After Spill, Gulf Oil Drilling Rebounds

09 21, 2012 by The Wall Street Journal

After a steep drop in oil production in the wake of the Deepwater Horizon disaster, the U.S. Gulf of Mexico is set for an energy boom.

Gulf oil flows will increase by nearly 28% by 2022 to 1.8 million barrels per day, according to consulting firm Bentek Energy. Output will be boosted by huge projects like Exxon Mobil Corp.'s XOM +1.04% Hadrian field 250 miles off the coast of Louisiana and Chevron Corp.'s CVX +1.06% nearby Jack and St. Malo projects.

The Gulf accounted for nearly a third of U.S. oil production as recently as 2009. But onshore oil production has surged as oil companies use new extraction techniques to tap dense shale formations in places likelike the Eagle Ford shale Texas and the Bakken shale North Dakota. The Gulf now accounts for just 20% of U.S. output, and that number is predicted to decline to 15% by 2022 despite the expected surge in Gulf production.

Oil found offshore generally sells for more than onshore crude. That is partly because Gulf oil is easier to transport to Europe and trades at the higher prices crude fetches there. The result is that oil companies are eager to gear up offshore production, despite the growing challenges of drilling in new areas and deeper water.

The resurgence in the Gulf belies warnings from the energy industry that tougher regulations would curtail exploration there following the 2010 explosion at BP BP.LN -0.38% PLC's Macondo well. The blast killed 11 people on the Deepwater Horizon drilling rig and led to the worst offshore oil spill in U.S. history.

Today the industry says it is learning to live with stricter safety oversight and slower permit reviews. The tougher regulatory environment is palatable because of high global oil prices, which have remained above $90 a barrel for nearly two years.

"Bottom-line, the Gulf of Mexico is in considerably better shape than even the most ardent optimists envisioned following Macondo," said Bill Herbert, a managing director with investment bank Simmons & Co.

Some major energy companies are increasing their commitments to the Gulf, including Royal Dutch Shell, RDSA -1.02% which earlier this year spent more than $403 million to lease several new areas there. "The importance of the Gulf continues to grow for Shell, with significant discoveries and major projects in the pipeline," says Marvin Odom, president of Shell Oil Co.

BP, which is the area's largest oil producer and is expected to remain so, agreed recently to sell $5.5 billion of assets to Plains Exploration & Production Co., PXP +1.88% while Brazilian oil giant Petroleo Brasileiro SA PBR +0.90% said this week that it may sell some of its Gulf projects.

But those moves reflect company-specific challenges rather than concerns over the Gulf, analysts say. Petrobras needs to focus on many projects back in Brazil.

BP, which will invest about $4 billion a year in the Gulf over the next decade, needs money to pay for the aftermath of the 2010 spill. It has six deep-water rigs at work in the Gulf and plans to add two more by year-end, a record for the company.

The Gulf benefits from the extensive infrastructure in place there, which makes development easier. It is the most developed offshore oil-and-gas region in the world, according to Tyler Priest, a University of Iowa history professor who focuses on the energy industry.

Beginning with just a handful of wells off the beaches and marshes of Texas and Louisiana in the 1950s, the Gulf now has more than 4,000 platforms pumping oil and gas from 35,000 wells through nearly 30,000 miles of pipelines.

Including natural gas as well as oil, production in federal waters reached a peak of almost 1.8 million barrels per day in 2009. But the 2010 Deepwater Horizon spill led to a six-month drilling moratorium as the government drafted new safety rules.

Oil and gas flows in 2010 were off just slightly from the 2009 peak, but dropped 18% in 2011 to 1.4 million barrels of oil equivalent. They are expected to bottom out this year at 1.3 million barrels.

Worst-case predictions for environmental damage didn't materialize following the spill, though a number of continuing studies indicate there may be long-term impacts on the Gulf's ecosystem. On Thursday, the National Oceanic and Atmospheric Administration reported that in 2011 the Gulf's commercial seafood industry saw its highest volume of catches since 1999.

New regulations imposed after the oil spill spelled out specific standards for well design and construction, added new requirements for safety equipment and inspections, while requiring that drillers have quick access to a containment system similar to the one that ultimately stopped the Deepwater Horizon spill.

The new regulations also have slowed the pace at which energy companies receive federal permits. Exploration and development plans now take about 150 days compared with 54 days in the past, according to investment bank Tudor Pickering & Holt. Permits to drill specific wells now take about twice as long as before the disaster.

But the number of permits has risen sharply so far this year, to 105 as of August, versus 79 in all of 2011. "Today we see cooler heads and more pragmatic leadership with the regulators in Washington, and things are now working more smoothly in the Gulf, " says James Noe, general counsel for drilling firm Hercules Offshore Inc. HERO -1.94%

The pipeline for future projects in the Gulf continues to grow. In June, 56 companies bid $1.7 billion for the rights to explore more than 2.4 million acres of the Gulf controlled by the federal government.

Success in these new areaswon't come easily, according to Tudor Pickering. Much of the drilling will tap into a region called the Lower Tertiary, where completed projects so far have produced about one-third the daily rate of earlier deep-water fields and taken about 30% longer to drill.

Many energy experts predicted only the biggest companies could meet new regulatory and financial requirements to drill in the Gulf, but that hasn't proved to be the case.

Houston Energy LP, a small independent firm, won five deep-water blocks in the most recent federal lease sale. "We went to the North Sea and other offshore areas to look into exploring, but when we came back we chose to dive right into the Gulf of Mexico," said Ron Neal, Houston Energy's CEO.