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Nick Cunningham

Nick Cunningham

Nick Cunningham is a freelance writer on oil and gas, renewable energy, climate change, energy policy and geopolitics. He is based in Pittsburgh, PA.

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The Permian Boom Is Coming To An End

Permian

The pressure on shale drillers to throttle back on their aggressive drilling continues to crop up in new places, and there are growing signs that the Permian is slowing down.

Shale companies spent just $5 billion on land deals in West Texas in the last six months, a fraction of the $35 billion spent in the prior nine-month period, according to the Houston Chronicle, citing Wood Mackenzie data.

It’s the latest piece of evidence to suggest that “Permania” might be easing. The hottest shale basin on the planet has suffered from rising costs as too many companies pour money into West Texas. The crowded field has pushed up the price of land, labor, oilfield services, rigs and more. That has led to a rude awakening for a lot of shale drillers. "It's just taken the edge off the Permian," said Greig Aitken, head of upstream oil and gas mergers and acquisitions at Wood Mackenzie, according to the Houston Chronicle.

Many signs suggest that the falling costs of production have stopped falling. In fact, production costs are on the rise again, for a few reasons. First, the low hanging fruit of cost cutting has ended—there’s no fat left to cut and deeper reductions would mean cutting into bone. Second, as mentioned before, there is cost inflation in a lot of areas, including labor, fracking crews and acreage. Related: Iran, Iraq, And Turkey Unite To Block Kurdish Oil Exports

But arguably the most troubling development for shale drillers would be if the production figures from the oil well disappoint—and there are pieces of evidence that indicate there is cause for concern.

Over the summer, Pioneer Natural Resources reported a much higher than expected gas-to-oil ratio (GOR), raising alarm bells for investors worried about Permian production problems. The anxiety was compounded by the fact that many consider Pioneer one of the stronger shale drillers in the Permian. The company also revealed that it drilled some “train wreck” wells, although it reassured investors that it had solved the problem.

But as The Wall Street Journal notes, the “solution” added an additional $400,000 to each well. In other words, costs are adding up in many places, which will ultimately push up the breakeven price for shale drilling. Meanwhile, other E&Ps have had to lower their production guidance because of the backlog for oilfield services, which are delaying operations.

There’s a growing consensus that the pace of shale drilling needs to slow down, or else E&Ps will destroy value. “All these factors are pointing to slower, more methodical development,” said David Pursell, managing director at Tudor Pickering Holt, according to the WSJ. “That needs to happen.”

A shift toward more “methodical” development would likely mean that U.S. shale undershoots growth forecasts. While the EIA expects U.S. oil production to top 10 million barrels per day, the more prudent approach advocated by more and more shale investors would likely mean output remains flat for years to come, never topping 10 mb/d, according to BTU Analytics.

“There are no new shale plays that have come forward,” Mark Papa, CEO of Centennial Resource Development Inc., told the WSJ. “Their ability to spew forth infinite streams of oil is really just a myth.”

The EIA estimates that shale production is still on the rise, but further gains will be much harder to obtain. The rig count is still slowly ticking up, but the large weekly increases in rigs appears to be over. Because there is a lag between movements in the rig count and subsequent shifts in oil production, the recent slowdown in the rig count raises the possibility of oil output plateauing later this year.

Related: The Trillion Dollar Market That Stopped Chasing Profits

Moreover, with several years of data on the books, it appears that while breakeven prices vary from company to company, the industry in the aggregate appears to start and stop at around $50 per barrel. With WTI struggling to hold gains above that threshold, there’s little room to run for shale companies. The explosive growth in the shale patch will need much higher oil prices if it is to continue.

The recognition that the Permian bonanza might be overdone could mark the dawn of a new era in which shale companies feel compelled to take a more cautious approach and live within their means.

Some activist investors are seeking dramatic changes to executive compensation as a way of incentivizing profits rather than simply higher levels of drilling. Pioneer Natural Resources’ CEO Tim Dove recently told an industry conference in Oklahoma City that he was feeling the heat from a “thundering herd” of investors, pressing him to focus on shareholder returns.

By Nick Cunningham of Oilprice.com

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  • Jeff Bowa on October 05 2017 said:
    Really....are you kidding? Wow I bet Chevron didn't get that memo. 100 years strong in the Permian and they just sunk another $5 bill into land purchases with over $50 billion worth of land under ownership. As well they are canceling offshore contracts(RIG) to free up more Permian money. With 6000 wells drilled ready to go just waiting for higher prices I dont buy your story.
  • Jotri on October 06 2017 said:
    The Ponzi scheme if finally here to roast.

    The ingenuity of these Americans is raising funds is amazing.

    There is no doubt that shale oil and gas exist and are massive but at what price are they profitable with all these overpriced lands and negative cash-flow.

    This is a classical definition of Ponzi scheme. This is a pyramid scheme. A house build on sand would surely collapse.

    Even from the day I was born from my mother's womb I understand the basic law of Economic 101: demand an supply. I cried only when I need food and I stopped eating as soon as I am full.

    OPEC and US shale producer essentially destroyed the oil and gas industry in the past 2 to 3 years by producing and supplying hydrocarbon that the market does not need while claiming they want market share that does not exist.

    Many family have been destroyed, marriage broken and many committed suicides because of lost income through massive lay-offs. Most of these could have been prevented but human selfish interests have no bound.The damage to the industry and people will take decade to repair if at all it could be.
  • Bill Simpson on October 06 2017 said:
    If oil stays below $ 50 a barrel, it sure could slow down drilling in Texas. Amazing how oil stays so low for so long. It shows how OPEC was able to artificially manipulate oil prices higher for so long. Imagine how much economic growth those higher prices eliminated over a half century. They transferred a vast amount of wealth from the poor and middle class in developed countries to the rich in the form of inflated real estate and stock prices, as the OPEC members invested in the stock markets and high end real estate, like Trump sold.
  • Kr55 on October 06 2017 said:
    Data only accounting for horizontal wells is showing that Permian production was only up 75-100k from Dec 2016 to June 2017. That is quite a disappointment.

    It looks like the loss of pressure in the play and drilling wells too close together is really damaging legacy production. The threadmill to try to battle declines is turning out of be a tougher thing to overcome than anyone thought. Need to add insane amounts of production in the Permian now just to stay flat.

    The funniest part is that Permian shale production is still only ~1.3M/day. People seem to be fooled thinking it's higher not knowing that the Permian is still half conventional production (that isn't growing much anymore). It's humorous that people think that 1.3M that took years to get to will just double no problem when, even now seeing with the crazy amount of drilling, producers can barely cancel out declines.
  • Anonymous on October 06 2017 said:
    Mark Papa said in 2013 the only two shale oil plays that mattered were the Bakken and Eagle Ford. He missed the Permian. He also missed out on nice production in OK SCOOP and STACK. So not like he has a perfect record. And even in the Bakken and EF, he got some very nice core acreage but missed some of the alternate sweet spots. He's not batting 100%.

    Also, while gas is more ubiquitous than oil, we have developed a new important gas play even much later into the gas revolution (the Utica). One should always watch out for analogies between the two.

    Papa was right about natgas crashing, but he dismissed the chance of oil price crashing. Those who wondered if the same thing could happen to oil from shale as had from gas were correct. "Hundred dollars" here to stay for oil is long, long ago in the rear view mirror.
  • Ridge on October 06 2017 said:
    No pyramid scheme here just an investment that takes longer to turn a profit in the growth stage than some investors are willing to wait. Shale plays are 5-8 years ROI when a company is trying to grow production and increase cash flow. And, those are in the areas that are economically viable at a profitable commodity price...not every shale acre is equal in value as some companies want investors to believe.

    Pioneer is running into what many start up E&P companies find out quickly if they do or don't have a good acreage position...at some point you have to drill the wells that will give a company a good ROR rather than simply grow production/cash flow. Cash Flow is pertinent when a company is trying to grow but when companies continue to drill marginal or uneconomic wells (which may not be determined for 6-18 months after first production of each well) the economics eventually catches up to you.

    Shale plays are attractive to investors for the very reason of quick cash flow. Generally speaking you don't drill a dry hole and 99% of the time a company will have cash flow after drilling and completing a well. Unlike the days of conventional exploration, a company would drill 5 wells and maybe have one economic well that they would invest completion dollars to turn to production to grow cash flow. However, they invested in four other wells with no cash flow. The investment community does not like those odds and elected to spend the money on drilling and completing every well expecting some cash flow in hope the technical team they invested with knows were to drill the best wells. Shale plays have simply redefined exploration with a larger investment and a longer wait to see if a company can gain a positive ROR and multiple on the investment.

    Without an increase in commodity prices, we have hit the waning point of some investors who are ready to cash out or demanding positive returns and rightfully so.
  • Jeffrey J. Brown on October 06 2017 said:
    In regard to decline rates:

    Nick Cunningham previously noted that the combined EIA estimate for the legacy monthly volumetric rate of decline in existing tight/shale production was about 0.35 million bpd per day per month from July, 2017 to August, 2017, i.e., the gross rate of decline in existing production, absent new wells.

    The estimated gross legacy volumetric decline increased from 0.26 million bpd in January, 2017 to 0.35 million bpd in August, 2017 (month over month in both cases), which I assume primarily reflected the increase in US Crude + Condensate (C+C) production (the higher the production the higher the volumetric decline, especially from these tight/shale plays).

    The legacy decline estimates are from the EIA Drilling Productivity Report (DPR). The estimates, and how to use them, is a controversial topic. Some argue that you can't sum the monthly decline estimates, because of the hyperbolic nature of the decline curves, but on the other hand, new (high decline rate) wells are always being added.

    In any case, US C+C production averaged 8.9 million bpd in 2016. The last monthly report (for July) put production at 9.4 million bpd, and the average year to date through July at 9.2 million bpd.

    So, let's assume an average production rate of 9.4 million bpd for 2017 (versus 8.9 in 2016).

    Production in 2017 would be the sum of:

    X (Production from 2016 & Earlier Wells) + Y (Production from wells put on line in 2017) = Assumed average of 9.4 million bpd, which would be a total annual volume of 3.4 Gb.

    The problem is trying to come up with the X & Y numbers.

    We can say that the average month over month estimated decline in existing production in 2017 is probably going to be in excess of 0.3 million bpd per month, but this is different from the annual average decline in pre-2017 production.

    David Hughes has studied tight/shale plays extensively, and he estimates that we need about 2.2 million bpd of new average annual production, every year, just to offset declines from existing wells. Based on this estimate, US operators would need to add an annual average of 2.7 million bpd, to offset a decline of 2.2 million bpd and to show a 0.5 million bpd net increase.

    The data would look like this for 2017 average production:

    2016 & Earlier Wells: 6.7 million bpd average rate

    2017 Wells: 2.7 million bpd average rate

    Total for 2017: 9.4 million bpd

    Note that this implies an estimated simple percentage decline of about 25%/year in existing (pre-2017) production, average annual. I noticed that this is quite close to the Citi Research estimate for the gross legacy rate of decline in US gas production, 24%/year.

    Based on these estimates, US operators need to put on line the productive equivalent of Mexico's 2016 C+C production + the productive equivalent of Canada's 2016 dry gas production, every year, just to maintain current production.
  • Howard B on October 06 2017 said:
    So many caveats in this fluff piece. If you cry wolf often enough maybe one will sneak in. When hurricanes effect your workforce and demand for labor increases and the supply is pretty stagnant then??? R U surprised that costs are up... Nope.. Are there less dollars flowing into this "mature" field? Yup. So unless prices collapse below 45 these guys will weather a slight retracement and then perform exceedingly well when prices move above $55. Its the scare tactics of the Bulls who have been waiting and waiting for a break out while Moscow and Opig make patty cake. This is market fraught with problem children that goes boom and bust.... timing is everything and the bulls have relied on "catastrophic" events to prop up their profits. More oil and gas will be pumped!! that's a guarantee!!
  • Disgruntled on October 06 2017 said:
    "There’s a growing consensus that the pace of shale drilling needs to slow down, or else E&Ps will destroy value." Duh! It never should've kicked off when it did in the first place! The "Masters of the Universe" sure shot themselves in the foot, fashioned their own noose, or whatever metaphor one chooses to describe their behavior. Here's a lesson for you: Greed creates blindness.
  • Jeffrey J. Brown on October 06 2017 said:
    Incidentally, last week's EIA gas storage report was very interesting. The injection shortfall last week, versus the five year average for the week, was about 7 BCF/day.
  • Robert G Pickle on October 06 2017 said:
    Hide and watch cowboy Bob.
  • Hans Reinhardt on October 10 2017 said:
    Nick and others have been saying the same thing for ten years running. Doom any day now, the check is in the mail yada yada.

    Gotta have more copy for the advertisement revenue to keep flowing and the rubes to keep reading.
  • Lee James on October 10 2017 said:
    We've maintained our investment in light-tight crude because we believe that prices have been so low for so long... that the market must go up. And, production cost must be going down since efficiency is up, never mind the cost of new methods.

    What if crude production cash flow is, in fact, getting continually tougher?

    Confounding the picture is experienced, knowledgeable companies like Chevron placing a strong bet in the Permian. I ask, is it the "pull" of the Permian, or the "push" of yet riskier plays like deep-water and hostile countries that make playing the odds in the Permian RELATIVELY more attractive? In this light, playing in the Permian looks to be forced-choice.

    While our administration is chasing coal and assumes the worth of forever burning oil, I suggest that we transition away from combustion forms of energy just as fast as we reasonably can.

    It's not that burning fossil fuel has been a bad thing. It's just that times are changing, Our great burning looks different.

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