• Category Archives Energy
  • The Inevitable Decline Of Big Oil

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    The major International Oil Companies, IOCs, ― Royal Dutch Shell, BP, ExxonMobil, Chevron, Total, ENI and Statoil ― have seen a marked decline in fortune over the past few years. During the late 1960s for example, the group held more than four-fifths of global crude oil reserves; currently, their share is less than one-sixth. In addition, the group has over the past decade and half, grappled with growth challenges, to wit, profitability and reserves addition. The recent dip in crude oil prices to multi-year troughs has only added to such challenges.

    Two principal issues, in the main have driven the change in fortunes:

    1. Resource Nationalism

    Major IOCs operating in oil-rich countries have over the past few years been required by host governments to cede greater proportions of assets and, or production proceeds. In 1979 for example, Nigeria under the leadership of General Olusegun Obasanjo, nationalized the British oil company BP; the action was consistent with the country’s policy of economic nationalism and afro-centric liberation. In Venezuela, assets belonging to ExxonMobil and ConocoPhillips were expropriated in 2007 for their failure to restructure in accordance with the provisions of President Hugo Chávez’s “21st Century Socialism”; Chevron and BP among others relinquished majority shares in their Venezuelan projects. Though there was some financial compensation for the requisitioning, the impact on these IOCs was substantial.

    With the expropriation of the group’s assets came the establishment of wholly-owned National Oil Companies, NOCs, in which acreages and other petroleum assets were vested. These assets, in addition to seemingly limitless state-funding without the restrictive shareholder accountability, set up these NOCs as formidable competitors. Some of the NOCs such as Brazil’s Petrobras and Columbia’s Ecopetrol have since listed in stock exchanges, having restructured and boasting high operational efficiencies as well as cutting-edge technological proficiencies. 

    2.  Spiraling  Costs

    Access by IOCs to production acreages in these oil-rich countries, has largely been through Production Sharing Contracts, PSCs, and Joint Venture Agreements, JVAs, and at very high costs. Production Sharing Contracts in general, require the IOCs to bear exploration ― even where there are no discoveries ― and production costs and then share production proceeds with host countries if and when discoveries are made. However, such proceeds often come under very steep, royalty and other tax regimes sometimes as high as 80% to 90%; and since they are on a sliding scale, usually indexed to oil prices, rising global crude oil prices offer no relief to the IOCs.

    Selected Comparative Indices_ IOCs vs NOCs

    Joint Venture Agreements have become rare. A recent licensing round for Iraq’s massive onshore oil acreages was for service contracts; one of the winning bids, a partnership between Royal Dutch Shell and Petronas was for a mere US$1.39 per barrel of marginal production increase, to the great delight of the host government. Continue reading  Post ID 236

  • Global Crude Oil Prices: Why Uncertainty Will Endure

    Global crude oil prices have fallen significantly over the past few months. Brent crude for November delivery for example settled at US$94.67 per barrel, a 16% drop for the quarter and its lowest for 27 months. West Texas Intermediate also last month fell below US$90 per barrel ending 12% lower for the third quarter.
    Such declines however, bear only mixed fortunes. While manufacturers and other consumers may welcome the relief, crude oil producers especially those engaged in unconventional resources (such as shale) and complex terrains (such as the deep offshore or the Arctic) may not be so welcoming; and that is because the falling crude oil prices may test the upper range of breakeven prices for some of these producing fields.

    At present, there are three principal drivers for global crude oil prices:

    The 2008 global economic crises saw a decline in the world’s total petroleum consumption; among member-countries of the Organization for Economic Cooperation and Development (OECD) however, that decline began well in advance, in 2005 (Figure 1).

    Total Petroleum Consumption _OECD, Non-OECD 2005-2013

    A sustained rise in oil prices led to the introduction of higher efficiency and conservation measures such as Renewable Fuel Standards and Fuel Efficiency Standards which further reduced consumption.

    Global rebound from that recession has been modest and that has led to sluggish growth in demand for petroleum, which is still the dominant energy form for powering the world’s economic wheel. In the United States, rebound has been slow and factory activity reports for September indicate an uneven expansion. For the European Union, growth has been fragile and the prospects for 2015 are modest. France and Germany are the two European economic powerhouses but in September, factory activity shrank for the first time in 15 months in Germany while France saw a contraction for the fifth month running. In the United Kingdom, manufacturing activity fell to a 17-month low in September.

    Rising emerging market demand for petroleum was expected to countervail the decline in developed economies, however GDP growth in this economic group has slowed; according to the International Monetary Fund, IMF, GDP growth in emerging markets slowed from 7% during 2003-2008 to 6% during 2010-2013 and is expected to further fall to 5% during 2014-2018. Even the Asian economic giants have seen a measure of slower economic growth. China, on concerns about slowing economic growth, recently cut mortgage rates for the first time since the 2008 crises, in an effort to bolster a flagging housing market. India and South Korea have also witnessed contractions in manufacturing activity.

    The steep rate of crude oil production increase in the United States ― in addition to increases from Organization of the Petroleum Exporting Countries ― has contributed significantly to the current excess global supply. Such is the contribution from producers outside the Middle East that the current ISIS crises in Iraq has had little if any effect on global crude oil prices. According to the Energy Information Administration, total oil supply by the United States exceeded those of Saudi Arabia and Russia to record the highest value for a country in 2013 (Figure 2).

    Total Oil Supply_U.S., Russia Saudi Arabia 2005-2013

    According to Platts, the estimated surplus of global oil supply over consumption for 2014 is currently about 800,000 barrels per day. That surplus is set to increase as OPEC members prepare for a price-reduction battle in order to protect their market share. The net effect of the supply glut has been downward pressures on prices.

    Dollar Rates
    Exchange rates for the United States dollar with regard to major global currencies have also impacted crude oil prices. The U.S. currency strengthened to a two-year high against the Euro and a four-year high against several major currencies. Since crude oil is bench-marked in United States dollars, the effect of that strengthening has been to make the commodity more expensive, exerting downward pressures on demand and hence prices.

    All said, given the current levels of oil oversupply and the phlegmatic rates of global economic activity, oil prices will most probably remain comparatively low in the short to medium term. Some analysts expect a further decline of about US$10 per barrel from current price levels. This will test the profitability of cost-intensive producers. Breakeven prices for tight oil producers in the United States for example are estimated to be between US$65 per barrel and US$85 per barrel. For the Canadian oil sands, the values are US$75 per barrel for steam-assisted gravity drainage projects and US$100 per barrel for mine upgrading capacity projects. The implication is that some ongoing projects may be forced to shut down while some proposed ones may be shelved.
    While these conditions may constitute the necessary spur for a future price rebound, the expected tenure of the current price regime remains uncertain.

  • Shale Resources: Prospects For Global Oil and Gas Supply

    TRF Thumbnail 2The United States in the last few years witnessed a massive increase in crude oil and natural gas production from shale formations. That increase, according to the Energy Information Administration, EIA, has put the country on course to leapfrog Saudi Arabia and Russia to become the world’s largest producer of crude oil while reducing the domestic price of natural gas by about two-thirds. The shale boom, as the breakthrough has been termed, was made possible in the main by two processes, namely hydraulic fracturing (or fracking) and directional drilling.

    Given the formidable challenges facing oil and gas production from many shale formations, questions have inevitably arisen about the sustainability or longevity of the whole shale boom phenomenon. While skeptics hold that the sheer number of wells necessary just to maintain production is impracticable, proponents estimate that the boom will endure for between three and nine decades. A proper evaluation of the prospects is therefore informative.

    One characteristic of production from shale formations is the rather steep initial production decline rates (Figure 1) which in some cases are in excess of 50% (typically 60% to 70%) after just one year of production.

    Typical Natural Gas Production Curves For Selected Shale Formations

    Conventional resources in the main, show decline rates of about 55% after two years and thereafter taper off gradually. The implication then is that for shale formations, many newer wells would have to be drilled just to maintain production. According to the International Energy Agency for example, North Dakota’s Bakken shale formation will require 2,500 new wells drilled a year in order to sustain production of crude oil at 1 million barrels per day; a measure many conventional fields can accomplish with as little as nine-tenths less .
    Another production concern in shale formations is low recovery rate. Shale resources show a lot of lateral variability. For example, a 100-meter thick oil-laden formation may in just over a kilometer away thin out to zero, impacting the general yield rate.

    Of greatest concern to shale producers however, is the cost factor. According to reports by Oil and Gas Journal, there have been assets write-downs of nearly US$35 billion among the 15 largest shale resource producers since the beginning of the shale boom; the report also cites 6 years of “progressively worsening financial performance” among 35 U.S.-focused independent companies involved in shale gas and tight oil plays. The high-positive correlation between shale production costs and product prices leaves little wiggle room for profitability. Some analysts estimate that this year, drillers for shale oil and gas resources will spend US$1.50 for every US$1.00 they earn from sales of their output. Clearly, cash flow, positive inflection point is still some time away. Continue reading  Post ID 186

  • The Middle East* And Global Petroleum Supply

    The lack of any significant effect on global crude oil prices by the current Middle East conflicts is perhaps indicative of the region’s declining importance in the global oil and gas industry. The Middle East has for decades dominated the supply of crude oil and natural gas and any unrest ― such as the Arab Springs ― in the region has tended to cause spikes in energy prices.
    The current spat in the region involves Israel and Hamas on one hand and ISIS on the other. Since the current crises began and through 11 August, the two major metrics for global crude oil prices, namely Brent and West Texas Intermediate (WTI) have declined (Figure 1).

    Spot Crude Oil Prices (FOB)_ Brent, WTI 01 July 2014 - 11 August 2014

    In contrast, the Russia-Ukraine crisis has had an opposite effect. The recent report that Russia ―― the third-largest producer of crude oil and with the largest natural gas reserves ―― has sent battle tanks across its border into Ukraine caused crude oil prices to rise. For example, front-month October Brent prices on Friday climbed US$1.46 to settle at US$103.53 per barrel.

    This market response may derive from the region’s fundamentals. For example, the proportion of global crude oil reserves held by the Middle East has been declining significantly over the last decade while that for natural gas has remained essentially unchanged over the same period (Figure 2).

    Middle East_ Proved Oil and Gas reserves As Proportion of World's Total  1980 - 2013

    In addition, the growth in crude oil reserves by the rest of the world has outpaced that of the Middle East. Between the years 2000 and 2013, the rest of the world grew crude oil reserves at an average rate of 3.5% while for the Middle East the average growth rate was only 1.3% (Figure 3).

    For natural gas, while the Middle East’s proportion of global supply has been increasing, the growth rate for its reserves since the year 2000 has declined faster than that for the rest of the world.

    Growth In Crude Oil Reserves_ Middle East vs Rest of the World 2000 - 2013

    The Middle East region presents one of the last remaining “easy-to-get” petroleum provinces; however, major oil and gas companies while still active in the region, have channeled investment in the more politically stable ― even if more geologically complex and capital intensive ― acreages.
    Investors often loathe uncertainty, but prefer the calculated risk in technological or geological challenges over the inscrutable vagaries of less-developed economies. ExxonMobil, Royal Dutch Shell, BP and Statoil are among the majors prospecting for oil and gas in the Arctic. Some other companies in the United States are divesting overseas assets to focus on domestic prospects.

    With the prospective addition to the global inventory, of resources from tar sands, shale (especially in China), as well as the Arctic among others, the strategic importance of the Middle East to the global petroleum industry may be further (even if gradually) eroded.


    *The Middle East region referred to in this post consists of Bahrain, Iran, Iraq, Israel, Jordan, Kuwait, Lebanon, Oman, Palestinian Territories, Qatar, Saudi Arabia, Syria, United Arab Emirates and Yemen.

  • Major Oil Companies: Restructuring For Profitability

    Nrelate and Default Icon - TRFCrude oil and natural gas exploitation has been progressing into more challenging regimes. These frontiers such as the Subsalt as well as the Arctic among others are more geologically complex requiring enhanced technological applications to exploit; that inevitably means higher costs with implications on the operating companies’ profitability and shareholder returns. The Energy Information Administration in a recent report indicated that among 127 major oil and gas companies, cash proceeds for the year ended 31 March 2014 totaled US$568 billion while cash usage was US$677 billion, or US$109 billion higher.

    Three metrics elucidate this:

    1. Upstream Unit Capital Productivity

    In the seven years to 2012, unit capital productivity among the world’s top 74 oil and gas companies declined in a near-exponential manner from 21.59 barrels of oil equivalent per dollar (boe/$) to 9.56 boe/$ (Figure 1), according to a Pricewaterhouse Coopers report. The report was based on the world’s top 100 oil and gas companies as compiled by Evaluate Energy. Unit capital productivity measures the quantity of oil and gas produced for each dollar of capital employed by the companies. In other words, the quantity of oil produced by the companies per dollar employed has almost halved in the period under consideration. The decline is in spite of massive production increases mainly from unconventionals and is same even among the top performing (upper quartile) companies. Figure 1. Unit Capital Productivity_2006 - 2012 Continue reading  Post ID 143

  • A Brief On The Current Energy Sector Sanctions Against Russia

    Nrelate and Default Icon - TRFThe United States and European Union a few days ago announced a third stage of co-ordinated sanctions against Russia, in response to that country’s annexation of Crimea and its reported complicity with separatist rebels in the shooting down of Malaysia’s flight MH 17 over Ukraine. The current sanctions target Russia’s energy, defence and financial sectors.

    According to the Energy Information Administration, Russia is the second-largest producer of dry natural gas and third-largest producer of liquid fuels in the world. However, exploitation of the country’s petroleum resources is largely dependent on the West’s technological expertise and financial muscle; any withdrawal or reduction with regard to these will certainly impact her production.
    The provisions of the current sanctions limiting financial and specific technological investment in the Russian oil and gas sector must therefore be of some concern. For example, production in the country’s older oilfields is only being maintained by horizontal drilling and hydraulic fracturing processes among others provided by western energy companies. In addition, estimated capital expenditure for 2014 by (mainly western) upstream companies was US$51.7 billion according to Barclays Capital Inc. ExxonMobil (U.S.) and Statoil (Norway) have joint ventures with Russia’s state-controlled oil company Rosneft, for the exploitation of Arctic and other geologically complex prospects while BP (UK) holds a 19.75% stake in Rosneft. Igor Sechin, Chief Executive Officer of Rosneft recently revealed that the company has devised ways to circumvent or minimize the effect of such sanctions.

    Oilfield service companies such as Schlumberger, Baker Hughes and Halliburton generate 4% to 6% of their global sales from Russia according to RBC Capital Markets; and while losses at such levels ― should they occur ― would not threaten these companies, they would certainly pinch. Vladimir Putin, Russia’s president may have been counting such a pinch when he defied the West’s calls and pressed on with support for rebel separatist forces in eastern Ukraine; and he may have gotten a reprieve as Russia’s gas works were spared of sanctions, perhaps because they supply about a third of the European Union’s gas consumption.

    While these sanctions may have little or no immediate effect on Russia’s oil production, they will however, if they endure, quicken production decline in older oilfields and lead to extensive delays in the development of new ones. Russia is blessed with a lot of brilliant scientists and engineers who are quite capable of developing their own technology to replace the West’s; but the capital outlay as well as the time frame needed for its development, testing and deployment would suggest a Russian crude oil production decline in the medium-term to long-term.


  • Global Crude Oil Prices: Three Critical Issues To Watch

    Crude oil, albeit in decreasing proportions, will for some time to come remain a dominant form of energy used to power the gamut of domestic and industrial processes around the world. There are however, concerns that supply disruptions may impact the current ― even if sluggish ― economic rebound particularly in Europe, as well as the projected economic growth in emerging markets.

    Geo-political tensions such as those of the Middle East-North Africa (MENA) region can and do impact crude oil supply and therefore prices. There are currently two flashpoints that hold the potential for larger supply disruptions. The first is the Israel-Hamas military conflict which can develop into a full-fledged proxy war in a region that is critical to global crude oil supply; the second is the spat between the West and Russia over the shooting-down of Malaysia’s Boeing 777 passenger jet over Ukraine. It is noteworthy that about a third of Europe’s gas energy requirement is met by Russia and a significant proportion of that through Ukraine.

    While such flashpoints are often tenuous, there are in the short to medium term, three potential drivers for global crude oil prices that need to be kept in view:

    1. Production from Unconventionals
    The massive increase in crude oil production from unconventional sources has come mainly from the United States and Canada. In the United States, about 90% of crude oil production growth comes from tight oil in six shale plays, according to the Energy Information Administration, EIA; and of the six, only two (Eagle Ford and Bakken) account for about 67% of that growth. While operators of these plays welcome such output, the rather high productivity decline rates for the plays has meant that an estimated 6,000 wells must be drilled annually at a staggering cost of about US$35 billion just to maintain production. Many analysts believe this is unsustainable. Tight oil production is projected to rise rapidly (leading crude oil production growth) to 2.6 million barrels per day in 2019 and then decline through 2040 (Figure 1).

    Continue reading  Post ID 106

  • Nigeria: The Challenge of Petroleum Resources Management

    Petroleum resources constitute a major proportion of Nigeria’s foreign exchange earnings; however, poor management, corruption, slow reserves growth as well as increasing output from new and existing producers, present challenging prospects for the country’s  economy. 

    NNPC TowersNigeria is a member of the Organization of Petroleum Exporting Countries, OPEC, and according to the National Bureau of Statistics, petroleum resources have since 1984, accounted for not less than 90% of the country’s total export value. The country earns a significant proportion of her foreign exchange from petroleum resources but has been far from prudent in the management of such earnings. While the country has earned hundreds of billions of dollars from petroleum resources over the past decades, the CIA Handbook reports that about 70% of its population still lives below the poverty line.
    Nigeria is not the only country challenged with issues of resource curse. A report in the European Economic Review for example, shows that between 1965 and 1998, Gross National Product decreased by an average of 1.3% among OPEC countries compared to an average growth of 2.2% in the rest of the developing world. Figure 1 shows Nigeria’s GDP growth rates for the period 2008 and 2012; while non-oil rates held high positive values, those for oil were negative in three of the five years. Figure 1. Nigeria- GDP Growth Rate At 1990 Constant Price  (2008 - 2012)With her rather ambitious goal of being among the world’s twenty most-developed countries by the year 2020 and the vagaries of global petroleum supply, a proper rethink of her petroleum management policies is informed.

    Major Challenges
    With petroleum resources the mainstay of Nigeria’s economy, two issues in broad terms, are already defining her prospects.
    First is inveterate corruption. Transparency International, in its 2013 Corruption Perception Index ranked Nigeria an abysmal 144 (together with Central African Republic, Iran and Papua New Guinea) out of 175 countries. Namibia (57), Ghana (63) South Africa (72) ranked much more respectably.
    Corruption has meant that many activities in the country’s oil and gas sector over the past decades have been carried out in cultic secrecy while proceeds are brazenly misappropriated. For example, details of the country’s actual petroleum production have over the years been somewhat nebulous; project costs are reportedly hyper-inflated, legislators hold that a proper audit of the national oil company’s books has not been done in decades and petroleum product (mainly gasoline) subsidies are reportedly fraudulent, ballooning to an inexplicable US$8 billion in 2011, representing 30% of government expenditure, 4% of GDP and 118% of capital budget.
    Countries such as the United States and the United Kingdom have met great resistance in their attempts to get their respective corporate nationals to disclose details of financial transactions with the Nigerian government. The Petroleum Industry Bill, PIB, which was supposed to address some of the transparency and accountability issues in the country’s oil and gas sector, has been languishing in the legislature for more than six years; and with various versions being bandied about, there are genuine concerns that if indeed a bill is passed, it may be so abridged as to defeat the raison d’être.

    Uncertainties associated with the provisions of the PIB have led to assets divestment and low capital expenditure in the country’s oil and gas sector by International Oil Companies, IOCs; the impact will certainly be heavy on Nigeria’s already blighted growth in proved reserves growth (See Figure 2).Figure 2. Nigeria- Growth In Proved Crude Oil Reserves (2000 - 2014)
    The second and more recent is the growing petroleum output from new and existing producers. The United States has significantly ramped up her natural gas production due mainly to technological developments such as hydraulic fracturing (fracking) and horizontal drilling in shale formations. The country has also increased its crude oil production from liquid-rich shale formations to overtake Saudi Arabia as the world’s highest producer. Angola recently announced that her crude oil production has surpassed Nigeria’s.

    The implication then is that the United States which used to be the highest importer of Nigeria’s petro-products, had in 2012, for the first time in more than a decade failed to import any Liquefied Natural Gas (LNG) from Nigeria; Europe’s share of Nigeria’s LNG exports also fell from 67% in 2010 to 43% in 2012 according to the Energy Information Administration. In addition, 2012 saw the US import of Nigeria’s crude oil fall by 50% over 2011 levels.

    With countries such as Canada (oil sands) and Brazil (subsalt) among others also ramping up production, there are already severe revenue implications for Nigeria.

    The Way Forward

    The nation’s archives are replete with lapsed development plans; not only was there no will to implement them, the processes themselves were mostly flawed. For example in recognition of the inability of existing refineries to meet product demand, licences were awarded for the establishment of eighteen refineries; but about a decade later, not even one so much as received a final investment decision. Issues such as access to feedstock as well as product pricing (which impact refining margins) were never addressed. Refined product prices were fixed below cost while government determined the level of subsidy. A proper management roadmap for the country’s oil and gas sector must then of necessity entail the following:

    1. Political Will
    The principal requirement for restructuring Nigeria’s oil and gas sector is a strong political will to resolutely tackle corruption and institute all necessary sectorial reforms. It is a position that is certain to attract passionate resistance from very powerful and deeply entrenched interests; from the petroleum product importer for whom a functional refinery is anathema, to the product transporter in whose nostrils a viable pipeline system is a stench. Such notoriously inefficient processes must be taken down or the decay will progress even exponentially and posterity will be the worse. Leadership regimes have often adopted a “live-and-let-live” approach in dealing with such bastions of corruption.

    2. Proper Product Pricing
    For a country that imports more than 80% of her refined petroleum product requirements, Nigeria’s petroleum product subsidy regimes as currently constituted are wasteful, inefficient and inimical to capital investment; they need to be reviewed. However, there is a limit to the “corrective shock” an economy can sustain without compounding problems. If Nigeria’s productivity for example, is adversely impacted by a one-step (immediate and total) subsidy removal, then the country could be burdened with more problems than it initially set out to address.

    A better approach would be a phased and benchmarked removal process. Previous attempts at subsidy removal have been met with extreme violence often bringing economic activity to a halt for several days; and that because the trust of the people with respect to proceeds from subsidy removal was squandered. Placing a palliatives horse before a subsidy removal cart would most probably secure the willingness of a greater proportion of civil society groups to join the restructuring agenda. By guaranteeing refining margins to new refineries for example, subsidy will be removed from consumption and placed on production; such subsidy can then be subjected to a stepped (say a 3-step, 30%-30%-40%) removal over a few years depending on the particulars of the refining infrastructure.

    A significant proportion of the country’s oil and gas supply outages derive from ageing infrastructure; operators balk at investment in infrastructure because fixed product prices prevent a proper return on investment. For example, the lack of adequate refining capacity has been a major driver for high product prices. The country’s aggregate refining capacity utilization has been abysmally low (see Figure 3) averaging less than 30% over the past decade; even at 100% utilization, the existing refineries would be unable to meet demand but no operator has been willing to build new refineries due to unfavorable refining margins occasioned by product pricing.
    Figure 3. Nigeria - Average Refining Capacity Utilization (2001 - 2013)3. Effective Regulation and Restructuring
    State agencies in the country’s oil and gas sector need urgent reorganization and refocusing for transparency and efficiency. An effective oversight agency, free of bureaucratic encumbrances is imperative. Issues of corrupt practices and enforcement of standards have gone begging. The requisite matériel and personnel to carry out effective regulation have been inadequate; subjects of regulation have even been relied upon for logistics and critical evaluations. These should not be the case. The country’s national oil company has become inefficient and unwieldy, having been saddled with the conflicting roles of both regulation and operation; the utter collapse of its refining and marketing processes is symptomatic.
    Some of these issues were supposed to have been addressed by the PIB which has seemingly been mothballed in the country’s legislature.

    All said, president Goodluck Jonathan, who hails from the Niger Delta―a region blighted by oil and gas activities―and who may contest for a second and final (therefore politically unencumbered) term of office, should be adequately placed to institute these reforms in the event that he contests and wins. It remains to be seen however, if he can then step up to the plate.