U.S. shale production is rising sharply, keeping a lid on prices at a time OPEC restricting output to decrease inventory levels and support prices. Even as OPEC looks to drain the surplus, it will have to contend with another problem: The decline rate at some existing oil fields has narrowed sharply over the past several years, adding another bearish element to the market.
The decline rate at some existing oil fields has narrowed sharply over the past several years, adding another bearish element to the market.
As oil companies continue to look for ways to cut costs and repair their balance sheets, one priority has been squeezing more oil out of existing fields rather than bringing costly new projects online. The effort is seeing rewards with legacy oil fields declining at a slower rate than at any point in the past decade.
Decline rates fall
The narrowing of decline rates has surprised oil market participants and runs counter to conventional wisdom, which assumed lower spending levels resulting from the price downturn would lead to increasing supply losses at mature fields. For example, when oil prices fell sharply in 2014, China suffered substantial production losses as state-owned oil giants reduced spending on older oil fields. PetroChina’s president said at the time that the fields had “no hope” of turning a profit, and the spending cuts translated into steep output declines at the existing oil fields. Analysts expected a similar trend to play out at aging fields across the globe. “Following sharp cutbacks in overall upstream oil investments, it was assumed that lower spending on already producing assets, and in particular those that had already peaked, would lead to an acceleration in decline rates for mature fields,” the International Energy Agency (IEA) wrote in its Oil 2018 report.
Analysts had assumed lower spending levels resulting from the price downturn would lead to increasing supply losses at mature fields.
However, sharp declines have not been universal. Because of lower spending levels, oil companies have injected more resources into existing oil fields, rather than greenfield projects, particularly ones with long lead times. Recent data suggests that this strategy has paid off. The IEA estimates that the decline rate at existing mature oil fields dropped to just 5.7 percent in 2017, down from about 10 percent in 2011 and 7.5 percent as recently as 2016. For the period of 2010-2014, the decline rate at mature oil fields averaged 7 percent. A 2017 report from Wood Mackenzie also concluded that the decline rate at mature oil fields showed improvement as firms focused on efficiency at existing operations.
“Small cash injections are in many cases yielding swift returns,” according to the IEA. The agency singled out the North Sea and Russia as two key areas that saw a deceleration of decline rates last year. In the North Sea, the majority of output comes from existing oil fields that are in post-peak production, but “a number of redevelopment projects and efforts to reduce downtime and maximize output have paid off,” the IEA said. In Norway, for instance, the weighted average decline rate dropped to just 9.3 percent, about half of the 18 percent the region saw in the early 2000s. A similar development occurred in the UK, even as drilling rates slowed.
“Small cash injections are in many cases yielding swift returns.”
Meanwhile, in Russia, the weighted average decline rate shrank to 5.6 percent in 2017, down from 7.9 percent from 2010-14. The IEA attributed the achievement, in part, to more horizontal drilling. “Companies are focusing on the basics,” Wael Sawan, executive vice-president for deepwater at Royal Dutch Shell, told Bloomberg. “So there was a massive re-focus on existing wells. It’s the cheapest and most profitable barrel that companies can access.”
The problem with trying to slow decline rates at existing oil fields is that it becomes more difficult with each passing year. Moreover, the task is enormous: Oil fields that are past their peak and are in decline accounted for 51 million barrels per day (Mbd) of oil production in 2017, or more than half of global supply. In 2017, conventional oil fields shed about 3 Mbd of output as a result of declines.
The problem with trying to slow decline rates at existing oil fields is that it becomes more difficult with each passing year.
While there has been a general deceleration in the global decline rate, some markets have not seen an improvement. Brazil actually saw an acceleration in its decline rate last year to 12 percent, up more than a percentage point from a few years earlier. The IEA noted that even as Brazil added new supply in 2017, roughly two-thirds of the increase, or 200,000 barrels per day (b/d), merely offset declines from existing fields.
Moreover, the oil mix is becoming increasingly made up of shale, which now accounts for approximately seven percent of total global supply, up several percentage points from just a few years ago. As a result, a greater portion of world’s oil supply is coming from sources that decline at a much faster rate than conventional oil fields.
In fact, the IEA offered some caveats that undercut the significance of slower decline rates. If the Middle East is excluded, a region with some of the lowest decline rates in the world, and Nigeria and Libya are also taken out of the equation because of their volatile output levels, mature oil fields declined at a 7.6 percent rate in 2017. That rate was still an improvement versus the 8.9 percent from 2010-2014, but not as impressive as the 5.7 percent figure offers at first glance.
Can the progress last?
Nevertheless, the overall shrinking of the decline rate is a notable development. During the market downturn following the 2008-9 financial crisis, decline rates increased to above 10 percent as the oil industry significantly reduced spending and exploration. The lower oil price environment that began in 2014 has lasted longer, yet the decline rates at existing oil fields have actually narrowed.
Moving forward, the question is whether the industry can hold onto the recent gains made, or if the trend is simply a temporary reprieve from sharper declines from mature oil fields.
Even a small improvement in the decline rate can yield significant results. The difference between a 5.7-percent (2017) and a 7.5 percent (2016) decline rate led to the industry managing to keep an extra 900,000 b/d online. A lower decline rate is all the more significant because oil demand continues to increase, meaning an even small change on the supply side can keep prices from rising to higher levels. Moving forward, the question is whether the industry can hold onto the recent gains made, or if the trend is simply a temporary reprieve from sharper declines from mature oil fields.