July 2015 was a time of mixed feelings for the Omani oil industry. On the one hand, there was celebration, as the sultanate broke the 1m barrels per day (bpd) mark for the first time in its history, with average production for the month exceeding the key benchmark. On the other hand, there was disappointment, because this milestone had been reached at a time when global oil prices were in a slump and Dubai Mercantile Exchange (DME) crude futures were trading at less than $60 per barrel.
The prolonged slump in oil prices began in June 2014, when benchmark indicators fell precipitously from the $90-110 band at which they had traded fairly reliably for the previous three years to less than $50 a barrel by January 2015. Thereafter, oil producing nations’ hopes were raised briefly in both February and April, as prices recovered slightly, first to over $50 per barrel, and then to around $60. By late May, however, the rout had returned, and West Texas Intermediate crude prices eventually dipped below $40 in late August and have remained low.
Analysts have speculated about the exact causes behind the price retreat. What is clear, however, is that as the slide took hold OPEC nations preferred to maintain production in the hope of driving higher-cost US shale producers out of the market. The cartel’s decision to maintain production, taken in November 2014, was sharply criticised by Oman’s oil minister, Mohammed bin Hamad Al Rumhy, who told press he “fail[ed] to understand how market share can be more important than revenue”, adding that “the current situation is bad for us in Oman.” Oman is not a member of OPEC and saw oil revenues (which make up nearly 86% of government revenues) fall by 46.3% year-on-year for the first five months of 2015.
In light of OPEC’s stance, by February 2015 the Omani authorities seemed to have settled on a policy of maximising their own production. Salim Al Aufi, undersecretary at the Ministry of Oil and Gas, told Bloomberg that future investment and exploration would continue to go ahead as planned. “There are indications that there will be some cost reduction,” he was reported as saying. “Not activity reduction, cost reduction.”
Al Aufi’s production estimate for 2015 was 980,000 bpd, which would represent an additional 35,000 bpd compared with 2014 figures, an increase of 3.7%. While it is as yet unclear how production will average out on an annual basis, July’s figures nonetheless suggest that the total increase in production may ultimately be even greater than that forecast. Even so, with current prices as they are, even an additional 20,000 bpd on top of forecasts would contribute only around $400m in extra revenues. By contrast, the government’s projected deficit for 2015 (which is based on an oil price of $75 per barrel) is OR2.5bn ($6.5bn).
EXPENSIVE OUTPUT: The production drive is being led by Petroleum Development Oman (PDO), the Omani national oil company which is 60% government-owned, with the remainder shared between Shell (34%), Total (4%) and Partex of Portugal (2%). PDO is responsible for around 70% of Oman’s oil production, with 2014 production averaging over 570,000 bpd, and total production (including gas and condensate) averaging 1.2m barrels of oil equivalent. In mid-April PDO’s managing director, Raoul Restucci, announced that the company would raise its long-term production target to 600,000 bpd by 2019, and then seek to maintain that for the following 10 years.
Restucci reportedly said PDO planned to invest over $40bn in projects by 2019 to reach this goal; it is not clear, however, whether this figure also includes pre-existing capital investments. According to Al Aufi, the government invested a total of $8.7bn in the oil sector in 2014. Given that total government revenues from oil were OR10.2bn ($26.5bn), such a figure would imply the authorities are currently reinvesting around one-third of revenues in exploration and production. Central Bank of Oman figures for 2014, by comparison, place combined current and capital spending by the government on the oil sector as OR1.2bn ($3.1bn).
What these various figures seem to demonstrate is that ramping up production in the sultanate has not been (and will not be) a cheap process, and that maintaining production at an elevated level has required – and will continue to require – constant and significant investment. PDO was helped in 2014 by the discovery of additional bookable reserves at the Dhulaima and Birba reservoirs, which enabled the company to increase its stock tank oil initially in place by 8% – the largest increase by exploration in 20 years, which added 613m barrels. However, many of Oman’s existing fields have relatively high extraction costs. Al Aufi told press in January 2015 that current operating costs for most companies in Oman varied between $10 and $15 per barrel. For PDO, Al Aufi indicated that, while operating costs were around $10 per barrel, total average cost per barrel (including capital spending for future production) was currently around $27 per barrel.
While such costs mean that $40 per barrel remains economical (if not highly profitable), it leaves little margin for new investment. Thus, in the current environment the bulk of new exploration and production investment may need to come from PDO, as international oil companies (IOCs) working in the sultanate will have a different tolerance regarding the value/investment ratio of new projects. Indeed, a small increase in the number of open blocks in the sultanate, rising from 15 in 2014 to 18 in mid-2015, would appear to bear out such an assumption, although the Ministry of Oil and Gas expects to re-market recently relinquished blocks to smaller IOCs already operating in the country.
BOTTOM OF THE BARREL: The precise extent to which tolerance varies will differ from company to company. Nonetheless, ministry sources consulted by OBG quoted a price of around $30 per barrel for enhanced oil recovery (EOR) projects, while indicating that the IOC cut-off point for new investment is likely to be around double that, at $60 per barrel. This tallies with industry sources, who quoted a break-even for current production of around $40 per barrel, based on a 50% recovery cost model, and suggested prices would need to rise by around an extra 15% to justify new investment.
While prices remain low, short-term investment is therefore likely to shift away from expensive greenfield developments and towards maximising output from cheaper reservoirs, and this works especially through greater use of EOR steam technology. Occidental, for instance, have increased production at the Mukhaisna (block 53) heavy oil reservoir 15 times over compared with 2005 levels (when it took over the reservoir), reaching 122,000 barrels of oil equivalent per day (boepd) in 2014. With all major capital investments in steam generation capacity already having been made, further exploration in the block remains viable even at relatively low prices. Occidental added around 300 new wells to the field in 2014, and is continuing to explore block 53 alongside PDO.
Meanwhile, the company is also working on reducing its cost base, and Al Aufi told the local press, “They are in discussion with all service providers, including drilling companies, to find opportunity for cutting costs.” While admitting that recovery costs at Mukhaisna through steam EOR were higher, Al Aufi stated they nonetheless remained below $40 per barrel, and that they were looking “to see what we can do in terms of making steam generation more efficient”.
PRAGMATIC PARTNERSHIP: The ministry’s policy of inviting in outside IOCs to participate in the sector may also help the industry weather the current price slump. As of mid-2015 as many as 16 local and international firms were involved in prospecting and/or production in the sultanate, an unusually high number for the Gulf region and a significant contrast with 15 years ago, when only four companies were involved and PDO accounted for 95% of production. “We have to get used to a future which may be more uncertain than before, and where trends such as OPEC strategy, non-OPEC resilience, costs and economic growth can play out in different ways,” Chris Breeze, Shell Oman country chairman, told OBG. “Over time the fundamentals of the oil and gas market will equate to a higher price, but we must be ready to deliver through a prolonged low price environment, and we are responding with urgency and determination.” Predicting the future price of oil is difficult, but the sector has demonstrated it can face the challenges of volatility.