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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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Low Oil Prices Are Not The Only Problem For The Permian

While low oil prices are beginning to slow the growth of U.S. shale, in the years ahead oil and gas drilling could be curtailed by a different problem: a shortage of water.

Water is a crucial ingredient in the fracking process, and drillers use copious volumes of it. The problem for the U.S. oil industry is that so much of the output growth expected over the next half-decade or so depends very heavily on the Permian basin, where water is increasingly scarce.

Water already accounts for about 15 percent of the cost of a shale well, according to analysts at Morgan Stanley. “In the Permian, total spending on water is expected to double over the next 5 years, to $22B, with E&Ps on avg using 50 barrels (bbls) of water for each lateral foot completed,” the investment bank wrote in a new report. “Assuming 10k lateral feet per well, this implies that the ~5,500 existing Permian well permits will require ~2.75 billion bbls of water to complete.”

That’s a lot of water in an area that doesn’t have a lot of it. “Given the sizeable water need, we believe drought and water scarcity present long-term risks to shale economics, particularly in the Permian, a core area of growth in a drought-prone region,” Morgan Stanley warned.

It’s worth pausing and noting that the warning is not coming from an environmental group, or even a local community organization opposed to a drilling presence. It’s coming from a major Wall Street investment bank, which says that drilling economics in the world’s hottest shale basin could be upended because of water scarcity.

It’s a rather ironic development. Greenhouse gas emissions from oil and gas drilling are fueling climate change, which in turn could make the most desirable oil and gas play increasingly costly due to growing water problems.

Related: Oil May Never Return To The Triple-Digits

Morgan Stanley goes on to provide further detail into the scale of the problem. Morgan Stanley overlaid water scarcity data from the World Resources Institute with Permian well locations, finding that “53% of Permian wells being drilled today are located in areas with high water risk,” the investment bank concluded. “While operators are comfortable with water availability at the moment, there are precedents (most recently in 2011/2012 in Oklahoma) where severe drought conditions materially affected completion performance.”

There is also another separate water problem facing shale drillers. “Produced water” – water that comes out of a well when drilled – must be handled somehow. The volume of produced water that comes out of a shale well can exceed that of oil by a ratio of 10 to 1. The ratio also increases over time as the oil from individual wells begins to deplete, so the cost-per-barrel for water disposal also rises.

Water can be injected underground into disposal wells, which carries environmental and seismic risk. Or it is trucked away for recycling or some other form of disposal, often done by third parties, at huge expense. Last year, Wood Mackenzie said that the rising cost of water disposal alone would increase the breakeven price in the Permian by between $3 and $6 per barrel, potentially shaving off future Permian oil production by around 400,000 bpd by 2025. Related: Oil Prices Lag Despite Early OPEC Cuts

Morgan Stanley notes that shale drillers are increasingly recycling the water they use to drill wells, injecting it back underground to be used again in the next well. That saves on water use, of course, but it also cuts down on the cost of water disposal. The investment bank says simply recycling water could save around $1 per barrel.

“Water risks to date have largely been described as a cost issue, but as projects continue to build scale, the risks become more serious,” Ryan Duman, principal analyst with Wood Mackenzie's Lower 48 upstream team, said in a June 2018 statement accompanying the report. “They could impact the ability to actually carry out operations. Investors and project partners should challenge operators on how water is being managed.”

To sum up, costs could rise because the amount of oil coming from legacy wells is increasing as drilling proliferates; water scarcity is getting worse, which could increase the cost of water needed to drill a well; and as the Permian frenzy ages, drillers are pushed into less desirable locations on the periphery, where well economics may be worse to begin with.

By Nick Cunningham of Oilprice.com

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  • Mamdouh Salameh on January 18 2019 said:
    The US shale oil industry is starting to look like one with fast diminishing returns.

    A shortage of water and rising costs of its availability and disposal is another problem to add to the list of problems facing it like profitability, production figures and breakeven prices.

    If we add the eventual environmental costs, the US shale oil industry will never be a profitable one no matter what the level of oil prices is.

    Still, US shale oil producers will never stop production for two reasons. The first is that the US shale oil industry is not judged by standard criteria of economics and profit that govern conventional oil companies otherwise it would have been declared bankrupt years ago given the hundreds of billions of dollars it owes Wall Street. They have to keep producing otherwise they will not be able to borrow to remain afloat.

    The other reason is that despite being very deeply in debt, the US shale oil industry will continue operating because it gives the United States a say in the global oil prices and markets along with Russia and Saudi Arabia.

    Reports about a slowdown in US shale oil production are coming fast and thick from different reliable sources. These reports from the Wall Street Journal (WSJ), International oil service companies such as Schlumberger and Haliburton and other authoritative organizations including MIT are talking about productivity, depletion and drilling issues and therefore can’t be ignored. Moreover, all of them have been accusing the US Energy Information Administration (EIA) of inflating production figures.

    Yet, the EIA is projecting a US production of 12.1 million barrels a day (mbd) in 2019 rising to 12.9 mbd in 2020. Moreover all through 2018 the EIA has been telling us that US oil production will average 11.70 mbd. Now it is saying that it has averaged 10.9 mbd. Therefore, the projection that US production will average 12.1 mbd in 2019 and 12.9 mbd in 2020 is mere hype exactly like the claim that the US will become a net oil exporter in the fourth quarter of 2020.

    Shale producers are claiming that they managed to reduce their breakeven prices to a range of $50-$60 a barrel. This can’t be true given the rising costs of drilling and water and the fact that shale wells suffer a steep depletion rates estimated at 70%-90% at the initial stages of production. This necessitate the drilling of more than 10,000 new wells every year at an estimated cost of $50 bn just to maintain production adding to their outstanding debts. A true breakeven price could range from $70-$80 a barrel if not even higher.

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London
  • Lee James on January 18 2019 said:
    It hurts a bit to hear a foreign citizen, such as Dr. Salameh criticize an important U.S. industry, like going after petroleum using unconventional method.

    But I think U.S. citizens need to take a hard look at where unconventional petroleum extraction is taking us. Do we look at all of the costs for this form of extraction? Are investors blinded by techno-dazzle because it seems productive, based on the volume of production. Without technology, we would not have even the appearance of volume-production -- production that we assume is profitable. But is it?

    In the long run, we have damaged air and water and climate to contend with along with investors saying, "what happened?"

    I think clean energy production is where we're headed. Investors are starting to figure this out. I just wonder when we'll make clean energy/clean transportation a national priority.
  • Dan Foster on January 19 2019 said:
    Over 10 years of drilling to keep prices down by over drilling and now running out of water. Sounds like a Washington D.C.plan to me. At least McCain admitted it.

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