U.S. Gulf Oil Profits Lure $16 Billion More Rigs by 2015

07 17, 2013 by Bloomberg

The deep-water Gulf of Mexico, shut down after BP Plc (BP/)’s record oil spill in 2010, has rebounded to become the fastest growing offshore market in the world.

The number of rigs operating in waters deeper than 1,000 feet (300 meters) in the U.S. Gulf will grow to 60 by the end of 2015, said Brian Uhlmer, an analyst at Global Hunter Securities LLC in Houston. As of last week, there were 36 rigs working in those waters, according to industry researcher IHS Petrodata.

Producers will need $16 billion worth of additional rigs to handle the expanded drilling, analysts including Uhlmer estimate. Demand is driven in part by exploration successes in the lower tertiary, a geologic layer about 20,000 feet below the sea floor containing giant crude deposits that producers are only now figuring out how to tap. Companies such as Chevron Corp (CVX). and Anadarko Petroleum Corp (APC). must do more drilling to turn large discoveries into producing wells -- as many as 20 wells for each find.

“The Gulf had more than its fair share of discoveries,” Chris Beckett, chief executive officer at Pacific Drilling SA (PDSA), said in an interview. “Right now, the Gulf is the fastest growing deep-water region in the world.”

The revival will add to surging crude oil supplies from the U.S. shale boom, with Gulf production climbing 23 percent to 1.55 million barrels a day by December 2014 from 1.26 million in March, according to the U.S. Energy Information Administration.

Under-appreciated Growth

While deep-water exploration in the Gulf of Mexico has been increasing since 2011, the magnitude of the growth and the potential for revenue and profit for the service companies is under appreciated, Jud Bailey, an analyst at International Strategy & Investment Group in Houston, said in an interview. Offshore contractors from Schlumberger Ltd. (SLB) to Pacific Drilling are benefiting from the region’s growth spurt.

Hornbeck Offshore Services Inc (HOS). and other contractors that provide supply vessels to the giant drill ships than can work in water depths of more than two miles are among companies that may reap the biggest benefit from a rebounding Gulf, James West, an analyst at Barclays Plc in New York, said in an e-mail.

Hornbeck is expected to more than double adjusted earnings to $5.56 a share, from an estimated $2.43 this year, according to the average of five analysts’ estimates compiled by Bloomberg.

Drilling rig contractors Rowan Co. Plc and Noble Corp (NE)., which are building some of the world’s most expensive oil rigs to operate in some of the deepest areas offshore, are also expected to at least double earnings per share in the same period.

Drilling Moratorium

The blowout at BP’s Macondo well in April 2010 killed 11 workers, injured 17 and triggered an 87-day oil spill that fouled thousands of square miles and shut much of the Gulf to fishing for months. The U.S. suspended drilling in the Gulf for five months, and even after activity restarted, obtaining permits for drilling was slow as federal regulators stiffened safety rules.

As a result, some deep-water drilling rigs migrated to other exploration frontiers such as offshore West Africa and Brazil where work continued. Now some of those rigs are returning, though most of the Gulf’s rig growth will come from newly ordered, more sophisticated deep-water vessels, Bailey said. Better financing terms from the shipyards, put in place in late 2010, are helping fuel a record number of orders for new deep-water rigs around the world, David Smith, an analyst at Johnson Rice & Co. in Houston, said in a phone interview.

Support Structure

The Gulf’s prosperity today is helped by the large offshore industry already in place along the U.S. Gulf Coast. With infrastructure such as pipelines, ports and supply vessels readily available, producers are able to move quickly from drilling discovery wells to developing the fields. Meanwhile, government permitting has picked up since mid-2011, giving contractors and their customers more confidence that their work can continue, Smith said.

Even though the rules are stricter post-Macondo, the U.S. Gulf still provides a more stable operating environment than other frontier drilling regions around the world, where foreign governments can change the rules on producers, Smith said.

The lower operating costs in the Gulf of Mexico make the region more profitable for service contractors than places such as Brazil and Africa, Global Hunter’s Uhlmer said.

A booming offshore U.S. industry comes at a welcome time for diversified oilfield servicers that have struggled with an oversupplied hydraulic fracturing market onshore in the U.S. and Canada that has increased competition and lowered prices. Servicers including Schlumberger and Baker Hughes Inc (BHI). may exceed analysts’ estimates for second-quarter revenue from the Gulf driven by “a solid bump in deep-water activity,” Bailey wrote in a June 28 note to investors.

Better Vision

Schlumberger and Baker Hughes, among the world’s three largest service providers, will report earnings July 19.

“Drilling activity looks like it’s going to start really ramping up here in the Gulf,” Brian Youngberg, an analyst at Edward Jones in St. Louis, who rates Schlumberger shares a buy and owns none. “That’s a very strong positive for the oil services including Schlumberger.”

Improved technology such as seismic imaging, which bounces sound waves off the ocean floor to map pockets of underground oil, has enabled companies to more accurately hunt for crude under layers of salt in the earth’s crust, Beckett said. That’s helped fix one of the biggest challenges in the region from 10 years ago.

“The limitation on the ultra-deepwater in the Gulf of Mexico at the time was the ability to see under the salt,” said Beckett, who spent a decade running Schlumberger’s onshore seismic business. “Now we’re in an environment where you can drill those very expensive subsalt wells with a degree of confidence.”

Rig Orders

Most of the Gulf rig expansion is fueled by newly built rigs rolling out of the shipyards, more so than existing rigs relocating from other parts of the world, Smith said. Lower prices from the shipyards and easier financing terms have induced more construction, he said.

The global industry is in the midst of the fattest pipeline of orders for new deep-water rigs since the advent of deep-water drilling in the 1970s, according to IHS Petrodata. Vessels expected to be delivered between this year and 2019 will be more than double the 39 delivered between 2003 and 2009.

Last year’s 52 ultra-deepwater discoveries around the world, in about 7,500 feet of water or greater, made for a record year in the offshore industry, David Williams, chief executive officer at Noble, told analysts and investors in a presentation earlier this year.

In the Gulf of Mexico, the story is evolving into development over exploration, Uhlmer said.

“It’s more: ‘OK, we know what we have out here, we spent a lot of money buying the right blocks, and now we need to develop them,’” he said. “That’s going to provide you more growth than anything.”