The New York Times: Oman's Oil Yield Long in Decline, Shell Data Show
By JEFF GERTH and STEPHEN LABATON
Published: April 8, 2004
The Royal Dutch/Shell Group's oil production in Oman has been declining for years, belying the company's optimistic reports and raising doubts about a vital question in the Middle East: whether new technology can extend the life of huge but mature oil fields.
Internal company documents and technical papers show that the Yibal field, Oman's largest, began to decline rapidly in 1997. Yet Sir Philip Watts, Shell's former chairman, said in an upbeat public report in 2000 that "major advances in drilling" were enabling the company "to extract more from such mature fields." The internal Shell documents suggest that the figure for proven oil reserves in Oman was mistakenly increased in 2000, resulting in a 40 percent overstatement.
The company's falling production and reduced reserves in Oman are part of a broader problem facing Shell, the British-Dutch oil giant that earlier this year lowered its estimate of worldwide reserves, a crucial financial indicator, by 20 percent, or 3.9 billion barrels.
Documents show that senior executives were told the calculations of reserves were too high in 2002, at least two years before the company downgraded its estimate this January.
While Oman represents a small part of Shell's reserves, oil industry experts say the company's experience there highlights broader questions about the future role of Western oil companies and their technology in the Persian Gulf, which has most of the world's oil reserves.
In the case of the Yibal field, for example, Shell and Omani oil engineers and auditors have expressed concerns that a technique Sir Philip said would recover more oil not only did not do so, but also increased the amount of water in the extracted oil to as much as 90 percent of the total volume, increasing production costs.
"In Oman, Shell seems to have fumbled on technology," said Ali Morteza Samsam Bakhtiari, a senior official with the National Iranian Oil Company.
Perhaps more ominously for the world's oil outlook, he added that the failure of Shell's horizontal drilling technology in Oman suggested that even advanced extraction techniques "won't bring back the good old days."
In the last 10 years, horizontal drilling has become one of the most important innovations in the oil production business and is widely used around the world. If properly managed, it can extract more oil from some fields, and can pump it out sooner and more efficiently than traditional vertical drilling.
Shell helped pioneer the technique, and it did accelerate production in Yibal, documents show. But a Shell document last fall did oes not project the technique to increase the amount of oil that will ultimately be recovered from the field, and it resulted in additional water being mixed in with the oil, increasing production costs. That suggests that although it may work in some places, horizontal drilling may not always be the answer to declining production rates in the mature fields of the Middle East.
Sir Philip made his optimistic assessment of the Oman field in May 2000, when he was the company's head of exploration and development. He was named chairman a year later. The board dismissed him and Walter van de Vijver, chief executive of the exploration and production business in early March, about two months after Shell reduced its reserves estimate.
Regulators in Europe and Washington, as well prosecutors at the United States Justice Department are investigating whether Shell's disclosures about its reserves complied with securities laws. The company says it is cooperating with the investigations and expects to announce the results of an internal review in the next few weeks.
"Shell has been open about the production shortfall in Oman, most recently in the presentation to analysts on Feb. 5," Simon Buerk, a company spokesman, said in an e-mail message responding to questions. Mr. Buerk said that production targets were met in 2003. Pending investigations limited the company's ability to comment on Sir Philip's statements, he said.
Shell has been involved in Oman since the
1930's, when oil was first discovered there. It owns 34 percent of Petroleum
Development Oman, the dominant oil and gas exploration company. The Omani
government owns 60 percent of the joint venture, which accounts for 90 percent
of the sultanate's oil production and virtually all of its natural gas
production. The rest is owned by other European companies.
Oman's oil problems are relatively recent. Annual production rose from 1980 to 1997, when the 35-year-old Yibal field began to decline.
Two engineering papers written last year by Petroleum Development Oman officials show that production in Yibal has fallen at an annual rate of about 12 percent for six years; that is more than twice the normal rate of 5 percent in the region. Moreover, Shell overstated its proven oil reserves in Oman, a December 2003 Shell report found, primarily because the company had failed to trim the figures back "in light of recent downturns in oil production rates."
This sober internal analysis differs from optimistic public statements by Shell that continued even after news of production difficulties began to circulate outside the company. When an analyst asked in 2002 about problems in Oman, for example, Sir Philip likened them to "a bit of hiccup."
Joseph I. Goldstein, Sir Philip's lawyer in Washington, did not return a phone call.
Nasser bin Khamis al-Jashmi, an under secretary at Oman's Ministry of Oil and Gas and a member of the board of Petroleum Development Oman, declined to speak publicly about the matter this week. "I will not be able to answer your questions as we are still discussing the whole issue with our partners," he said.
But some insight into Oman's views are contained in remarks made a few years ago by its minister of oil and gas and another director of Petroleum Development Oman. The remarks were published in the venture's newsletter and posted on Shell's Web site. "We have been too preoccupied with trying to get that extra barrel" now, said the minister, Mohammed bin Hamad al-Rumhy, "rather than formulating a plan for the long term."
Countries like Oman seek to husband their oil and gas to extend their income over the long run, but Shell, aiming to increase value for its shareholders, has a shorter time horizon: its license in Oman expires in 2012, so it has emphasized pumping more oil sooner.
A Dec. 8, 2003, report to Shell's top managers about the impending restatement of reserves criticized the operation in Oman. The cause of the problems, the report said, was "the extreme focus on short-term development opportunities (`keep the rigs busy to keep the oil rate up') to the detriment of defining long-term projects."
Oil experts say the situation in which Shell and Oman, which form one of the few government-company alliances in the region, find themselves may portend problems for the West's quest for energy security. Major energy companies that had run oil operations in the Persian Gulf before they were nationalized decades ago are looking to return to the region and obtain concessions like the one Shell has in Oman.
"There is considerable ambivalence about foreign oil companies in the Persian Gulf," said Valerie Marcel, an expert on oil and the Middle East at the Royal Institute of International Affairs in London. "Persian Gulf producers would like to see their reservoirs handled with velvet gloves — and that means a longer and flatter production curve."
Mr. Buerk of Shell said that his company was supporting efforts of the joint venture to "maximize long-term oil production," and that Shell and the Omani government had "a close and strong relationship spanning more than six decades."
But the arrangement can also be "extremely sensitive," according to the internal Shell report of last December, which recommended that the lowered amount of Oman's proven reserves be kept confidential. (Shell officials have said that the revision in Oman accounts for no more than 10 percent of the worldwide restatement, or 390 million barrels.)
The sensitive matter, according to the report, involves negotiations over bonuses that the company can win for increasing reserves. The basis for the bonus is a less rigorous standard — called expectation reserves — than the proven-reserves yardstick that the company is required by American rules to list in periodic filings with the Securities and Exchange Commission. The report said "the expectation reserves may be overstated."
The declines in the Yibal field are spelled out by officials of the joint venture in two papers that were published last year by the Society of Petroleum Engineers. The papers have different numbers: both say production peaked in 1997, but one said it declined to its current rate of 88,057 barrels a day by 2000 from a peak of 251,592, while the other said it fell to 95,000 barrels from 225,000. A spokeswoman for the society said she could not explain the difference.
Both papers say that about 90 percent of the liquid coming out of the ground is water and 10 percent is oil. The high volume of water, one paper said, comes in part from the water that Shell injects into the ground as part of its horizontal drilling technique, which it introduced to Oman in the early 1990's. The relatively high volume of water being pumped up adds considerably to the costs of extracting the oil.
While the field was declining, Sir Philip described it as a marvel of "advances in well technology" that had, in four years, produced additional production and "substantial additional reserves," according to an account of remarks he made on March 9, 1999, that is posted on Shell's Web site.
The next year, Shell officials advised the joint venture "to make an upward correction to proved reserves" based on steady production rates for all of Oman over the next eight years, according to Shell's senior management report dated last December.
The reserve estimate was increased even as overall production began to decline. Nonetheless, Sir Philip, in his remarks on May 29, 2000, continued to talk positively about the effect of horizontal drilling and other technologies on Yibal, saying it was "still the country's most important producer three decades after coming on-stream."
Last December's Shell report said, "With hindsight, it might have been more appropriate to correct the expectation estimate down rather than the proved estimate upwards." The report said that it was understood at the time when the reserve estimate was increased that a more detailed assessment would follow.
But it was not until 2003, four years after the previous audit, that Shell did an audit of proven reserves of its operations in Oman. The audit found that "proved total reserves are currently overstated by some 40 percent."
Exxon Mobil, a competitor of Shell, says that it audits its proven reserves annually.
The lack of a timely assessment of Oman by Shell's auditors, the internal December report explained, was "due to the attention required by serious production decline problems."