With such long horizons as one finds in the oil industry, it is quite easy to get very giddy about finding new reserves. Watching the current glee in media regarding the discovery by BP, BG and Anadarko of potential oil in Tiber, Brazil and Sierra Leone, I am reminded of the perennial glee witnessed in last November’s U.S. Presidential election. It was widely believed that there was a new revolution in the making, a “change” that the Obama team ran their campaign on. But, there is indeed a bigger change as I sit here and peruse the implications of the new oil finds.
Almost everyone in the industry is happy that this is the start of the finding quite a few “giants” in the years to come. I certainly don’t deny that and a fair share of analysts have already started talking about the complexity associated with this project including the physical and monetary conditions. The monetary conditions are well-understood that initial drilling costs are expected to be really high while future costs will lower as efficiencies of drilling increase. Physical conditions need no introduction as the current equipment require a “significant” upgrade to drill in these challenging environments of high temperature and high pressure.
But the change that these findings signify is the start of the transition of finding oil from the Miocene region of the earth’s crust to the Lower Tertiary. If you are in the O&G industry, you will no doubt know that there have been significant projects offshore in recent times to drill into the Lower Tertiary offshore. We know already that onshore drilling has reached the same stratigraphic section but this is the beginning of a new play in offshore drilling.
If one understands the stratigraphic section in the Gulf of Mexico (GOM), the Miocene is on top of the Lower Tertiary. The Lower Tertiary is older and includes the time periods of Pliocene, Miocene, Eocene, Oligocene and Pliocene. If you look at the current production in GOM, it is Miocene in age. When the Mahogany field came on in 1993, significant salt deposits were found blocking the seismic signals. Nobody knew whether oil lay under the salt deposits until they sent an appraisal well to find out. It is the same case here until someone sends an appraisal well to collect the first sample.
The term “pre-salt” has been used quite liberally though there have been no explanations to show what it means. Typically, salt is present in the reservoir and sending any seismic signals resulted in a bounce from the salt deposits. Salt masks the seismic signals such that it indicates that there is no oil present at all. Only when Mahogany and Enchilada proved that oil existed beneath the salt did GOM become such an important player for oil drilling.
I am currently looking at the data for production from deepwater wells and the current lead time from discovery to first production in the entire deepwater Gulf of Mexico averages around 6 years. The increasing complexity and the overall immaturity of the Lower Tertiary zone enables companies to be very cautious in committing to a project in this area. Infact, BP has acknowledged that the Tiber won’t contribute till 2015 (although my guess is 16 years from now).
The Lower Tertiary has very tight and lowly permeable formations. The pressure for oil is at 25,000 pounds per square inch! Therefore, a higher pumping pressure is needed along with lots of proppants to hold these fractures and provide an efficient conduit for transferring oil from the reservoir to the wellbore.
It is quite reasonable to assume that this post is primarily talking about the challenges and complexities of determining the economic viability of drilling and bringing this oil to the surface. Infact, an earlier post talked about how countries, who possess oil, need to strike the right balance from transitioning to an oil exporter. Also, it is no doubt to the testament of the industry in getting better at finding and producing oil using the latest seismic surveys and IT software for identifying pockets of oil. It helps small companies to become medium players while it allows companies like BP to improve its recovery within its mature portfolio and increasing its reserve base.
But the biggest change is the transition to a new era that comes from the end of finding oil through conventional means (especially onshore). You can compare production capacities of OPEC and non-OPEC and argue about peak oil. You can speculate on Saudi Arabia’s actual reserve estimates. You can speculate the power of OPEC and come up with conspiracy theories on how OPEC manipulates oil prices or speculators driving up the price of oil incessantly. It doesn’t change the fact that we need horizontal drilling and the latest 4D-technology to understand and find new deposits. What matters is that we are now on the transition to finding oil in deepwater indicating the beginning of a completely new ballgame.
All those doing the talking about peak oil and unlimited oil supplies are forgetting that this is a transition in the making. It is, indeed, an unique sight to see the transition from finding Ghawar in 1948 to finding Tiber in 2009.
Image Source: Oil Rigs in Baku at Caspian Sea by Viggo Langer
Update: I made some changes to this post by polishing and tidying up grammatical mistakes. Apologies for the bad English posted originally.
Upstream Capital Cost Index according to CERA
I think it is interesting that Gregor MacDonald thinks that the Hotelling Rule is going to be applicable to Brazil quite simply because President Lula realizes the overall value of these reserves with respect to the overall oil market and the need to ensure reliable and consistent supplies.
I am not an economist but I see the problem in applying the Hotelling Rule to Brazil just so quickly. While it may be that Brazil sees no need to flood the market to counter OPEC oil, I think Brazil is quite content to let the “cheaper” grades be mined to exhaustion before touching their own resource. Simply because the cost of extraction is likely to increase as the cheaper grades are exhausted from the market and that different grades of oil have different extraction costs.
As of now, I have never seen a paper that has studied the technological progress in the oil industry (such as deep-water drilling platforms, horizontal drilling methods, enhanced recovery techniques) and its relation to the reduction in extraction costs to pump out the oil. Technology is so vital to the oil industry that I have never seen it properly accounted for at all in papers that I have read. It is either included as an implicit variable (extraction costs although it is part of finding costs) or is not accounted for as a separate variable. Therefore, reading Matt Simmons’s “Twilight in the Desert” as well as help complete a study on subsea production that talks about the latest drilling technologies is helpful for me to offer the following perspective.
Technological progresses, no doubt, change the extraction cost over time resulting in a variable price trajectory for the (now higher) extraction cost and resource price. This “inefficiency” due to distortion should also be compounded with the inefficiency “perpretrated” by OPEC where traditional oil prices are now well above marginal costs and that extraction in deep water and oil sands resources are happening only when cheaper oil runs out. The Hotelling Rule fails to account for these “inefficiencies” and so it will be seen as if Brazil is ok with letting the oil remain in the ground as long as it knows that returns in the following year (when it is time to harvest it) will be higher than currently now.
As of date, there have been few studies that indicate that countries possessing an abundance of natural resources display low economic growth. The reasons attributed to this low growth is the need of resource-rich countries to acquire maximum profits with an extreme rent-seeking behaviour. This leads to an inefficient use and depletion of resources. And those countries that have established funds (for future generations) to manage the money from the returns of exporting the oil, have failed to establish programs that have a tighter integration with their government budget and this coupled with the combination of concentrated power within select special interest groups, the need to lag behind innovatively (once a certain economic wealthiness has been achieved) and the extreme volatility of the profit from changing oil prices results in a total failure (although this presentation seems to go in greater depth giving examples of successes and failures of resource-rich countries).
I would like to see, however, if Brazil would conform to Hartwick’s rule (which states that a country which produces exhaustible resources can maintain a constant level of consumption indefinitely if it invests all profits from these resources in reproducible capital) by remaining indifferent to keeping its oil underground and receiving a market rate of return on its sale. While I certainly understand and agree that the optimal production path taken by Brazil should be towards equalizing the present value of tomorrow’s price of oil to today’s price given all other things being equal, I just think it is the harbinger of things that oil will be finally treated (and given the respect) as the non-renewable resource that it is. Whether this leads to a more efficient market is something that real and experienced people working in the market can answer. In the meantime, Brazil can read and develop a plan on how to optimize its performance in the future.
all the descendents of Standard Oil company
Let’s see how this Tumblr thing works……