Morgan Stanley predicts frac sand shortage as companies increase their sand use

Sand heaps
Source: DollarPhotoClub

With the rampant shale gas production putting the U.S. on the top spot in both oil and natural gas production, Morgan Stanley warns that America may soon run out of sand – Business Insider reports.

Hydraulic fracturing, or fracking, is a procedure that allows to unlock hydrocarbons (oil and gas) from shale formations, by using high-pressurized water and sand injections. Pumped into the shale formation, the water creates small fissures that release the trapped gas, while sand acts as a ‘proppant’ that keeps the fissures open.

In a new note, Morgan Stanley’s Ole Slorer, Benjamin Swomley, and Connor Lynagh write that exploration and production (E&P) companies have discovered that using more sand in fracking increases the productivity of the wells. Morgan Stanley forecasts sand demand growth of 96% in 2016 from 2013, compared with just 76% of sand capacity growth.

FracSand Demand Chart
Source: Morgan Stanley

“As E&P operators seek to optimize well results, they are using significantly more frac sand per well and experimenting with different types of proppants,” they write. “In particular, the trend toward higher frac sand volume completions has accelerated frac sand demand YTD, and we believe the industry now sits on the verge of a prolonged frac sand supply shortage.”

As the relation between the amount of sand used and the well’s productivity becomes widely known, more and more companies will start to increase its sand usage.

“We believe the industry is beginning to form a consensus regarding the superior economics of high sand usage, and believe we will see continued movement towards these operators’ consumptions levels,” MS says. “For example, SM Energy recently highlighted its improved completion techniques in its 2Q earnings call. These new techniques, which, among other modifications, included longer [well holes] (+3%) and higher sand usage per well (+86%). SM reported that average well [rate of return] increase 40% as a result.”

As a result of increased demand, as well as bottlenecks caused by inadequate transport links, the authors believe that sand prices could increase as much as 50%. They also predict well costs to increase by 20% on average, with estimated ultimate recovery (EUR) increasing by 40-60%, and the profitability per ton of sand also set to increase.

Consequently, Morgan Stanley have raised their price target for U.S. Silica Holdings to $80 from $59, with a 17.2x price-to-earnings ratio.

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