“Something has to give” in this languishing oil market, and one industry observer and his firm “are quite convinced that oil prices have to give quite a lot.”
Pressure is mounting amid plunging capital expenditures, nearly nonexistent cash flow, and global oil production that hasn’t fallen enough to create a significant dent on the supply side, explained Lars Eirik Nicolaisen, partner at oil and gas consulting firm Rystad Energy, during a May 4 panel discussion at the Offshore Technology Conference in Houston.
Nicolaisen drew a familiar comparison between the current market downturn and that of 1985-86, when crude oil prices plunged and the Organization of Petroleum Exporting Countries chose to add production over the next few years instead of curtailing it. Prices then remained depressed for the ensuing decade.
But the primary difference between now and the mid-1980s, he said, is that OPEC’s market share has decreased. The cartel had spare capacity of 14 million b/d in 1986 on top of global annual consumption of 60 million b/d, while its spare capacity today is around 1-2 million b/d and consumption is about 95 million b/d.
Where’s future output?
Meanwhile, global upstream capex in 2015 fell $220 billion compared with the 2014 level, and spending has declined another 20% in 2016. Even still, 18 billion bbl in projects sanctioned in 2013 are still coming online, Nicolaisen said. Those projects in 2015 still received $72 billion in spending, adding more barrels to an already oversupplied market.
A fraction of that level is currently being sanctioned, and Nicolaisen expects production will be impacted as companies ease on holding off decline rates, causing those rates to accelerate. While legacy production was still coming online in 2015, 2.2 million bbl from mature fields are expected to go offline in 2016.
Crude stocks are now building at a slower-than-usual pace for this time of year, he noted, saying he anticipates the first draw coming in the third quarter. In other words, double-digit decline rates in both production and capex indicate $30-40/bbl is not sustainable for the industry.
At $34/bbl, the average oil company collects about $25-26/bbl but spends about that amount as well, meaning there’s no real cash flow at the moment. In that context, “oil prices have never been as low as they were in February of this year,” Nicolaisen said, adding that this is why “we are $100[/bbl] believers within a 5-to-6-year timeframe.”
He said, “We think the third quarter of this year will be the inflection point and that’s where we think the pricing mechanism of oil will shift from the lifting cost of current production…to the marginal cost of future production.”
Looking toward 2020, a projected 98 million b/d of demand comes with a marginal cost near $100/bbl. Nicolaisen believes the industry currently needs prices above $80/bbl to move forward investment-wise.
Keeping faith in deepwater
If we can’t make it work in the $30s/bbl, then “we have to determine if this is the business we want to be in,” Pete Miller, chairman of offshore drilling contractor Transocean Ltd., told the industry audience during the discussion.
Making a case for offshore, he stated, “Offshore is where we’re going to get our reserves. We’re not going get them from the shales,” he said, adding, “Don’t overlook depletion. It’s a reality.”
As for if and when an oil market rebound occurs, Miller warned against relying on shale producers to ramp up drilling. Those firms will first focus on shoring up their balance sheets, and the banks will be reluctant to swoop in and provide cash.
One operator that continues to value the expensive deepwater despite low oil and gas prices is Royal Dutch Shell PLC, which completed its $50-billion merger with fellow deepwater producer BG Group PLC earlier this year. Wael Sawan, Shell executive vice-president, deepwater, noted that deepwater represents 7% of global oil production, and some 200-300 billion bbl remain undiscovered.
With that in mind, he’s observed that in the media and elsewhere, “there seems to be almost a simplification on how deepwater will fare compared to other sources of supply in the world” as it’s at the end of the marginal cost curve.
“I think that’s a completely irrelevant statistic because deepwater can span anywhere from lower [$30/bbl] breakeven prices all the way north of [$100/bbl] breakeven prices,” he said.
Sawan believes breakeven prices can be reset and driven even lower than where the industry consensus views as the bottom. Part of this entails paring down the enormous amount of complexity that has been introduced into the system over the years. He emphasized embracing new technology and standardization as measures to remove cost.
Miller added that “unplanned downtime is a killer.” Lorenzo Simonelli, president and chief executive officer of GE Oil & Gas, noted the oil and gas industry is 2-3 times worse than other industries in this regard. His firm has worked with operators to reduce unplanned pulls of blowout preventers, one of the costliest and most common aspects of offshore operations.
Transocean is using big data to compare company operations around the world—such as how many wells are drilled—to determine which areas are strong and which are lagging. Simonelli said his firm is using data to anticipate maintenance and reduce downtime. He cited as an example Columbia Pipeline, for which GE Oil & Gas is monitoring 15,000 miles of pipeline via streaming data, trimming the number of personnel needed in the field.
Down the supply chain, Shell in the Gulf of Mexico is examining “microactivities” such as how often a forklift touches anything in a warehouse. “We started at about 100,000 touches/year,” he said. “We drove that down about 50%” by rethinking where things are positioned within the warehouse and how often vessels pass through."
Miller said Transocean formed a team to determine how to stack fifth-generation rigs, which had never been done before, thereby lowering their cost in the yard. Transocean was spending $100 million on riser maintenance, but a separate team figured out how to cut that number by 25%.
Firms also should find ways to reduce the amount of manpower needed for offshore operations through robotics and mechanization, Miller said. “We’ve gone from building rigs with 150-person quarters to 200-person quarters. And guess what? You fill them up.”
Miller emphasized that contractors must be able to provide the same quality of operations, personnel, and accessibility to operators regardless of geographical location. He also noted that firms should focus on regions where demand is growing, namely Mexico, Indonesia, Nigeria, and Turkey.
Contact Matt Zborowski at firstname.lastname@example.org.