Bakken Oil Wells and the Red Queen's Revenge

More than 22,000 wells have been drilled in North Dakota since oil was discovered in 1951, but over half of state production comes from around 4,000 wells drilled since the start of 2013.

By the end of Oct 2014, there were nearly 11,900 wells producing oil and gas in the state. The rest proved dry, or had been shut in or plugged and abandoned as output has dwindled.

Of these producing wells, around 70 percent (8,400) are unconventional wells drilled into the Bakken and Three Forks formations, mostly since 2005, and they account for 95 percent of the state's current oil output.

The remaining 30 percent (3,500) are legacy wells, mostly from before 2005, but they account for just 5 percent of output, according to the Department of Mineral Resources.

In fact, an even smaller number of wells contribute the majority of output. The number of wells drilled into the Bakken has grown rapidly so the average well is just three years old (http://link.reuters.com/hyv73w).

While output is initially high it declines rapidly. The typical Bakken well produces around 1,000 barrels per day in its first 60 days, but output halves within the first six to nine months and continues to fall thereafter.

Daily production falls to 350 barrels at the end of the first year, 230 barrels at the end of the second, and 195 at the end of the third.

Before the end of the third year, a typical Bakken well will have produced more than half of its eventual total output, according to state regulators (http://link.reuters.com/fyv73w).

The combination of soaring drilling since 2009 coupled with rapid decline rates means more than half of the state's total output of 1.2 million barrels per day comes from the 4,000 or so wells drilled since the start of 2013.


The Red Queen
Just to keep output steady, the oil companies need to continue drilling a large number of new wells to replace fading output from existing ones.

The problem of decline rates and replacement drilling has been likened by many in the peak oil community to the "Red Queen's Race" in Lewis Carroll's "Through the Looking-Glass".

The Red Queen warns Alice: "It takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that."

Peak oil experts have expressed fears that shale producers would have to employ ever more drilling rigs and bore ever more holes just to keep up with decline rates, and this would ultimately become unsustainable.

In practice, however, North Dakota's shale producers have been winning the race because they have been able increase productivity faster than output from old wells has declined.

Drilling crews have drilled faster and spent less time moving from one site to site and rigging up. The horizontal section of wells has grown longer and more fracturing stages have been performed on each well increasing output per well substantially.

Over time, companies have identified less-productive parts of the Bakken play and shifted rigs to concentrate on the more productive "sweet spots".

And fracking has become smarter to concentrate on those stages of the horizontal well which are more productive, ignoring those which are unlikely to yield much oil.

The result in 2013 and 2014 was more new oil from the same or fewer new wells using fewer drilling crews.


Breakeven Rates
Oil production depends on a broad constellation of factors including drilling efficiency, well productivity, decline rates and breakeven prices.

If the Red Queen's race can be won by productivity, it can be lost by low prices. If prices remain below breakeven rates, drilling will slow or stop, and decline rates on old wells become the primary drivers of future production.

There are signs this is already happening. North Dakota needs between 140 and 155 active rigs to keep output steady throughout the next three years, according to a presentation on Jan 8 by the Department of Mineral Resources to legislators working on the state budget.

The number of rigs operating in the state has fallen to 167, down from 183 at the same point last month and 193 in October. The number of operating rigs is likely to fall further in the coming months as crews come to the end of existing work programmes.

The department's projections show producers need a wellhead price of $55 per barrel to keep state output steady at around 1.2 million barrels per day. Current wellhead prices are less than $40 and still falling.


Sidelining Capital
In a thoughtful research note published on Sunday, analysts at Goldman Sachs argued oil prices would need to stay "lower for longer to keep capital sidelined."

They concluded: "we now believe WTI needs to trade near $40/bbl for most of [the first half of 2015] to keep capital sidelined."

The crux of the argument is that drilling would swiftly resume if prices rise, so a fairly lengthy period of sub-profitable trading is needed to push capital out of the shale sector and rebalance the market.

The problem with this argument is that it likely underestimates the impact from the rapid decline rates on last year's shale wells.

WTI prices of around $40 per barrel imply wellhead prices in Texas of less than $40 and prices in North Dakota of $30 or less.

Department of Mineral Resources chief Lynn Helms has estimated state production would drop by 170,000 to 200,000 barrels per day by the middle of the year at wellhead prices between $25 and $35 per barrel. Even steeper falls would occur in the second half of 2015 and in 2016 unless prices recover.

Texas' output from Eagle Ford and the Permian Basin would also probably decline by mid-year if WTI prices fall to around $40. The result would be an abrupt tightening of the market in the second half of 2015 and in 2016.

The implied production profile would be highly unstable if WTI prices continue to trade around $40 for most of the first half of 2015.

For this reason, a modest recovery in prices before mid-year seems more likely than allowed for by the Goldman forecast.

By John Kemp