Unconventional gas takes centre stage
Shale gas is dominating the thoughts of Western oil companies. But BP's move for Devon should remind them that oil remains the true prize. Derek Brower reports from Houston
PUSHED out of the most promising conventional oil and gas regions in recent years, Western energy firms have latched onto unconventional resources as the means to achieve new growth. The advent of shale-gas production in the US, with hopes to spread that revolution across the world, is the headline of that story – but a reshuffling of priorities and assets is redefining the shape of a global energy industry whose future looks increasingly unpredictable.
The mergers and acquisitions activity that analysts expect to increase in the North American energy business over the coming months is already yielding opportunities for the majors. Last month, BP pounced on assets put up for sale by Devon Energy, one of the US' unconventional-energy experts. The deal is a coup for BP, giving it access to Brazil's deep-water among other "core areas". BP will pay Devon $7bn in cash for assets that also include Devon's positions in Azerbaijan and the Gulf of Mexico (GOM), both regions where BP is already strong.
The companies will also form a new 50:50 joint venture in Alberta's oil sands – a new growth area for BP, which was, until recently, unconvinced by the region's potential. That portion of the deal sees Devon pay $0.5bn for the 50% stake in the Kirby development; and the US firm will also fund an additional $150m of the capital costs and operate the project. Other assets include: stakes in 10 Brazilian exploration blocks, seven of which are in the prolific Campos basin; a large deep-water exploration portfolio that includes prospects in the US Gulf of Mexico; and an interest in the BP-operated Azeri-Chirag-Guneshli (ACG) development in the Caspian Sea, Azerbaijan.
Tony Inglis, BP's head of exploration and production, said the transactions would reinforce BP's position as the world's leading deep-water international oil company (IOC). There are other synergies: with BP investing heavily to upgrade its refinery at Whiting, Indiana, an off-take agreement with Devon will guarantee a stream of synthetic crude from the Kirby development, as well as some supplies from Devon's Jackfish oil-sands project, which is already on stream.
The reaction to news of the deal focused on BP's strategic shift towards Brazil's promising deep water, and the price it was paying to catch up with other explorers that have been making headway in the region. Devon's production from the GOM and Azerbaijani assets BP is buying is just 40,000 barrels a day. Proved reserves are 140m barrels. This suggests a price of almost $50 per barrel of oil equivalent (boe), although BP believes there is potential to increase this to 1.4bn boe.
The deal reminds the world that oil remains the prize for the biggest energy companies. A couple of years ago, such a claim would have been platitudinous. Now, however, it needs to be justified, because if you listen to what the Western energy industry is saying at the moment, you will hear an obsession with natural gas.
That much was clear from last month's annual CeraWeek conference in Houston, where until news of BP's move for Devon's oil assets spread among the delegates, natural gas was the dominant theme – even hijacking the agenda when attendees expected discussion of oil. This is the consequence of the gas glut in the world that has resulted from the success of North America's unconventional gas explorers.
Even crowd-pleasing assurances about oil's centrality, from speakers as diverse as US energy secretary Steven Chu and Saudi Aramco chief executive Khalid al-Falih, fell largely on deaf ears: oil executives, especially in the US, are gripped by visions of natural gas abundance and what it means.
Part of the interest stems from uncertainty. A consensus has emerged that the growth in production and reserves in North America will continue. Although there will be limits to the market penetration of gas (see box), IHS Cera reckons the new production has the potential to "cause a paradigm shift in the fuelling of North America's future". Shale gas already accounts for 20% of US production and its share will rise to 50% in the next 25 years, says the consultancy. That could allow gas' role in electricity generation almost to double from 19bn cubic feet a day (cf/d) now to 35bn cf/d by 2035.
In contrast to the transport sector, where energy demand will stagnate, US power consumption will continue to grow. Over the next two decades, reckons IHS Cera, electricity generating capacity will need to rise by 270 gigawatts to meet demand, requiring 540 new gas-fired power stations or 200 new nuclear plants.
This is an opportunity for natural gas, although the sector's growth potential depends on what the US government does to promote its use. On the one hand, the indications from the White House are positive: when Chu spoke at CeraWeek, he did not just praise the industry's development of new gas reserves that will help support a wider uptake of renewables, he also said the US government would fund studies of gas-hydrates production. Only if one envisages rapid growth in natural-gas consumption would one already be considering a new frontier of production altogether.
On the other hand, the growth in electricity demand is also a boon for coal – unless legislation to fight carbon emissions punishes its use and encourages displacement by natural gas. Clannish infighting between lobby groups and politicians in Washington, DC, will partly decide that. Yet the necessary changes need not be severe. Many in the gas industry have begun arguing that a mere $30 a tonne levy on carbon would promote such a transition. Make that $60/t, argued Tom Walters, president of ExxonMobil's gas and power division, and the logic for gas over coal would become even more compelling, even if nuclear and renewable energy – both costly at scale – also gained market share.
Walters says a "level-playing field" to allow natural gas to compete with other fuels globally will be essential if the market is to grow – and if gas' environmental and strategic advantages are to be realised. If, as ExxonMobil expects, a robust carbon price is established, a global gas-supply shortfall will occur, says Walters. In the US alone, this will amount to 65bn cf/d by 2030, double consumption now. His company's $41bn purchase of shale-gas specialist XTO Energy has put a large bet on the table.
Indeed, for all the discussion of the present gas-supply glut, when the industry's decision makers talk of the future, the overhang that has followed the unconventional revolution and global recession looks like a mere blip along a rapidly rising energy-demand graph. How the world meets rising demand is a question that yields two different views.
ConocoPhillips' boss, Jim Mulva, says the resource will more than handle the growth, even as the world's population soars to more than 9 billion people. Total global consumption of gas is now 107 trillion cf/y and proved conventional resources are 6,500 trillion cf, he says. Unconventional resources take the total to 38,000 trillion cf – "multiple centuries of supply". Meanwhile, ConocoPhillips is "in the early states of researching" how to tap a gas-hydrates reserve in the Arctic and beneath the ocean floor that could amount to 0.7m trillion cf. With potential supply statistics like these, argues Mulva, gas is not the bridge to a new source of energy; it is the destination.
Those numbers are almost too big to grasp. But exploitation of gas hydrates is many years away, given that North America's gas drillers are yet even to establish how large the continent's shale-gas potential is; and no-one has yet begun commercial production from shale outside the continent. Moreover, faith in models forecasting gas demand across the world is faltering: no-one yet seems to know with any certainty what the present glut and weak prices will do to consumption.
The biggest unknown could be China. France's Total, which has sought shale-gas partnerships in the US with companies such as Chesapeake Energy, believes shale-gas production globally will account for just 5-7% of supply by 2030 – but will be essential as the gas glut disappears on the back of an unforeseen jump in Chinese demand. "The potential for gas consumption in China is much bigger than all the curves show for the future," argues Philippe Boisseau, head of the company's gas and power division. GDP per person will double in China over the next decade, he points out. Natural gas demand, which is constrained at present only by insufficient import infrastructure, will soar -- especially once the government loosens price controls to encourage more construction.
Four years ago, points out Boisseau, only three liquefied natural gas (LNG) receiving terminals were under construction in China. Now 13 are being built and Total expects the number to grow. The Chinese government is also pushing up prices gradually. "China is slowly preparing to adapt its economy to consuming even more high-value international LNG for their growth. So in our view all the prospects of gas demand are underestimated." By 2020, the world will need another 20bn cf/d of gas – or 100m tonnes a year (t/y) of LNG, on top of the planned plants around the world.
A glut of LNG
This is counter-intuitive stuff, given the bargain-basement gas prices on the global market at present, and the talk of centuries and more of supplies. Indeed, new LNG projects due on stream by the end of this year will add another 80m t/y to supply – almost 50% more than in 2008. The glut this has yielded, predicts Wood Mackenzie, a consultancy, will begin to clear only by 2014 (PE 2/10 p2). No-one other than Total seems to have sufficient faith in the battered economic models that predict energy demand growth to say for sure what happens after that.
All of this adds up to a realm of uncertainty in global gas markets – a legacy not just of the recession and its effect on the forecasts for consumption, but also of the sudden arrival of unexpected reams of unconventional gas in the world's biggest consumer country. By contrast, oil's future seems more predictable, despite the peaking of demand in rich Western nations. BP's purchase of Devon's juicy assets is a reminder that despite the gas fever, oil remains king, even if it means drilling thousands of metres through Brazilian salt to find it.