In a research note to customers, long-time oil bull Goldman Sachs now says that Brent crude prices will tumble to $105 a barrel by the end of next year and could be as low as $85 a barrel by 2016. That sounds like the answer to a consumer's prayer.
The bad news is that at those prices, oil companies lose huge amounts of money on every barrel they produce. According to Goldman, producers need a price of around $115 a barrel right now to breakeven. In this case, breakeven means free cash flow of zero after capex and dividends. To prove its point, Goldman lowered its rating on Royal Dutch Shell plc (NYSE: RDS-A) (NYSE: RDS-B) from 'neutral' to 'sell' yesterday.
A post at the Financial Times' Alphaville blog has a chart from Goldman's report and an even niftier chart of the commercial break-even points for 360 of the world's largest oil projects. The projects chart does not include existing production from established wells such as BP plc's (NYSE: BP) Thunderhorse platform in the Gulf of Mexico or existing North Sea production.
If, as Goldman projects, crude prices do fall as production rises in the U.S. and consumption falls in the developed world, that means that new projects will likely be delayed until prices rise high enough to make production economically viable. For example, the Long Lake oil sands project in Alberta, jointly owned by Nexen Inc. (NYSE: NXY) and the Canadian version of Cnooc Ltd. (NYSE: CEO) needs a crude price of around $122 a barrel just to break even.
For oil industry critics who want to cut the burning of fossil-fuels, higher prices are their best friend. High prices will do more than boycotts and demonstrations and nasty letters to cut the burning of fossil fuels -- but only if there is a reasonably priced, widely available alternative. If there's not a such an alternative available -- and here's a dollar that says there won't be -- then crude prices will have to rise, either to cover production costs or to pay the scarcity premium.