What Everyone Ought to Know About the Bakken

The Bakken has become the biggest development in the U.S. energy industry since Prudhoe Bay, Alaska. And while it has created enormous wealth for investors, you might not know exactly what's going on. Here's what everyone ought to know about the Bakken.

Production has increased 10x over the past five years
In the years leading up to 2008, production in the Bakken averaged less than 80,000 bpd. But adoption of technologies like hydraulic fracturing and horizontal drilling have unlocked the play's bounty. In September, output from the formation hit a record 867,000 bpd, over a 10-fold increase within five years.

But this growth story is far from over. According to estimates from Goldman Sachs, total Bakken output could exceed 1.4 million bpd by 2019. 

Thicker margins are on the way
Not only is production growing, but more of those revenue figures are trickling down to the bottom line. Across the Bakken, operators are reporting declines in well completion costs due to a shift toward pad drilling, the falling price of hydraulic fracturing services, and other operational efficiencies. 

Oasis Petroleum  has been one of the top cost-cutters in the region, reducing its average well completion costs 25% over the past year to $8 million last quarter. When you multiply those cost savings over the 28 net wells the company drilled last quarter, Oasis will shave $70 million off the cost of its drilling program. 

70% of Bakken crude is shipped by rail
In January 2012, pipelines shipped three quarters of all crude oil output out of the Bakken with rail and trucks accounting for the rest. But new pipeline capacity has struggled to keep up with surging production. Today, those figures have almost completely reversed with rail moving 70% of Bakken production. 

Crude-by-rail has become an increasingly important marketing option for Bakken operators. EOG Resources , for example, now ships nearly all of its Bakken production via rail. The move has allowed the company to exploit differentials across the continent and secure the highest price possible for its output. 

But pipeline capacity should catch up. Enbridge , one of the largest shippers in the region, has almost doubled Bakken takeaway capacity to 475,000 bpd over the past two years. The company recently announced that it would add another 225,000 bpd to that figure by 2016.

Warning: Regulations could slow growth
In late September, an oil pipeline in northwestern North Dakota spewed an estimated 20,600 barrels of crude oil into a farmer's field. More troubling was the fact that it took regulators 12 days to alert the public.

This raises two issues for investors. First, will there be a public backlash against Bakken development after images of oil-soaked wheat fields are published? Second, does North Dakota have the regulations and infrastructure in place to accommodate this boom?

Indeed, new regulations against hydraulic fracturing are already in the works. The Obama Administration, in partnership with the Bureau of Land Management, is proposing new legislation to set standards for well integrity and managing polluted water. And while the law will only apply to Federal lands, the bill could serve as a model for state regulators on private lands. 

The Bakken is just the beginning
As big as the Bakken is, the real prize may lie deeper underground. According to the United States Geological Survey, the Three Forks formation could contain 3.7 billion barrels of undiscovered, technically recoverable oil. That figure is slightly larger than the Bakken and could be revised higher as technology improves. 

Industry players have provided even more optimistic assessments. Rick Bott, President and Chief Operating Officer of Continental Resources , told analysts in September, "What [the Bakken] looks like in terms of recovery factor and recoverable reserves was about 24 billion barrels of oil. But if you add the deeper benches and depending on what recovery factor you use, those deeper benches could move the amount of oil in play to 32 billion to 45 billion barrels of oil. So that's an exciting number to be going after." 

Foolish bottom line
Will the Bakken producers be able to meet these challenges? A year ago, pipeline constraints meant it wasn't clear if surging output could be shipped to market. Five years ago, it wasn't apparent if the Bakken would be viable at all. North Dakota operators are no strangers to adversity.