Production in the Permian Basin is not a silver bullet to counter rising oil prices

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In a world clamoring for more oil, a dusty stretch of west Texas and southeastern New Mexico is one of the only places that can deliver. But even with crude above $100 a barrel, producers in the Permian and other U.S. shale basins are holding back.

For most of the past decade, the Permian was an unstoppable drilling machine. Its vast, low-cost reserves have helped turn the United States into a rotating global oil supplier, ready to ramp up production when prices spike or shut down when they crash. Because shale producers have accumulated a backlog of wells that could be tapped in just weeks, a rally in crude was sure to incite a fracking frenzy that would help rebuild global inventories and cool prices.


But not this time.

After Russia invaded Ukraine in late February, crude prices hit their highest level in 13 years. Gasoline is above $4 a gallon in every US state for the first time. Jet fuel in New York hit a record high last month. Yet shale explorers show no signs of riding to the rescue. Their business model has fundamentally changed, reshaped by pressure to stunt growth and divert cash to investors with dividends and buyouts. Inflation is also taking its toll. U.S. oil production this year is expected to rise by less than half the amount of 2018, when crude traded around $65. That means more pain for consumers, with JPMorgan Chase & Co. predicting US gasoline at $6.20 a gallon by August.

“The U.S. oil and gas supply system remains very strong, but at any given cost, growth will be weaker and slower,” said Raoul LeBlanc, vice president for Northeast Upstream Oil and Gas. American at S&P Global. “Without the subsidy provided by shale shareholders, consumers can expect to pay higher prices.”

Publicly traded independent oil companies, which produce more than half of US crude, now return about a third of their cash flow to investors. That means shale needs a new price floor of around $60-70 a barrel, down from $40-50 a barrel previously, to allow for ample drilling in major U.S. oil plays, according to S&P Global. The push to prioritize shareholders over production is a direct result of the industry’s pre-pandemic grow-at-all-costs model which, according to Deloitte LLP, resulted in nearly $300 billion in cash burn. dollars over the previous decade. Although shale production is increasing this year, forecasters say there is minimal additional growth as a result of the war in Ukraine, despite rising crude prices.

The United States will add about 900,000 barrels per day of oil production this year, according to the average of five major forecasters: S&P Global, Rystad Energy, BloombergNEF, Enverus and the US Energy Information Administration. That compares to 1.9 million per day in 2018. This year’s growth was forecast before Russia invaded Ukraine, and analysts see only a modest increase of around 800,000 barrels per day. next year, which would finally bring U.S. production back to pre-pandemic levels. On the ground, operators say current forecasters’ estimates may even be too optimistic. Several OPEC producers, meanwhile, are struggling to fill their production quotas, leaving the global crude market increasingly tight.

Wall Street is not the only source of shale growth difficulties. The global supply chain crisis is particularly acute in the Permian Basin, which will account for 80% of U.S. production growth this year, according to research and data firm Enverus.

Equipment supply disruptions mean that if a company wants to increase production, it would now take a year or more between drilling and pumping oil, compared to three to four months before the pandemic, said Linhua Guan, CEO of the Permian driller Surge Energy, in an interview. Guan predicted cost inflation of 16% this year and says that will increase next year. As a result, Surge expects an annual production growth rate of 12% this year, compared to 29% in the 12 months to the first quarter. Even so, Guan expects the U.S. subsidiary of China’s Shandong Xinchao Energy Co. to make record profits this year if prices stay high.

The cost of casing, a coating that helps stabilize wells, is three times higher than usual and order fulfillment times are much longer, said Dena Demboski, vice president of operations at the Permian producer. UpCurve Energy LLC. “Drilling rates are higher than I’ve ever seen” at more than $30,000 a day, she said. Pioneer Natural Resources Co., a major Permian driller, expects the cost of contracts for new rigs to rise 40% next year.

“It’s just more difficult to get some of the key products we need, whether it’s pipe or sand,” said Travis Thompson, CEO of FireBird Energy LLC, a producer active in the Midland Basin of the Permian. “If we wanted to increase the business, say from three platforms to four or five, we would definitely have to plan that much further than what you would have had a year or two ago.”

US oil production increased by 7.05 million barrels per day from 2012 to 2019, adding new production equivalent to that of Iran and Iraq combined in just eight years. OPEC failed in its multiple attempts to sideline shale producers by letting prices crash. And yet, US shale now has little hope of replacing the estimated 2-3 million barrels per day from Russia that are either stuck or deemed untradable due to sanctions.

“The Russian production supply gap is too big for shale to fill alone,” said Al Salazar, senior vice president of Enverus. Oilfields “constraints and producer discipline limit shale’s ability to cool prices” this year.

Soaring oil and gasoline prices have helped push US inflation to the highest levels in decades, and it’s becoming increasingly clear that shale is no longer the magic bullet to counter the soaring crude prices. President Joe Biden appears to have abandoned public calls to encourage US drillers to increase production, a key goal of his administration earlier this year. He is now considering a meeting with Saudi Crown Prince Mohammed bin Salman, according to people familiar with the matter.

“The Permian is going to be there to help,” Scott Sheffield, CEO of Pioneer Natural Resources, said at Hart Energy’s DUG Permian conference in Texas last week. But “is it going to save the world? Not with what happened” in Ukraine, he said.

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