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Profitable Trend: Horizontal Drilling Picks up Steam in Permian Basin

By Peter Staas on Jun. 4, 2014
permian vt vs hz small

The Bakken Shale, the Eagle Ford Shale and the Marcellus Shale may get all the press, as output from these plays continues to grow.

But the Permian Basin–an area in west Texas that’s been in production for more than a century–appears poised for a breakout this year.

This prolific region already tops the charts in terms of monthly crude-oil production from liquids-rich, unconventional basins.

But as operators become more comfortable with the area’s complex geology and hone their drilling and completion techniques, activity will shift from a development to a highly efficient, manufacturing-based approach. 

We’ve already seen the rig count in this part of west Texas and southeastern New Mexico tick up in 2014.

In April 2014, the number of drilling rigs operating in the Permian Basin hit an all-time high of 532 units, an increase of 13.8 percent from year-ago levels.

More important, producers in the region continue to transition from rigs that sink tradition vertical wells to units that drill laterally off the vertical shaft.

This technique exposes more of the field’s productive horizon to the well and, when combined with hydraulic fracturing, substantially boosts initial and ultimate recovery rates.

Whereas the number of vertical drilling rigs operating in the Permian Basin has declined steadily since June 2012, the horizontal rig count has climbed over the same period and first overtook the number of traditional units in the week ended Dec. 27, 2013.

The growing number of rigs drilling horizontal wells has improved the average volume of oil produced per unit in the Permian Basin. That being said, this measure of rig efficiency lags behind the other major oil-rich unconventional basins.

We expect production per rig in the Permian Basin to trend higher in coming quarters as producers transition to pad drilling and sink more wells per drilling team.

However, the solid economics of vertical wells in the Permian Basin likely will prevent these efficiency metrics from matching other shale basins; traditional wells will always be a big part of the equation in the Permian Basin.

What This Means for Investors

Projected capital expenditures from Occidental Petroleum Corp (NYSE: OXY), Pioneer Natural Resources (NYSE: PXD), Concho Resources (NYSE: CXO) and other major acreage holders in the Permian Basin should continue to drive the rig count and production higher.

Investors looking to profit from this upsurge in drilling activity should focus on the major oil-field services companies, which stand to benefit from a tightening supply-demand balance in pressure-pumping market and the service intensity associated with a growing horizontal well count.

The inroads made by horizontal drilling in the Permian Basin and trend toward longer laterals and tighter spacing between fracturing stages also add up to rising consumption of the silica sand produced by US Silica (NYSE: SLCA) and Hi-Crush Partners LP (NYSE: HCLP).

Both companies have highlighted surging demand in the Permian Basin and announced agreements to expand their distribution networks into this area. As their business footprints grow, US Silica and Hi-Crush Partners continue to squeeze smaller operators out of the picture, increasing their revenue and the potential for mergers and acquisitions. 

Master limited partnerships (MLP) that own gathering and processing assets in the most prolific parts of Midland and Delaware Basins also stand to benefit from rising throughput on their systems and growing demand for capacity.

Learn more about Roger Conrad and Elliott Gue’s favorite plays in the Permian Basin. Subscribe to Energy & Income Advisor today. 

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