Energy Recap: Examining Shale With SA Author Fluidsdoc

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By SA Editor Michelle Carini :

Welcome to the latest edition of the Energy Recap. This week, we wanted to share with you some comments about shale from Seeking Alpha Author Fluidsdoc . Take a look:

Like most other companies, oil operators base their investing decisions on the expected rates of return in their investments. When oil prices decline their revenue streams fall, thereby forcing these companies to cancel or defer long-cycle, big capex projects, and to shift resources to short-cycle projects that will generate revenue faster to try and maintain cash flow, daily production rates, and reserves.

U.S. shale has been the short-cycle investment of choice for many companies in recent years, and companies that got in early have made fortunes. The problem with shale is that the current model of drilling 8-10,000' horizontals to maximize initial production is hugely expensive in terms of raw materials: i.e., sand and water. Millions of pounds of sand and millions of gallons of fresh water are required for each well. Some of the water can be recycled, but it typically becomes more saline with each use, so there is an upper limit to the amount of brackish water that can be used per well. In fact, some operators are looking into using low spec materials to maintain production rates. In my view, this is misguided as these lower spec materials can contain reservoir-damaging minerals that will result in lower production per well.

The next problem with shale is that the decline rates can be very high, often +/- 70% annually. This is due in part to the relatively low porosity and permeability of shale. Shale is comprised of tightly compacted clastic sediments that typically have little horizontal permeability. As an example, the permeability of a reservoir is measured in darcy units (named after the French engineer Henry Darcy). In the U.S., Gulf of Mexico shelf sandstone reservoirs often have permeabilities in the 250-500 milli-darcy range. Shale permeabilities are typically in the micro- or nano-darcy range. This is due to the often low density, low energy modes of deposition for shale reservoirs.

Bottom line, I think we are approaching some logistical limits for what shale can deliver to U.S. daily production rates. The easy, Tier I reservoirs are largely fully engaged after 15 years of development. This will force operators to look to the more challenging Tier II and III reservoirs for further development.

What's important to remember is that companies don't drill in deepwater because they want to - they do it because, these days, that's where you find the big reservoirs comprised of highly permeable sands that will flow tens of thousands of barrels of oil per day. The reservoirs are generally deposited under a high-energy, high-density environment, sometimes called turbidite, that results in higher porosity, higher natural permeability reservoirs that can flow at the rates mentioned above.

This is why oil companies drill in deepwater. Think of the Royal Dutch Shell ( RDS.A ) (RDS.B) Whale discovery as a shining example of the type of oil reservoir I am describing.

Deepwater currently supplies about 10% of U.S. daily production. Most of this is coming from wells that were put online five to 10 years ago and are now starting to decline. It's my view that with prices edging higher, and costs slashed to develop deepwater resources, drilling in this sector will rebound from the current depressed levels.

This should accrue benefits to companies focused on deepwater like Transocean ( RIG ) and Ensco ( ESV ).

Please leave us your thoughts in the comments section below.

Energy Articles of Note

" Unknown, Profitable, Oil-Weighted Energy Producer At Deep Discount To NAV And Peers " By Value Digger

" Will Phillips 66 Roll-Up Its MLP? " By Michael Fitzsimmons

" The Permian Takeaway Bottleneck: Lessons From The Past " By Laurentian Research

Energy Sector Bankruptcies for the Week Ended May 25, 2018

Here's a list of the most recent bankruptcy announcements in the energy sector:

- None.

Feel free to add any that we might have missed in the comments section below.

U.S. Oil Rig Count

As per Baker Hughes , the number of active U.S. oil drilling rigs rose this week, the biggest weekly climb since February.

Weekly Natural Gas Storage Report and Summary

Natural Gas Rig Count

Oil Production

As always, we encourage you to submit your own article by clicking here , if you haven't already done so.

See also May 25 Natural Gas Weekly: Storage Forecast And Update On Supply/Demand Balance on seekingalpha.com

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

This article appears in: Investing , Stocks
Referenced Symbols: RIG , ESV , RDS.A , PSX , USO

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