Will the US shale industry go out of the market already this year?

As soon as US shale companies leave the market, oil prices will drop from the bottom and likely reach 60 USD per barrel, according to the CEO of Rosneft Igor Sechin. Now, this is increasingly starting to take on a realistic outline.

Mining prices in various US shale basins range between 39 USD and 48 USD per barrel. Meanwhile, West Texas Intermediate (WIT) light crude has been trading below 25 USD per barrel for more than a week.

The lowest production price in the US is in Delaware, Texas, 39 USD per barrel, with one idea higher than the epicenter of the US shale boom – the Permian Basin (40 USD per barrel).

These averages do not give rise to industry optimism, hit hard and fast by the “perfect storm” – weak demand and a sharp increase in OPEC+ supply. However, it is worth noting that the figures above are average values.

The larger a company, the more room it has for reducing operating costs (the daily costs associated with managing each business). Companies can reduce these costs by asking suppliers to reduce their prices, which some shale players have already done, and by asking for a significant discount – some up to 25%.

This strategy was also used during the most recent oil price crisis (2014-2016). At that time, manufacturers focused on improving efficiency and tight cost control. However, much of the relief came from drilling companies, which drastically reduced the cost of their products and services so that others could survive in the crisis. As a result, the drilling services segment has suffered more and longer.

In the recent oil price crisis, drilling prices in the US fell due to lower operating costs. Now they have to be cut and many business representatives are doing it: companies are already limiting their business – in this case by stopping drilling equipment and drilling fewer fields. This is one of the self-regulating mechanisms of the industry. The fewer new wells are drilled, the smaller the production growth until it eventually disappears and production begins to shrink.

US shale companies were at the heart of changing the world oil game. They have managed to reduce costs to low enough levels to survive the 2014-2016 crisis. One thing to remember, however. The bottom below operating costs has now been reached, which means drilling companies cannot discount big players in the US oil industry.

The question many ask themselves is whether the shale industry could repeat its feat since the last crisis: reduce costs to even lower levels, shrink them to survive, and enjoy lower drilling costs and bigger profits. The answer would be “maybe” if the current crisis was solely related to oversupply, the last one ending in 2016.

Unfortunately, this is not the case. Now the industry is struggling, perhaps, with the largest drop in demand for oil markets in history. On top of that, space for further drilling cost reductions is more limited than five years ago. This is a law that is universal, perhaps like Wright’s law (it describes the link between business activity and improvements in production).

At the same time, it may be that shale companies face higher production costs than lower ones in some geographical areas.

Shale formations are not uniform everywhere. In some parts of the US, oil is more accessible than others, which means lower costs for drilling. Due to technological advances, there is certainly more room to improve the efficiency of oil extraction from shale formations. These efficiency gains are likely to lead to lower drilling costs for those companies that will eventually be able to survive the crisis.