Spotlight: Will US shale oil operators forget capital discipline and produce a lot more oil next year as oil prices reach a seven-year high?

A version of this Spotlight from S&P Global Platts Analytics was first published Oct. 21.

Despite high oil prices, capital discipline has held drilling and completion activity in check as most public operators have focused on paying down debt and returning cash to shareholders instead of growing shale oil production.

As WTI, currently trading at close to $85/b (a seven-year high), continues to increase, capital discipline is likely to be relaxed primarily by large and mid-caps while the majors are expected to maintain the course.

Besides capital discipline, production growth next year is limited by how fast operators can physically increase rigs as they continue to face difficulties hiring qualified people.

Production growth in 2022 under a $ 100/b case could be 1.2 million b/d higher than our reference case but likely reduced to around 0.8 million b/d due to capital discipline.

As demand has recovered, resulting in higher and sustained oil prices, Capex has also increased but significantly less than in previous years. This year, despite a 70% increase in oil prices operators are only increasing Capex by 9% and are expected to have a similar increase next year. Average oil prices in 2021 are higher than in 2018 but Capex is only 65% of what was spent in 2018. The main reason is capital discipline, which is suppressing activity despite high oil prices. Another factor is the well efficiencies achieved by operators since 2018. Despite high oil prices, rigs are 22% below pre-Covid-19 levels and frack crews 10% below.

Capital discipline is practiced by all public operators with the majors being the strictest. When it comes to drilling activity, they are 67% below pre-Covid-19 levels while the Large/Mid/Small Caps are around 40% below. On the other hand, small/private operators are 15% above pre-Covid-19 rig levels. Many of the small/private operators are backed by private equity, which are not motivated by capital discipline but instead by growing production and then flipping the assets. The risk of uncontrolled production growth from small/private operators is somewhat offset by less well productivity compared to public operators as they focus more on conventional plays and have relatively poorer acreage in shale oil plays.

We performed an analysis to try to quantify the additional oil production that could come from US shale under various price scenarios. Our reference case assumes a WTI average of ~$60/b for 2022-2025 and continued capital discipline. Ignoring capital discipline, the growth in 2022 is limited by how fast operators can increase rigs considering that it is difficult to find qualified personnel and that many rigs that became idle when Covid-19 hit the oil patch in early 2020 are not available or require significant repairs to become available. We assume that as oil prices increase beyond $60/b capital discipline will begin to falter. For illustration purposes, our reference case assumes a 0.7 million b/d Y/Y growth in 2022 which requires an additional 101 rigs. At $100/b, under no capital discipline, we could experience an additional 1.2 million b/d of production growth, requiring an additional 270 rigs year-on-year. However, it is unlikely that operators throw discipline to the wind entirely. As such, it is more likely that we would see around 0.8 million b/d which would require an incremental 215 rigs on top of our reference case.