The New York Times: Oil Industry Struggles to Patch Holes in the Pipeline: Friday 28 October 2005

DENVER - First, Kim R. W. Bennetts scoured Colorado for an available drilling rig before taking his search to West Texas, New Mexico and Utah.

Finally, Mr. Bennetts, an executive at a Texas natural gas company, traveled more than 7,000 miles to the heartland of China to look for the right rig to drill four wells in the Piceance Basin, a booming exploration area in western Colorado.

That is how far he needed to travel to obtain the basic tools of the trade. The shortage of drilling rigs has become so acute this year that some executives blame it for slowing down new exploration projects.

When the rig and a skeleton crew of Chinese technical advisers arrived, a local newspaper likened them to Chinese railroad laborers in the Rockies in the 19th century.

"Sure, there's been some hue and cry," said Mr. Bennetts, the vice president for exploration and production at Presco Inc. "But the Chinese are not displacing any Americans in terms of either technology or jobs, not when nearly every American rig and crew is spoken for."

The oil and gas industry is awash in money. Collectively, the top five major oil companies are on track to post $30 billion in earnings for the third quarter. But even with all that cash, energy executives cannot simply snap their fingers and bring on more supplies to meet strong demand.

The bottlenecks in drilling crews and rigs are not the only problems.

Even before hurricane damage sent energy supplies into a tailspin this year, the oil industry had been hard pressed to find petroleum engineers and geologists, contractors and suppliers, tankers, pipelines, storage tanks, refineries and import terminals.

After years of underinvestment, oil company executives now find that just about everything between the wellhead and the gas pump is in short supply.

"The supply side is stretched from an industry perspective," David J. O'Reilly, Chevron's chief executive, said recently. "It's a little reminiscent of the squeeze we had 25 years ago."

Today's shortages for the most part can be traced to the boom-and-bust cycle that has shaped the industry for the last 150 years. Even with today's record prices, industry executives are still haunted by the price collapses of 1998 and 1986, when oil tumbled to $10 a barrel in a matter of weeks.

These oil crashes sent many smaller companies into bankruptcy and made a lasting impression on today's managers. In response, they went on a severe diet - cutting costs, slashing research budgets, freezing investments and ultimately seeking savings that led to the mega-mergers of the late 1990's.

By the time oil prices recovered, a downsized industry was struggling to keep up with high growth. By then, the industry's work force in the United States was much smaller because of years of consolidation and layoffs.

Since 1981, about 70 percent of the work force, or 1.1 million workers, has been laid off at the top 25 oil companies, according to data compiled by John S. Herold Inc., a research firm in Norwalk, Conn.

At the same time, the number of oil companies has shrunk significantly. For example, BP is a result of mergers of at least 10 companies since the 1950's, including British Petroleum, Amoco, Atlantic Richfield and Sinclair. Today's top 10 oil companies were formed by mergers of more than 45 separate entities.

"The industry has gone through such a contraction that getting it to expand again is proving difficult," said Paul Horsnell, an analyst with Barclays Capital in London. "These companies are not equal to the sum of their parts. Exxon Mobil and ChevronTexaco combined are less than Exxon, Mobil, Chevron and Texaco taken separately."

One problem common to most companies is finding the engineers and geologists to fill the shoes of an aging work force that will soon be entering retirement.

In the United States, half of all workers in the oil and gas industry are 50 to 60 years old and will retire during the coming decade; only 15 percent are in their early 20's to mid-30's. The average age is 48.

"The industry is going to have a lot of challenges replacing all the graying people leaving in the next few years," said Mark Rubin, the executive director of the Society of Petroleum Engineers. The average age for oil engineers is 51.

Students have been driven away from petroleum engineering and geology studies by the oil industry's history of big layoffs, analysts said.

After reaching a peak of 11,000 in 1983, the number of students enrolled in petroleum engineering in the United States has dropped to 1,700, while the number of universities offering these programs fell by half, to 17, over the same period, according to figures compiled by Lloyd R. Heinze, a professor at Texas Tech University. Enrollment hit a low of 1,300 students in 1997.

 

According to the American Petroleum Institute, oil companies need to hire more than 5,000 engineers and 1,300 geoscientists to meet their needs over the next five years. Achieving that will be challenging.

"The availability of talent across the globe is shrinking," said Navjot Singh, the global marketing manager for recruitment at Royal Dutch Shell, whose company said earlier this year that it planned to recruit 1,000 petroleum engineers.

Stuart Strife, an executive with Anadarko Petroleum, acknowledged that some projects might have to be shelved because of the lack of manpower and tools.

"We have a people shortage and we have an equipment shortage," he said. "We're not going to be drilling every well we have in our inventory this year because we don't have enough people or enough equipment."

According to a recent study by Wood Mackenzie, an energy consulting company based in Scotland, oil companies have been finding much less crude in recent years than they are pumping out. The reserve replacement level, which peaked in 2000, has slumped in the last three years as the world's top oil companies found new reserves at the rate of just half of what they produced, the study shows.

"The reserves exist," said Andrew Latham, the vice president for upstream consulting at Wood Mackenzie, "but it's almost inconceivable that we will get full reserve replacement. There are simply not enough rigs available, not enough geologists."

One reason, he said, is that oil companies have simply not been investing enough in exploration. Those budgets, he said, have shrunk by a third since 1998.

What is not in short supply is cash. With oil prices averaging $41 a barrel in 2004 and $56 this year, oil companies have been enjoying record profits. But much of these gains have been going back to shareholders, either in terms of record high dividends or as share buybacks.

This year, the six largest oil companies are expected to buy back shares worth $40 billion, a 60 percent jump from last year, according to the John S. Herold consulting firm. They are also to pay out some $31 billion in dividends.

Only 34 percent of their cash flow, or $54 billion, is to be invested in their upstream businesses of drilling wells, building pipelines and bringing new supplies to the market.

"The concern now is that there will be a backlash against big oil companies who do not seem to be doing enough to bring new supplies and push oil prices down," said Arthur L. Smith, Herold's chief executive. "The industry basically downsized itself into trouble."

Drilling rig availability, experts said, is perhaps the biggest immediate constraint. "The rig market is too tight right now; it's like a game of musical chairs," said Gary R. Flaharty, a spokesman for Baker Hughes, an oil services company.

Since the early 1980's, the number of drilling rigs in the United States has tumbled from nearly 4,700 to about 1,500 today. The rest were scrapped and never replaced.

The rig market, along with the rest of the industry, collapsed in the mid-1980's, said Dennis A. Smith, a spokesman for Nabors, the country's largest drilling company.

"The rigs are the limiting factor," Mr. Smith said, adding that for the first time in two decades, the industry had embarked on a huge rig construction program.

The squeeze, meanwhile, has pushed up prices, with the day rate for renting a 1,000-horsepower drilling rig in the United States jumping to $15,000, from about $9,000 a year ago, according to Richard J. Mason, the publisher of The Land Rig Newsletter in Lubbock, Tex.

"The last time drilling was profitable like this was in 1981," Mr. Mason said. "This is a 'stars are aligned, once in a generation' moment."