US shale oil braces for the unfamiliar in 2017

NEW YORK: U.S. shale producers are facing their first production cost increase in five years in 2017 as industry activity picks up and energy service providers hike fees to take a bigger share of the profits generated by higher oil prices.

Drilling innovations over the past decade have generated a dizzying reduction in the cost of pumping oil from shale formations across the United States - the world's largest energy consumer - triggering an energy revolution and a production boom.

When that boom ended with the onset of a two-year global price war in 2014, shale producers responded with even deeper cost cuts. Technological breakthroughs allowed producers to wring more oil from the rock and halved the per-barrel price needed to turn a profit.

But for the first time since 2012, shale producers will see a rise in break-even production costs this year, according to data from Rystad Energy, which surveys producers. The per-barrel costs will rise an average of $1.60 across the shale patch to $36.50.

The drive to lower costs has run its course for now, and service firms are leveraging power in the more crowded oilfields, such as the Permian basin in West Texas, to eke out higher payments from producers.Firms that supply rigs, crews, technological expertise are clamoring to take back discounts they extended during the slump, in some cases asking for between 10 percent and 15 percent more as the number of rigs and crews deployed in the fields rises. Producers expect that to continue.

"In the Permian, activity has picked up, and going forward we would expect to see some pressure," Chevron Corp's Chief Executive John Watson said on an earnings call last month.

Oil service providers acknowledge, however, that their price hikes may not stick until drillers generate enough demand to burn through the remaining spare capacity in the oil service sector.

In a securities filing on Feb. 8, service provider Baker Hughes Inc cautioned that drilling "activity needs to increase meaningfully before excess service capacity can be substantially absorbed and meaningful pricing recovery takes place."

Service inflation represents only a fraction of the expected rise in international crude prices this year. A Reuters poll of 31 analysts and economists forecast benchmark U.S. oil prices will average $56.08 per barrel in 2017, up from $43.47 last year.Between half and two-thirds of the cost savings achieved during the oil price slump are likely to become permanent even if oil prices tick higher, according to industry experts and company estimates.

Shale companies deployed more rigs than they have done in sixteen months last week, and have steadily increased the number in the field to take advantage of crude prices that have mostly held at more than $50 per barrel since the world's top oil exporters, both OPEC and non-OPEC, agreed to cut supplies in late November.

A further rise in the oil price could quickly stir drilling activity across the United States, which would in turn accelerate service fee and labor cost inflation. That is a worrying development for an industry that has lately gotten used to costs heading only down.  There were 207 hydraulic fracturing fleets at work in January across the U.S., up 20 percent from last June, according to data from Houston-based Primary Vision, which tracks oilfield service equipment usage.