What's Padding Profits in the Bakken?

In the Bakken, production growth steals all the headlines. But there's a far more important development taking place: the lowering of drilling costs. 

Challenging environment
Explosive production growth is the big story out of the Bakken. North Dakota's portion of the shale field produced 756,980 barrels a day in June compared to less than 70,000 barrels a day the same month five years earlier. The question among many analysts is whether the region can crack one million barrels per day for oil production?

The problem is that the Bakken is an incredibly tough area for producers to drill which is why the formation has the highest well completion costs in the U.S. Companies spend between $8 - $15 million to drill a single well. This compares to $5.5 - $9.5 million to drill a well in comparable shale plays like the Eagle Ford. 

That's a huge upfront cost. The break-even price for each Bakken well is between $70/$90 per barrel once royalties, taxes, and expenses are included.  When you combine this with chronic labor shortages and limited infrastructure, you have a recipe for sky-rocketing drilling costs. 

Companies bucking the trend
Yet, in spite of ballooning costs, some Bakken producers are bucking the trend. 

Continental Resources  (NYSE: CLR  ) is leading the way as the region's low-cost producer. In the past year, the company has been able to cut $1 million off its average well completion costs which comes in at $8.3 million per well. The company expects to shave an additional $300,000 from that figure by year-end. 

Other names have seen material cost savings as well. Oasis Petroleum (NYSE: OAS  )  has been the best performer in the Bakken. The company has cut drilling costs 20% year-over-year to $8.2 million last quarter. Pioneer Natural Resources (NYSE: PXD  )  also noted in its earnings release that drilling costs have declined $600,000-$700,000 per well. 

What's driving this trend? Much of these cost savings can be attributed to a new production technique called 'pad drilling'. Previously, drillers were required to disassemble and reassemble a rig at each well location. Today, a drilling pad may have five to ten wells, spaced only feet apart from one another, which are horizontally drilled in different directions. Once a well is drilled, a fully constructed rig can be lifted and moved to the next location using hydraulic walking or skidding systems. 

Experience helps as well. Oasis reduced the number of days to drill a well from 29 days in 2010 to 23 days in the first half of 2012. Over that same time period the number of days to frack a well has also been cut in from ten to five days. 

Helping margins
All of this translates into big cost savings for Bakken producers. Take Continental for example, which projects that it will complete 300 net wells in the Bakken during 2014. By saving $1.3 million on each well, Continental will pocket an extra $390 million over the course of the year. That's a pretty substantial figure when you consider that the company generated $1.6 billion in cash flow from operations during 2012. While Continental is still a long way from closing its funding gap, drilling efficiencies will have a meaningful impact on the firm's free cash flow. 

Drilling efficiencies also allow producers to do more with less capital. For example, cost savings at Pioneer Natural Resources will result in the company being able to drill 130 wells with 10 rigs in 2013 compared to drilling a similar number of wells with 12 rigs in 2012. 

Foolish bottom line
While investors focus on rapid production growth, falling costs are a far more important trend in the Bakken. As the highest cost producer, the formation is the most vulnerable to lower oil prices. Cheaper drilling is critical to ensure the long-term viability of the play. 

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 13, 2013, at 1:28 PM, chrisrobart wrote:

    One thing that the author has neglected to mention, and that operators haven't talked about very much, is that market pricing for hydraulic fracturing services, in the Bakken and in the US as a whole, have fallen dramatically since early 2012. In the Bakken, frac pricing has fallen around 30% since the 1st quarter of 2012. Much of the cost savings experienced by operators is due as much to market pricing, as opposed to operator execution/skill. My team estimates that over 50% of cost savings realized by operators over the last 18 months is due simply to market pricing falling. Operators generally seem inclined to take all the credit for the cost savings, painting a better picture of their ability to manage costs.

    Chris Robart

    Principal, PacWest Consulting Partners

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