Source: Flickr user Nestor Galina.
There were several interesting themes that ran through many of the conference calls of major energy companies during the second quarter. One that stood out as standing on the precipice of becoming a major trend is the refracturing of previously fracked oil and gas wells. It could really become a big driver for companies if oil stays lower for longer, especially with some of the innovative options being offered by Schlumberger (SLB +0.07%) and Halliburton (HAL 1.51%).
Weighing cost and return
One of the problems with refracking, at least at the moment, is that refracking horizontal wells is a new trend and not yet perfected, so that adds a layer of risk. Furthermore, it costs money, which is tight in the industry right now. This was something that Chesapeake Energy (CHK +0.00%) addressed as the company went into a lot of detail on its call on refracking, including the extra costs. According to Jason Piggott, EVP of its Southern Operations, on a basic level "they're typically in that $1 million range," though he noted that there is an incrementally more expensive option that has yielded even stronger results.
However, because Chesapeake Energy and its peers don't have a lot of capital these days to test refracks, it is actually opening up an interesting opportunity for oil-field service giants Halliburton and Schlumberger. One of the options Schlumberger is offering customers is to basically underwrite the cost of the refrack itself. This not only enables it to capture more value for itself, but it saves precious capital for its customers.
In discussing refracks on its conference call, Schlumberger CEO Paal Kibsgaard said his company is "already engaged with eight different customers in North America land on doing refracturing for them" and it is offering both traditional service contracts as well as a performance based option. This allows energy companies to choose if "they want to capture more of the value themselves or would they like to outsource all the risk and potentially much more of the upside to us," according to Kibsgaard, though he did note that currently "most of them actually do take more of a standard type of contract."
Creating a refrack bank
Still, having that option to have a company like Schlumberger or Halliburton take on the capex risk could be a much more appealing option as commodity prices stay lower for longer. That's why Halliburton has been proactive in its efforts as it has already secured an outside funding source for its customers. Halliburton President Jeff Miller detailed this funding mechanism by saying:
Because of our confidence in our technology and ability to lead this market, we've laid the groundwork to execute large-scale refrac operations through alternative business arrangements. To this end, we're pleased to announce that we have entered into a memorandum of understanding with BlackRock to provide a funding mechanism specifically for refrac projects up to $0.5 billion in capital over the next three years.
In lining up that outside source of funding, Halliburton can offer its customers the opportunity to refrack older wells with little downside risk and no up-front costs. That's a huge selling point in this market as capital will become even more constrained as commodity prices continue to weaken.
Investor takeaway
Refracking could become a very important tool for energy companies over the next few years. It could enable companies like Chesapeake Energy to get more production, and therefore cash flow, out of its older wells for little to no up-front cost thanks to financing packages being offered by Schlumberger and Halliburton. Meanwhile, the two oil-field service giants not only have a potential new revenue source but one with a lot of upside as they can capture more of the value they are creating should they finance the refracks. It's why refracking could be a really big trend to watch if oil stays lower for longer.
