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Financial Times: Replacing replacement: Posted 23 December 2005

Published: December 22 2005 02:00

This time around, however, the logic is less compelling. There are some special situations: it makes little sense, for example, for Norway's Statoil and Norsk Hydro to continue bidding against each other. Likewise, nil-premium mergers between other regional majors and smaller independents would aid diversification and cut costs. Bigger oil companies, however, have to be fed. If replacing 1m bpd of production was hard enough, try 3m or more, especially when the best resources are off-limits. Consolidation also does not really address the main problem. The majors' traditional strengths - technology, capital and know-how - are on offer from a larger range of competitors. Banks and oil services companies do not ask for reserves in return. Two decades of cost-cutting have left the majors with little slack - hence Royal Dutch Shell's recruitment drive for engineers, launched earlier this year.

The question hanging over the traditional majors in this new world is: what do they still do better than anyone else? Market access, developing fuels and refining offer medium-term answers for some. But they all imply the same thing: lower returns than the current generation of oil executives and shareholders have been used to. In that environment, marketing a company as a stable yield stock with some alternative fuels up its sleeve makes sense. Shrinking the business to protect returns should also not necessarily be seen as capitulation. This means that focusing on replacement and production growth measures makes less sense. Regulators can help to ease this transition. The Securities and Exchange Commission's current system of booking proven reserves is a relic of the 1970s. A more realistic assessment of oil companies' available resources is needed - by including, for example, oil sands and uncontracted gas reserves. At this pivotal time, that, at least, would help investors move beyond preconceptions.


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