Just How Expensive Is Shale Oil?

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While new technologies such as fracking and horizontal drilling are largely responsible for the boom in U.S. oil and gas production, the costs associated with these so-called "technological barrels" are on the rise.

So exactly how costly is shale oil production? Staggeringly expensive, according to a new report from a leading energy research firm. Let's take a closer look.

Costs still rising
According to recent estimates by Sanford C. Bernstein, a research and consulting firm, non-OPEC marginal cost of production rose last year to a whopping $104.50 a barrel, representing more than a 13% increase from $92.30 a barrel in the previous year.

What's more is that marginal production costs for U.S. drillers rose by even more, in both relative and absolute terms, from around $89 per barrel in 2011 to a remarkable $114 a barrel last year. While many have argued that rising marginal costs of production for unconventional oil projects will help buoy oil prices by driving a floor underneath prices, they're also limiting the industry's profitability.

Bernstein's findings are worrying, because they imply that new technological improvements aren't enough to bring down the industry's overall marginal costs. "What we call technological barrels are day after day more expensive," Christophe de Margerie, chief executive of French oil giant Total (NYSE: TOT  ) , recently told the Financial Times.

Implications for big oil
That's bad news for the world's largest integrated oil companies, which are seeing reduced profitability due to the double whammy of rising costs and a cap on oil prices as a result of increased supply due to the shale boom. Not surprisingly, profit margins among the world's 50-largest listed oil companies are currently the lowest they've been in a decade, according to Bernstein.

For instance, net income margins for ExxonMobil (NYSE: XOM  ) , BP (NYSE: BP  ) , and Total have all fallen from their highs near the middle of the previous decade. Last year, BP and Total reported margins of 3.1% and 5.9%, respectively, down significantly from 2005 respective margins of 9.2% and 10.5%. 

Exxon's net income margin, however, fell only modestly, coming in at 10.9% last year, as compared with 10.5% in 2005. And ConocoPhillips (NYSE: COP  ) was one of the few majors that managed to buck the weak margin trend, posting an impressive 14% net income margin last year, up from 8.2% in 2005.

Bernstein further finds that, over the past decade, marginal production costs have risen by about 250%, from just under $30 a barrel in 2002 to a record of $104.5 a barrel last year, while cash costs have increased from $9.70 a barrel to $44.20 a barrel over the same time period.

The bottom line
The big takeaway is that the marginal barrel of oil is becoming more expensive to produce, which is helping buoy oil prices. But rising costs and lower profitability are a major challenge for the world's largest integrated oil companies, which are struggling to boost production and reserves.

Most reported year-over-year declines in total oil and gas production for the first quarter, despite high levels of capital spending, which suggests diminishing returns from their upstream spending. According to energy research and consulting firm Douglas-Westwood, the upstream industry spent $2.4 trillion to produce 12.3 million barrels per day of additional oil output in the period 1995-2005.

Yet in the period from 2005 to 2010, the same level of spending actually yielded a decline of 0.2 million barrels per day. With unconventional sources of oil expected to account for a much larger share of total production over the next several years, energy companies will have to find better ways to get more out of their money.

Though Exxon, Total, and the rest of the supermajors are having difficulty boosting production, companies focused exclusively on exploration and production are having better luck. Chesapeake Energy, for instance, has reported nearly 60% year-over-year growth in oil production. As the company transitions away from natural gas, will it manage to meet its oil production target and boost cash flow? Or will it languish under the weight of its heavy debt load? To answer that question and to learn more about Chesapeake and its enormous potential, you're invited to check out The Motley Fool's brand-new premium report on the company. Simply click here now to access your copy, and as an added bonus, you'll receive a full year of key updates and expert guidance as news continues to develop.

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  • Report this Comment On June 15, 2013, at 5:00 PM, MarkOfBeast wrote:

    Just how expensive is shale oil and shale gas? Let's look at the numbers. In a recent article Ernst Young pointed out that the combined capital spending in shale development of the top 50 US producers reached $186B in 2012. That's just capital spending on well drillings, not including production and maintenance costs. How much oil and gas was produced for the $186B cost? Roughly 1.5M barrels of shale oil and 25 BCF of shale gas per day. Or worth $195M per day, $71B for the year. The industry spent $186B in capital and collects only $71B in revenue. Such huge loss is non-sustainable.

    Let's look at Bakken specifically for shale oil costs. From Feb 2013 to March, daily production increased from 925.58 MBOE to 928.83 MBOE on addition of 142 new wells. So roughly new 140 wells per 30 days can maintain a flat production at 927 MBOE. Thus the cost is 4.667 new wells for 927 MBOE of production, or ultimate production of roughly 200,000 BOE (barrel oil equivalent) per well. That's a productivity far lower than what the industry told us. The Bakken shale oil is barely profitable at current oil prices.

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