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Nick Cunningham

Nick Cunningham

Nick Cunningham is an independent journalist, covering oil and gas, energy and environmental policy, and international politics. He is based in Portland, Oregon. 

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A Wave Of Unprofitable Oil Is About To Hit The Market

The massive wave of investment that went into offshore oil projects earlier this decade may produce a lot of oil, but profits might not materialize.

Earlier this decade, between 2010 and 2014, oil prices traded at levels that are hard to imagine today, often rising above $100 per barrel. That led to huge wave of spending on costly, often high-risk oil projects, many of which were offshore in deepwater or ultra-deepwater.

The projects may have made sense when oil was north of $100 per barrel, although even then there were serious questions. Cost blowouts and budget-busting delays began to force a rethink years ago, before oil prices crashed. The oft-delayed more-than-$50 billion Kashagan oil field in Kazakhstan epitomized the pre-2014 reckless spending habits of the industry.

However, the collapse of oil prices that began in 2014, which saw oil prices fall by more than half, led to a steep drop in upstream spending, and megaprojects were the first to go. But that only came after years of hefty spending on some costly projects.

A new report from Rystad Energy finds that the offshore spending spree that took place between 2010 and 2014 may not turn out to be profitable. Those projects were large-scale multi-year projects, so many of them are only now coming online. But they are coming online in a world that is entirely different than the one in which they were sanctioned.

“Offshore projects sanctioned between 2010 and 2012 have barely been able to generate any value for E&P companies. Projects sanctioned between 2013 and 2014 are expected to have no value creation,” Rystad Energy said in a report. “For upstream companies to come out those investment years without massive losses, the oil price will need to increase to around $70 per barrel.” Related: Oil Majors Attack The Democrat's Fracking Ban

Project sanctioning reached its peak in 2011, when the oil industry gave the go-ahead of projects representing 13.2 billion barrels of oil equivalent (boe), according to Rystad. For the five-year period between 2010 and 2014, roughly 40 billion boe went forward.

But then oil prices crashed, bottoming out in early 2016 below $30 per barrel. Offshore investment hit a low point that year, with projects targeting only 0.6 billion boe given the greenlight.

However, the more recent wave of spending in the offshore sector might fare better, Rystad said. Projects given the go-ahead between 2015 and 2018 had to meet a different set of standards, and as such, may prove to be profitable to companies even if oil averages $40 per barrel.

“From 2010 through 2014 around 3,000 new oil fields were sanctioned, and we estimate that around 800 of them did not create value,” Espen Erlingsen, head of upstream research at Rystad Energy, said in a statement. “With the pivot in development costs from 2015 onwards, the projects sanctioned over the last four years are in a much better position.”

Meanwhile, the financial questions and operational issues afflicting U.S. shale have yet to be fully understood. The U.S. shale sector has been hit hard by lack of profits and a dramatic shift in investor sentiment over the past year. Related: Breaking Open A Black Hole: The World's Most Dangerous Experiment

In the years following the 2014 oil market downturn, shale output was hit hard, but investment still flowed in as companies and investors saw shale as comparatively less risky than major offshore oil projects. The short-cycle nature of shale drilling meant that cash could be returned quickly, the thinking went. In contrast, large-scale long-term projects tied up capital for years, which was problematic when prices were low and otherwise volatile.

Several years on from that investing trend, U.S. shale has fallen out of favor. Drilling continues and most analysts still see production rising, but the heady days might be over.

To a degree, that has some companies shifting back to offshore drilling. But in a separate report from earlier this year, Rystad Energy warned that the uptick in offshore FIDs could translate into cost overruns all over again. The consultancy said cost overruns could reach as much as $111 billion between 2019 and 2023.

Higher costs, especially if oil prices remain flat, could actually lead investments to fall back once again.

By Nick Cunningham of Oilprice.com

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Leave a comment
  • Lee James on November 04 2019 said:
    With conventional onshore production in decline, and shale and offshore production not all that profitable, where does that leave us?

    I don't like the prospect of increased dependency on foreign oil. I don't like the increased chance that oil is at the center of world conflict. I don't like what oil-producing countries do with a lot of their oil revenue (Russia and Iran).

    For a variety of reasons, we need to transition to clean domestic energy.
  • Bennett Williams on November 05 2019 said:
    "Meanwhile, the financial questions and operational issues afflicting U.S. shale have yet to be fully understood. The U.S. shale sector has been hit hard by lack of profits and a dramatic shift in investor sentiment over the past year."

    It's bone simple - no free cash flow.

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