By OGJ editors
HOUSTON, Mar. 2 -- Rising steel costs are reaching the exploration and production industry through higher Oil Country Tubular Good costs (OCTG), but natural gas prices have increased enough to offset the higher costs.
Since December, steel prices have risen more than 30%, and April purchases are expected to be near double the December levels, Raymond James & Associates Inc. reported.
Analyst J. Marshall Adkins of Houston said in a Mar. 1 research note that, "High pipe prices will not kill drilling activity." His conclusion is based upon his own analysis of US rig counts and OCTG consumption as well as conversations with various E&P companies.
"Specifically, we expected to see a 10-12% increase in 2004 drilling activity levels. This assumption is predicated on what we believe are exceptional well economics and returns for domestic E&P companies," Adkins said.
The 2003 total drilling and completion costs for an average 10,000-ft natural gas well was $1.8 million. That well consumed 500 tons of tubulars. The tubular costs ran about $270,000.
"Assuming that tubular costs increase by about 50% in 2004, the total well cost increases by about 8%. We would note that while well costs vary depending on a number of factors including depth, deviation, and location, we have found that, in general, tubular costs in 2003 did average about 15% of total well cost," he said.
Those costs do not include leasehold acquisition and geophysical costs. "When considering an all-in cost of drilling and developing reserves, we believe tubular costs drop to less than 10% of total E&P capital expenditures. Thus, we believe this makes increasing tubular costs less consequential to finding and development economics," Adkins said.
Meanwhile, RJA analysis shows that today's returns for an average well are in excess of a 50% internal rate of return at long-term gas price assumptions of $5/Mcf.
"While we do anticipate further increases in finding and development costs as a result of higher service costs and potentially lower rates of return on drilling additional wells, we believe that natural gas prices have increased enough to more than offset the higher costs," he said.
Adkins concluded that "the E&P operating environment offers healthy returns for companies ramping up drilling activity despite the rise in F&D costs."
