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Struggles to cut cost delay oil play production in Argentina: At the Wellhead

Summary:
There are always myriad reasons why vast oil resources worldwide may not be produced, and in this week’s Oilgram News column, At the Wellhead, Charles Newbery digs into challenges facing the biggest shale play in Argentina, which could rival the prolific production of US plays if properly tapped.   Argentina has drawn wide interest for its vast shale oil and natural gas production potential, but when it comes to committing investment to extract the resources, the hesitation is just as significant. The potential is huge. The US Energy Information Administration estimates that the biggest play, Vaca Muerta, holds 16.2 billion barrels of oil resources and 308 Tcf of gas resources. That’s enough for the country to emulate the US shale boom. ExxonMobil, Shell, Total, Wintershall and others have taken stakes in Vaca Muerta, but only Chevron has advanced into production in a partnership with state-run YPF. They are producing about 43,000 b/d of oil equivalent, the first shale oil extracted outside North America. The others are moving toward pilots, a slow progression that is a sign of how hard it is to do business in Argentina and achieve what is most important for developing the play: getting drilling and completion costs down to profitable levels. YPF is making a go of it.

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There are always myriad reasons why vast oil resources worldwide may not be produced, and in this week’s Oilgram News column, At the Wellhead, Charles Newbery digs into challenges facing the biggest shale play in Argentina, which could rival the prolific production of US plays if properly tapped.


 

Argentina has drawn wide interest for its vast shale oil and natural gas production potential, but when it comes to committing investment to extract the resources, the hesitation is just as significant.

The potential is huge. The US Energy Information Administration estimates that the biggest play, Vaca Muerta, holds 16.2 billion barrels of oil resources and 308 Tcf of gas resources. That’s enough for the country to emulate the US shale boom.

ExxonMobil, Shell, Total, Wintershall and others have taken stakes in Vaca Muerta, but only Chevron has advanced into production in a partnership with state-run YPF. They are producing about 43,000 b/d of oil equivalent, the first shale oil extracted outside North America.

The others are moving toward pilots, a slow progression that is a sign of how hard it is to do business in Argentina and achieve what is most important for developing the play: getting drilling and completion costs down to profitable levels.

YPF is making a go of it. With Chevron, it has drilled 360 oil wells in Vaca Muerta and brought down drilling costs to $7 million per well for verticals this year from $11 million in 2011.

But that’s still shy of the $4-5 million target, or the cost of horizontal wells in the prolific Bakken and Eagle Ford Shales.

Without reaching these levels, “the wells won’t be profitable,” said Alex Fleming, a senior manager in oil and gas at EY Advisory, a US-based business advisory.

It’s a sort of chicken and egg dilemma. Without profits, the estimated $20 billion a year needed to develop the play won’t come. And without this investment in drilling tens of thousands of wells, the economies of scale won’t be reached on the fields to cut costs.

A reason not to rush into production — only 400 wells have been drilled — is that wells must be tested for up to two years to gauge the potential of the shale rock before a company will commit billions of dollars. This is especially the case now that low global oil prices have slimmed investment budgets for frontier plays.

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YPF is only starting to make more strategic decisions, including moving rigs to the east of the Loma Campana block where it has found sweet spots for horizontal drilling. While more expensive at $14 million per wells with 18 frac stages, horizontals can yield twice the productivity as verticals, YPF chief financial officer Daniel Gonzalez said last week.

YPF has cut the cost for horizontals from $15 million in the first quarter, when it was at 15 frac stages. The next step is to extend the laterals to as much as 2,000 meters (6,562 feet) from 1,500 meters, allowing for additional frac stages, Gonzalez said.

Some thought that the plunge in global oil prices would help cut costs quicker, as in the US, where a decline in drilling activity has created a glut of idle rigs and equipment.

In Argentina, however, YPF has been struggling to get below that $7 million per well mark.

More could be done to cut costs, such as drilling slim-hole wells, sourcing proppants locally and convincing unions to work in smaller crews. But this likely won’t be enough because a far greater inhibitor to cost reduction is the country’s economic and political instability.

Argentina has been a volatile market since World War I, and the government’s response generally has been to plug the holes, not deal with the source of the problems.

Take the past decade. The economy recovered robustly from a 2001-2002 collapse, but when it slowed in 2011 the government didn’t trim spending. Nor has it fully settled a $100 billion default from 2001, keeping it locked out of international financial markets and driving it to a second default. The result is that it is hard to raise money for drilling in Argentina — and expensive. Borrowing costs run about twice that of neighboring Brazil.

Add to the equation 30% inflation and capital controls that prevent companies from freely sending profits out of the country, and it is no wonder that the pace of investment is sluggish.

The government has, however, started to slowly improve policies to spur investment in Vaca Muerta. It has raised gas prices up to $7.50/MMBtu, fixed light crude at $77/b, introduced tax breaks on importing rigs, and extended shale field licenses to 35 years.

These policies help, but investment won’t flow faster and in greater amounts until the country regains access to international financial markets, a task that will be left to the next president to be decided at an October 25 election.

Without access to funds at lower rates, “it is going to be very difficult to develop Vaca Muerta,” said Juan Cruz Diaz, managing director of Cefeidas Group, an international advisory firm in Buenos Aires. — Charles Newbery in Buenos Aires

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