Today’s Shale ‘Splainer: What’s Going on With Prices in the Permian Basin?

oil drilling
oil drilling

There’s been a lot of news lately about growing “price differential” impacting certain producers in the Permian basin, negatively affecting their ability to command top dollar for their production.  Here’s an explaination of what that’s all about:

  • While other shale basins around the country have remained pretty much static, the Permian Basin of West Texas and Southeast New Mexico has experienced a big production boom over the last year and a half.
  • This geographic-specific boom has been driven by two major factors:
    • The price for crude oil has risen steadily for more than 20 months, moving from the low-$40/bbl range up to around $70/bbl.
    • The per-well economics, i.e., the ability for a well to be profitable, are better in the Permian region than any other shale basin for a variety of reasons that we will explain in a future Shale ‘Splainer.  For now, take our word for it.
  • This boom has resulted in a very dramatic and sudden increase in oil production coming from the Permian region, creating a demand for a great deal of new pipeline capacity to carry the production from the Basin to the Gulf Coast, where it can either be refined or exported.
  • Given that the building of new pipeline capacity never takes place until production demands it, we now have a situation in which production from the Permian is beginning to overwhelm the current existing pipeline infrastructure.
  • Some producing companies have contracted for reserved, “Firm” capacity on existing pipelines for specific transportation charges.  Those companies will not be impacted unless they want to put more production into a pipeline than they have contracted for.
  • But other producers have not locked in “Firm” capacity, and will thus have only “interruptible” service and be subject to having to pay “spot” charges to move their product on the line.  As demand for this “interruptible” capacity rises, so will the cost of the service – economics 101.
  • It is because of this simple supply and demand situation that some Permian producers are only able to net as little as $60/bbl when the current market price for West Texas Intermediate crude is listed in the $70/bbl range.

The good news here is that there are at least 10 significant Permian-specific projects currently in the planning or construction phase, with much of the new capacity scheduled to come into service later in 2018 or early in 2019.  Thus, a year from now, this situation will largely be resolved. Until then, producers who have not contracted for “Firm” pipeline capacity will continue to be disadvantaged.

That concludes your Shale ‘Splainer for May 14, 2018.


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