When Global Oil Prices Tanked, Shale Oil Production Didn't. Here's Why.
http://www.forbes.com/sites/ucenergy/2016/08/31/when-global-oil-prices-tanked-shale-oil-production-didnt-heres-why/#2676a33bcae8...First, as oil prices fell, so did the costs of drilling and completion services—more than 30% from the last quarter of 2014 to the first quarter of 2016. Because of this steep drop in costs, wells that would have been only marginally profitable in late 2014 could still be profitable in early 2016. Much of this decline in the price of drilling and completion services can be rationalized simply by supply and demand. When oil prices fell, shale producers had the ability to drive a harder bargain with their suppliers. After all, there was less of a “pie” to share in those negotiations, and there were fewer customers for oilfield service contractors to negotiate with. Thus, even without changing operating procedures or drilling locations, shale producers were partially insured against lower oil prices by a fall in the costs they faced.
Second, the engineering properties of shale wells mean that “breakeven” price calculations can be misleading about the profitability of new wells in a different oil price environment. While the development costs of conventional oil wells are mostly fixed in the form of drilling an expensive hole in the right place, more than half of the cost of developing a shale well lies in the complicated hydraulic fracturing treatment that producers must employ to make these wells productive. There is now long-standing evidence that more aggressive treatments generate more oil production. But since more aggressive treatments are more expensive, shale producers must solve a cost-benefit tradeoff: how much “fracking” maximizes the profits of a given well?
As we learn in Economics 101, the solution depends on both the price of output (oil) and the price of inputs (completion services). As oil prices fall, it is economically rational for shale producers to reduce the scale of their hydraulic fracturing treatments, because the marginal amount of oil generated by a marginal increase in the scale of the fracking treatment is less valuable than the cost of the treatment. Similarly, as service costs fall, it is rational to increase the scale of fracking treatments. Thus, a “break-even” price, often calculated as yesterday’s costs per well divided by yesterday’s expected production per well, will overstate the true price at which a shale producer would prefer to stop drilling completely.
Finally, shale producers are learning how to get greater bang for their buck out of drilling operations. As my colleague Sam Ori pointed out in an earlier post, producers have substantially increased the of total oil recovered in a typical well—from about 5% of the original oil in place to more than 12%. BP’s Chief Economist Spencer Dale predicts a 25% recovery factor might even be conservative five years from now. My research about the technical progress of hydraulic fracturing in the Bakken Shale of North Dakota shows that this is mostly explained by learning....
