2001 E&P SPENDING

High gas prices stimulate activity

Geoff B. Kieburtz, Mark S. Urness, Andrew C. Hoffman, Robert J. MacKenzie and W. Michael NcNair, Salomon Smith Barney, New York

The 36-page report "The E&P Spending Survey," by Salomon Smith Barney, is the organization’s 19th annual survey of activities of major and independent oil/gas operating companies with interests in the U.S., Canada and International (outside North America). In this report covering the year 2001 – the largest survey ever of exploration and production spending plans – responses from 234 participating companies are presented and analyzed.

The authors note in the report’s summary that the survey of worldwide E&P spending plans reinforces their view that the oil service industry is in transition from recovery to a period of sustained growth. Following a robust 18.5% increase in 2000 led by North America, E&P spending is forecast to grow by 19.7% in 2001, and to broaden into international markets. In what is believed to be the industry’s most comprehensive study of next years plans, respondents’ worldwide expenditures will increase by almost $20 billion

Growth in 2001 should be more geographically balanced. Respondents project a 19.1% increase in North American spending for 2001, after a heady 40.5% increase in 2000. Outside North America, spending is forecast to grow 20.1% after a sluggish 8.2% increase last year.

Companies have boosted expectations of near- and long-term oil/gas prices, but assumptions remain below current futures prices. For planning, the average oil price assumption has jumped above $25.00/bbl for the near term, and nearly $23.00 for the longer term. Gas price assumptions have risen as well, but remain below $4.00/Mcf. Among larger companies, long-term oil price expectations remain below $18.50.

A record number of respondents expressed concern about oilfield service capacity, with nearly all expecting further price increases. More than 80% indicated concern about the availability of service during 2001, with a particular focus on drilling rigs and field personnel. A similar amount expect oilfield service prices to continue rising.

In general, survey results reinforce Salomon’s view that the industry is entering a multiyear growth phase. With two consecutive years of close to 20% spending growth, the industry is set to reach and exceed the levels of activity seen in 1997 – 98. The authors believe 2001 will mark a full recovery from the 1999 oilfield contraction, setting the stage for further expansion.

A key feature for 2001 is much-more-balanced geographic distribution. Spending outside North America is set to increase 20.1%, compared to just 8.2% in 2000. Some of the largest planned international increases are by oil companies that most significantly underspent their 2000 budgets. In North America, the rate of spending growth is expected to be about half of that realized in 2000, but still the second-highest result in more than 15 years.

The North American increases are expected to be very favorable to oil service company earnings for two reasons: 1) the persistence of robust natural gas prices at levels well above what respondents are using for planning ; and 2) the oil service industry is already near full-capacity utilization in this market, suggesting that pricing will be a larger component of the spending increase than it was in 2000.

Summary and outlook. The survey shows that respondents are planning a 19.7% increase in 2001 spending worldwide, slightly above the 18.5% increase expected for 2000. Specifically, North American spending is expected to rise 40.5% in 2000, compared to a 25.0% estimate from the mid-year survey. Meanwhile, non-North American spending, which accounts for 62% of the total, is now projected to have risen by 8.2% in 2000, barely half of the 15.5% increase projected in June. Due to rapid growth in North American gas drilling, as well as an expansion of the oilfield recovery into international markets, Salomon expects each of the three geographic spending categories to experience 2001 growth rates of about 20%.

Combined, the 234 companies surveyed plan worldwide expenditures of $113.5 billion, up 19.7% from the $94.8 billion now estimated for 2000. Of the planned spending for 2001, about 62% will likely be directed outside North America, 11% in Canada, and 27% in the U.S. The ten largest spenders account for 50% of total spending, and the top 50 represent 88%. The data does not include spending on acquisitions.

It should be noted that this summary article presents only four of the 46 tables detailing results of survey returns and other related questions and analyses published in the complete December 19 report. Principal conclusions from data in the four tables, and other key observations are described here.

   U.S. Majors. Further illustrating the U.S. gas drilling frenzy, the 11 Major oil companies (10 listed, 11 in total) plan to increase U.S. spending by 17.9% to $12.8 billion, after a 23.8% increase during 2000. Those planning the largest U.S. increases are BP and Phillips Petroleum, while three companies – Texaco, TotalFinaElf, and USX-Marathon – expect spending to be flat with 2000.

   U.S. Independents. The 154 Independents surveyed plan a 20.4% increase in 2001 expenditures, to $16.9 billion, from $14.1 billion in 2000. Due to record gas prices, spending by this group is now expected to rise by 48.4% in 2000 vs. 1999, a much larger increase than the 15.3% growth forecast in December 1999, and even the 30.3% growth forecast in June 2000. Among the Independents planning significant increases are Enterprise Oil, Cross Timbers, Nuevo Energy, Mariner Energy, Anadarko Petroleum, Plains Resources, Tom Brown and Remington Oil.

Aggregate U.S. spending by Majors and Independents is forecast to rise 19.3%, to $29.7 billion from $25.0 billion, compared to a 36.6% increase in 2000 from extremely depressed levels. Of the 165 respondents planning U.S. spending, just 22, or 13%, expect lower year-over-year spending. Despite this fact, however, just 19% expect to outspend cash flow in 2001, compared to the past 10-years’ average of 45%. This paints a picture of healthy E&P cash flows, and tightness in worldwide oilfield service and equipment markets.

   In Canada, 77 companies plan an 18.8% increase, to $13.1 billion from $11.0 billion. As in the U.S., surging gas prices have propelled Canadian drilling activity to near-record levels, which would have been higher if not for several prolonged spells of inclement weather. To illustrate, Canadian spending is now forecast to have risen by 50.1% in 2000, nearly twice the 30.6% rate estimated in the mid-year survey. The 2001 spending growth plans appear to be broad-based, with just 11 respondents, or 14%, planning spending declines, and a further 11 increasing budgets by more than $100 million. Among those with the largest planned increases are Gulf Canada, Anadarko Petroleum, Imperial Oil, Husky Oil, Canadian 88 and ExxonMobil.

   International. The 89 companies surveyed with spending outside North America are planning a 20.1% increase, to $70.7 billion from $58.9 billion. This represents steep growth relative to 2000, in which spending is now expected to rise by just 8.2%. At mid-year, international spending had been projected to grow over 15%. The authors believe the shortfall is attributable to merger-related effects, lingering market concerns, and the inertia associated with large international projects. Consequently, despite nearly two years of strong oil prices, international spending has yet to rebound materially.

In 2001, the growth will be led by national oil companies such as Agip, Pemex, PDVSA and Petrobras, and Majors such as Royal Dutch / Shell and ExxonMobil. In fact, these six companies combined, account for $6.0 billion of incremental international spending, or 51% of the total. Other large increases, on a percentage basis, are expected by Repsol-YPF, Alberta Energy, Canadian Natural Resources, Petrotrin (Trinidad), DONG and Phillips Petroleum. Just eight of 89 international respondents expect declining 2001 expenditures, while 27 expect increases of more than $100 million (attesting to the higher concentration of large companies in international markets).

Significantly, the Majors are planning a 13.8% increase in worldwide E&P spending during 2001, compared to just a 4.8% increase in 2000 – to $40.7 billion from $35.8 billion. Those planning the largest increases are Royal Dutch / Shell, BP, ExxonMobil and Phillips Petroleum. The proposed $40.7-billion level of spending increase would bring their total spending to levels last seen in 1996, but significantly below the $40.7 billion spent in 1997, and the $49.2 billion in 1998.

Some key observations. The following selected points of interest emerged from the survey, in addition to the preceding analyses:

• The average natural gas price assumption used by respondents for short-term, North American planning has continued to climb and is now at $3.86/Mcf for Henry Hub and $3.42 for longer-range planning. Despite the significant increase in the planning assumptions, they remain well below the 12-month NYMEX futures strip, which currently (December 2000) averages $5.45.

  The matter is less clear-cut regarding oil prices. The average short-term price assumption has climbed to $25.34/bbl for WTI and to $22.95 for longer-term planning. Although both prices are below the current (December 2000) futures strip, averaging $25.67, some spending plans may be revised in the event oil prices fall below these expected levels.

• Oil/gas price assumptions are conservative compared to current prices (as usual), but very high historically. In fact, the average oil price assumption for 2001 planning purposes is 38% above the last 10-years’ average, while the average gas price assumption is 90% higher. The largest respondents utilize long-term planning assumptions of less than $18.50/bbl. The authors note that the industry "demonstrated an enormous sensitivity to gas prices during 2000."

• A scarcity of attractive drilling prospects has become a significant industrywide problem, particularly in North America. And in the 11 years this question has been asked, this year’s survey indicates that operators are the "most concerned ever" (83%) about the lack of oilfield service equipment capacity and qualified personnel.

• For the second straight year, respondents indicated a shift toward more exploration, by a margin of nearly two to one. This bias is evident in all geographic subsegments, particularly outside North America, which is trending toward more exploration by a three-to-one margin. It is inferred from these responses that large-scale development projects are not a significant portion of planned 2001 expenditures, likely falling into 2002 and beyond. And nearly 90% of respondents – the highest level in more than ten years – prefer to replace reserves via the drillbit, rather than through acquisitions.

• Respondents indicated a shift toward more offshore work, outnumbering their land-based colleagues by two to one. International respondents show an even-stronger offshore shift, of nearly four to one. This is attributed to the aging of the world’s reservoirs and the corresponding search for additional hydrocarbons in increasingly remote areas such as ultra-deep water.

• Consistent with the trend toward increased exploration, nearly 60% plan for an increasing share of 2001 E&P spending to be allocated to geophysical data and services, four times as many as expect to curtail seismic expenditures. Widely recognized as the most important technology affecting the E&P business, geophysical saw its spending nonetheless "fall under the ax" in late 1998 and throughout 2000. The increases planned for 2001 are most dramatic for operators in international markets, which yields the conclusion that international drilling activity is poised to rebound next year, much as North American activity did in 2000.

• U.S. and Canadian exploration economics are rated at their highest levels in more than a decade, for both oil and gas. Two-thirds of respondents indicated good or excellent economics for U.S. oil exploration, while 84% said the same for gas. In Canada, 67% indicated good or excellent economics for oil exploration, while 91% said the same for gas. International oil exploration economics were rated good or excellent by 92%, and 68% indicated good or excellent economics for gas exploration.

• Respondents are overwhelmingly optimistic (98%) about the outlook for the next three years. The recovery in oil prices, together with record natural gas prices in North America, has led to widespread financial recovery. However, the authors continue to observe a sense of "cautious optimism," as the memory of the 1998 – 99 industry collapse remains indelibly fresh.

Note: Salomon cautions that, since actual companies surveyed vary from year to year, it is not statistically accurate to compare total estimates with those from prior-year surveys.

	2000 – 2001 U.S. expenditures by major oil & gas companies, $ millions
	2000 – 2001 U.S. E&P expenditures by independents, $ millions
	2000 – 2001 Canadian E&P expenditures, $ million
	2000 – 2001 International (outside North America) E&P expenditures, $ millions