March 9, 2015

ExxonMobil CEO Rex Tillerson is wrong about the resilience of U.S. tight oil production.

Last week, The Wall Street Journal reported:

“…Mr. Tillerson pointed out that the collapse in natural-gas prices similarly had led the number of rigs drilling for that fuel to drop to 280 from north of 1,600 in 2008. Gas output jumped 50% in that time, he said. That is what you call resilience…While he didn’t see a perfect parallel between shale gas and shale oil, he said there were “lessons” to be learned.”

His point is that we should not expect a big drop in U.S. tight oil production just because the rig count is falling. He bases this prediction on what happened with gas production in 2008-2009 and afterward. That is wrong.

The fact that gas production didn’t decrease much in 2008-2009 despite a huge drop in rig count is incorrectly attributed to the high productivity of shale gas wells. The truth is that shale gas wasn’t a big component of total gas production at that time.

Let’s look at the rig count drop in 2008-2009. The chart below shows the various components of U.S. gas production and the gas-directed rig count.



Natural gas production components and gas-directed rig count, 2007-2014.

Source: Baker Hughes, EIA, DrillingInfo and Labyrinth Consulting Services, Inc.

(click image to enlarge)

The gas rig count fell from 1,601 in September 2008 to 675 by July 2009. By September 2009, gas production had decreased about 4.5 Bcf per day (4.5% of total). Shale gas only amounted to 12% of total gas supply at that time.

The resilience of gas production during the rig count drop of 2008-2009 was because of the low decline rates of gas produced from conventional, tight gas, and coal-bed methane reservoirs and gas from oil wells.

After 2009 and the collapse of gas prices, increasing numbers of wells were drilled for oil or liquids-rich targets that also produced considerable volumes of natural gas. Horizontal drilling became the norm as the chart below shows. The decrease in purely gas-directed drilling does not reflect the associated gas produced from oil-directed drilling.



Natural gas production components as a percent of total and horizontal and vertical rig counts.

Source: Baker Hughes, EIA and Labyrinth Consulting Services.

(click image to enlarge)

Although both vertical and gas-directed rig counts are quite low now, the total rig count in November 2014 had returned to mid-2008 levels, and much of this drilling resulted in gas production.

Overall, U.S. gas production is a just-in-time equilibrium story of wonderfully compensating elements. Shale gas compensates for declining conventional production. Marcellus growth compensates for declines in older shale gas plays. Associated gas from tight oil plays compensates for declining coal-bed methane production. Declining oil-well gas is partly compensated by slightly increasing tight gas production.

The dirty little secret is the number of wells in the shale gas and tight oil plays needed to hold this lovely story together. The following chart demonstrates the problem: it has taken nearly 120,000 new producing wells to create this remarkable resilience. That costs a lot of money.





Number of producing wells added since 2000 in shale gas and tight oil plays. Includes vertical and horizontal wells in the Bakken, Barnett, Fayetteville, Haynesville, Woodford, Marcellus, Eagle Ford, Granite Wash, Mississippi Lime and Permian basin. Almost half of these wells are from the Permian basin play. Source: Drilling Info and Labyrinth Consulting Services.

(click image to enlarge)

Mr. Tillerson does not mention cost.

The stories, if true, about miraculous improvements in drilling efficiency cannot disguise the unsustainable cost of drilling and completing all of these wells. This was possible because of the very peculiar circumstance of zero-interest rates since the 2008 financial collapse and the capital that flowed to fund the U.S. shale and tight oil plays as a result.

As Goldman Sachs commented recently at The Houston Producers Forum: “It is not obvious to a generalist investor looking at financials of US oil and gas producers today that there has been a shale revolution beyond volume growth.”

So, Mr. Tillerson is right that natural gas production has been resilient. He is wrong to suggest that it was sustained with fewer rigs and producing wells. Nor was that level of gas production possible without an unprecedented supply of other people’s money that is unlikely to continue.

There is more gas than oil in the world. Much gas is found while looking for oil but the inverse is seldom true.

Gas production has been durable in the U.S. because it is ubiquitous and has many sources. It is wrong to suggest that tight oil production may be similarly resilient.