Thursday, August 7, 2008

Investments increase, but production is still flat

If you think US oil companies are making obscene profits, think again. The latest Ernst & Young study shows that exploration and development costs are up sharply, while revenues have increased a little, and upstream profits have nudged upward by only a few percentage points. Nobody who can read a balance sheet would call this a “windfall.”

Yes, some petroleum companies have fared better than others, as is the case in other industries. But, taken as a group, US-based oil and gas companies are earning only modest profits. The ledger item that jumps out at you is the dramatic jump in costs.

Exploration costs increased 165% over the past five years from $4.8 billion in 2003. There was a 15% increase the past year, from $11.1 billion in 2006 to $12.8 billion in 2007.

Development costs have risen 180% from $18.4 billion in 2003. In the past year alone, the cost of development moved up a staggering 28% to $52.2 billion.

This year, preliminary reports indicate that the expense side of the balance sheet continues to edge upwards, as E&P companies move into deeper and deeper offshore waters in search of oil and natural gas, and onshore companies face increased technological challenges and steeper drilling costs operating in unconventional geologic formations.

As Matt Simmons says in this month’s cover story, oil is becoming a scarce resource. It’s not that we’re running out of oil. We’re running out of cheap, easy-to-find, easy-to-produce oil. Already we import about 70% of our oil, and forecasts are that this will rise to 80% in the next few years, making us ever more dependent on foreign sources and worsening our trade deficit.

President George W. Bush was correct in saying we’ve become addicted to oil. But even if we implement draconian conservation measures in the United States, the demand for energy in developing nations is likely to more than make up the difference. As long as demand is rising and production is stagnant, prices will rise. That’s a basic economic principle.

Although speculative trading no doubt factors into the current high price of crude, it is not the main driver. At most it accounts for $20 to $30 of the current price, according to some analysts. If you examine the problem closely, you’ll see that energy consumption is increasing dramatically in developing countries and that more mature economies like the United States have not reduced their consumption significantly. We all still have hypodermic needles in our veins.

Here are some recent predictions about where oil prices will go:

Chakib Khelil, president of OPEC, predicted on July 6 that oil prices could go as high as $170 a barrel this summer.
Paolo Scaroni, head of Italy’s Eni SpA, said in late June that he could see prices hitting $200 a barrel this year.
On June 9, Gazprom’s Alexei Miller commented: “We think it [the price of oil] will reach $250 a barrel.” A company spokesman specified that Gazprom believed that level would be hit in 2009.
And, finally, the legendary T. Boone Pickens, a billionaire oil investor, said on July 22 that he believes oil will hit $300 a barrel in 10 years.

Of course not everyone agrees with these assessments. Most analysts, in fact, believe oil prices will range between $100 and $200 in 2009. Forecasts beyond that date are probably not very reliable.

As of this writing, crude has fallen to $123 a barrel – about a $20 drop in the past weeks – after hitting an all-time high of $145.85 in early July. This shows the futures market is in quite a bit of flux. Crude oil prices averaged $72 a barrel in 2007, so even the current seven-week low of $123 is a significant increase ($51/bbl) over last year’s average.

Peter Fusaro, co-founder of the Energy Hedge Fund Center and a contributor in this issue, notes, “We are not running out of fossil energy, but cheap energy days are gone forever. Live with it and see it as an investment opportunity.”
Have an opinion on this?


Post a Comment

*/ ?>
Post a Comment

Subscribe to Post Comments [Atom]

*/ ?>

<< Home

"; } ?>