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Consultant Tells Producers to 'Drill Through the Storm'

The economic downturn could be half over, and when it ends the oil and gas industry is poised to benefit from the upturn -- if it prepares now for better days, according to Ernst & Young.

"For the energy industry, the fall was made all the more acute by the peak that preceded it," Ernst & Young said, noting that average crude oil prices have declined by more than $100/bbl, an unprecedented 75% decline. "Commodity prices and operating costs had never seen such highs. Previous commodity price downturns lasted an average of 73 weeks. If history is any indicator, we may be halfway through this cycle."

Previous recessions have been followed by periods of prosperity, the firm noted. For instance, the dot-com bust of 1998 was followed by the housing boom of 2002.

"Compared to the recovery of the last major collapse in the 1980s, today's [oil and gas] industry is much leaner, more efficient and better positioned to take advantage of opportunities during an economic recovery," said Marcela Donadio, Americas director of oil and gas for the consulting and accounting firm. "Looking at the duration of previous commodity price downturns, we could be halfway through this cycle. Now's the time to plan for the upside."

Ernst & Young urged producers to keep drilling in anticipation of a recovery. "Producers would be wise to maintain a long-term focus and 'drill through the storm,' even as margins decline," the firm said. "This will not only ensure continuity of supply, but serve to help retain top talent, which will pay dividends in the long term as the retiring of today's oil and gas workforce gets under way."

However, one look at industry news reveals that not everyone is willing or able to follow this advice. In Texas, an index that measures the health of the oil and gas sector revealed in December that petroleum industry employment declined for the second straight month (see NGI, Feb. 16a). A recent informal survey of industry executives found that they are expecting oil and natural gas prices to be 20% lower than Wall Street expectations and that they have a "profound sense of near-term caution" for 2009 (see NGI, Feb. 16b). And since the end of last year Anadarko Petroleum Corp. has laid down about 30% of its U.S. onshore rigs (see NGI, Feb. 9a). U.S. exploration and production companies began to curtail capital expenditures last fall as commodity prices slumped. U.S. onshore drilling has taken a severe hit, and some energy analysts expect more rigs to be laid down (see NGI, Feb. 9b).

Producers were also encouraged to husband cash carefully. "Pay close attention to debt maturity schedules, bank covenants, cash on hand and capital expenditure flexibility," Ernst & Young said. Volumetric production payments, are one means of funding exploration, development and production it noted.

Finally, investments in renewable energy offer "a sound long-term strategy," given the priorities of the Obama administration.

The domestic natural gas rig count fell by 36, or 3.4%, from a week earlier to stand at 1,018, Baker Hughes Inc. reported Friday. The rig count, now at its lowest level since March 2005, has fallen 37% since mid-September, when there were an estimated 1,606 gas rigs in service across the country and offshore.

The U.S. oil rig count also dropped last week by 1.5% from the previous week, down four rigs to 269, which is a two-year low. In early November there were 442 domestic rigs exploring for oil.

The total onshore oil and gas rig count was down to 1,241 on Friday, which is the lowest level since mid-June 2005. In the offshore, four rigs were laid down to bring the total to 54, which is the lowest level since late October 2007. Canada also lost 20 rigs; its rig count stands at 401, Baker Hughes stated.

Combined the oil and gas rig count reached a 22-year high in 2008, peaking at 2,031 in late August and mid-September.

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