Shale producers have plenty of room to reduce costs, small OPEC producers need high oil prices
As global oil markets continue to roil, OPEC’s weak sisters are panicking and American shale producers are digging in for a long fight.
Last week it was news of Algeria circulating a letter within OPEC lobbying oil ministers to restore production quotas; the country needs $121 oil to balance its budget. This week Venezuela – whose economy was already in trouble before the price drop – is reportedly pushing for a meeting with Russia to put the brakes on plummeting global oil prices. Ecuador says it loses money on very barrel of oil it produces, about $3 million per day in total.
The weak sisters are in trouble and they’re not happy about it.
“The Saudis have flooded the market which leaves no room for others,” a source close to OPEC told Andrew Critchlow of The Telegraph. “People in OPEC are fed up with the Saudi policy of overproducing since November and have lost a lot of revenue because of this.”
Neither of the smaller OPEC producers is finding a warm reception to their entreaties.
“If Venezuela or others like Algeria can get Russia to commit to an action then we could have a reason to meet, but at the moment there is nothing that warrants an action,” a Gulf OPEC official was quoted in the Wall Street Journal Thursday.
To make matters worse, more Iranian oil is poised to enter the market. Platts reports that Iran has from 30 to 53 million barrels of oil stored in offshore barges. That crude will find its way to market as soon as the nuclear agreement is finalized and sanctions begin to lift. Iran’s oil fields were pumping around 2.87 million b/d in July, but are capable of ramping up production to 3.4-3.6 million b/d very quickly.
More crude oil in an already oversupplied market struggling to rebalance amid fears that demand will decline because of slower than anticipated economic growth in Asia, particularly China, is not good news for a reeling energy industry.
Something has to give, says Ed Ireland, PhD., an energy economist who once headed the economics department of Clemson University and now serves as executive director of the Barnett Shale Energy Education Council, but don’t count on it being American shale producers.
Ireland’s members are on the front lines of the global price war. They have responded aggressively to the price decline over the past 10 months by driving down costs, first by demanding discounts of 20 to 40 per cent from suppliers and service companies, as well as hedging much of their production, and now by innovating.
“In times like these, this is where market efficiencies, production efficiencies, innovation, ingenuity, all become very important,” Ireland said in an interview with American Energy News. “I think we’ll see more of all of those things in the coming months.”
In fact, the pressure applied by low prices forces service companies to ramp up research and development and efforts to drive down costs, says Ireland.
Where might those cost efficiencies come from?
One example is provided by Mark Mills of the Manhattan Institute, who recently wrote a paper in which he argued that shale production is about to be revolutionized by Big Data and analytics, much like manufacturing and other industries have other the past decade or two.
“If you look at other mature industries that have begun to apply analytics, there have been remarkable improvements in efficiency,” he said in an interview.
Dave Browne, P.Eng, VP of communications for Calgary-based Trican Well Service, one of the industry’s biggest fracking operators, says his company combs data from customer fracking jobs, looking for ways to reduce costs. A recent project for Nexen CNOCC in northeastern BC saw a significant increase in pumping efficiency because engineers were able to keep pumps operating longer, reduce maintenance downtimes, use local brackish water instead of fresh water, and other operational innovations.
Brown agrees with Mills that Shale 2.0 can generate significant cost reductions. Mills estimates that shale production costs have the potential to drop to $15 to $20 per barrel, which is similar to low cost OPEC producers like Saudi Arabia.
The benefits of Shale 2.0, as Mills calls it, won’t be enjoyed equally, says Ireland. Efficient producers with solid balance sheets will thrive, while less efficient companies will be driven from the market.
“What you start to see with lower cost producers is they acquire more acreage now or they acquire less efficient companies,” said Ireland, who hastens to add that American producers also face challenges, such as the cost of new environmental regulations being enacted by the Environmental Protection Agency.
The takeaway from the interviews with Ireland, Mills and Browne is that shale producers are only just embarking on a next wave of innovation that will allow them to compete at much lower prices.
Will smaller OPEC countries like Algeria and Venezuela – who according to Ireland neglected their industries during the days of $100 oil – have the ability to compete long-term against American shale producers in a volatile market?
The beginning of demands for emergency meetings and the return to production quotas suggests the OPEC weak sisters are in trouble. If the Saudis hold their ground and keep the taps wide open, just how much trouble should become apparent in the near future.