As oil prices have fallen, the cost of production from US shale has emerged as a critical question for investors.
In a downturn, higher-cost supply is most at risk, and the need for horizontal wells and hydraulic fracturing – “fracking” – in shale reserves means they are more expensive to develop than many oilfields in the Middle East.
If oil prices fall further, however, US production costs are likely to fall too, providing a safety valve to reduce the pressure on producers.
There is no single answer to the break-even price for shale developments: it varies from area to area and well to well.
Even with US crude prices of about $100 a barrel earlier in the year, the small and mid-sized exploration and production companies that led the US shale revolution were running large cash deficits.
If oil remains at its present level of roughly $82 per barrel, it will put back the point at which they will be able to cover their capital spending from their cash flows.
However, their costs have already fallen sharply, and could fall further. The median North American shale development needs a US crude price of $57 a barrel to break even today, compared with $70 a barrel in the summer of last year, according to IHS, the research company.
EOG Resources, one of the most successful of the shale oil producers, cut its cost per well in the Leonard shale on the border of Texas and New Mexico from $6.9m in 2011 to $5m this year, while raising average production from each well.
Melissa Stark, a managing director at Accenture, the consultancy, says the industry still has a lot of room for improvement.
With more than 18,000 horizontal wells set to be drilled in the US this year, she argues that improving the “manufacturing model” of repeated similar projects could deliver large savings.
Accenture believes the average cost of a US shale well could be cut by up to 40 per cent by better management of factors such as planning, logistics, and relationships with suppliers.
David Vaucher of IHS says that if prices remain at around today’s levels, rates charged to oil producers for fracking and other services are likely to remain about where they are.
However, he adds, the indications recently have been that productivity per well is still improving. Production from new wells per working drilling rig has been rising in the Bakken of North Dakota and the Eagle Ford and Permian Basin of Texas, the three main shale regions, according to the US government’s Energy Information Administration.
The effort companies are putting into each well is rising. ConocoPhillips and others have been using much more proppant – the sand or similar material used in fracking to hold open cracks in the rock so the oil can flow out – to increase production.
Companies are also fracking wells in more stages: up from an average of 18 sections per horizontal well in 2012 to an expected 23 per well next year, according to Pac West, another consultancy.
Even so, costs per barrel are probably still falling.
Downward pressure on costs will heighten if the oil price continues to fall. Drilling rigs and other equipment such as pumps for fracking tend not to be tied up on long-term contracts, meaning that producers can adjust their spending quickly in response to oil price movements.
In a deepening slump, the service companies providing services such as drilling and hydraulic fracturing are likely to come off worst, according to Steve Wood of Moody’s, the rating agency.
“Exploration and production companies have a product that people will still want to buy,” he says.
“But service companies are dependent on the E&P’s capital spending, which can be cut back.”
Service companies would be hit both by lower activity, and by the greater leverage that their customers will have to bargain their charges down.
Halliburton, the world’s second-largest oil services company by market capitalisation, told analysts on a call this week that activity in the US continued to “surge higher”.
Dave Lesar, chief executive, said: “We do not see momentum slowing any time soon”, and added that he believed oil prices at their present levels were “not sustainable”.
However, he acknowledged that it was important for the company to “deliver the lowest cost per barrel to our customers, which in turn positions them and Halliburton to perform best in volatile markets.”
There could be a parallel for US oil in shale gas production. When prices fell to a 10-year low in 2012, it seemed that most US shale production would be uneconomic and output would collapse.
As it turned out, production did fall in higher-cost areas such as the Haynesville shale of Louisiana and Texas, but it continued to rise in the Marcellus shale of Pennsylvania.
The best companies were able to produce at costs that were much lower than many people had expected. Cabot Oil and Gas, for example, says it has a cash cost in the Marcellus of just 75 cents per thousand cubic feet, compared with a benchmark US gas price of about $3.70.
If oil-focused shale companies can follow that example, US output will be a lot more resilient than its competitors in other oil-producing countries would hope.