inkling of this can be had from the divergent cement price trends over the last few months. Prices in the north and east were 15-20% higher than in the south. Secondly, demand has moved downhill in the southern states with Andhra Pradesh being the worst-hit owing to the political turmoil surrounding the formation of Telangana.
To be sure, it’s not as if the pan-India scenario is all that great. Overall cement consumption for the year ended 31 March is likely to show a lacklustre 3.5% growth. Project construction, which accounts for two-fifths of total cement consumption, is sluggish. A Citi report says the capex would have fallen 20% in 2013-14, after a 21% reduction in the preceding year. Residential construction is also down on the back of poor demand and the resultant high inventory with builders.
In that backdrop, the southern woes are far greater than the other regions. Oversupply has been the bane of the south given the concentration of limestone reserves, a key raw material, in the region. Nearly 43% of cement capacity additions between fiscals 2010 and 2013 took place in the south. This has left it with about 40% of the country’s cement capacity now.
Meanwhile, demand growth has not kept pace with capacity increase, leading to poor pricing power. In contrast, the north and east have been better off, more so in the March quarter, due to plant shutdowns at Binani Cement Ltd. An Emkay Global Financial Services report says that while cement prices moved up about 6% in the north and central regions from December till March, prices in the South fell 10%. Dealers say, barring Chennai, where there is some price stability, any price hike in the south has not been sustainable. Obviously, this implies lower realization in the south, compared with other regions. Add to this cost pressures from rising power and freight costs. To be sure, all cement makers are caught in a quagmire of higher costs and low utilization, but weak demand would exacerbate the hit to earnings for south-based companies.
Big southern firms such as India Cements Ltd andRamco Cements Ltd may report a higher-than-industry contraction in margins mainly due to low utilization. The former may post a steep drop in operating profit and possibly report a net loss, while the latter’s performance, too, is unlikely to enthuse investors. In comparison, manufacturers with stronger presence in the north and east like ACC LtdAmbuja Cements Ltd and UltraTech Cements Ltd are likely to be better-off. Although operating profitability may take a beating due to cost pressures, the adverse impact would be moderate when compared with the last few quarters.
The divergence is likely to continue. There is consolidation in the northern and eastern regions with big manufacturers such as UltraTech and Holcim(Ambuja and ACC) getting bigger. The south remains fragmented with more than 30 firms, which will keep a check on pricing power. Only a pick-up in the capex cycle that would absorb supply and improve capacity utilization can pull up profitability of southern companies. This is unlikely in the near term.
(Source: LiveMint)

Tuesday, April 22, 2014

Bleak future for Australia manufacturing

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Ford’s normally busy factory is deserted and eerily quiet. For two weeks the carmaker and dozens of its component suppliers are on a temporary shutdown to cut costs amid slack demand.
“Far worse is coming,” says Anthony Anderson, a shop steward who has worked for 30 years at the plant in Geelong, a coastal city of 225,000 people deep in Australia’s manufacturing heartland near Melbourne.
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This assembly plant is closing in two years and with it will go thousands of jobs at component suppliers across the region,” he says.
It is almost a year since Ford said it would stop making cars in Australia, blaming a strong Aussie dollar, high labour costs and Asian competition. General Motors and Toyota followed when the new government declined to offer extra subsidies, declaring an end to an “era of entitlement” that led to carmakers gobbling A$30bn (US$28bn) in taxpayer assistance between 1997 and 2012.
Several thousand direct jobs will be lost by 2017 and a further 40,000 suppliers jobs are under threat as the curtain comes down on a century of car manufacturing Down Under. The demise of such an iconic industry is raising questions about the viability of other manufacturing sectors and whether Australia has become too expensive to make things.
“Australian manufacturing has been in relative decline as a share of the economy and of employment for the past 30 years, much like the UK,” says Ivan Colhoun, economist at ANZ bank. “That trend seems likely to continue.”
Australia’s small market, high wages, a strong currency and Canberra’s decision to stop corporate handouts were negative forces affecting the sector, he says.
The crunch in manufacturing intensified during the global financial crisis, with 77,000 jobs lost between 2007 and 2012, reducing employment in the sector to 967,000 or 8 per cent of the workforce. The industry’s troubles, when combined with a sharp slowdown in mining investment, pose a threat to Australia’s record of 22 years of consecutive economic growth.
Geelong is bearing the brunt of recent closures, with Alcoa shedding 800 staff in August at an aluminium smelter and Qantas cutting 300 at an aircraft maintenance hub. The city is a bellwether for manufacturing and is becoming a test bed for efforts to revitalise the sector and diversify a blue collar city’s economy.
Backwell IXL, a 155-year-old manufacturer, started out making wood stoves before entering the car components market a decade ago and becoming a supplier to Ford and Toyota.
“We could lose 25 per cent of our revenues when car making stops,” says Bernard Brussow, the company’s chief executive.
Like other components suppliers, half of Backwell’s factory is lying idle during Ford’s temporary shutdown. But its decision to diversify into the mining, building and solar technology sectors means the rest of the plant is teeming with activity.
“Companies must evolve, find new customers and add value to their products to survive,” says Mr Brussow.
Some manufacturers are teaming up with Deakin University in Geelong to co-operate on research and development and design higher-end products.
“Two of our former students have spun out a company called Carbon Revolution, which has designed very light carbon fibre wheels for export,” says Jane den Hollander, vice-chancellor of the university. “They are creating 150 jobs and have retrained some former Ford workers.”
We could lose 25% of our revenues when car making stops
- Bernard Brussow, Backwell IXL chief
A report by the Australian Workforce and Productivity Agency says the future for industry depends on incorporating this type of advanced and niche manufacturing at companies integrated into global supply chains. Offering services to support products is another critical element for survival, it says.
Ms den Hollander is optimistic about the long-term future for Geelong and Australia, citing its proximity to Asia, natural resources and growing digital economy as strengths. But she warns a painful correction is coming because productivity slipped during the mining boom, causing some manufacturers and their suppliers to close.
Manufacturers say they are caught between skyrocketing labour and energy costs caused by the resources boom and the phasing-out of tariff protection from foreign competitors by Canberra.
“We don’t want government handouts but we need better tailored state supports,” says Mr Brussow.
He says state job creation schemes need to be adapted to give companies incentives to retain staff as well as create new positions. State support to reduce energy costs would help manufacturers, he adds.
Even though unemployment of 6 per cent in Geelong is low by international standards, concerns about the future are growing as more jobs are cut. Hundreds of people attended a rally this month calling on Canberra to do more to create jobs.
Ben Davis of the Australian Workers Union, who spoke at the rally, says the community is nervous about its future.
“My fear is while government dithers a whole generation of workers are thrown on the scrapheap,” he says.