U.S. Shale Juggernaut Shows Signs of Fatigue Forecasts that abundant American oil can permanently meet global needs may be ‘myth,’ company leaders warn.
The number of rigs currently drilling for oil in the U.S., typically viewed as a proxy for activity in the sector, grew 6% in the third quarter—a marked deceleration from the previous four quarters, when it rose more than 20%
The number of rigs currently drilling for oil in the U.S., typically viewed as a proxy for activity in the sector, grew 6% in the third quarter—a marked deceleration from the previous four quarters, when it rose more than 20% on average. Last month, the U.S. Energy Information Administration cut its forecast for U.S. oil production, saying it now expects the industry to end the year at 9.69 million barrels a day, down from 9.82 million.
U.S. oil output remains robust and may still surpass the record annual average of 9.6 million barrels a day, set in 1970. But companies, confronting technological, operational and financial obstacles, are starting to ease up on drilling.
The pace of innovation that allowed shale drillers to maintain production even as prices fell appears to be slowing, experts say. The cost of labor and services, meanwhile, is rising in the most popular oil fields, driving up drilling expenses. And companies are facing a backlash from investors, who have grown weary of drillers focusing on growth over profit and insist they live within their means.
“There’s always a lot of exuberance,” said Robert Clarke, an analyst with energy consulting firm Wood Mackenzie. “But then something happens that kind of puts the brakes on.”
Future oil production is notoriously difficult to predict, and a surge in prices could certainly improve the economics of American shale. But a growing chorus of oil industry leaders, including some shale trailblazers, believes U.S. growth may peak sooner than government forecasters think—a development with ramifications for global oil markets. In recent years, shale production has reliably filled any voids in world supply, effectively taming volatile price gyrations. Potential limits to shale growth call into question predictions that this trend will continue.
“There are no new shale plays that have come forward,” said Mark Papa, chief executive of Centennial Resource Development Inc. and former CEO of EOG Resources Inc. “Their ability to spew forth infinite streams of oil is really just a myth.”
Though the EIA has revised its forecast for oil production, which has averaged roughly 9.16 million barrels a day so far this year, its estimate is still too high, according to Harold Hamm, CEO of Continental Resources Inc. “The EIA’s phantom forecast needs huge growth to catch up to projections,” said Mr. Hamm, one of the pioneers of North Dakota’s Bakken Shale formation.
An EIA spokesman defended the agency’s forecasts and said it continues to see month-on-month increases in U.S. production, particularly in the Permian basin, a region in Texas and New Mexico that has become the hottest drilling spot in the world.
Oil prices, which plunged from highs of over $100 in 2014, rose in September to over $50 a barrel. Still, chief executives of three major U.S. producers said last month they wouldn’t necessarily spend more on drilling even if prices rise to $60 a barrel.
Pioneer Natural Resources PXD -0.40% Co. CEO Tim Dove said at a conference in Oklahoma City that a “thundering herd” of investors has asked the company to focus on returns, not growth.
The firm stunned shareholders in August when Mr. Dove said some recently drilled wells in the Permian basin—a region in Texas and New Mexico that has become the hottest drilling spot in the world—were a “train wreck.” Underground pressure problems stymied output and delayed drilling for months, he said.
Pioneer says the problem has been solved, but the solution added about $400,000 to the cost of each well. Now, Pioneer is having to chipping away elsewhere to make up the difference.
Delays for fracking and related services are also becoming problematic. Permian producers Parsley Energy , PE 1.20%Callon Petroleum Co. CPE 1.35% and QEP Resources Inc. QEP 7.53% recently reduced production estimates, citing delayed fracking services and other challenges.Invesco owns shares in major producers including EOG and Pioneer.
Many new Permian wells are producing more oil and gas than they did a year ago, largely due to techniques such as drilling longer wells and injecting more sand into fractured rock to allow more oil and gas to flow out. But if that production is measured according to the length of a well, it appears operators aren’t improving as much as expected. Based on barrels pumped per foot of well length, new wells in key regions of the Permian basin haven’t been significantly more productive since 2014, according to Tudor Pickering Holt & Co.
“All these factors are pointing to slower, more methodical development,” said David Pursell, managing director at Tudor Pickering Holt, an energy investment bank. “That needs to happen.”
Critics have long complained that a tie between company leaders’ pay and production growth has led to a “drill at any cost” mentality. Invesco Ltd., which has more than $900 billion in assets under management, sent letters to board members of several shale companies in recent months urging them to link executive pay to return on capital rather than production growth.
The firm may not be able to continue supporting board members and management if the companies don’t change tack, said Kevin Holt, chief investment officer of Invesco’s U.S. value equities.
“They need to drill at a regulated pace, generate returns and give that cash back to shareholders,” said Mr. Holt. He declined to say which companies received letters.
Investment advisory firm Sailing Stone Capital Partners also sent letters earlier this year urging companies to orient compensation packages be oriented toward shareholder returns rather than growth. “Studies have shown that compensation schemes tied to these metrics do not result in superior long-term share price performance,” Sailing Stone it said in the letter.
Investor demands for a more conservative approach appear to be having an effect. Some of the biggest producers, including EOG and ConocoPhillips , COP 0.79% have promised to pay for new investments and dividends only with cash from operations. If they keep those promises, U.S. crude output would likely surge into 2018 and then stay roughly flat for the next three years, never rising above 10 million barrels a day, according to energy advisory firm BTU Analytics.
Anadarko Petroleum Corp. , whose shares had fallen 42% on the year through August, announced on Sept. 20 plans to buy back $2.5 billion in stock through 2018. Its shares took off, gaining 19% for the month.
“This requires a dramatic reorientation of management mind-sets,” said Shawn Reynolds, portfolio manager for mutual fund Van Eck Global’s natural resources equity group.
Wood Mackenzie forecasts that the surge in drilling activity in the Permian wouldn’t peak until 2025 and is on pace to produce almost 5 million barrels a day. But it recently warned that if operators drill in the same aggressive manner used in other basins, employing techniques that maximize initial production but jeopardize future wells, Permian output could peak as soon as 2021 at 4.4 million barrels a day.
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