Outlook for offshore energy

New fields needed to meet demand

According to the International Energy Agency's World Energy Outlook 2040, global demand for oil and gas will increase by a CAGR of 0.5% and 1.6%, respectively, over the period 2012-2040. In absolute numbers, oil and gas consumption will go up by 14% and 55%, respectively.

Regarding oil, the forecasted increase seems low, but we have to take into account the depletion of existing producing oil fields. The IEA uses 4% as an average depletion rate, i.e. the oil production of an existing field goes down by 4% every year. To put this number in perspective, global oil production was about 91 million barrels per day (b/p/d) in 2014. The IEA expects a demand of 102 million bpd in 2040, of which 29 million bpd would come from existing fields, and 73 million b/p/d from new fields.

Regarding unconventional oil production in North America, the depletion rate is not 4% per annum, but - on average - 85% in the first two years. As a result, drilling of new wells in North America has to remain high just to maintain production levels.

Oil prices under pressure in 2015 and 2016

Although the Brent oil price recently has recovered to US$60, we expect, on average, an oil price of US$50 in both 2015 and 2016. The main reason is the unconventional oil production growth in North America (2015: +0.7 million bpd), which nearly equals the predicted rise of global consumption. In addition, the OPEC countries do have spare production capacity. Furthermore, several countries, notably Libya and Iran, produce significantly less than their normal production levels due to civil unrest and sanctions.

With current high oil stock levels, we believe the chance of oversupply in the short term is higher than the chance of undersupply. However, we believe that lower CAPEX spending by the oil and gas industry in the short term, particularly in North America, will lead to pressure on production rates in the longer term. With rising demand for oil in the coming years, pressure on production in our view will lead to a recovery of the oil price as of 2017 onwards.

CAPEX down by an estimated 21% in 2015

Between 2000 and 2013 the global oil & gas industry's CAPEX increased by a CAGR of 14.8%. According to Barclays, CAPEX rose to a new record of US$679 billion in 2014. CAPEX increased strongly due to (i) growth of global oil and gas consumption, (ii) underinvestments in the 1990s, (iii) an increasing shift from onshore to offshore production, which is relatively more expensive, and (iv) cost inflation. The latter was caused by a shortage of staff and equipment, but also due to increased local content requirements.

In early 2014, the oil majors (ExxonMobil, Shell, BP, Chevron, ConocoPhillips, Total, and ENI) already announced CAPEX budget cuts for 2014. The fall of the oil price since July 2014 has also forced other oil and gas companies to cut their CAPEX budgets for 2015. Particularly unconventional oil and gas producing companies in North America have announced CAPEX budget cuts of tens of percentage points. Furthermore, the oil majors stepped up their budget cuts even further.

To sum up, we expect the oil and gas industry will lower its CAPEX spending by 21% to US$538 billion in 2015, followed by a further drop of 5% in 2016. As a result, oil production growth will be limited or even become negative in 2017, tightening the supply/demand balance and leading to the recovery of the oil price. Therefore, the oil and gas industry will raise its upstream CAPEX budgets again as of 2017, leading to a new record high in 2020.

Offshore production growth exceeds increase of onshore

Oil and gas production at offshore oil and gas fields has existed for many decades. However, in the last two decades technological progress has been huge, leading to the possibility to explore oil and gas fields at water depths of up to 3 kilometers (about 1.9 miles) compared to "only" 1 kilometer (about 0.62 miles) 20 years ago. This trend will continue.

Whereas offshore oil and gas production accounted for 20% of the world's total production in 1980, it rose to 30% in 2014. Taking into account that the majority of oil and gas field discoveries were made offshore in the last decade, particularly in (ultra-) deepwater (Brazil), we expect that offshore oil and gas production growth will continue to exceed the increase of onshore production, assuming that our oil price scenario becomes reality. However, the break-even oil price to produce oil profitably is considerably higher in offshore fields compared with onshore, meaning that an ongoing low or even lower oil price would distort this picture of structural growth.

Oil services market expected to recover as of 2018 onward

Following more than a decade of strong growth (CAGR: 13%), the global oil services market has deteriorated as of mid-2014. Thanks to favorable order backlogs at year-end 2013, the sector's overall EBITDA and net profit before exceptionals increased in 2014 compared with 2013. However, the mentioned CAPEX budget cuts by the oil and gas industry already resulted in a lower order intake in 2014, leading to lower order backlogs at year-end 2014 compared with one year ago. Besides lower demand for oil services, available capacity (drilling rigs, installation vessels, transport vessels, etc.) climbed by 30-40% between 2008 and 2014, distorting the supply/demand balance even further.

Also in 2015, a substantial amount of new equipment will enter the market. To adjust their organizations to the deteriorated market conditions, the oil services companies took one-off charges of more than US$15 billion in 2014 for (i) the write-off of goodwill and other assets (such as vessels, drilling rigs, etc.) and (ii) the layoff of staff. This US$15 billion represented more than 50% of the oil services sector's net profit realized in 2013.

In comparison with the previous dip (2008/09), this amount is huge (2008: US$2 billion), clearly illustrating that this market dip is different. As of 2018, we are positive on the outlook for the oil services market thanks to (i) the oil price recovery, (ii) increased upstream CAPEX spending by the oil and gas industry, (iii) growth in offshore oil and gas production, (iv) rise offshore wind, and (v) the impact of the recently announced organizational adjustments.

About the author

Richard Brakenhoff has worked as an industry analyst at Rabobank in Utrecht, The Netherlands, since 2007. He covers the oil & gas, dredging, and transport sectors. Prior, Brakenhoff spent 17 years as an equity analyst at several banks covering the same industries. He studied business economics at the VU (Free University) in Amsterdam.