WORLD TRENDS

Reality reclaims the E&P market

What a difference a year makes. At this time last year, our discussion was focusing on how fast oil demand was growing and the concurrent shortages of equipment and manpower. No one was forecasting what would occur next: OPEC unwisely raised production quotas 10%, and Asian economies fell apart, seemingly overnight.

Within 45 days of OPEC's quota-raising, oil prices began to tumble. Not since 1986 did prices fall so fast or so far. By mid-June, oil prices, on average, had fallen to a range of $11 to $12.50/bbl, from highs just last October of $20 to $22/bbl.

Asian Demand

Much has been made of the sudden deterioration of Asian economies and resultant fears that oil demand will suffer greatly. However not all of the Far East has performed the same.

For instance, oil demand in the four Pacific members of the Organization for Economic Cooperation and Development (OECD) — Japan, South Korea, Australia and New Zealand — slipped 0.6%, to 6.66 million bpd in 1997, vs. 1996. By contrast, Chinese oil demand grew 10%, to 3.95 million bpd. Other Asian countries' demand jumped 6.8%, to 9.11 million bopd.

Indeed, some fears have materialized. The four OECD Pacific members' oil demand in first-quarter 1998 was off 3.4% from same-period 1997, and down 3.1% during second-quarter 1998. Other Asian countries outside China saw their oil demand drop 4.3% in first-quarter 1998, yet it was off only 1.1% in second-quarter 1998. By contrast, China's first-quarter oil demand grew 6.1%. Chinese oil calls grew another 10% in second-quarter 1998 vs. same-period 1997. The big drop in the Pacific OECD group is due almost exclusively to faltering Japanese and Korean economies.

Opec's Effect

The other shoe dropped when fallout occurred from OPEC's decision last November to raise member's crude output quotas 10%. By early first-quarter 1998, it was obvious that the rise in quotas, to 27.5 million bopd from 25.0 million bopd, was bloating world oil supplies just at the moment that global demand growth was slowing in response to Asia's problems.

IEA data show that in 1996, worldwide oil production averaged 72.0 million bpd, while demand was 71.73 million bpd. So, output was only 270,000 bopd ahead of demand. This margin, if anything, was too tight and left the market open to sudden prices surges. A half-million-bopd margin seems more reasonable.

In 1997, production grew to 74.4 million bopd, while demand was 73.79 million bopd. Production's margin over demand grew to 610,000 bopd, a bit over the ideal 500,000-bopd level, but not unmanageable. Then, during first-half 1998, IEA said global production grew to 76.1 million bopd, while demand averaged 73.9 million bopd. That translates to a whopping 2.2-million-bopd margin.

The picture is complicated further, because no one knows for sure exactly how much oil has been in storage worldwide. One thing is certain — OPEC and its non-OPEC partners in 1998's two oil production cutback deals must work to enforce their combined 3-million-bopd reduction. Although some output "cheating" may occur, OPEC and partners must strive to see that at least 80% of cutbacks take place, if prices are to recover to $15/bbl or higher this year.

Realistic Reserves

This year's oil price drop has prompted World Oil to reexamine oil reserve levels claimed by some nations. During the last 12 years, it was fashionable and politically expedient for some nations to periodically boost reserve figures beyond increases that E&P data would deem appropriate.

Often, these new reserve figures seem to have gone beyond the traditional definition of "proved reserves" to include "probable" and even "potential" deposits. Many of these are in difficult areas to operate in, or they involve

heavier grades of crude that require higher-price environments to be economical to develop.

The traditional definition of "proved reserves" is: "The estimated quantity of crude oil, natural gas or natural gas liquids that analyses of geological and engineering data demonstrate with reasonable certainty to be recoverable from known oil or gas fields under existing economic and operating conditions." In that spirit, readers will notice that World Oil has lowered a number of countries' oil reserve figures to levels that are more realistic in today's price environment.

Operating Outlook

The above factors make this year's drilling forecast difficult to pinpoint. However, as evidenced by the buoyancy of global deepwater activity, not all is gloomy. Some regions still expect increases this year. Overall, we forecast a 6.7% decline from 1997's level, to 63,945 wells.

In North America, lower crude prices have cooled off Canadian drilling. Canada's high proportion of heavy oil output means that low prices have eaten into producers' revenues significantly, reducing funds available to plow back into drilling. Natural gas prices remain stable, so the outlook for gas-oriented firms' drilling is brighter. Lower prices have impacted Mexican state firm Pemex's overall budget, but the company remains committed to higher drilling levels.

South America is pinched by lower prices, as well, with a 16% drop in wells forecast. Declines are on tap for several major countries. Prominent among these is Venezuela, where lower revenues impact state firm PDVSA's budget, while the company implements a difficult restructuring. Good gas prospects help Trinidad and Bolivia buck the oil price tide.

Despite relatively fragile North Sea economics, Western Europe is remarkably resilient. Drilling actually is expected to be up by four wells, at 719. However, closer examination shows that exploration work is down significantly, while field development remains at a very high level. In the UK and Norway, too many projects already were underway for development activity to drop measurably.

Eastern Europe and the Former Soviet Union are beginning to reverse a long-term drilling decline. Wells drilled rose 4.5% last year, and another slight gain is due for 1998. Improvement occurred because Russian oil companies performed better. Foreign firms, meanwhile, remain skittish about Russia's bureaucratic tangle.

African activity improved considerably in 1997, driven by onshore projects in Egypt, Algeria and Libya, and deepwater success offshore West Africa. Activity will be off about 2% this year, but this level of E&P work is still quite good for Africa. Problem-wracked Nigeria, however, suffers from a lack of operator confidence.

Middle Eastern drilling is still set to rise, despite low oil prices, showing just how good activity might have been. Drilling rates remain high in Oman, Saudi Arabia and Qatar. Gas exploitation is fueling Qatar's drilling increases. As oil field development continues, Iran's offshore wells will rise to 33 this year, from 15 in 1997.

Most of a 4.6% drop in Far Eastern wells can be traced to a decline in China. This does not reflect additional confusion that may occur while officials split China's E&P into two separate, national oil companies. Elsewhere, the picture is more optimistic, particularly in Thailand, where gas-driven work is pushing activity higher.

In the South Pacific, Australian discoveries and exploration remain at record levels. Exploratory success is also behind New Zealand's resurgence. The region should post a 2.5% gain in wells drilled.

The accompanying tables include global upstream statistics, together with World Oil's revised 1998 drilling forecast, by region.

Copyright © 1999 World Oil
Copyright © 1999 Gulf Publishing Company