US Shale Is Here to Stay, and It’s About to Be an Unstoppable Monster – Prove Me Wrong

What strange times we live in… Everyone is living in their proverbial caves, gas at the pumps is approaching prices that I saw when I first started driving, kids are home from school, people are out of a job worldwide, and the list goes on…

I’ve been seeing a lot of articles from oil and gas analysts that are predicting the end of US shale, and I’m fed up and pissed off. Mainly because I think that these articles are clickbait nonsense that is fueled by fear of the unknown. I have severe imposter syndrome writing this article, but I pay attention to the market and the industry and I certainly know enough to be dangerous. In these rare circumstances, I think my opinion is as valuable as any analysts, because they are the equivalent of a meteorologist predicting if/when/where a hurricane will hit the eastern US as a weather disturbance is forming off the coast of southern Africa. I have nothing but respect for the analysts (unless you’re purposely creating clickbait nonsense) and know a few of them personally. But, by their own admission, “these are unprecedented times”, which means anything is possible. The analysts may be able to whip my a$$ up and down the court with the macro, micro, milli, nano, and whatever other type of economics that are out there, but I’m not just basing my case on “gut feeling”. When I hear analysts talk about unprecedented times and then predict the future with certainty, I call bullsh!t.

I find the history of shale fascinating, and I was lucky to be on the forefront of this revolution. It was unlocked by small independents that had one objective – get high initial production and sell the acreage. Shortly after their success, the large independents and majors wanted to get in on the action and invested heavily. Most of these investments were a complete bust that led to these companies pulling out of this segment of oil and gas. The independents kept moving forward and thriving though. Thriving enough that it couldn’t be ignored. In my opinion, the first success story for a major in these shale plays was when ExxonMobil (XOM) bought XTO. As an outsider looking in, it seemed like XOM bought XTO and told them you’re doing a great job, y’all are the experts in these types of plays, keep doing what you’re doing, here’s some money. These unconventional reservoirs were a different beast than anything that had been done before and required a different approach and methodology. The approach that XOM used worked and the rest of the industry took note. [Great timing too, because “analysts” were predicting we were on the verge of running out of oil resources for the fourth or fifth time]. XOM provided the blueprint, and slowly but surely, other majors and large independents started investing.

Reason #1 – THIS SITUATION IS EXACTLY WHY OPERATORS HAVE DOUBLED DOWN IN US SHALE

On Thanksgiving Day (in the US) 2014, OPEC decided it would not curtail production, and oil prices went plummeting in the next several months. Operators were stunned. Multi-billion-dollar offshore Gulf of Mexico projects that took 8-10 years to come to fruition, were now producing in a $20 USD/barrel world. How could that be profitable? What do you do at that point though, shut-in the wells and accept billions of dollars in losses? That doesn’t make sense either. At that point, make the best of it and keep your fingers crossed oil prices recover (not the strategy that investors like to hear).

In the following years (primarily 2016, best I recall), a lot of operators reduced investing in conventional offshore plays due to the significant time and capital it took to bring production to fruition, and they started doubling down in shale. Why? Because meaningful production could be achieved in relatively short amounts of time at relatively low cost. That also means that the brakes can be slammed on as well. The entire appeal of US shale is that it gives operators the ability to quickly adjust to the market. They can stomp on the brakes when the market tanks, and when it recovers, they can stomp on the accelerator. I’ll say it again, THIS SITUATION IS EXACTLY WHY OPERATORS INVESTED IN US SHALE PLAYS! Don’t take my word for it, go review the investor reports during the 2015 - 2017 timeframe for operators that invested more into the US shale plays.

Reason #2 – BREAKEVEN COST IN US SHALE TODAY IS NOT THE SAME AS 2015

I have a tendency to see clickbait headlines, roll my eyes, and move on quickly, but the articles I’ve stopped to read typically have the breakeven cost of US shale at $50-$60 per barrel. These are the numbers that were used in 2015, and I struggle to believe that this is still accurate today. In fairness to the analysts, this happened so quickly that everyone is scrambling to get updated numbers.

I’ll focus on the Permian Basin also known as the “Texas Miracle”.  While the rest of the US shale and most every other oil play declined immediately following the bust in 2015, the Permian grew into an unstoppable monster. Even in 2015, the $50-$60 breakeven price was debated. During this timeframe, I remember operators reporting that they had breakeven costs of $20-$25 USD in the Permian. Those numbers were likely exaggerated some, but it certainly seems that the economics were still solid.

Let’s go with the analyst’s numbers from 2015 of $50-$60 per barrel though. What’s different in the Permian today compared to 2015. Dare I say everything? The infrastructure is there, the US is exporting oil and gas, initial production is higher, direct sourcing of fluids, additives, and proppant is more prominent, pad drilling is enabling surface efficiencies from reused drilling mud to simultaneous fracturing operations aka “zipper fracturing”, completions are cheaper and more reliable than ever in these applications, and the list goes on. The Permian Basin (and the rest of the US shale plays) of 2015 is not the same as 2020.

Conclusion

Is there going to going to be pain in the short-term for US shale operators? Yes, but the OPEC+ nations will feel it as well. Will the US shale sector look different when this all plays out? No doubt, but I think it was going to happen in 2020 anyway. All signs pointed to a recalibration in 2020. There was too much overspending and debt taken on in the US shale sector. The companies that are too far in debt were going to have to make drastic moves in 2020, and these circumstances speed up the process (although with less favorable terms). My guess is that the cash-flow-positive operators are drooling right now because they know they are about to get a bargain on prime acreage. Maybe I’m an ignoramus, but when I look into my crystal ball, I see a renaissance for the US shale industry that creates an unstoppable monster even more unstoppable.

Keep moving forward, stay safe, and take care,

Aaron