Slumping oil prices are wrecking life for drillers around the world, particularly high-cost producers now struggling to make a profit ... like the U.S.
American oil from shale, which comes out of the ground through fracking, is pricey to extract. On top of that, sources of oil become mere trickles within a year or two.
The notion of oil wells tailing off and aging isn’t new. In the late 1950s, a Hollywood celebrity famously joked that actors are “about as short-lived as an oil well and twice as pretty.”
For the new so-called "shale wells," production falls like a stone in the first year.
“Let’s say you produce 500 barrels in the first month of production,” says James Burkhard, head of oil market research for IHS Energy. “Twelve months later you could be producing around 250 barrels. So a decline rate of about 50 percent. In a conventional well, the decline rate is much less steep.”
Oil from shale is not a pool of liquid, but rather small amounts trapped in tight rock. That requires drillers to fracture, or "frac," the shale rock to release the oil. Quickly, though, output slows and pressure falls. And the driller has to drill and frac again, in a new spot. That’s expensive — in many places, each well costs $8 million.
“I’ve seen it personally firsthand,” says Ed Hirs, managing director of the Houston-based oil and gas firm Hillhouse Resources. “We’ve had wells on production since 2009, 2010 that have been plugged and abandoned here in 2014, because they are not producing enough to cover their cost.”
His firm barely profited in shale, he says. So it returned to drilling old-school conventional oil, where a good well returns $5 or even $10 for each dollar invested.
Fracking for shale oil, he says, is a fad, like that scene where the cruise ship tilts to one side.
“They all ran to the shale side of the boat,” says Hirs, who teaches economics at the University of Houston. “That was the fashion of the day. We see this in other industries as well.”
Fast-declining wells also require continuous drilling and investing to increase production. Before one tails off, you have to drill the second. And before the second tails off, you drill the third. It’s a treadmill that may be speeding up as the most productive drilling spots are taken.
Some call this the "Red Queen" race. Remember Alice, from the Wonderland books? In one scene, she runs and runs and gets nowhere, at which point the Red Queen chimes in: “Now here, you see, it takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that!”
Constant drilling means constant spending, and according to the Department of Energy, production revenues are not keeping up with expenditures. Some shale investors are edgy, analysts say.
“If you’re giving money to somebody, you eventually want to get something back,” says Virendra Chauhan of Energy Aspects research in London. “If that’s not happening, then there seems to be something wrong with the business model.”
To which shale optimists shake their collective heads. Looking back more than a century, drilling technology has repeatedly proven skeptics wrong. “Until we hit peak knowledge, until the human race hits peak knowledge, we won’t hit peak oil supply,” says Burkhard of IHS Energy.
Companies now drill and frack wells deeper, closer together and more efficiently. So, can technology improve faster than shale wells fall off? “If today the wells you’re drilling are twice as good as the wells you drilled two years ago, then that goes a long way toward addressing that decline,” says geologist Allen Gilmer, CEO of oil and gas database firm Drillinginfo.
Today, the U.S. produces more than 3 million barrels a day from shale alone. That’s more than the total output of Iran, or Iraq, or Venezuela. “I think it’s very unlikely to ramp down,” Gilmer says, “unless operators really start pulling back on drilling. And as long as a well is economic, I don’t see that happening.”
Ed Hirs of Hillhouse Resources does see that happening. With oil prices low, and investors antsy, exuberance could go bust. “The challenge with these fast-declining wells is this pace of drilling needs to continue,” Hirs says. “Without the pace of drilling continuing, that 3 and a half million barrels a day will peter out to zero in the next three to five years.”
That’s the debate: Whether shale oil production declines the way its wells do, the way movie stars come and go. Bullish types will note the actor who compared short careers to oil wells decades ago. That actor's name? Ronald Reagan