2007 February 14 Wednesday
Costs Rise Rapidly For New Oil And Natural Gas Projects

Rising capital costs suggest higher oil prices may continue for years to come.

The costs of major oil and gas production projects have risen more than 53% in the past two years, and no significant slowing is in sight, according to a new benchmark index developed by IHS and Cambridge Energy Research Associates (CERA).

The IHS/CERA Upstream Capital Costs Index (UCCI), which tracks nine key cost areas for offshore and land-based projects, climbed 13% to 167 during the six months ending October 31, 2006, compared with an increase of more than 17% in the previous six months. Since 2000, the UCCI has risen 67% -- with most of the increase in the last two years -- while the Producer Price Index-Commodities for finished goods (excluding food and energy) moved up just 7.5% during the same period.

"This continuing cost surge is central to every energy company's strategic planning and to every energy user's expectations for supply security in the coming years," said CERA Chairman Daniel Yergin. "Rising capital costs rank right alongside more widely recognized issues such as world market trends, geopolitics, globalization and new technologies at the top of the agenda for the energy industry," he said. "And this will be a central issue at CERAWeek in Houston," referring to the CERA conference that opens in Houston on Tuesday.

The continued rapid growth of China seems set to continue strong growth in the world demand for oil. So the current upturn in oil exploration

In recent months the rapid rise in costs has continued.

"If current trends continue, 2007 is shaping up to be a year of further increases. Despite a slight slowing in the rate of increase during the six months to October 31, we expect project capital costs to continue reaching new record levels during 2007," said CERA senior director and UCCI project manager Richard Ward. "With high oil prices driving new development projects, capacity constraints continue to support increases in the cost of equipment and services."

Deeper water projects have experienced the largest cost increases, according to the UCCI data, rising 15% in the recent six month period, primarily due to drill rig rates, technology limits and skills requirements, and are expected to continue to rise due to tight industry capacity. Onshore facilities, including LNG, have seen the slowest rates of increase, 12%, but are still only slightly behind the overall averages.

A chart associated with the article shows the cost of offshore rigs tripling in the last year with the cost of steel up only 3.5%. Well, either rigs were previously going for less than their construction costs or now they are far above their construction costs. If the latter then rig makers will eventually make more rigs and that'll bring prices down. The article reports on 100 new rigs planned as a result of higher prices.

Higher oil and natural gas project development costs make alternatives more cost competitive.The shift toward drilling for oil offshore makes new oil production more expensive even before considering the rising costs of drilling equipment. If the Peak Oil pessimists are correct then the higher development costs are a sign of a longer term trend of rising oil prices.

Natural gas production has peaked in the United States and more drilling hasn't turned around production.

"Record prices in 2005 triggered a tremendous response in drilling by gas producers, leading to nearly decade-high reserves additions of 26.4 tcf and added production of 14.7 bcf that year," Bodell said.

Yet production remained flat despite more rigs drilling during the past decade, he said. Meanwhile, the cost of new gas supply rose due to higher drilling and operating costs as well as declining average well productivity and initial production rates.

Share |      By Randall Parker at 2007 February 14 11:07 PM  Economics Energy

John S Bolton said at February 16, 2007 12:26 AM:

This could be an instance of too much money going into projects.
One might predict lower prices later if the production increases faster for a while.

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