Houston – 2017 Economic Forecast: Resilient

 Houston – 2017 Economic Forecast: Resilient

By Ray Niekamp

Photography by Shannon Drawe

Oil and gas is coming back, but it’s not where it used to be — yet. That was one of the takeaways from the Houston edition of the 2017 Economic Forecast, presented by Texas CEO Magazine and the Bauer College of Business at the University of Houston.

The event featured economist Patrick Jankowski of the Greater Houston Partnership; Janet Clark, a director with EOG Resources; Sayun Sukduang of ENGIE Resources; and James McDeavitt, M.D., of the Baylor College of Medicine and St. Luke’s Hospital. The event was moderated by Dean Latha Ramchand of the Bauer College of Business.

Houston Economic Overview

Jankowski noted that the price of oil has often been regarded as the driver of the Houston economy. But he suggested we start thinking of it in another way, as a speed governor on an engine. “When oil prices are high, the governor opens up and allows the motor to turn real fast,” he said. “When oil prices are low, it acts as a governor and slows down the motor and Houston grows slower, but it doesn’t stop all together.”

Jankowski cited a recent study by the Dallas Federal Reserve Bank, which asked oil companies their break-even and profit points for crude. Most firms can break even at $50 a barrel, he said, and some can make a profit at a low price. But others have trouble making a profit at $80 a barrel. “As we get to between $50-$60, that’s an area the oil industry can live with and the area we’re moving towards,” he said.

OPEC’s recent announcement that they will evaluate cutting oil production by a million barrels a day in November will be good for the oil and gas industry in the U.S., Jankowski said. Even as the United States has cut production, it’s the high level of production by OPEC countries that is keeping the cost of oil low. Jankowski said the Dallas Fed sees a “significant” improvement in the outlook of the oil and gas industry.

Beyond the price of crude, according to Jankowski, the biggest problem facing the oil industry is debt. In 2005, the 59 oil and gas firms in the U.S. had $50 billion in debt. Now, it’s over $200 billion. “Debt is going to hold back the expansion of the oil and gas industry even as we see oil prices go up,” Jankowski said.

As the price of oil goes back up, Jankowski sees companies paying down their debt, restoring shareholder dividends, drilling more wells and, perhaps, hiring again. “When hiring does return to the oil and gas industry,” he said, “you won’t see huge hiring, you’ll see rehiring in the dozens, not in the hundreds or in the thousands of workers — it will be in handfuls.”

That comment was the segue to a look at overall employment in Houston. While 120,000 jobs used to be created annually, Houston is now down to about 13,000 per year. Manufacturing has lost 32,000 jobs in the last year, and oil and gas 25,000. The engineering services industry is down by 10,000 jobs; employment services, another 4,000. However, those losses are somewhat offset by gains in hotels, restaurants and bars, health care, services to buildings such as landscaping, the arts and entertainment and some construction jobs, Jankowski said.

But wages aren’t coming back without a rebound in oil. The growing sectors generally pay less than jobs in the energy sector, and often quite a bit less. And with less money to spend, consumers are being cautious about big purchases, so automobile sales are down. “Rational consumers won’t go out and sign an agreement for a four- to six-year car loan if they are afraid they are going to lose their job,” Jankowski said. “So this is an indicator of consumer confidence that’s sagging.”

Home sales are holding steady, but there’s been a shift in the value of new homes. During high economic times, newly constructed houses were generally valued between $750,000 and $1 million. That end of the market is gone, but construction has picked up in the middle market, where there’s a lot of pent-up demand. Last year, about 29,000 single-family homes were built, and this year, the number is expected to be about 25,000. But Jankowski sees construction jobs trailing off, with fewer office buildings and apartments being built and the construction boom in chemical plants coming to an end. “2017 may be the year where we see jobs increasing in every sector but construction,” he said.

Even as weak as the outlook is, he added, we should remember that Houston has managed to add jobs every year for the last 25 years, except in the Great Recession year. “2016 has been challenging and 2017 will be weak, but it won’t look like 2009,” Jankowski said. “I think with 2018 comes around, we’ll all be breathing a lot easier.”

Oil and Gas

Janet Clark, board member of EOG Resources took a deeper look at the prospects for the oil and gas industry. The downturn Jankowski alluded to has been deeper and longer than anyone anticipated, she said, and supply and demand in oil probably won’t balance out until 2017. “That said, don’t hold your breath for $100 oil,” she said. But she added that $65 oil would return the industry to a growth pattern.

“The shale business has really done a good job in lowering costs on what it takes to earn their cost of capital,” Clark said. Production in our shale wells is up, and they are operating more efficiently. Of course, that has its downside: jobs. Even if oil gets back to $100 a barrel, Clark said the 100,000 jobs lost are not coming back. More efficient operations simply mean fewer workers.

Rig count fell from about 1,600 in mid-2014 to 350 in May of this year. Clark said many wells are called “drilled, uncompleted,” or DUC. The cost of completion, which is fracking, accounts for about two-thirds of the total cost of the well. There is a big inventory of DUC wells, Clark said, and once oil prices come up, those wells will be completed and there will be a rush of production.

Clark agreed with Jankowski that oil and gas companies must pay down their debt once prices start to rise, but she disagreed that those firms would start paying dividends. Exploration and production (E&P) companies don’t care much about dividends, she said. They do care about production growth. “They will get back to growth if they have the cash flow, even if they are not earning the cost of capital,” she said.

When debt goes up and the price of oil goes down, bankruptcy looms for some companies. Clark said a Haynes & Boone oil patch bankruptcy monitor shows that, since January 2015, about 100 E&P companies have gone bankrupt — under a debt of about $70 billion. But with rising oil prices, about 100 land rigs have been added since May.

Ultimately, oil is a global commodity, and prices can be hurt by just a little excess supply. And when the price begin to rise, demand won’t grow at the same rate. “With that, it will be interesting to see what OPEC does and see if oil will return to that $65 range and make the U.S. shale players profitable,” Clark concluded.

Power Generation

Managing energy supply with demand for consumption is something Sayun Sukduang at ENGIE Resources is working to balance. ENGIE Resources (formerly GDF Suez) sells electricity to commercial customers. Sukduang sees three trends in his industry, called the “three D’s”— decentralization, digitization and decarbonization.

Decentralization refers to the consumers’ ability to control their own energy use, including its source, the way it is consumed, and the time of day it is consumed. Decarbonization is the shift to clean energy and alternative energy sources. Digitization includes the Internet of Things and Big Data, which enable us to do more with what we have. Those three D’s are prompting a shift away from infrastructure to consumer empowerment, Sukduang said.

Up to now, we have been focused on infrastructure, he said. “We’ve built energy infrastructure that’s equivalent to building a 100-lane Interstate 10,” he said. “We never have traffic jams, yet if you saw an interstate that was 100 lanes wide, you’d be aghast.” Instead of overbuilding power plants that can handle most spikes in energy demand, the key is to implement more efficient energy use through smart technology that enables automated and remote control of our electric appliances. Sukduang said one important step would be to give every home a Nest thermostat, a smart device that programs itself to turn the air down when homeowners are at work, and back up to their desired temperature in time for their return home. At about $250 apiece, these devices could serve 600,000 homes for about $150 million — far less than the $1 billion a new power plant would cost.

And temperature control isn’t the only “smart” home addition that can relieve pressure on energy infrastructure. Now, if a homeowner has a freezer, it is possible to coordinate the use of electricity with the power company to make the freezer run two degrees colder between 2 a.m. and 4 a.m. During the day, when energy demand peaks, the freezer could run at its normal temperature again. “I’ve prevented the traffic jam, the need to build peak infrastructure, I’ve offset carbon and I’ve made the entire generation fleet more efficient,” he said. “I’ve turned your freezer into a consumer-empowering way to optimize infrastructure — saving everybody.”

Sukduang said ENGIE has sold the majority of its power generation assets in the United States and is investing in new technologies. “We think that’s the way forward both from an economic, environmental and altruistic perspective,” he said.

Health Care

Dr. James McDeavitt also compared high spending on infrastructure to the consumer, but from a health care perspective. “One of the fundamental challenges in health care is that we spend a lot more money than other countries for outcomes that may not be as good, and we don’t have the confidence that we’re getting back what we expect for such a large investment,” he said. Texas is in the lowest decile on outcomes.

McDeavitt focused his comments on the impact chronic diseases have on employers. “The bottom line on this is, as the cost of health care increases, so does the cost to your employees,” he said. The increase in the cost of health insurance largely comes out of the pockets of a company’s employees, and “someone with a $100,000 salary 15 years ago, now has the purchasing power of $70,000. This is now a serious burden on families,” he said.

Chronic conditions exacerbate the burden of health care costs. Among people over the age of 65, 42 percent have four or more chronic diseases, such as hypertension, diabetes, hyperlipidemia and arthritis. That has an important economic impact, McDeavitt said. “For zero to one chronic condition, the cost of my care is about $2,300 per year,” he explained. “If you add just one more condition to care, I go from a $2,000 a year cost to an $8,000 cost — it quadruples my cost of care. When you get to six chronic conditions, it costs $42,000 per year for care.”

In Texas, 30 percent of the population is obese, according to data McDeavitt cited from the Centers for Disease Control. Obesity is tied to chronic conditions, and it’s not fixed by a 20-minute conversation with a doctor. “We need to think about doing things differently,” he said.

In health care delivery, McDeavitt said Baylor is leaning toward taking care of large groups — a population such as the City of Houston employees. “Increasingly, this is in part a big data play where we take data from a large population of patients and data from medical billing and look at where the spend is,” he said. By looking at large populations and applying predictive analytics, they can figure out who needs attention right away. “If we can find that 10 percent of the population that is going to get sick, we can focus resources specifically on that population to keep them from getting sick,” he said.

For employers, McDeavitt said the relationship with insurers or health management systems must change. Instead of negotiating premiums once a year, McDeavitt said, “Employers must find a partner to work with over a long period of time to move some of these health care needles and bend the cost curve.” The emphasis, he added, will continue to move to prevention rather than treatment.

Q&A

A questioner in the audience asked what Houston could do to incentivize companies to move to the city, and create a more diversified economy like Dallas-Ft. Worth.

“The DFW economy and Houston’s economy are very different,” replied Jankowski. “Dallas is a distribution center and a regional banking center, and Houston is much more international.” Because of that, Houston needs to look for more foreign investment. That requires a strong education infrastructure, and a strong physical infrastructure to move people around easily, he said.

“The Texas Medical Center is one of the largest medical complexes in the world with 100,000 people coming on to that campus every day,” McDeavitt said. “You have to be a not-for-profit entity to be on the TMC campus. As a consequence of that structure, biotech should be much bigger than it is in Houston. There is a big opportunity to build incubators for biotech on the campus.”

Thank you to our 2016 Enlightened Speaker Series Sponsors:

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