By September 21, 2015 Read More →

Squeezing service companies isn’t enough to lower oil production costs – study

Service companies are key to lowering shale production costs, say experts

A new study argues that simply squeezing service companies for more cost reductions isn’t enough to save up to $1.5 trillion of upstream projects and oil producers need to work smarter if they hope be profitable at $50/barrel oil.

service companiesConsultancy Wood Mackenzie says operators are seeking an average cost reduction of 20 to 30 per cent on projects, but supply chain savings through squeezing the service sector will only achieve around 10 to 15 per cent on average.

Operators need to focus on project optimisation and adopt smarter ways of working with the service sector, says James Webb, upstream research manager for Wood Mackenzie.

“As the upstream industry responds to the low oil price, investment is down $220 billion in 2015 and 2016 compared with our pre-oil price crash projections,” Webb said in a press release.

“In addition to reduced activity onshore North America, a total of 46 projects have been deferred as a result of the oil price fall. We estimate that as much as $1.5 trillion of investment spend destined for new (pre-sanctioned) and US tight oil projects is now out of the money, or in starker terms, uneconomic at a $50 oil price. This spend is very much at risk.”

James-Webb

James Webb, upstream research manager, Wood Mackenzie.

“The implications of this level of reduced investment is huge for the industry’s service sector which is of a size to comfortably accommodate an average of 40-50 new projects globally a year. We expect just six new projects to go ahead in 2015 and around ten in 2016.”

“The weak pipeline of new projects is resulting in very competitive bidding from the service sector as E&P companies negotiate hard on pre-sanction projects,” said Obo Idornigie, principal upstream research analyst.

“However, the industry needs to strike a balance between near and long term drivers. Pushing the service sector too hard now is only likely to shore up problems once more attractive fundamentals return: Increasingly severe job cuts means that the industry is losing skilled resources that will take time to attract back when prices recover.”

So how can the industry achieve the required cost savings of 20 to 30 per cent Webb and Idornigie say are critical to ongoing investment in American oil production?

“Additional measures are needed to manage costs: re-working field development plans, optimising project design and more innovative approaches to project management will all play important parts,” said Webb.

service companies

Mark P. Mills is a senior fellow at the Manhattan Institute, CEO of the Digital Power Group.

One of those “measures” could be the application of Big Data and analytics to shale oil production. Manhattan Institute scholar Mark Mills says shale production is different from conventional operations, more like a just-in-time manufacturing facility, which makes it an ideal candidate to identify efficiencies through data analysis.

“We know from EIA [US Energy Information Administration] that when the shale revolution began people were making money at $60 oil, or even $40 or $50. We also know the efficacy of a shale drilling rig is 300 per cent better today than it was then,” Mills said in an interview with  American Energy News.

“Can the shale rigs improve their efficacy that much again in the next decade? Can you get another 300 per cent? I think the answer is unequivocally, Yes.”

Mills says that well-managed operators could see their costs drop as low as $15 to $20 per barrel, which would bring them within range of Saudi Arabian costs.

University of Houston energy economist Ed Hirs is skeptical. He says cost reductions are available, but will likely come from traditional sources, such as pressuring service companies, better utilization of rigs, and higher drilling density.

service companies

Ed Hirs, energy economist, University of Houston.

“In the lifecycle of an oil company, those who did good upfront geology and geophysics and engineering will typically have lower costs. Those who are late and don’t do the upfront work, pay for it. They pay for it by having to pay very high lease rates and bonuses,” Hirs said in an interview with American Energy News.

“They pay for it by having to buy the completions technology from somebody else. They will have different cost structures. There are no free lunches.”

Webb argues that a prolonged period of low oil prices over a number of years is likely needed to bring about profound, structural changes to industry costs.

But this is unlikely because oil prices will begin to recover from 2017 and there is a real risk that cost inflation pressures will return.

“Stronger collaboration between operators and service companies will be key in driving efficient practices.  The winners therefore are likely to be operators with a strong pipeline of near-term projects close to sanction which are able to take advantage of the trough in costs through 2015/16,” said Webb.

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