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March 2020 Newsletter

Hello from Arthur Stewart, Secretary

Here’s the news…

World Oil Price Collapse

Oil prices collapsed earlier this month when OPEC and Russia failed to agree on oil production cuts. Before the collapse, oil prices were already weakened by fears COVID-19 would erode worldwide oil

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demand. Responding to the COVID-19 problem, Saudi Arabia surprised its OPEC partners by calling for unusually large cuts of 1.5 million barrels per day. As part of its proposal Saudi Arabia asserted Russia should cut its production by 500,000 barrels per day, thus making Russia responsible for 1/3 of the proposed cuts. Russia was unenthusiastic about the Saudi proposal. Russia was not convinced further cuts would support prices; moreover, Russia expressed worry that further cuts by Russia and OPEC (OPEC +) would simply be throwing a lifeline to the United States’ struggling shale industry. Then Saudi Arabia upped the ante by publicly pushing for the cuts. Russia felt the Saudis were attempting to embarrass Russia into either making the cuts or watching prices collapse…and Russia called the Saudi’s bluff…saying “no” to any further cuts. Oil prices dropped by nearly $10/barrel, but the bottom really fell out of the market the next day when the Saudi’s retaliated with the announcement that Saudi Arabia was slashing its oil prices and increasing its production by over 2 million barrels per day. Russia followed with an announcement that it would increase its production by ½ million barrels per day, and the race to the bottom was on. Of course, none of this stands up to rational analysis. The initial disagreement was over cuts of 500,000 barrels per day, and at the time of the disagreement, the price of oil was $50 per barrel. The amount in controversy was oil worth $25 million per day. Then the little boys’ contest between Putin and the Saudi prince began, oil dropped $30 per barrel, and OPEC and Russia (who combined make 40 million barrels per day) lost $800 million of income per day. It makes no sense…but no one ever guaranteed that world politics would be rational. Meantime, no one is in the black, including Russia and the OPEC nations. Russia requires oil prices of $40 to $45 to balance its budget, and a week after the collapse, Russia announced it would be paring its national budget. Saudi Arabia is in much worse shape. To pay for its many social programs the Saudis need oil prices in the range of $85 to $91 per barrel. The Saudis have also announced budget cuts. Here in the United States the oil price collapse has radically changed projections. It was originally thought that US oil production would increase about 1 million barrels per day in 2020, with most of that coming from the Permian. But over the last three weeks, Permian and other shale producers (both major companies and minor independents) have announced radical budget cuts. The EIA has been silent for the last two weeks, but immediately after the collapse, the EIA reduced its forecast for US 2020 production from 13.3 million barrels per day to 12.99 million barrels; it also reduced its price forecast to $38 barrel. But that is old news. Private forecasters and major E&P companies are calling for a decline of as much as 500,000 barrels per day in US oil production in 2020. Achieving a decrease in US oil production has been the goal of the Saudis and Russians for the last six years. Indeed, the Saudis embarked on that goal in 2014, taking action in 2014 to flood the market, which caused oil prices to drop from the $100 mark to half of that. But US shale proved more resilient than the Saudis expected—or perhaps better said, US shale was able to borrow more money over the last six years than the Saudis expected. Instead of going out of business, US shale production has grown steadily over the last six years. But now, in 2020, a drop in US shale production may be largely irrelevant to the price of oil. With the advent of COVID-19 and the shuttering of the world’s economy, the oil market’s attention has become

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fixated on demand…and the picture is not pretty. With planes grounded, factories closed, and people quarantined at home, oil demand is seeing an unprecedented drop, and a drop of 500,000 barrels per day in US production would be a mere drop in the bucket. It is easy to find projections of oil demand falling 10 million or even 20 million barrels per day—either amount being unthinkable just a month ago. One of the world’s most respected publishers of oil data is Rystad Energy. Rystad sees world oil demand falling nearly 20 million barrels per day in April 2020. For all of 2020, Rystad sees world oil demand being down by 4.5% (or 4.5 million barrels per day) compared to 2019.

The worry still ahead for oil prices is whether there is enough storage capacity to absorb the unneeded oil that will be produced over the next several months. In other words, the price shock may not yet be over, and many pundits are calling for oil to fall significantly lower as the ramifications of the above chart translate to swelling inventories and storage shortages. In short, even if OPEC + wanted to change the oil market status, they may have lost control of the situation. But for the moment, both Russia and Saudi Arabia proclaim great satisfaction with the status quo.

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Whether they genuinely mean they are satisfied that US shale is finally being punished, or if, instead, they are covering-up for their enormous economic blunder, is anyone’s guess. However, what we do know is that both Russia and Saudi Arabia have refused entreaties from other oil producing nations, like Venezuela, to meet early, and the next OPEC + discussion is not scheduled until June. Meantime, for the first time in generations, there is talk of the Texas Railroad Commission stepping in to control the amount of oil produced in Texas. Under Texas law the TRC has the right to tell Texas oil producers how much oil they can produce. It is an old law that dates back many generations, when Texas was the world’s largest oil producer and a new Texas discovery could collapse world oil prices. In fact, the TRC hasn’t put a limit on production since 1973 when US oil production first peaked. There is some talk of the TRC meeting with OPEC + in June. But even if the TRC stepped in today, the impact of COVID-19 may still overshadow any manipulations within the powers of TRC and OPEC +. Also hovering in the background is the possibility that President Trump and/or Congress might take action to rescue the United States’ oil industry. President Trump holds a heavy hammer in the form of sanctions that he might impose upon Russia. And Congress has, in its back pocket, the NOPEC legislation which, if passed, could punish other countries (read that as OPEC and Russia) for manipulating world oil prices. With COVID-19 commanding the world stage it might be some time before such steps are even discussed…let alone taken. The variables currently at play really are nearly countless. Plus, the variables are not necessarily being manipulated by rational motives. It could be a wild ride for some time to come.

The Impact in Western Pennsylvania

Pennsylvania’s conventional industry is suffering not only from the oil price collapse—natural gas prices are racing to the bottom as well. One of the worst times for this nation’s oil and gas industry was thirty years ago following the mid-1980’s collapse. If we adjust for inflation, we quickly see that today’s environment is much worse than thirty years ago. Thirty years ago, natural gas was selling for $1.96/mcf, or about $4.23 today, if we adjust for inflation. But today’s posted natural gas price is $1.57—and with transportation and other fees, Pennsylvania’s conventional producer is receiving less than the posted price. Thus, today’s operator is being paid less than half of what an operator was being paid thirty years ago for natural gas. As I’m writing this, oil is selling for $22.27. Adjusted for inflation that compares to $11.25 thirty years ago. Yes, oil prices were low thirty years ago, but not that low. Today’s conventional oil and gas operator is navigating some brutally difficult waters. Those waters are taking their toll. PGCC has not done a formal survey. But PGCC’s Board of Directors has been meeting regularly during this price crisis, and from those meetings we have collected many anecdotal stories. Some conventional oil and gas operators have laid off their entire staff and shut in production completely. Some cannot shut in completely due to lease obligations, the desire to keep employees on the payroll, the need to keep operating stripper plants and so forth. But even those who are continuing operations have been deeply affected, and virtually every company our Board has spoken with, has implemented very significant layoffs.

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Clearly, development of new wells is unthinkable in the current price environment. This has enormous impact on already stressed supply stores and contractors. Some supply stores are open on reduced hours. Whatever business we PGCC members can provide to our struggling contractors would be greatly appreciated. Oil flow to the refineries would also be appreciated. There is no doubt that the shutting-in of operations has already reduced that critical flow. It will be of little good to survive this pricing crisis only to come out the other side with no refineries left to process Pennsylvania grade crude. The stories of suffering are already many. We are no longer competitors. We are a common group of survivors; and if we can help one another, we are pleased to do so. Your fellow PGCC members are only a phone call away.

What the PGCC Board is Doing to Help During the Crisis

Your PGCC Board met on March 13 and again on March 26, 2020. As a result of those meetings PGCC has begun an initiative to seek a part of the stimulus funding being made available to the states via the Federal stimulus package. In particular, PGCC has formulated the idea to put people back to work by plugging orphan wells. PGCC envisions a stimulus program whereby an individual or company would receive a payment in a guaranteed amount, for each orphan well plugged per DEP requirements. This would be a win for Pennsylvania’s environment, and it would be a win for the stimulus objective of putting American workers back to work. The beauty of the plan is the abundance of orphan wells and the “shovel-ready” nature of the proposal. PGCC has already begun discussions with Pennsylvania legislators and bureaucrats. Next steps involve learning the details of the federal stimulus funding and packaging the orphan well proposal in a way that meets the federal requirements. PGCC is going to invite the other Pennsylvania trade organizations, PIPP and PIOGA, to join the PGCC initiative. Next, the PGCC Board wants to take this newsletter opportunity to update you on some legislation that may help you weather this terrible storm. We think the biggest and best news for Pennsylvania’s conventional oil and gas industry is the aid to small businesses found in the “CARES Act” passed by the US Senate on March 25th, passed by the House on March 27th, and signed by President Trump the same day. The CARES Act is now law.

The CARES Act The CARES Act provides aid to small businesses that are experiencing concerns due to COVID-19. We think the portion of the Act that will be particularly useful to PGCC members is the Payroll Protection Program. That Program will allow small businesses (and sole proprietors) to apply for loans that are then eligible for debt forgiveness. Up to eight weeks’ worth of payroll costs (plus rent and utilities) are eligible for forgiveness so long as the loans are used in order to retain employees and maintain payroll.

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Most, if not all, of PGCC members should be eligible to participate. The Act says that small businesses of less than 500 employees, sole proprietors, independent contractors and some self-employed individuals are eligible borrowers so long as they were in operation on February 15, 2020 with employees on their payroll. The maximum loan amount available is 2.5 times the borrower’s average monthly payroll (capped at $10,000,000) and can be used to pay USA based employees who make less than $100,000 a year. There are no personal guarantees or collateral requirements to obtain the loan and the Administrator fees are waived.

The loans are eligible for forgiveness so long as the recipient submits the proper documentation (verifying the number of employees and their pay rates) and certifies that the loan was used to retain employees. There are limits to the amount of forgiveness given if the recipient reduces employees or their compensation.

To obtain the loan you must apply to an SBA partner lender. Check with your local bank to see if they are an approved SBA lender. To apply you will need to prove your 2019 payroll amount. If your payroll tax form 941 is not available, we believe that you can use other means of proof. We believe your W-3 is adequate.

Your PGCC Board believes the Payroll Protection Plan could be a lifeline to your business. Essentially the program will pay two months’ wages for your employees. That is a win for your business and for your employee(s). Here is a link to an article that provides more information about the Payroll Protection Plan: https://www.spilmanlaw.com/dataentry/resources/attorney-articles/banking-finance/coronavirus-aid,-relief,-and-economic-security-act

Low Interest Loan Programs

Low interest loans are also available from multiple sources. Here are some options:

1. The PA Industrial Development Authority (PIDA) has just received $61 million from the Commonwealth for a small business loan program similar to the SBA program discussed below. Guidelines have just been published. Each applicant will need to be certified by their county industrial development authority. To apply begin here: file:///C:/Users/asala/AppData/Local/Microsoft/Windows/INetCache/Content.Outlook/GIP20YV1/COVID19WorkingCapitalAccess-Guidelines_2020.pdf

2. A business operating in a county declared a disaster area is eligible for a loan program administered through the U.S. Small Business Administration (SBA). Applications are made via the email address below. There is also a phone number for questions at 1-800-659-2955. There is great demand for these dollars so response time on-line and on the phone is slow. All counties in PA have been declared in disaster.

Businesses will need to qualify as a small business, have satisfactory credit history, and show repayment capacity. Decisions will be based in part on your company’s NAICS codes and comparisons to industry standards on revenue and employee numbers. The bullet points below summarize the program:

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• 42 states/territories have been declared as emergencies • The other 14 states and territories are all in the declaration process • Apply at sba.gov/disaster

o Will need to complete a two-page application, 4506T IRS form to transfer information, and a personal finance statement

o More information might be requested for more complex businesses or those seeking a higher loan amount

• Offer up to $2 million in loans to a small business or non-profit for working capital needs • Term can go out to 30 years • Interest rate for small businesses is 3.75% and for non-profits is 2.75. No banks

involved. Loans are direct to business from SBA. • Authorized 1-year deferment on the first payments • Rumors of SBA taking 4-6 months until constituents receive their money are NOT true.

Their current average processing time is 2-3 weeks, but some can take just a few days. • SBA District offices (find your nearest here) can also serve as a resource to

Congressional offices and small businesses o Public information officers can join webinars or information sessions if invited

by your office, trade associations, chambers of commerce, etc.

In Other Business

1. PGCC’s Annual meeting scheduled for April 9, 2020, has been postponed indefinitely due to the coronavirus. When the meeting is rescheduled we have a full agenda including:

a. Revision to the bylaws to increase the size of the PGCC Board b. Annual election of Directors (plus new directors to replace retiring directors and to fill

new seats) c. Presentation by Attorney Matt Wolford concerning your personal liability for your

company’s activities

2. The Conventional Oil and Gas Act (COGA) remains pending before the Pennsylvania House. PGCC made several trips to Harrisburg over the winter to insure that House members are educated about the needs of the conventional oil and gas industry. We found solid bipartisan support for COGA, and were it not for COVID-19, we are confident COGA would have passed in the House. As you can imagine, only the coronavirus is on the minds of the legislature at this time. In fact, the legislature is not meeting in person in Harrisburg. The members are calling in, and members of the public are not currently allowed into the Capitol building. Like many other things in the nation, COGA is on hold pending the outcome of the coronavirus.

3. The CDAC meeting scheduled for March 31, 2020 has been postponed indefinitely due to the coronavirus.

4. PGCC Directors Bruce Grindle and Cathy Kirsch have resigned from the PGCC Board. As many of you know, Bruce and Cathy are partners, operating in southwestern Pennsylvania. Their

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business is undergoing a series of changes and Bruce and his wife are moving to be closer to some family activities. Bruce and Cathy are deserving of an enormous THANK YOU for the incredible service they gave to all of us over the last six years. Cathy has chaired our membership committee, and Cathy worked tirelessly communicating with new members and handling member relations. Bruce was one of the Harrisburg team members and Bruce made more trips to the Capitol and met with more legislators than we will ever be able to count. Bruce also served as one of PGCC’s original representatives on CDAC. Bruce and Cathy will be greatly missed. If you have a minute, give Bruce and Cathy a call and let them know how much their loyal service meant to the conventional oil and gas industry in Pennsylvania. PGCC has some big shoes to fill!!

Message from President David Clark

Dear Pennsylvania Grade Crude Oil Coalition Members: I hope this letter finds you and your families staying well. It’s a very challenging time for all, as we balance the government regulations, safety and social responsibilities. Our current circumstances only call for adaptability, strength, and UNITY! I sent an email this week informing members that our April 9th meeting in Clarion has been postponed. Just as soon as the threat of the Covid-19 is behind us, a date and details for the meeting will be forwarded. Due to the pandemic, our legislators have been focused on emergency bills. We are thankful for those legislators who have reached out to board members to express their concern and to pledge to continue to work for us after the Covid-19 work is done. Our team is in constant contact with leadership and legislators to ensure that COGA doesn't fall off the radar. Your board remains committed to getting COGA to the governor's desk. However, we cannot do that without your continued support. Thanks to all of you who have made sacrifices to pay your 2020 dues. In April, there will be a follow-up letter for unpaid dues. For those who cannot pay the full amount, I ask that you consider making a monthly payment and please email Judy at judy.saf@pagcoc,org to discuss other options. If you could communicate your intentions, whatever that may be, that would help us tremendously to understand where we need to set our budget to best serve you. In the meantime, Stay HEALTHY, Stay STRONG , Stay UNITED, Be well. Sincerely, David Clark President, PGCC

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Message From American Refining Group

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Be Cautious About Shutting-In Production

I know that some of you are shutting in production to avoid giving away precious oil and gas at these prices. If you are shutting-in fee production (in other words, production where you own the oil and gas outright, not subject to any royalty) then this warning is not for you. If you are shutting-in production on a property where you operate under an oil and/or gas lease, then be aware that shutting-in your production might jeopardize the lease. The concern is that you could “lose” the lease because of your failure to produce the property. Almost all Pennsylvania leases have a primary and secondary term. The primary term is the length of time the operator is given to get production started. The primary term is usually a few months or years. I would suppose that for most PGCC members, the primary term of your leases expired many years ago. The secondary term is often referred to as the “paying quantities” term. In the lease you usually see language to the effect that after the expiration of the primary term, the lease continues under the secondary term “for as long as oil and gas are produced in paying quantities.” There are, of course, different variations of this language. But the gist of the problem is that if the operator quits producing oil and gas, the secondary term ends. There may be more to it in the lease language. Some leases contain specific language about temporary cessations. Sometimes this language is in the form of force majeure or “Acts of God” clauses. Sometimes they are stand-alone clauses that define what constitutes paying quantities or clauses that allow shut-in under specific circumstances (including payment of a “delay rental”). Of course, you will need to consult with your own attorney about your particular leases. But if the lease is silent about the circumstances under which the operator can temporarily halt production, then it may very well be that Pennsylvania case law will govern any dispute between the operator and oil and gas owner. Pennsylvania law is strong for the oil and gas owner and unkind to the operator. Pennsylvania has historically applied the "automatic termination rule" during the secondary term of an oil and/or gas lease. Under this unkind rule, the secondary term of a lease will automatically expire unless there is a well producing oil and/or gas "in paying quantities." See, Cassell v. Crothers, 44 A. 446 (Pa. 1899) ("the moment she failed to produce oil in paying quantities, that moment the tenancy became a tenancy at will…"); Brown v. Haight, 255 A.2d 508 (Pa. 1969) ("…when oil and gas were not produced in paying quantities, the grantee’s fee interest terminated automatically…"); White v. Young, 156 A.2d 919 (Pa. 1963) (failure to produce gas in paying quantities results in termination of lease after primary term expired). In contrast, many other oil and gas producing states have adopted the Temporary Cessation of Production doctrine. The courts in those states have held that there are some circumstances under which production may be temporarily halted such that the lease is not terminated. For example: "[T]he TCOP doctrine presumes that the parties understood that mechanical problems, reworking operations or other similar events would inevitably interrupt production from time to time." Natural Gas Pipeline Co. v. Pool, 124 S.W.3d 188, 204 (Texas 2003). The doctrine further assumes that the parties "did not intend such occurrences, which are incidental to normal oil and gas operations, to terminate the

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lease." Midwest Oil Corp. v Winsauer, 323 S.W.2d 944, 946 (Texas 1959); See also McCullough Oil Inc. v Rezek, 346 S.E.2d 788, 794 (W.Va. 1986) ("…mere temporary cessation of production during secondary term for equipment repairs or technical problems, reworking operations … does not result in automatic termination of the lease…"). The doctrine gives the producer a "reasonable period" of time which to remedy the defect and resume production. Winsauer, 323 S.W.2d at 946. There are a lot of issues at play here. As you can see from the above quotes, the TCOP tends to be more directed at mechanical problems such as downhole repair. In the current environment we are talking, instead, about stopping production for economic reasons. Those are obviously not the same. Even if TCOP was the law in Pennsylvania (and it is not), would shutting-in a well for economic reasons qualify to “save” the lease? But I think an even bigger problem is the length of the shut-in. A mechanical problem has a reasonable end-date. In other words, the shut-in is more than likely a short period of time to begin with; moreover, the court can receive testimony as to how long the repair “should” have taken, thereby giving the court benchmarks to test whether the parties acted reasonably in respect of their duties (both implied and express) under the lease. But with a delay for economic reasons there is a lot more subjectivity involved. One person’s view of what is a reasonable price for oil and gas will be different from the next person’s view. And maybe the oil and gas owner desires to have the oil and gas produced for income purposes no matter what the price. The discussion in the last few paragraphs is interesting to a lawyer—but remember, it is irrelevant under current Pennsylvania law…because Pennsylvania law doesn’t make room for temporarily shutting-in oil and gas leases. If you shut-in an oil and/or gas lease because of the current economic times, and if the oil and gas owner takes action to terminate your oil and gas lease, you (the operator) are going to have an uphill burden proving that your actions were justified. In other words, you will be putting the validity (more accurately the “term”) of your lease at risk. If you have this situation you had better consult your attorney in order to get advice specific to your lease(s) and your facts. Another way to solve the problem is to obtain consent for the shut-in from the oil and gas owner. If you take the latter route, be sure to obtain the consent in writing. Again, I would suggest that you work with your attorney to get the language right.

Your PGCC Board of Directors:

David Clark, Pres. davidclark6@verizon.net Chris Cochran czlholdings@westpa.net

Ted Howard howard005@gmail.com

Arthur Stewart, Sec. camelot1@atlanticbb.net

Wally Phillips, Treas. wally.phillips@dorsoenergy.com Doug Jones dj@catalystenergyinc.com

Glenn Baldensbergerglennbaldy@verizon.net

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