Blood from a Stone and Oil from Shale

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When we last wrote about shale oil – kerogen which is extracted from rock and then refined into fuel oil and gasoline – it was June of 2007. Oil was at $70/barrel, and that seemed outrageously high. Foreign unrest made the idea of future domestic supplies even more intriguing than usual, especially a domestic supply that could be as large as 800 billion barrels – three times what is commonly thought to be underneath Saudi Arabia.

Now that we’ve seen what truly high oil prices are like, shale oil seems yet-again even more intriguing. At $140/barrel, it was a bargain. But with current oil prices around $54/barrel, is it still a viable option?

There is some thought in the industry that new-tech oil projects such as shale oil won’t be in danger of cancellation unless oil reaches $30 or $40 a barrel. And in the case of shale oil, the main barriers have been practical ones — who digs what, where and for how much — not technological.

The News

Don’t hold your breath, there is still a long road ahead. But the Department of the Interior just made life a lot easier for shale oil players. In their own words:

The Department of the Interior's Bureau of Land Management today published final regulations to establish a commercial oil shale program that could result in the addition of up to 800 billion barrels of recoverable oil from lands in the Western United States.

The regulations will provide a basis for decisions, as “rules of the road” for the large investment that will be necessary for industry to develop technologies to extract the resource in an environmentally sound manner. Those investments could exceed $1 billion.

This latest announcement comes after a two year ban on shale oil development was allowed to expire, and a move in September by the Bush administration to open up 1.9 million acres of public land in Wyoming, Utah and Colorado to potential shale oil development.

These “rules of the road” include things like the size of oil shale leases that will be offered, timetables for the development of the leases and the royalties the companies will be paying. The royalty fees are 5% for the first five years, which will then rise 1% each year until they reach 12.5%. Almost half of the money received will go back to the states where the leases are made. This compares favorably (for the oil companies) to conventional oil royalties, which range from 12.5% to 18.8%.

If you’re interested in reading all three hundred and something pages of the Oil Shale Regulation the government released, go wild.

Shale Oil Costs

Just because there’s now a framework for actually getting the shale, getting oil from it still isn’t exactly easy. It is more difficult than the famously difficult task of extracting oil from oil sands, because the oil in shale is truly part of the rock, not just floating around as a mix of oil, sand and water.

The two main types of extraction are surface and in-situ. Surface extraction involves mining the rock itself and then heating it to high temperatures — called retorting. In-situ extraction involves heating the rock in place and then pumping up the released oil through oil wells. Both of these methods are expensive and the subject of much R&D to make them commercially viable on a large scale. Some of the figures thrown around put costs at $37.75 to $65.21 a barrel for shale oil production. To put that in perspective, the Interior Department puts the actual production cost of conventional onshore crude at of $19.50/barrel.

Those are broad numbers. A report by the RAND corporation published in 2005 suggested that surface retorting would be economically profitable with oil at $70 to $95 per barrel (in 2005 dollars). If the in-situ retorting process becomes commercially available (there are still some R&D hurdles on that one), Royal Dutch Shell said it would be competitive with oil all the way down into the mid-$20s. While we are nowhere near those kind of oil prices and this is all theoretical, it would set Shell up for a pretty profit if they can get their project up and running on a large scale and oil prices begin to climb again.

On the other hand, if Shell can’t make in-situ retorting work cheaply in a commercially viable, large-scale way, will shale oil be worth the expense of getting it?

It depends on the price of oil, doesn’t it?

Partially. An interesting point was raised in Oil Shale: Potential, EROI and Social and Environmental Impacts, a paper published this spring on The Oil Drum.

The problem here as with many other alternatives to what we do today, is that as the price of oil (or fossil fuels) more generally increases so does the price of everything made directly or indirectly with oil, which is essentially everything from steel to chemicals to water to labor.

In other words, any discussion of the price at which shale oil becomes economically viable doesn’t take into account the fact that as the price of oil rises, so does the price of practically everything else. So as the price of oil increases, so will the costs associated with getting things like shale oil out of the ground. Vicious cycle.

The other big caveat is that in-situ shale oil production requires other inputs, notably lots of energy and lots of water to force the oil out of the rock. This puts an erstwhile shale-oil-wildcatter in competition for water rights, a topic of tremendous tension in the Western U.S. As an area that is commonly experiencing drought conditions, you can’t really blame them. The water requirements may be as low as three barrels of water for each barrel of oil, which compared to ethanol’s huge water requirements (dozens or even hundreds of barrels) seems pretty cheap, environmentally.

But the key news here is that the government, while not opening the door wide and solving all the problems, has at least made a key that could unlock the door. The actual leasing of these lands is still 5 to 10 years away according to officials, but investors would do well to pay attention.

Shale oil requires no magic technological advance to become viable. Instead it requires very real and practical advancement in the processes. It requires capital, government support, and an act of societal will to move these projects forward. With a new administration in place, it will be this act of will that will be the most interesting and critical factor in shale oil development.

Related Links:

Reuters article Nov. 17th: “Recently an aide to Obama said he would likely reverse an executive order by President George W. Bush that allowed drilling in fragile lands in Utah.”

US News & World Report, Nov. 3, 2008: Oil Shale Pushed as Domestic Oil Source, but Many Doubts Remain

US Shale Oil Corp
DOE Shale Oil
USGS Shale Oil