OPINION // CHRIS TOMLINSON
No one wants to be the canary in the coal mine.
Sacrificing yourself to warn others may sound noble, but most of us would prefer to escape impending death. Economics are uncompromising, though, and when it comes to oil and gas, offshore drillers will be first to go if the peak demand hypothesis proves correct.
Fifteen years ago, deepwater drilling was supposed to quench the world’s endless thirst for oil. Liquid fossil fuels monopolized the transportation sector, and alternatives existed only in research labs and environmentalists’ imaginations.
Onshore sources of oil also appeared to be dwindling in 2003, giving deepwater and even ultra-deepwater wells a bright future. The infrastructure may have cost tens of billions of dollars, but operators promised investors substantial daily volumes of crude that would flow for decades.
The math made even more sense in 2008 when Goldman Sachs predicted oil could soon reach $200 a barrel. That led service providers at the Offshore Technology Conference in 2014 to tout equipment that could withstand extreme pressures and temperatures in ultra-deep wells drilled in ultra-deepwater.
Many executives thought industry competition would center on technology, not cost. A single deepwater well may cost more than 10 onshore shale wells, experts told me at the time, but it would produce 100 times more
crude for 10 times as long.
The logic seemed impeccable. But times change.
Shale oil wells today produce twice as much as their offshore competitors and cost 90 percent less. The U.S. not only rivals Russia and Saudi Arabia as the world’s largest producer, but we now export oil, something that was illegal in 2014. Prices are far lower than they were in 2014. Crude prices peaked at $107, plunged to $26 in early 2016 and recovered slowly, only recently passing $65 a barrel.
Attendance at OTC has shrunk right alongside oil prices. Companies tout the low cost of their standardized drilling processes rather than trying to dazzle customers with expensive innovations and spare-no-expense custom equipment.
Peak efficiency, though, may not be enough to bring back the good times.
Oil prices have recovered to the $60 range only because OPEC, Russia and other national producers agreed to production cuts. These nations are holding back between 1 million and 2 million barrels per day of capacity, equal to how much demand is expected to grow over the next two years.
Production is also skyrocketing in the Permian Basin and other onshore plays thanks to better technology and techniques. With almost no new production from offshore wells, the U.S. still manages to pump more than 10 million barrels a day. The only thing restraining more crude from coming online is a lack of pipelines.
The Energy Department warns that the world still needs massive offshore wells to avoid a shortfall. But with so much cheap, onshore oil available, energy company executives remain reluctant to make a final investment decision on a 30-year, multi-billion-dollar deepwater rig based on a theory from an organization that is often wrong.
Major offshore operators Exxon Mobil and Royal Dutch Shell hold opposing views on future oil demand. Exxon forecasts growth past 2040, while Shell predicts peak demand by 2030.
They disagree on mounting competition from electric vehicles, both hybrid and plug-in. Automakers will introduce dozens of new models over the next decade as battery costs plummet. With electric car operating costs as much as 50 percent lower than gasoline vehicles, the only impediment to wider adoption is the battery cost.
OPEC and major oil producers also know they cannot allow oil prices to rise too high. Oil above $100 a barrel, or $3.50 a gallon for gasoline, would accelerate electric vehicle adoption and quicken the arrival of peak demand.
Absent higher prices and predictable demand growth, offshore wells are the riskiest of all, and therefore will lose investor confidence first if oil markets disappoint. The oil industry’s canary already looks listless.
Operators have announced only a handful of new offshore projects in the past year, almost all of them in established basins with low break-even prices.
At the last Department of Interior auction, operators leased only 1 percent of the 77 million acres on offer and spent a measly $128 million. Out of 105 leases, 102 are adjacent to existing infrastructure, making them bolt-on investments, not new exploration.
Under current market conditions, operators can only sanction the most productive offshore wells with the lowest break-even prices. Since few projects meet these qualifications, offshore specialists face stiff competition ahead.
Market conditions could change in unforeseen ways, of course, and the offshore could see a rebirth. It’s important to remember that most miners’ canaries lived to sing another day despite the risks.
Chris Tomlinson is the Chronicle’s business columnist. email@example.com twitter.com/cltomlinson