Dennis U. Atuanya's  Instablog

In their Q2 earnings reports earlier this year, major International Oil Companies, IOCs presented large earnings decline despite the doubling of global crude oil prices between Q1 and Q2. In their Q3 reports, earnings also declined significantly in spite of the spike in crude oil prices. In both cases, weak demand was the principal culprit and according to Anglo Dutch Shell, a quick recovery is not in sight.
Global crude oil inventories have been high, in addition, an estimated 125 million barrels of crude oil and fuels are held in unconventional (eg floating) storage around the world. Normally, only a negligible quantity is held in such storage. With such high stockpiles, global demand has been expectedly weak, reportedly falling by 1.6% and 1.7% in July and August 2009 respectively while showing an annual decline rate (in countries making up 70% of world demand) of 2%.

IOCs are currently in a rather precarious situation. They face three principal issues:
First is the increasing difficulty to the profitable discovery and production of oil, an issue often masked by the current oversupply. For example, according to recent research reports, over the past 10 years, growth in cashflow per barrel (15%) has lagged the compound annual growth rate (18%) for discovery and production. Worse still, their recycle ratios have dipped significantly. In a subsequent post, l suggested that cost-cutting measures present one of the best viability options for these IOCs. The oil major Anglo Dutch Shell, in announcing a less-than-expected 73% decline in Q3 earnings, indicated that it reduced costs by US$1 billion. Having shed 20% of its top managers, the company is set to cut 5,000 jobs from less senior levels. Conoco has outlined plans to sell assets worth US$10 billion while British Petroleum has identified 22 U.S. properties for divestment both as efforts to boost profitability.

Secondly, even when discoveries have been made, these IOCs face rising resource nationalism (the increasing domiciliation of reserves and exploitation proceeds in National Oil Companies, NOCs). The largest, recent additions to global crude oil reserves have come from developing nations. While the massive pre-salt discoveries of Brazil’s Santos Basin and Saudi Arabia’s Khurais fields are well-known, current international interests lie in the equally massive, Atlantic, petroleum provinces of Africa, which are considered less politically volatile than the Middle East. Various projections put Africa’s share of world hydrocarbon growth at about 30% by next year. NOCs, (having doubled the number of licences held in the last ten years), however, are playing increasing roles at the expence of IOCs. From Angola through Nigeria, Ghana, Sierra Leone to Guinea, large oil discoveries have been made. However, these countries are insisting on greater control of, and much higher shares of production proceeds from, their oil resources. For example, IOCs have very vehemently decried the Petroleum Industry Bill currently before Nigeria’s legislature as economically asphyxiating and inimical to their investment interests. The bill provides for even higher government take from production proceeds among others. In Brazil, Petrobras the country’s NOC is angling to retain control of most of the fields of the massive Santos Basin, a situation that IOCs have equally decried. An earlier proposal provided for acquisition of all unassigned rights (about two thirds of total) in the sub-salt. Countries such as Russia, Iran and Venezuela with massive oil reserves are even less palatable to the IOCs. Many of these developing countries are adopting the more lucrative production sharing contracts over outright concessions.

Finally, the intimidating entry of China’s NOC (enter the dragon?). With a massive financial war chest and an equally cavernous thirst for oil, China is offering better deals to these producer-nations than IOCs realistically can. For example, as many exploration and production contracts between Nigeria and major IOCs come up for renewal, China is raising the stakes, offering the country better terms than IOCs for control of a large share of her (about 30 billion-barrel) proven oil reserves. In such tight fiscal regimes as these, it would be difficult for any country to overlook such an offer. The Nigerian government is expected to employ this offer as a bargaining chip in her negotiations with IOCs.
Moreover, it is not just Nigeria. Petrobras, Brazil’s NOC, in its bid to raise the necessary operational capital independent of IOCs has entered into a US$10 billion-dollar, ten-year contract with a Chinese NOC for the supply of crude oil at up to 200,000 barrels per day. China also reportedly “gate-crashed” (though denials have been made) negotiations between Ghana and some IOCs; the negotiations were for Ghana’s 1.8 billion-barrel, Jubilee oilfield. Then there are also Guinea, Sudan, Angola and many others.
Many of these IOCs have been accused of a cavalier attitude towards host countries, a situation that China, with her added global political and military might, often exploits.

For the IOCs then, while these cost-cutting measures just might be effective in the short term, the lingering and weighty issues of licences and the economics of discovery and production must be resolved if they must remain viable in the long term.
One emerging trend however is the establishment of joint ventures between IOCs and Chinese NOCs. With superior financial muscle, cheaper labor and materials and shear “guts” for operation in higher (political and other) risk zones, such ventures may be worthwhile. British Petroleum (BP), for example recently won co-development rights with the Chinese company CNPC for an oilfield in Rumaila, Iraq.

Disclosure: None