Not only is U.S. shale set to grow at a torrid pace, but the industry might actually make some money for once.
Profits have eluded the shale industry for years, and drillers burned through more cash than they generated even when oil prices were above $100 per barrel. Production from shale wells plummets after an initial burst of output, necessitating evermore wells to offset depletion. So, the cash generated from a shale well is quickly pumped back into the ground, creating a spending treadmill that is tricky to navigate. The promise, shale executives have insisted to their shareholders, was that higher debt today would translate into more production growth and eventually profits.
Last year, amid another year red ink, shale executives promised something different, not least because of greater scrutiny from shareholders. They pledged restraint, a more cautious approach to drilling, and an emphasis on profits above all else. That would mean avoiding aggressive drilling in 2018, even if oil prices moved up.
After several reports from the EIA and IEA in the past two weeks predicting massive production gains this year, it is clear that the mantra of restraint has been quickly thrown out of the window. Oil prices have plunged by nearly 10 percent since the end of January as expectations of explosive growth have settled in.
And yet, even as the shale industry ramps up production, it may also finally make money while doing so.
The average shale driller could expand output by 30 percent this year, according to an analysis from Wood Mackenzie, while also turning a profit.
There are several reasons for this. First, WoodMac assumes oil prices will be about 10 percent higher in 2018, with WTI averaging about $61 per barrel. That is above the breakeven price for a lot of shale drillers.
Second, there has been a huge buildup in the backlog of drilled but uncompleted wells (DUCs). The DUC list has ballooned from 5,660 a year ago to 7,609 as of January 2018. With some of the costs already incurred, the shale industry could complete thousands of wells and bring production online at a lower cost than otherwise would be the case. That means they could post significant production gains and also boost earnings. “All the stars seem aligned for Tight Oil Inc. to generate positive cash flow in 2018, two years earlier than we predicted,” WoodMac said.
All told, WoodMac predicts that U.S. shale will add 2 mb/d by the end of 2019: 1.1 mb/d this year and 0.9 mb/d next year. The consultancy sees shale output rising to 7 mb/d by next year, then to 10 mb/d by 2025 (note: that figure is shale production only, and it excludes conventional and offshore production). In other words, the sky is the limit for the next few years.
But there are several caveats that need to be noted, mitigating factors that could upset that rosy forecast over the long term. The Eagle Ford and Bakken could peak and decline in the early 2020s, putting much more pressure on the Permian to carry the load. But the industry might tap out the sweet spots, and drilling saturation could lower recovery rates. At that point, Permian drillers could be forced into increasingly marginal territory.
Meanwhile, shale drilling is also “perpetually consuming capital to maintain production,” WoodMac notes. Conventional projects, on the other hand, do not “need ongoing investment once onstream, so cash margins are higher and much more resilient to low prices.”
For now, though, WoodMac says that “the economics support the positive outlook — the Permian continues to look more attractive than most other options for new investment in the global upstream hopper.” That means that at the company level, Permian-focused companies are outperforming shale companies from elsewhere.
The bottom line from WoodMac is that the shale industry, by and large, will become profitable this year if WTI stays at about $60 per barrel. If WTI sinks below $50, however, they will continue to burn through cash.
By Nick Cunningham, Oilprice.com
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