The Limit to Shale's Growth

FROM ISSUE 2: Energy analysts and economists believe that, despite a new investor mindset, shale production is primed for progress
By Luke Geiver | April 05, 2018

Shale companies are about to get profitable, says Jan Stuart, global energy economist at Cornerstone Macro LLC. Although most shale oil and gas producers have not made money in the past eight years, a shift in oil industry fundamentals—from the markets to the boardroom—started in 2017, and the result, Stuart says, has him and other industry analysts bullish on shale. 

Paul Sankey, managing director and senior analyst at Wolfe Research, says 2017 will mark the year when shale producers shifted their thesis on growth. In the past, Sankey says, producers believed the goal was to grow production reserves while waiting to be acquired by a larger oil entity. The underlying premise of the model was that oil prices would always rise and the value of the proven reserves would rise at the same time. “In 2017, that model broke down,” Sankey says. Everyone realized you can’t rely on oil prices. Because of that, investors are now asking oil producers to become cash-return focused. According to Sankey, investors are now looking for a return on investment plus 10 percent, a metric he believes few existing shale producers can currently provide shareholders. But, there are several firms that could meet those metrics in the near future, especially those that have changed executive pay structures. Executives, once incentivized for growing production and the portfolio, are now going to be viewed on their ability to provide the returns to investors that had been lacking in previous years. Already in 2018 updates, several E&Ps have made special note of their new executive pay structures.

Along with Sankey and Stuart, several other energy analysts explained the near-term outlook for tight oil production during a recent energy think-tank gathering in Washington D.C. The talks were centered on a key question: what will impact the near-term production of U.S. tight oil?

Schlumberger Speaks
Robert Kleinberg, leader of unconventional resource research and development for the world’s largest energy service company—Schlumberger—believes there are three things that will change in shale. More efficient fracking techniques will help to recover a greater portion of original oil in place, permeability enhancement will help do the same, and tertiary recovery methods (enhanced oil recovery) will prolong the life of current shale plays.

In most cases, energy service firms have already proven, are testing or are in the lab developing new approaches that will undoubtedly improve oil production efficiency. Producers are not yet in need, or willing to pay, for such technology yet, Kleinberg says, even if it is ready for deployment. As an example, Kleinberg points to a new measurement process used to inspect and determine the amount of organic matter along various sections of a horizontal well bore prior to stimulation. Under current practice, fracture treatments are only fracking two-thirds of the horizontal. The organic material measurement technology could help operators reduce the unfracked number down to 10 percent per horizontal, he says. Another solution being tested is a fluid that once pumped downhole can increase rock permeability. The solutions is impressive, Kleinberg says, but not yet in use. And, there is also enhanced oil recovery. Although there are research and strategy decisions yet to be made, Kleinberg is excited about what is already happening in shale. EOG Resources has found great success by injecting field gas into existing wells. According to Kleinberg, the best solution industry thought it could use for the EOR approach was with CO2 injected downhole. Such a solution can help the oil move through the rock and flow to the surface again. But, in the Eagle Ford, EOG has used field gas for its injections. The mixture is laden with ethane and propane, two gases that Kleinberg said are even better than CO2. “I now believe that EOG might be injecting the optimal mixture,” he says.

Funding Shale Production
Although low oil prices may have hindered cash flow for U.S. E&Ps during the past few years, the capital markets were always ready to fund shale. The same can be said today, says Roger Diwan, vice president of financial services at IHS Markit. “Capital is abundantly available,” he says, and shale will be well-funded for years to come. The linkage between a sophisticated financial sector, and a very large and entrepreneurial energy sector means that shale resources will be funded as long as returns remain positive, he says. The price of oil to keep returns positive, he believes, is in the $45/b range within the context of today’s cost structure. In the future, private equity investors will look to management teams that are experienced at running a shale operation in manufacturing mode instead of those that are looking to wildcat wells and explore.

With funding available for the foreseeable future, shale production growth should continue through 2019. If oil reaches and stays at $65/b, production will continue to rise past 2020 at or above 1 million barrels per day. Oil at $50/b will help the U.S. grow production at 600,000 to 900,000 barrels per day through 2020.

Possibilites For Growth
The only certainty in the oil industry is that oil prices are uncertain, Sankey says. But given the general lack of confidence he and others like Stuart have in making bold predictions, each believes the oil supply and demand curve shows the world is undersupplied. “We think we have a good idea of the balances and we think we are in a supply deficit,” Stuart says. “We think we will end 2018 in an oil deficit.” Shale production from the U.S. will not be too great for global oil demand, he believes. Because shale producers have multiple years of running room, the opportunity for growth in shale is present. Investors and analysts who follow Stuart’s line of thought, believe shale is a good investment right now because producers are getting more production out of their wells than they previously did. “There is almost as much growth potential now as there was in 2014 when oil was $100/b,” he says. “There is an insane inventory of really good wells.”

Author: Luke Geiver
Editor, North American Shale magazine