Too much oil? Texas boom outpaces supply, transport networks

By Liz Hampton, Devika Krishna Kumar and Jarrett Renshaw

MIDLAND, Texas (Reuters) – The west Texas drillers that drove the shale revolution have overwhelmed the region’s infrastructure with oil production -driving up costs, depressing regional oil prices and slowing the pace of growth.

The U.S. government continues to forecast the country’s oil output rising to fresh record. But competition for limited resources in Texas is making it harder for shale producers to turn a profit and encouraging some to invest elsewhere.

Texas is home to the Permian Basin, the largest U.S. oil field and the center of the country’s shale industry. In the past three years, production from the Permian has risen a whopping 1.5 million barrels per day (bpd) to 3.43 million bpd.

All that oil means pipelines from the shale patch are full, so producers are paying more to transport oil on trucks and rail cars. Shortages of labor, water and even the fuel used in fracking are driving up production costs.

At the same time, Permian producers are getting less for their oil, which in August traded as much as $17 a barrel below the benchmark. Sellers have to offer the discount to compensate for the higher transport costs.

“We’re our own worst enemy,” said Ross Craft, chief executive of Approach Resources, a small west Texas oil producer which last year averaged about 11,600 barrels of oil equivalent daily output.

“We can drill, bring these wells on so quickly that we basically outpace the market. It is going to take a little bit of time,” he said, for the infrastructure to catch up to producers.

Approach Resources is leaving some wells uncompleted. That means the firm drills the wells, but does not fracture the rock to produce the oil. Other shale producers are also leaving the oil in the ground, waiting for higher prices to make the drilling more profitable.

The number of uncompleted wells in the Permian jumped by 80 percent to 3,630 in August compared with a year earlier, according to U.S. Energy Department data. For the rest of the United States, uncompleted wells are up 10 percent from the same period a year ago.

Some companies are reducing the scope of their operations in the Permian. ConocoPhillips (N:) and Carrizo Oil & Gas (O:) each moved a Permian drilling rig to another oilfield, and Conoco idled a second, the companies have said.

Noble Energy (N:) also has cut back on its well completions and said it is moving some drilling resources to Colorado.

Global Drilling Partners, a drilling contractor based in the Woodlands near Houston, was set to drill seven wells with a Permian operator this July, but that has dropped to two wells starting in December due to lack of pipeline takeaway, said John Hopkins, a managing partner at the company.

“There will be a shift out of West Texas temporarily until they can solve their midstream problems,” he said. Companies are looking to boost their drilling in other fields in Texas, Colorado and Oklahoma, he said.

Suppliers including sand and rail companies say they are hedging their bets by expanding elsewhere.

SHARES FALL ON HIGHER COSTS, LOWER REVENUE

The price discount on Permian oil has hurt the share price of shale producers such as Parsley Energy (N:), which operates only in the Permian.

Parsley delivered an eight fold-rise in profits in the second quarter versus a year earlier, and boosted output by 57 percent over the same period.

But investors have dumped the stock on concern that plans to increase output by another 5 percent by spending 17 percent more will deliver diminishing returns. Parsley’s shares are down about 8 percent since the company reported results on Aug. 7.

Spending plans in 2018 by 53 independent U.S. producers have risen a combined 18 percent over 2017, to $63.2 billion, according to investment firm Cowen & Co.

The U.S. in August produced a record 11 million bpd and continued investment in the Permian should see the country’s total output to hit an average of 11.5 million bpd in 2019.

But rising costs and bottlenecks have already slowed the pace of growth.

Consultancy Wood Mackenzie estimates Permian oil production in 2019 will be 200,000 barrels per day (bpd) less than it could be because of transport constraints.

Permian output will be 3.9 million bpd next year, Wood Mackenzie estimates, but could have been 4.1 million bpd if more pipeline space were available.

“We’ve had a more significant increase in costs this year than we would have assumed,” Timothy Dove, chief executive of Pioneer Natural Resources, one of the largest Permian oil producers, said in August.

TRANSPORTATION AND SUPPLY SHORTAGES

Smaller producers without contracts to use pipelines are getting hurt most because they are forced to use trucks and railcars. Shipping oil by truck to Gulf Coast refinery and export hubs costs $15 to $25 a barrel, compared to $8 to $12 a barrel by rail and less than $4 a barrel by pipeline, according to market sources.

The shift is leading to traffic jams on highways and rail crossings in far-flung parts of the Permian shale fields. It also means fuel for supply vehicles and fracking equipment can be in short supply locally.

“Truck traffic is unlike anything we’ve ever seen,” said James Walter, co-CEO of Colgate Energy, a Midland-Texas based oil producer, who adds his company has agreements to transport all of its crude and gas production via pipelines.

Rail capacity is unlikely to increase because oil producers are reluctant to sign up to long-term contracts to lease rail cars. They would prefer to wait for the new pipelines to be built. Planned pipelines out of the Permian will add about 3 million bpd of oil capacity by late 2020, estimates Wood Mackenzie.

Rail firms are reluctant to buy new oil railcars without long-term contracts.

“We do think it’s a short-term situation,” Union Pacific (NYSE:) Executive Vice President Beth Whited said in July. “So we will not invest to support that.”

Sand suppliers have moved quickly to alleviate one supply shortage by opening new operations. Some 15 sand mines have popped up in the Permian in the past year, creating a $1.2 billion industry almost overnight, consultancy Rystad Energy estimates.

These mines sell sand for about $40 a ton, saving producers nearly $90 a ton compared with sand shipped in from other states.

Just as elsewhere in the Permian, however, the increase in activity is inflating costs. Preferred Sands, which has a sand mine in Monahans, Texas, is paying workers there about 30 percent more it does in other markets, said Chief Executive Michael O’Neill, prompting the firm to open its next sand mine in Oklahoma instead.

Source: Investing.com