Offshore industry faces a raft of issues
Deep-water drilling’s best days are behind it.
For all the stiff upper lips at the Offshore Technology Conference, most people described a shrinking industry trying to accommodate a new low-price environment that shows few signs of easing. But no matter how efficient and nimble offshore drillers become, the unsentimental laws of economics mean only a few fields can compete with onshore oil and the eventual electrification of transportation.
Deep water’s business premise has always depended on insufficient onshore resources. And in water depths greater than 1,000 feet, oil companies found the huge reservoirs they needed to build up their reserves. Oil field services companies developed remarkable technology that allows an oil platform to float above a dozen separate wells that are maintained by underwater robots and tied back to the surface with thousands of feet of heated pipe.
The engineering that allows 3,400 deep-water wells to pump tens of thousands of barrels of oil a day to the ocean’s surface is truly awesome, but also awesomely expensive compared to land-based wells.
A horizontal well drilling into shale rock takes six months to plan and four months to complete in the Permian Basin. An efficient crew can do the job for $7 million, and a good well can pay for itself in less than two years.
A typical offshore well takes at least five years to plan and three years to complete. The cost can range from $5 billion to $11 billion and take 20 years to pay back investors. That’s assuming an average oil price of $62 a barrel over the lifespan of the well, according to Dan Pickering, an investment banker at Houston’s
“Perhaps we should look at our competitors not as other oil companies, but as other energy sources.” Susan Cunningham, former Noble Energ y executive
Tudor, Pickering and Holt. Most of last week the price was below $50.
Not to mention 69 percent of offshore exploratory wells are dry holes, 16 percent are marginal and only 15 percent are gushers, Pickering added.
That’s why Roger Jenkins, who operates both onshore and offshore wells as CEO of Murphy Oil Corp., said investors demand an internal rate of return of 25 percent or better for offshore wells, while the same investors only look for a 14 percent return from onshore wells.
Jenkins argued that he can deliver that higher rate of return, and he joined other offshore executives in calling for greater collaboration, standardization and digital technology to lower costs. But even the biggest industry cheerleaders had to acknowledge that only the cheapest wells with the largest volumes make sense when no one is expecting prices to top $60 a barrel for the foreseeable future.
“We have to work on lower-risk opportunities until oil prices advance further,” Jenkins said. “A lower break-even price and a quicker payout, and this internal rate of return difference is something that is very, very important.”
Most deep-water operators are not drilling new offshore fields, but they are trying to boost the productivity and profitability of existing operations. BP is working to bring down break-even costs from $60 a barrel to $35 a barrel at its Mad Dog 2 field. BP also used new seismic imaging techniques to discover an additional 200 million barrels of oil in its Atlantis field.
Every oil field worker knows what it means to lower costs. Machines replace people, the remaining people do more with less, and there is less work overall. Lowering costs means spending less with oil field services companies, fewer helicopter flights from the shore and fewer meals bought at the local cafe.
And while offshore operators are lowering costs and finding more economical oil fields, onshore drillers are doing the same. Not to mention, OPEC has 1 million barrels a day of spare capacity that it can turn on the minute the price inches up. Russia has another 500,000 barrels a day ready to go, all of it cheaper than the average deep-water well.
There is enormous downward pressure on prices, but even if they do inch up, the offshore industry’s revival will be short-lived.
When prices first fell in 2014, I wrote that the Saudi Arabian oil minister was not just worried about North American shale oil stealing market share. The Saudis and OPEC also recognized that $4-a-gallon gasoline was accelerating adoption of hybrid and electric cars, which are killing demand growth.
North American and European demand for liquid transportation fuel is expected to peak in 2030, according to most oil company forecasts, which tend to be overly optimistic. With electric vehicle prices dropping and batteries lasting longer, expensive oil could speed up their adoption.
“Perhaps we should look at our competitors not as other oil companies, but as other energy sources,” said Susan Cunningham, a former executive vice president for exploration at Noble Energy. “There is a significant shift in energy sources, when compared to consumption, coming in the world.”
Deep-water wells will be here for decades to come, and a few exceptional opportunities will get drilled. But the industry will also continue to shrink because the competition has never been so intense, or so transformational.