10-14-16

From our Mid-Atlantic energy analyst friend (Anonymous):

Thesis: Crude oil producers have become akin to utilities. They have relatively high fixed costs, through contractual commitments (including debt, rigs rentals, throughput obligations, among others) that do not lessen much with falling commodity prices.  Like utilities, steady cash flow at a high base level is an imperative.  Production declines in fields such as the Bakken can only drop modestly in order to keep cash coming in even if the price does not provide a profit margin, and may even increase to cover fixed obligations.  In prior years, the companies could have just borrowed more money; no longer.  Now the default choices are to maximize production even at unprofitable pricing, or issue stock (or both).

We have been following the Bakken to monitor production increases or decreases on a monthly basis. With this, we pay attention to rig count, number of wells drilled, and DUCs (drilled but uncompleted wells).  It is a great laboratory to track the relative trends of these three metrics to ongoing production. As we have said on numerous occasions, the weekly or monthly data of rig counts tells us very little about what is really going on at the field level.

Consider the table below:

• In the last 24 months, the oil-directed rig count has dropped from 194 to an average of 30 for the past six months, with a low of 27(green highlight). The count has not picked up during the usually-prime summer season.

• Despite the drop, the number of new wells completed has been all over the board. To test a “lag effect”, we adjusted a comparison of rigs operating by 60 days to compare that to new wells (see “Lagged Wells Added Per Rig”), but we could    still find no trend.

• Daily Oil Production has dropped by 232,321 barrels per day (20.0%) from the high mark in December 2014 despite a massive 84% drop in rigs operating over two years of reduced operating.  Production in July had ticked up nominally after a 2.0% drop in June. The inevitable drop in production finally resumed in August, falling 4.7%. This is a clear indication that rig count by itself says little about short- or intermediate-term trends in production.

• Daily production in August was the lowest monthly production since March 2014. At that time, the Bakken had 7,251 wells operating. In August 2016, there were 10,720 wells operating to get the same level of production. This is an increase          that the decline rate has kicked in, and will continue, since the rigs operating in October is essentially the same number as August.

• Production has now declined eight out of the last twelve months. Given the number of rigs operating, further reductions should decline further through the summer, but there is no guarantee as to what volumes will be going into the fall.

• The price of oil is continuing to show a significant discount to WTI, at a current price of $39.75, with WTI above $50. Part of this, of course is a function of competing oil coming in from Canada, plus high transportation costs. Despite the rebound”, there is not much money being made.

• The DUCs have stayed relatively stable at 888, down 19% from a high of 1091 last August. However, we still find this number to be a bit of a head-scratcher. We believe operators are also shutting in or closing some wells, so that DUCs        is      perhaps a sign of discipline being self-imposed on a bunch of individual operators.

In any event, we believe that producers are focusing on wells that are high volume, in a low priced environment. We do not have the numbers to calculate the underlying field decline rate, but the number of wells operating should soon start to flatten or decline, which will make it an easier calculation. For ANY field there is a limit to the number of prime drilling locations. With a $50 price, there is a limit to the ability to apply new technology, which is usually initially costly.

This is the link to the monthly report on Bakken production from the North Dakota DMR:

https://www.dmr.nd.gov/oilgas/directorscut/directorscut-2016-10-13.pdf

Monthly Statistics for the Past Two Years