Double trouble: deflationary oil prices & financial meltdown

Overlapping Crises

The current financial crisis has ballooned around the world economy and there are fears that this international recession could even trigger a global economic meltdown. Most economic analysts are predicting that it will get worse before it gets better. This is reflected in some of the recent downswings in stock markets worldwide as near term recessionary expectations are being priced in today. The channels of credit have dried up and businesses small and large have been plagued by a credit crunch.

The other key trend is in the sharp volatility of hydrocarbons prices. After a remarkable run up over the last two years, crude prices have plummeted over the past few months. We hit $58 for crude today; and will probably drop further as the global demand cycle weakens in the near term. While there are many factors driving the price of oil (demand- supply, speculation, political risk, etc), it is undeniable that there has been some demand destruction due to unsustainable high prices in the $150 range.

Effect on Projects
So how is this price deflation and the economic crisis at large going to effect the industry, and industry jobs in particular?

In the last few years, quite a few operators were able to leverage cheap credit and high commodity prices to finance large new exploration projects in some new areas. However with the squeeze in the credit markets, some of these projects are either being put on hold or delayed. Small cap companies are scaling back operations, seeking new partners or have become targets for acquisition. There are other companies are also restructuring their project plans to tide over the current period of economic uncertainty. Shell recently announced the delay of its oil sands project in Canada, Yemen has also delayed its gas production outlook. However, most large cap integrated oil companies are not cutting back as they did not factor in prices in the $140 range while making their investment decisions. This is also the case for most national oil companies.

In the long term, my sense is that the demand-supply equation will be unbalanced. The IEA predicted last week in its World Energy Outlook that by 2010 oil companies will have to commit to projects producing almost as 7m barrels a day – if the world is to avoid a supply crunch by the middle of the next decade. This is due to the steep rates of decline in existing fields to meet demand of growing economies like China and India. Further investments should stanch the natural rate of output decline of 9% down to 6.7%. As a result they have predicted a price range greater than $100 by 2015.

Outlook
So the question is how will the credit crunch and lower oil prices affect the labor market in the Oil and Gas industry? Will it stall the recruitment and talent acquisition process? Are we going to see a repeat of the layoffs of the 1980s?

It’s early to say right now; we may have more volatility coming down the pike. But over the medium term once key economies right themselves, demand should increase. China has taken a good step in that direction this week. Only time will tell, but I feel pretty optimistic.

What do you think?

KG Basin – Hopes Afloat

The Krishna – Godavari basin spans across the coastal districts of East Godavari, West Godavari and Krishna in Andhra Pradesh. The basin is currently the hot spot for the Indian oil and gas industry. Three oil and gas majors – Reliance Industries Ltd (RIL), Oil and Natural Gas Corporation (ONGC) and Gujarat State Petroleum Corporation (GSPC) have discovered gas, with some oil, in three different blocks in the KG basin. Men in orange overalls are engaged in a different kind of activity in the area – exploring for hydrocarbons, drilling as well as production testing.

Reliance India Limited – the biggest private sector petroleum company in India is planning to spend $12 billion on producing and transporting the gas across the country while ONGC has announced $3 billion investment in the area which is expected to be raised up to $10 billion later.

With a combined investment of over $30 billion as reported, the KG basin is viewed as an answer to the country’s gas deficit. The basin is expected to produce 120 million cubic meters of gas per day – about four times the gas the country would have received from Iran through the Iran-Pakistan-India pipeline. Besides, the KG basin gas is likely to be 30 per cent cheaper. Many opine that the KG Basin will wipe out India’s gas deficit, halve the power deficit and change the fortunes of fertilizer companies.

Reliance Industries have commenced oil production from its D6 well in the Krishna Godavari basin last week and plans to release gas from the well by January 2009. According to the chairman of the group Mukesh Ambani, “This will account for 40% of the country's current hydrocarbon production”.

Whenever the gas becomes available, it will have a huge impact on the country’s fertilizer and power companies. Power and fertilizer plants, which consume 70 per cent of the gas available in the country, hope that the gas will allow them to operate at full capacity from the rate of 50-60% of their total capacity. Once all the gas from the KG basin begins to flow, perhaps after 2013, it can add at least 10,000 Mw to the country’s power output! That is more than half the country’s current peak power deficit.