Time is almost up for US shale industry
Aside from Midland, every other shale basin may be on borrowed time, with the best acreage already picked over and oil prices languishing below $60 per barrel.
It’s been a brutal two weeks for the US shale industry, clobbered by a series of poor financial results from several drillers at a time when oil prices more broadly are in freefall. The latest was Oasis Petroleum, which plunged by more than 30 percent on Wednesday, after the company said it would probably spend a little bit more than previously expected, and might produce a little bit less.
Last week, Concho Resources admitted that one of its more promising experiments, a 23-well project, suffered from poor results because the wells were packed too closely together. The company’s share price plunged by more than 22 percent because investors realized that perhaps Concho Resources, and other shale drillers like it, may not be able to produce as much oil as expected from a given level of spending.
But the hits keep on coming. President Trump announced a new round of tariffs, scheduled to take effect in September. China responded by digging in, and letting its currency depreciate, which set off a global panic about currency wars and a slowing economy. Oil entered a bear market, down more than 20 percent from a recent peak in April. US energy stocks across the board fell to new depths.
Prices recovered on Thursday on rumors about more OPEC+ cuts, but that has done little to dispel concerns about US shale.
The industry faces both medium and long-term challenges as well. Pioneer Natural Resources, one of the larger producers in the Permian and widely considered one of the stronger companies, warned about the future of drilling.
“Rig count and Tier 1 acreage is being exhausted at a very quick rate,” Pioneer President and CEO Scott Sheffield told analysts on an earnings call on August 6, referring to the Delaware basin, which has seen a surge of activity most recently.
“I am lowering my expectations of the Permian, reaching 1 million barrels of oil per day growth annually as it did in 2018,” Sheffield said. “I'm still convinced the Permian will reach 8 million barrels a day at a much slower pace with the Midland Basin as the only growing basin in the US past 2025.”
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8 million barrels per day is not exactly peanuts. That would amount to another doubling of output compared to today’s levels. But Sheffield said that everywhere outside of the Midland sub-basin within the Permian faces an uncertain future. To be sure, he was arguing that this would enhance Pioneer’s value, since many of its competitors would be knocked out of the market.
“Based on the scarcity, if Midland Basin is the only basin growing past 2025, it will make Pioneer's properties worth twice as much money or 3x as much money at some point in time over the next 5 to 6 years,” Sheffield said.
Pioneer was one of the few companies that avoided a sharp selloff in its share price, although it reported a $169 million net loss for the second quarter.
But that would presumably mean that US shale production would have to slow or even fall outside of the Midland. The prediction echoed that of Goldman Sachs, which said that the poor results from Concho Resources regarding well density could be a harbinger of broader problems with the future of shale.
Concho’s “unfavorable spacing tests and lower than forecast capital efficiency raise justifiable questions whether we are further down the path to when shale no longer becomes as relevant a driver of global supply growth,” the investment bank said in a note to clients.
Sheffield said that he doesn’t see global oil prices staying below $55 per barrel over the next few years. That would likely mean WTI would be under $50, which he says is just too low for shale companies to be making money. If oil was stuck at those low levels, you would “see a significant fallback in Permian growth,” Sheffield told investors.
Pioneer is no stranger to operational problems. It made headlines in 2017 when it reported a higher gas-to-oil ratio than it had originally anticipated, a worrying predicament since natural gas is much less lucrative. Pioneer also admitted that some of the wells it had drilled in 2017 were a “train wreck,” with underground pressure causing problems and delaying operations. The announcement raised some red flags and Pioneer saw its share price take a nosedive, falling to an 18-month low at the time.
Pioneer has avoided the utter meltdown that has hit other shale companies in recent days, but it’s noteworthy that two years on from its announcement about its train wreck wells, Pioneer’s share price is back down to about the same level. Even the stronger shale companies are facing increased investor scrutiny.