With the steady recovery in US horizontal rigs roughly one year in, BTU Analytics expects the growth in oil and gas production to begin to accelerate. In the most recent edition of the Upstream Outlook, BTU Analytics took a deep dive into the existing and developing midstream constraints that could potentially limit upside to production in the major shale basins. One of the more glaring constraints was gas pipeline capacity in the Permian. While the Permian has been leading the recovery in drilling activity, limited gas pipeline takeaway could soon be a constraining factor to Permian oil and gas production. This is especially important given that many publicly traded and private equity backed producers have voiced their commitment to emissions reduction through an end to routine flaring. Together, this sets the stage for a squeeze on natural gas pipeline capacity and an unwillingness for many E&Ps to flare their excess gas, leaving few options for the basin to grow oil production.
As the chart below shows, the Permian has steadily increased drilling activity since August 2020. Initially, the pace of drilling activity in the Permian grew by three rigs per week through 1Q 2021. While this is certainly slower than the rig additions seen in 2016 and 2017, it significantly outpaced all other regions during this recovery. Since then, the pace of rig additions has slowed to about 1.1 rigs per week.
Should rigs continue to increase, BTU Analytics dug into how fast new rigs could eventually fill the existing gas pipeline takeaway. The chart below breaks out production scenarios assuming between one and five rigs are added to the Permian each month through the end of 2023 and remaining flat thereafter. For example, Permian operators have added roughly four rigs each month since April. Should that pace be carried through 2023, Permian gas pipelines would be 100% full by December 2023. However, if the pace of rig additions slows to 1 rig per month, existing Permian gas takeaway would be sufficient to move dry gas volumes until mid-2026. However, one important omission in this analysis includes the use of drilled but uncompleted wells (DUCs).
In the early days of the pandemic, producers significantly increased their balance of DUCs, given that rig contracts are typically slower to expire than frac crew contracts. BTU Analytics regularly analyzes the balance of excess DUCs, or the amount of DUCs present in each basin that is over and above a normal working inventory. Given that Permian drilling activity today usually won’t impact production for six to eight months, any DUCs that exist beyond the six to eight-month pace of drilling can be considered excess. As producers continue to focus on being capital efficient and returning capital to shareholders, DUCs are expected to be an important piece of production growth in the near-term. As the chart below shows, BTU Analytics expects excess DUCs to steadily shrink through 2021 and these wells are completed and drained thereafter in 2021, even as drilling activity continues its rebound. For this reason, considering only drilling activity likely doesn’t paint the entire picture when analyzing production growth in the Permian. In fact, BTU Analytics models that existing gas pipelines will fill faster than the four rigs per month scenario discussed above, but with fewer rigs being added each month.
BTU Analytics forecasts that Permian rig activity will continue to rebound, but producers may be caught off guard when gas pipeline takeaway is once again full in 2023. Currently there are no new gas pipeline projects announced and the renewed capital efficiency by E&Ps could make pipeline commitments difficult to secure. This challenges the likelihood that Permian producers will see a new pipeline enter service before the existing capacity is fully utilized. From there, producers will have two main options: cut down on drilling and completion activity or return to flaring. To see when BTU Analytics expects Permian gas pipelines to fill, and when it expects to see a new pipeline enter service, request a sample of the Upstream Outlook today.