Exploration neglect weighs on oil users

Earlier this month, crude oil prices shot up to $78 per barrel, its highest level ever. Every new high is attributed to factors like hurricanes in the US, Iranian nuclear politics or the Middle Eastern conflict. Others blame speculators.

Looking beyond immediate factors, it becomes evident that we are now paying the price for almost two decades of underinvestment in the energy sector. The world may not be close to the end of oil, but it will take several years to undo the impact of this neglect and oil prices will remain strong for this period.

Outside the national oil companies of the OPEC countries, the biggest companies globally are Exxon-Mobil, BP and Shell. From ’01-05, the three recorded a total profit of a whopping $252bn. Crude oil production has accounted for the bulk of this windfall. However, the total spending on exploration by these companies over the same period was $16.7bn. This may look like a big number – but not when spread amongst the world’s three largest companies, each with operations in over a hundred countries.

Moreover, in the same period, they paid out dividends adding up to $122bn and spent $77.8bn on share buybacks. This certainly looks like an example of companies that don’t feel their core business is a viable investment anymore.

Closer home, in a similar vein, upstream oil major ONGC had become a debt-free company some years ago. Not surprisingly, the proven oil and gas reserves of the three global majors have fallen from 34.9bn barrels in ’01 to 34.1bn barrels at the end of ’05. The need to add to reserves is now clear. Despite their windfall profits and piles of cash, the companies cannot scale up their exploration activities immediately.

Oil exploration requires equipment like drilling rigs and supply ships for offshore activities, which are just not available. Yards that build drilling rigs have their hands full, with companies placing orders for equipment that will be delivered in late ’09. There is also a shortage of skilled labour.

Most oil majors had scaled down their exploration departments in time of low oil prices and there are few trained personnel today. “Exploration divisions of these companies went through two rounds of downsizing – the first time when crude oil fell below $10/barrel in ‘86 and then after the collapse of oil prices in ‘98,” says Jeffery Waterous of Global Union Energy, a company engaged in energy sector funding.

Also, the emphasis in this period has been on improving yield from the existing reserves rather than exploration. It takes 5-7 years to get the necessary licences, conduct seismic studies and start drilling, according to Mr Waterous.

Even if the exploration effort shoots up now, there is no certainty that new reserves will be discovered – oil exploration is still a game of chance. Even after a discovery, commercial production can take several years.