Shale stuck in quicksand: The obscure factors impacting US oil production

It has been another rollercoaster ride for oil prices in 2017, with crude witnessing a strong recovery in recent months on the back of falling inventory levels and an improved demand outlook.

While OPEC’s recent production cuts have had the desired effect of stabilising the market, the one part of the global energy complex to have made significant market share gains in recent years has been US shale – in particular the dominant Permian Basin.
We recently visited the Permian oilfields of West Texas to look at the potential stumbling blocks for the pace of US production. These issues are largely related to sand, an often-overlooked element of the fracturing process. While demand for sand is set to grow to more than 100m tons per year by 2018, there are a number of supply-related issues investors must focus on…

The pumping problem

High-pressure, high-volume pumps fire water and sand down a well to ‘fracture’ the rock. The market seems concerned with the increasing number of drilled, but uncompleted, wells and what this might mean for crude volumes. The majority of US E&Ps are aiming to pick-up completion rates, but it remains to be seen whether there will be enough pressure pumping crews available to hit production guidance. The market is currently talking of a 500k undersupply of fracking horsepower, but we heard suggestions of a 1m to 6m horsepower undersupply. A larger undersupply means the harder it is for production to grow – which has pricing implications for pump owners and manufacturers. Equipment attrition will also be higher in this cycle. Rebuild times and the useful life of fracking assets has declined from four to eight years in prior cycles to two to four (depending on usage). This could lead to higher prices, cost of drilling increasing and delays in completion and therefore more constrained US crude supply growth. 

A trucking concern

Logistics are a big potential bottleneck. One sand provider we met said that they could put 100 trucks on the road if drivers could be found. In fact, many sand companies are unable to produce enough sand to meet demand. A full sand truck carries 25 tons. If all 12 of the mines in the Texan city of Odessa reach expected annual capacity, it adds up to more than 1.6m truckloads. One of the proposed mines, near to the town, Kermit, will require 120,000 truckloads a year (one road in, one road out), which equates to 660 truckloads passing through the town in one day!

These issues are largely related to sand, an often-overlooked element of the fracturing process.

Thirsty sand mines

Water may be the trickiest obstacle associated with new sand mine development. A contact building a Permian sand plant suggested the company will consume as much as 500 gallons of water per minute in the production of up to 2m tons of sand per year. Another group says 1.2k gallons per minute is required for mines producing 3m tons a year, that is the equivalent of emptying 2.6 Olympic size swimming pools a day.

Lizards. Yes, Lizards

The dunes sagebrush lizard has been on and off the endangered species candidate list since 1996. This creates a potentially significant issue for the Permian Basin energy complex. Many E&P companies came to an arrangement with the US Fish & Wildlife Service (F&WS) to avoid impacting some of the potentially critical areas where the lizard resided, in return for the authority not obstructing other drilling sites. Since many of the new proposed sand mining sites are located around the lizard’s habitats, the F&WS classifies any purchase from those sites as a clear breach of the prior arrangement and will object to any future drilling if companies are caught purchasing sand from these mines, potentially even rescinding prior licenses. This is not a State level decision, but a Federal one! If the local sand mines don’t open up at the pace required, then oil companies may be frustrated in the pace of their completions, again leading to US supply growth constraint!