As we get into February, some of the leading U.S. shale producers have released their 2016 budgets. Many more will be released in the coming weeks. Two of the early releases came from Bakken producers Continental Resources (NYSE: CLR) and Oasis Petroleum (NYSE: OAS).

Understanding what these companies are guiding for can provide great insight into what U.S. shale production as a whole is likely to do in 2016. Let's take a closer look.

Continental Resources: planning to live within cash flow
Continental Resources and its CEO, Harold Hamm, have been the poster boy for the U.S. shale revolution. From less than 50,000 boe/day of production in 2010, Continental grew to almost 230,000 boe/day by the third quarter of 2015.


Source: Continental Resources corporate presentation.

The company did it, though, by massively outspending the cash flow it generated from operations.

 Results ($in thousands)







Cash provided by operations







Capital expenditures







Outspent cash flow







Capex/cash flow







Source: SEC.

Over that time period, Continental generated $10.68 billion of cash flow and spent $17.8 billion drilling wells and accumulating land. That meant Continental outspent the $10.7 billion in cash flow it generated by an incredible $7.1 billion.

Tell me again how this horizontal drilling boom was sustainable. Continental started 2010 with $500 million of long-term debt and ended the third quarter of 2015 with $7.1 billion. This horizontal production boom created by companies such as Continental was built on access to cheap credit as much as it was built on new technology.

Continental's 2016 budget involves an intense focus on cash flow neutrality. Clearly, based on what we see from 2010 through now, cash flow neutrality is something very new for Continental.

The company will spend only $920 million in 2016, which would be its lowest level of spending since 2009. As you might expect, that reduced spending will take a toll on production.

First-quarter 2016 production is expected to be 210,000 to 220,000 boe/day. By the fourth quarter, Continental expects production to be down to 180,000 to 190,000 boe/day per day. That's a drop of roughly 30,000 boe/day, or 15% of Continental's production.

Oasis Petroleum: also looking to live within cash flow
Like Continental, Oasis has experienced tremendous production growth over the past several years.


Source: Oasis corporate presentation.

In 2015, Oasis will have daily production that is 5 times what it had in 2011. Included in that growth is 9,300 boe/day that was acquired in 2013 for $1.5 billion.

The recipe for growth for Oasis was similar to that of Continental: Spend far more than cash flow and grow as fast as you can.

Results ($in thousands)







Cash provided by operations







Capital expenditures







Outspent cash flow







Capex/cash flow







Source: SEC.

Oasis has outspent cash flow by an even larger percentage than Continental has. Oasis has almost spent twice as much as it has generated, and that's excluding the $1.5 billion 2013 acquisition from the numbers.

What Oasis has done differently from Continental is it issued more equity to pay for all of this outspending.

During the fourth quarter of 2015, Oasis produced 50,652 boe/day. The company expects 2016 production to average 48,000 boe/day, so it will be declining, although less than Continental's on a percentage basis.

Oasis expects the capital spending required to generate this slight decline in production will be completely funded by cash flow, although the company did just raise $160 million in an equity issuance. That equity raise was done at $4.70 per share, or about 10% the level of where shares traded in the middle of 2014.

The takeaway for investors
I believe that there were four key elements involved in creating the shale production boom that has crushed oil prices:

  1. The combination of horizontal drilling and multi-stage fracking.
  2. High oil prices.
  3. Bankers willing to lend enormous amounts of money to oil producers.
  4. Low interest rates that allowed companies to support this debt.

Take away any one of those elements, and I don't believe U.S. shale production would have grown at anywhere near the speed that it did. Today only No. 1 and No. 4 are still in place.

Shale oil production isn't going away, but the circumstances that led to the incredible rate of growth that we experienced has. Those circumstances likely aren't coming back, even if oil prices rebound. Lenders have been burned by this oil bust, and the days of having producers wildly outspend their cash flow are over.

The second act of the horizontal revolution may be a different.  While high oil prices were necessary in act one, the advancements in technology and techniques has lowered the cost of extracting oil from shale.  In its third quarter presentation EOG Resources (NYSE: EOG) indicated that it can now achieve a 35% after tax rate of return drilling in its core plays at $50 WTI.

The reality is that we are still in the fairly early innings of developing these shale plays.  Over time these plays are just going to get better and better as oil companies keep trying new things.  The oil price crash may have expedited some of those improvements. .


Chrispoher Malcolm has no position in any stocks mentioned. The Motley Fool owns shares of EOG Resources, Inc.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.