SPECIAL REPORT: High costs for rigs, services pinch independents

Feb. 4, 2008
High costs for drilling rigs and services are expected to continue in 2008 in an already tight market for equipment and personnel, say industry analysts and independent oil and gas producers.

High costs for drilling rigs and services are expected to continue in 2008 in an already tight market for equipment and personnel, say industry analysts and independent oil and gas producers.

“Drilling costs escalated early in 2007, then reduced in the second quarter as more land rigs joined the fleet,” said Bill Stevens, executive vice-president of the Texas Alliance of Energy Producers in its Austin and Abilene offices.

TAEP is the largest state oil and gas trade association in the nation, with more than 3,000 members. Although no official survey has been made, Stevens said, “The anecdotal evidence is that the acceleration of drilling costs has eased some, if not idled back.”

In the alliance’s Houston office, Pat French, senior vice-president, said, “After strong cost increases in 2005-06, independents generally expected more muted drilling costs in 2007. Many think drilling costs may have plateaued late in 2007, even at a relatively high rate.” French told OGJ, “People still are very concerned about prices for equipment and services, but a number of factors are involved. Finding personnel continues to be a real problem for drilling contractors.”

On the other hand, French sees “a growing rig supply as a result of more rigs coming down from Canada,” which is experiencing a drilling slump.

French also cited “major concerns about the economic outlook” among independents. “There is a lot of uncertainty about the future direction of the economy, and that is having an impact.’’ he said. “It’s a very sensitive market at this point. Weather will be a wild card in 2008.”

Many independent producers were affected when natural gas prices slipped below $6/MMbtu a few months ago, causing some producers to curtail gas exploration and production. “People are cutting back on gas. Production costs have rescinded, but the price of gas has not sustained like the price of oil,” said Stevens.

French said, “Gas production in the US and Canada, LNG imports, and high gas storage levels all impact independents. They are going to be more conservative. However, a slowdown in gas production could very well lead to an upturn in the second half.”

The connection between the oil and gas markets has changed to a 10-12:1 economic value of oil to gas vs. the traditional energy content ratio of 6:1. “Of course,” Stevens said, “independents get much lower prices at wellhead than on the spot and futures markets.” In addition to the cost of rigs and services, independents’ income is pinched by increased costs of leases and pipeline transportation.

With crude futures market prices now above $90/bbl on the New York market, French said, “I would not be surprised to see more independents drilling for oil than we have seen for some time.” He said, “The key indicator is the rig count. The dominant feeling is that the count will stay strong, and there is a significant amount of optimism for improvement in the second half of the year.”

Yet despite high oil prices, Stevens said, “Only 10-15% of rigs are drilling for crude.” There are “not a lot of workovers” to improve production of existing wells. And despite a bigger rig fleet, he said, “People are still waiting for rigs and other services in other areas as more men and equipment have flowed to the Barnett shale. Permian basin consolidations have left people standing in line for equipment and services.”

Political problems blamed

At the Texas Alliance’s exposition and annual meeting in April 2007, Roy T. Pitcock, president of Pitcock Inc. in Graham, Tex., summed up the major problem for independents in just one word: “Politicians.”

“They’re not looking after us as they should,” Pitcock said. “They’re looking after themselves. I don’t have a problem with people looking after themselves, but they’re not paid to do that. They should be looking after the problems for their districts in the right way, where the funds come for the school systems in their areas. All we’re asking is to get government off our backs; 98% of the independents are doing their best to give people jobs.”

Pitcock told OGJ, “Costs are higher than a year ago. Expenses and labor have gone up. It does slow us down, but the price of oil is a lot higher too.”

When it comes to looking at prospects and deciding how many wells to drill, he said, “You still look at the economics. Of course, we used to have our own drilling fleet in the 1960s-1970s, but we sold them all. It would be nice to have them back—everybody wants a rig.” Still he said, “We have our own service rigs to look after our own production, and we do a little outside service work.”

Another major problem for independents, said Pitcock, “is to treat and reuse the large amounts of water that go into frac jobs” in the Barnett shale and other tight formations. He said, “Right now they say you can’t reuse that water. To me that is foolishness. A farmer or a rancher is tickled to death to sell water to us. I was buying water for $300-400 for a well, now we’re talking about $2,500-4,000 for drilling water to drill a well.”