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Why U.S. Shale Is Not Capitulating Yet

Why U.S. Shale Is Not Capitulating Yet

One of the great unknowns facing the U.S. shale industry, and threatening the recurring rumors of its imminent demise, is how it is possible that despite the collapsing number of oil wells, and despite the plunge in crude prices which supposedly are well below all-in shale production costs, does production not only refuse to decline, but in fact has been largely increasing in the past 6 months, with just a modest decline in recent weeks.

(Click to enlarge)

The answer may come as a surprise not only to industry pundits, but certainly to Saudi Arabia, whose entire strategy has been to keep pressuring the price of oil low enough for long enough to put as many "marginal producers" in the US shale space out of business as possible.

According to a report by the Bloomberg Intelligence analysts William Foiles and Andrew Cosgrove, Saudi Arabia may have its work cut out for it as it will be far harder to kill many U.S. E&Ps than analysts originally thought.

The reason: a break-even model for the Permian Basin and Eagle Ford shows that oil production across five plays in Texas and New Mexico may remain profitable even when WTI prices fall below $30 a barrel, according to a 55-variable Bloomberg Intelligence model for horizontal oil wells. Related: Oil Companies Market Caps Crushed By Oil Crash

The Eagle Ford's DeWitt County has the lowest break-even, at $22.52, followed by Reeves County wells targeting the Wolfcamp Formation, at $23.40. The diversity of breakevens highlights the hazard posed by looking for a single number, even within a play.

These counties together produced about 551,000 barrels of liquids a day in October. Taking into account drilled but uncompleted wells boosts the number of potential survivors to 19. The wide range of break-evens undermines efforts to come up with a single threshold for U.S. shale producers.

The full list of breakevens by county is shown below:

(Click to enlarge)

To corroborate its model of break-even levels for oil producers in the Permian and Eagle Ford, Bloomberg used a Baker Hughes' horizontal rig counts in the Spraberry play Permian and Eagle Ford. Howard County, Texas, has the lowest average break-even, at a WTI price of $29.19 a barrel. Its rig counts have doubled since oil prices began collapsing in mid-2014. In Midland County, at $30, rig counts are up 56 percent. Counts in Irion and Reagan counties, with two of the highest break-evens targeting the play, have fallen more than 70 percent.

(Click to enlarge)

None of this would be feasible if average breakeven prices were anywhere close to the $50-60 assumed by the consensus.

But where Bloomberg's analysis gets outright disturbing, if only for Riyadh, is that once wells are completed, breakeven costs tumble to Saudi-like sub-$20 prices in some countries. Related: Gazprom Braces For Gas Price War With U.S. LNG

From Bloomberg:

Tapping drilled but uncompleted (DUC) horizontal oil wells drops break-even WTI oil prices to less than $20 a barrel in eight county-play combinations in the Permian and Eagle Ford. The analysis assumes that drilled wells are sunk costs and that drilling constitutes 30% of a well's total cost. The 55-variable model shows that the impact of removing drilling expenses varies significantly by county and play, with break-even reductions ranging from $7.24 to $21.51, or 28% to 42%.

(Click to enlarge)

Bloomberg proceeds to crown DeWitt County, Texas, as the King of Shale due to its lowest breakevens across the land:

DeWitt County, Texas, has on average the lowest break-even WTI price for its oil production among 29 county-play combinations in Texas and New Mexico, at $22.73 a barrel, according to a Bloomberg Intelligence model. Shifts in drilling in the Eagle Ford may reflect differing cost levels. Dimmit County, with a break-even of $58.21, led the Eagle Ford in 1Q15 with 226 new horizontal oil wells, four times as many as DeWitt's 56. Two quarters later, Dimmit's new wells fell 71% to 65, while DeWitt's surged 77%.


(Click to enlarge) Related: Oil Majors Converging Here Could Mean A New Hotspot

There is far more in the comprehensive analysis, but the punchline is simple: what many thought would be the "breaking" price point for virtually every shale play has just been lowered, and quite dramatically at that. It also means that algos and traders who had reflexively bought any dip below $30 on expectations this is close to the "sweet spot" and where the Saudis would relent, will have to drop their support levels by as much as a third!

Finally, it means that if Saudi Arabia truly means to put the marginal non-OPEC producers (read efficient U.S. shale) out of business, it will have to pump far more not less as many speculate, and worse, it will have to ramp up production very fast because as is well known by now, the Saudi Kingdom is itself hurting profusely as a result of low oil prices which are leading to budget crunches and domestic austerity such as soaring prices of gas and water.

Finally, since Saudi Arabia had expected that its FX reserve outflow would last only temporarily using $40-50 breakevens, it will have to sell many more US reserves (either TSYs or stocks) to fund the cash shortfall which will persist for far longer until oil catches down to the lowest cost US producers, which as of today's close are at least $10/barrel lower.

In short: the oil price war is about to enter its far more vicious, and far more lethal phase, and while it is unclear who ultimately wins, whether it is Shale or the Saudis, the loser is clear: anyone who bought into bets of an imminent oil bounce.

By Zerohedge

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  • tony on February 04 2016 said:
    1. I see half-cycle break even price median around $37 at the chart. Still some 20 % north of the current oil price ($31).
    2. That makes more than 50 % shale plays unprofitable at current oil price
    3. It is very manipulative to calculate with half-cycle price only. What about land acquisition, facilities, ...? Is that all for free in the US? Half-cycle price is not full-price!
  • alistair clark on February 04 2016 said:
    Yes, good nitty-gritty analysis (or granular in the new analyst jargon). But the conclusion maybe a little off. Its a bit like saying the folks selling the family silver are still in fine shape! Cutting everything to the bone in your own operations, plus in your suppliers, whilst producing in your most productive (lowest cost) acreage can work for a while. The survival of US shale oil output, so far, says a lot about why the US has the most efficient and productive economy on the earth, but there is nothing in this analysis that says the majority of US shale is a viable business model at current oil prices. Any athlete, no matter how fit, eventually hits the wall. US shale and its myriad of small and large business suppliers are currently running on their fat reserves at sub US$40 barrel oil. Yes, the reserves were fatter than almost all analysts thought and yes, the US shale operators and their suppliers are a leaner and meaner bunch of business owners than the kleptocrats that manage most of the world's oil industry, but eventually, like socialism, you run out of other people's money! The timing maybe extended but the conclusion is not in doubt.
  • Kr55 on February 04 2016 said:
    Some points. Shale production is falling. Eagle ford and Bakken alone are down over 700k since last summer. Permian is at a tipping point now where declines will begin to outpace new production. Overall production is maintained because of off-shore mega projects that there will be less and less of going forward.

    Also, indeed, breakeven costs do drop because of the massive crash. That is because people doing the work are desperate and can be squeezed. When demand for works goes up though, the best teams that are taking all the jobs for cheap now, they want more money and to pick the best jobs, and then you start bringing in more people and wages and rental fees for equipment go back up. These are factors that producers are very aware of, none of them think that what they are paying to produce now would still be the case when the oil price is back up.
  • ed on February 04 2016 said:
    Where was this brilliant analysis when WTI waa at $60 or $50 or $40/bbl? Heck, you could have sold this info to the Saudi's and avoided them a few billion in face saving foreign reserves. Smart money is never in rhe I told you so knee jerk business. If you saying go short now you've missed half the low hanging fruit.
  • Douglas on February 04 2016 said:
    Want some advice? I would listen to a few billionaires that have been here and done that before I would get all excited about two counties in Texas living on low production costs. Last time I checked, nobody is making a quarterly profit but the few who are living on long term collars.
  • Brad on February 05 2016 said:
    Break even points on individual wells don't take into account all the costs of drilling and won't predict future production. More important is the free cash flow situation of the companies doing the drilling. When cheap credit dries up because the shale producers are losing money overall, production will decline rapidly.
  • jay on February 05 2016 said:
    This article is absurd. All the supposed oil experts and analysts for oil NO absolutely nothing about it. "The Eagle Ford's DeWitt County has the lowest break-even, at $22.52, followed by Reeves County wells targeting the Wolfcamp Formation, at $23.40." is absolute BS. Oil production has not dropped significantly with the rig count because instead of regulating the rate at which the oil companies let them flow / pump at is gone. They are pumping full out. The reason that this is an issue is because by correctly regulating the rate a which the oil is pumped maximizes the life of a well and the amount of oil being able to exhaust from it. Because the oil companies are pumping full out these wells often water out within a year, maybe two ( sometimes in as little as 8 months). When they should last at least 10-20 years before this happens. And another reason that break evens have dropped is due to the relentless gauging on the services that drill / frack / complete these wells. Many of these companies are doing the jobs for little to NO profit, just enough to keep there experienced employees and pay the bills. How long do you think this will last before they say enough is enough and either raise there prices or just shut up shop? While there might be some break evens for wells coming in at the price above, in the end the oil company producing from these wells is losing big time in the long run. Over producing from wells to bring the break even down is insane and bad business as they will lose millions per well in the long run. But In a time when cash is king, Logic does not exist.
  • Oilfield trash on February 05 2016 said:
    I work in the Bakken or I should say I did as of yesterday. Bakken is collapsing. The oil companies are slashing jobs to the bone. Even mid-level management jobs are getting the ax. When prices dipped under $40, everyone got worried. Those who were left. The oil majors have been on a massive pipeline construction bend as trucking is much more expensive. When prices dipped under $30, the oil companies started canceling projects to the point of having no projects to do. This is with $20 break even costs for one major in the Bakken. Pipeline takes around $8 a barrel to ship the oil. I was one of the last ones to work in my company. I am still employed but there is no work so I guess that means I am laid off indefinitely. I have no idea when they will open any new wells. Neither do the oil companies.
  • Leo on February 05 2016 said:
    I wonder if that cheer-leading propaganda does any good for US in fight with Saudis.
  • Seth on February 06 2016 said:
    Regardless of all the noise about shale, pro and con, the fact remains that U.S. oil production is down only around 5% trailing 12 months with oil at a fraction of the price from a year ago.

    The big story is the resilience of U.S. oil production and the destruction of OPEC. Hallelujah.
  • Seth on February 06 2016 said:
    What "fight" with the Saudis? OPEC is dead forever and Shale killed it. The Saudis are reaching deep into their reserves to keep funding their welfare state while Shale has placed a permanent ceiling on prices. That means that the economies of Saudi Arabia, Venezuela, Russia and other members of OPEC have taken a permanent, giant hit on their economies, and nothing extra to fund their foreign ambitions.

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