What's Ahead in 2005

The wheel's still in spin…

D. Nathan Meehan, President, CMG Petroleum Consulting, Ltd., Houston

Come writers and critics
Who prophesize with your pen
And keep your eyes wide
The chance won't come again
And don't speak too soon
For the wheel's still in spin
And there's no tellin' who
That it's namin'.
For the loser now
Will be later to win
For the times they are a-changin'. 

(By Bob Dylan; Copyright © 1963, renewed 1991, Special Rider Music)

Famed singer/ songwriter Bob Dylan cautioned those of us who predict the future, in a song released more than 40 years ago. I don't think that single events cause sea changes in our industry. Coming changes are often associated with an event but aren't caused by them.

Embargoes and prices. Just as Black Tuesday didn't cause the Great Depression, some absolute shifts in our industry were precipitated by an event, but were inevitable. The Organization of Arab Petroleum Exporting Countries' embargo of 1973 resulted in oil prices permanently quadrupling, but the real change in oil pricing, and the nature of global E&P, was on its way.

Prior embargoes in 1956 and 1967 failed. However, the US already had an energy crisis underway, with shortages six months prior to the embargo. The 1973 embargo removed only 5% of world supply and lasted two months. The combined effects of several factors caused the price increases that would have happened with or without the embargo.

These factors included dwindling excess productive capacity; economic conditions in consuming countries; a change in philosophy and tactics in producing countries; a lack of surplus tankers; and a different attitude about inventory. The OPEC embargo and Iranian conflict of 1979 – 1980 are remembered better. Yet, in retrospect, they provided only a six-year price shock to the trend set in 1973.

Oil prices well above $40/bbl cannot be associated with a single cause or trigger. I have often said, and once believed, that “the cure for high oil prices is high oil prices.” That was true in the early 1980s, 1990 and 1996. But that statement would not be true in 1974, and it may not be true in 2004.

I am not smart enough to know if we are now at another 1973 or 1979 situation. Perhaps oil prices will settle down to the low $30 range, and all will be right with the world. In that price range, the difference in performance between the best and worst oil companies is easily detected, and differences are magnified. At $50/bbl, such differences are masked, because record revenues hide decision and execution errors.

Practices and problems. As a petroleum engineering consultant in a relatively specialized firm, I don't do SEC reserve audits or appraisals for banks. I mainly support oil companies in litigation, do field studies using reservoir simulation and help solve problems involving hydraulic fracturing or horizontal wells. But even in these narrow roles, I get to see companies ranging from the multi-nationals to the smallest independents. I work with fields from the Middle East and China, to Texas and Southern California. Many of my projects involve reservoir simulation modeling.

The differences in how oil companies address similar problems, even using similar tools, are staggering. While two operators may both use multi-disciplinary teams to solve a problem, one will conduct multi-year studies involving low-value sensitivities designed to answer questions raised by prior reviewers in preparation for future reviewers. Ultimately, this approach seems doomed to failure.

The other operator's team is switched-on, value-driven and focused on solving immediate problems. Both groups use the same tool (e.g., reservoir simulation) in different ways, but for similar reasons. Ultimately, they want to develop the best model of what to do with their oil and gas reservoirs, evaluate numerous alternatives, support reserves bookings and manage field activities. The best and worst carpenters both use hammers.

The best companies find opportunities in every environment. But, today, some profitable companies are nearing sale, because they have few clues as to what to do next. They believe they are unlikely to realize more value than they can by selling during a high, product price environment. This is probably true of an even larger number of companies that do not recognize that fact. I am excited to see companies of every size generating ideas for impressive new projects that are likely to be robust under much lower-priced environments. The key is in the people and how their ideas are being used.

Corporate cultures. When asked to describe corporate culture, one of my colleagues suggested that we can understand a company's culture in terms of who are its heroes. Who does the company really love (promote, gives the best rewards to, etc.). I worked many years for a company that really loved drilling lots of wells. The real heroes were the drillers who shaved off some costs; the reservoir engineer that justified infill drilling; the geologist who could raise success rates to 70% from 50%; and the land man who made a farm-in with a lot of drilling locations.

Note that I did not say the heroes were the people who made sure we drilled highly profitable wells, discovered large new reserves, or focused us on value creation. The company is now gone, but it was a very good culture if you liked to drill a lot of wells! Other companies love the “travel warrior,” who will relocate anywhere, anytime, in search of a great deal. A surprising number of companies are in love with their business development people. Many cultures worship the workaholics; others, the cost-cutters. Sadly, many cultures celebrate “process junkies” and slick presenters.

I'd like to think that many types of corporate cultures will succeed, depending on their assets, capabilities and the decisions that they make. Companies capable of taking financial and technical risks should, ultimately, do extremely well. The decaying North American oil field operated by a major, and eventually sold to smaller independents, surprises no one when its production decline is arrested and reversed, and operating costs are slashed. Relatively low costs, private mineral ownership and a large number of entrepreneurs willing to take significant risks all contribute to this success.

Forward-thinking international operators, national oil companies (NOCs) and host governments are finding ways to expand access to marginal fields (although fields that are marginal at $50/bbl have been known previously as bad ideas). While this trend has been underway for years, the level of activity has never approached North American results.

Finally, the “big crew change” is well underway, with the typical North American petroleum engineer celebrating his 50th birthday in the 2003 – 2006 time frame. Few of the 50-year-old petroleum engineers are hands-on any more. In spite of recent increases in enrollment at US petroleum engineering departments, the number of American students of that subject is well below the figure of 20 years ago.

Worldwide petroleum engineering enrollment continues to increase, with over 11,000 student members of SPE in 124 chapters worldwide. Of these, only 2,500 students in 29 chapters were in the US. Many US-educated engineers are international students. It is this next crew of highly diverse engineers who must solve far more complex recovery problems than we have faced previously.

The memories of low product prices, layoffs, spending too much money chasing any sort of production, and other past woes are still in our minds. But each day of $8/Mcf gas makes those days seem more distant, and the temptation to pursue ever riskier ventures grows. We will have to pursue riskier ventures over time and occasionally stray from our knitting. The future of creative companies willing to capitalize on the very different opportunities we see today is bright. And maybe we can remember our promise not to screw this one up!

THE AUTHOR
	D. Nathan Meehan is president of CMG Petroleum Consulting, Ltd., a Houston-based petroleum engineering consulting firm (www.reservoirengineering.com). He holds a PhD in petroleum engineering from Stanford and has 28 years of experience in the oil and gas industry, including tours of duty at Occidental Petroleum Corp. and Union Pacific Resources (now Anadarko Petroleum Corp.). Dr. Meehan is a registered engineer in Texas, Oklahoma and Louisiana. He is also a member of the Interstate Oil & Gas Compact Commission, as well as the University of Texas Petroleum Engineering Advisory Board. He received the Lester C. Uren Award from SPE, where he served as a member of the board of directors and as a Distinguished Lecturer.