March 7, 2010

Making Sense of Oil Discoveries in Ghana: Part 1, the industry basics

I’ve wanted to write about Ghana’s oil situation for some time. In my past life I worked for the national oil corporation of Japan (JNOC which became JOGMEC) as a researcher covering Oceania for the five years directly before coming to Ghana in 2005. Over time I came to see how awfully inaccurate media reports were regarding this industry and this taught me to never rely on what I read in the paper, but go to the source and check facts myself.

Well, it was my boss who made me do this, thus opening my eyes to reality. When I culled a story about an exploration find from a media source (it was my job to do this daily), he’d request me to call the company and find out if the figures quoted were correct. I was always pleasantly surprised by how helpful all the companies were when I asked to clarify any points. If it was really important, we met the company face-to-face and asked directly. I was also surprised at how cooperative most companies were in this regard too. I had about 150 in-person meetings with oil company executives in the USA and Australia over those 5 years. I developed my own weird, oil-industry shorthand after the first year since I wrote and typed the same terms over and over. Just before I left I counted up the minutes I’d taken and typed up; there were just over 150.

The thing is, though, I often wondered why on earth I stuck in a field (no pun intended), I had no real passion for. But here we are and I shall now try putting that experience to some good use.

In any case, I wanted to truly understand the implications of the discoveries myself. Old habits, perhaps. It felt like a good intellectual challenge, too, and a change from the usual topics I write about. So, I hope this is helpful. And I truly hope this passes fact checking. Any questions, shoot. Finally, in writing this article I’m assuming no prior knowledge so this is basic for anyone with industry experience.

Let’s start with fields, blocks, and licences. These confused me, anyway, once upon a time.

Fields are geological formations in which hydrocarbons—oil or gas—may exist. They are natural formations with natural boundaries. Fields have names to make identifying them easier. In Tullow Oil’s case, the field that contains discoveries off-shore, Western Region, is called the Jubilee field.

Blocks, on the other hand, are areas designated by humans that sit over a natural formation—field. It’s a bit like imagining your house block (a man-made designated area) sitting on a mountain (a much larger geological formation).

A block is an area designated by the host petroleum authority—it’s often rectangular or square (or some other unnatural shape)—and it’s these blocks that are sold to prospective exploration companies who then explore within the block’s borders.

The host petroleum authority usually releases blocks for sale on a regular (annual) basis to the highest bidders. This process is fairly standard around the world. The bidders submit detailed plans for how they will explore in the block—this is called their “work program”. The host authority benefits most if oil is discovered so they will award the block to the most prospective bid which is likely to be more experienced companies with good track records elsewhere and that undertake to explore or invest more (eg. drill more wells) than others.

So, companies don’t just take a block and think, I’ll drill a well and see how it goes. Part of the company’s obligations in the bidding process to the host authority include a written undertaking to complete the “work program”. This includes drilling an agreed number of exploration wells over an agreed period of time. Eg. They may undertake to drill three wells by 2012.

The company must uphold their side of the bargain. If not, they must accept penalties imposed by the host authority for not completing the work program stated in the bid. If they agree to drill three wells, for example, and the first two are unsuccessful (“dry”—no hydrocarbons—they’re not actually free of liquids since they’re underground and underground is wet), the company will be reluctant to drill the third—although they may strike oil in the third. It’s a gamble; oil exploration is a high risk, high (or low, or no) return business.

I’ll mention briefly here that companies generally hope to find oil, because it’s valuable, but they often find gas. Gas is ok if the find is close to the market where it will be consumed, otherwise it’s economically useless. For example, if you look at a map of Australia, exploration companies have discovered a total of over 200 trillion cubic feet of gas (200 tcf) in waters offshore north-western Australia. Australia’s total energy needs are equivalent to approximately 1 (one tcf) of gas annually. That means, current discoveries of gas could supply Australia’s total energy needs, at current levels, for the next 200 years. And estimates are that there is at least double this volume of gas yet to be discovered in Australian waters.

However, the fields are in very deep waters adjacent to the least populated part of the country. Even if they built a pipeline to shore, there is no market for the gas there. The market for gas is on the other side of the country—Sydney, Melbourne, Brisbane—several thousand kilometres away across several land-based jurisdictions. And gas cannot be transported like oil just like that. It needs to either be piped in a pipeline or shipped in specially designed LNG (liquefied natural gas) tankers that cost a fortune to build and operate. Gas, by its nature, is not liquid like oil, so it either needs to be chilled to temperatures way below freezing until it becomes a liquid and then shipped or piped.

In Ghana’s case, if a company should discover gas, there is a possibility of tapping into the existing pipeline infrastructure—depending on the agreements—and there is also a ready market and it looks like the companies that discovered oil will do just that with the “associated gas” that comes with an oil discovery.

So back to the bidding. If there are no bidders the authority will keep the blocks for a future release. For example, the blocks may sit in unexplored territory so no one is willing to take the risk now. But someone may eventually take the risk and explore a block in a new area and find oil or gas. If so, other blocks around that area suddenly become attractive and the host authority then might be able to sell them in the next round of bidding.

Right, so you have blocks which the host petroleum authority auctions to exploration companies.

In Tullow Oil’s case, they have several blocks, but there are two important ones:
Deep Water Tano: over Jubilee Field
West Cape Three Points: over Jubilee Field

Deep Water Tano and West Cape Three points sit, as you may have guessed, in deeper ocean waters. This makes developing them more expensive as they need taller platforms, longer drilling equipment, and so on. Wells can cost between 10 million and 100 million dollars to drill—each! The shallower the water depth, the less expensive to drill and develop.

The first wells drilled on a newly acquired block are called exploration wells. If drilling in a completely new area, they’ll call it a “wildcat” well.

Wells are also given names. Naming wells is not very technical; sometimes a well is named after the boss’s wife, sometimes after a famous race horse, or a plant, a geological period, or sometimes after the area in which it’s located (as in the Cape Three Points block).

The well is also given a number. If a well is called Mahogany-1, the “-1” indicates that it’s the first well to be drilled in a series. The first well has nothing to do with production or development of oil—yet. At this stage, the company is in “the exploration phase” and trying to work out if there are any hydrocarbon reserves at all.

If they find hydrocarbons of potentially high value, they will move onto the “appraisal phase” during which they drill more for the purposes of assessing the volume and value of the “reserves”. If they decide the find is commercially viable, they’ll move onto the “development phase”. This whole process takes several years and it’s highly technical involving geologists, geophysicists, financial analysts, lawyers, and other highly skilled professionals that deal with the various aspects of this business. I once worked with a gentleman who was a geophysicist, a qualified lawyer and he also had acquired an MBA—and he was not yet 40! He could analyse discoveries from every essential angle—technical, legal and financial. Needless to say, he worked for an investment bank and I was more than intimidated when working in his presence.

I took a paragraph from a press release at Tullow’s website. It looks confusing, but I explained in simple language below. If you’re interested in this, hang in there as you’ll understand this jargon by the end of this article.

“The accelerated appraisal and development of the Jubilee field continues, with the first appraisal well, Mahogany-2, drilled in May 2008 in the West Cape Three Points block. The well targeted the Turonian turbidite sandstones encountered in the Mahogany-1 and Hyedua-1 discovery wells. Results from Mahogany-2 indicated that Jubilee is a continuous stratigraphic trap extending at least 11 km to the Hyedua-1 discovery well in the adjacent Deepwater Tano block, with combined hydrocarbon columns in excess of 600 metres.”

What that paragraph is saying is, firstly, they are fast-tracking the appraisal and development of the Jubilee field—they are obviously happy with the discoveries and intend to produce oil as quickly as possible. Secondly, the Mahogany wells sit in the West Cape Three Points block which sits over the Jubilee field. At this point, the company is in the appraisal phase and drilled the Mahogany-2 well. “-1, -2, or -3” indicates the order in which wells in a prospect were drilled. They had a clear objective: targeting the Turonian turbidite (geological terms) sandstones that they discovered when they drilled earlier wells: Mahogany-1 and Hyedua-1.

The Hyedua-1 well was the first in a series drilled in the next block, the Deepwater Tano block—which also sits over the Jubilee Field.

In drilling Mahogany-2, they worked out that the Jubilee field extends at least 11 kms (below the ocean floor) to their Hyedua-1 well.

As I said earlier, blocks are artificial areas, often square-shaped, that are owned by exploration companies. Upon discovering oil or gas, they’ll work out where the “field”, the natural geological formation, sits beneath the “man-made” blocks. A field often extends beneath one or more blocks.

Their next paragraph goes like this:

“A drill stem test of Mahogany-2 confirmed that the Jubilee Field reservoirs are highly productive with wells expected to have capacity in excess of 20,000 bopd when completed for production. The results of this well prompted a significant volumetric revision, with the P90 recoverable resources of the field now estimated at over 500 million barrels and the ultimate upside upgraded to 1.8 billion barrels. Two more appraisal wells, Hyedua-2 and Mahogany-3, are planned for 2008 with Mahogany-4 planned for 2009.”

So, to interpret this simply, “drill stem” refers to a piece of the earth that is removed during drilling and then analysed to assess the nature of the geology and the prospectivity.

Their second well, Mahogany-2, helped them to quantify the field’s potential. They estimate 20,000 barrels of oil per day (we’ll get on to what this means in later posts) when “completed for production”.

They mention “P90 recoverable resources”. I’ll explain that here. That’s oil talk for “bloody brilliant odds”. (No wonder wells are sometimes named after race-horses—it’s a gamble.)

Reserves are classified on a scale of “Ps”. This rating system refers to the risk and the probability of oil existing and being producible. You have P90, P50 and P10 that align, respectively, with the concepts “proven reserves,” “probable reserves” and “possible reserves.”

P90 reserves are proven reserves that have a 90% certainty of being produced. Essentially, the company is “reasonably certain” that the reserves can be produced under all current conditions—basically, there are no technical, political, economic or other issues preventing them from producing the reserves. That’s good news for Tullow Oil. They are also called 1P in some circles.

P50 reserves are probable reserves that, as you probably worked out by now, have a 50% “certainty” of being produced (although that’s not very certain if you ask me). They are also called 2P or “Proven + Probable”.

P10 reserves suck if you’re an investor. These are possible reserves that have a 10% chance of being developed under “favourable” circumstances—something needs to change in order for them to develop; maybe it’s a political situation, maybe it’s the technology. They are also called 3P or, yep, “Proven + Probable + Possible.”

(You can imagine my first few oil industry meetings when I was new to all this and had had no training yet… What the hell! 1P, 2P, P+P+P… There were a lot of question marks in my early minutes.)

While I once had a good grasp of this P business, a lot has happened in the last five years, so I refreshed my memory this week by reading Wikipedia’s article and simplifying it for the purposes of this article.

What are recoverable resources?
This refers to the gas or oil that can be extracted, as opposed to the total volume that exists in a “trap”—the formation that holds the oil or gas. A company cannot extract all of what they find. So, an investor is really interested in recoverable resources, but total resources gives prospectors an idea of what’s down there and what may well lie elsewhere.

And notice that they say they’ll drill a second Hyedua and a third Mahogany in 2008, and a fourth Mahogany in 2009? They’re very confident.

The next paragraph says:

“In parallel with the appraisal programme, development planning for the Jubilee field is progressing rapidly. The operator structure is now in place and Tullow has been designated as the field operator. The Jubilee partnership, with the support of the Ghanaian Government, have agreed a plan for Phase One of the development which will focus on the core area of the field utilising an FPSO based sub sea development scheme. The project is targeting first production in the second half of 2010.”

Right. So while they’re still appraising the discoveries, they’re planning the actual development and production phases—the phase where you extract and sell oil in commercial quantities.

“The operator structure….Tullow…designated as field operator.”

Exploration blocks are almost always owned by two or more companies. Hardly does one company ever take 100% ownership. This is because it’s too risky so they offset risk by spreading it across several partners in a formal joint-venture with different share levels. If they fail, all partners share the costs and losses; if they succeed, they share the profits.

The operator is the company that, usually, has the majority share in the block. They take the lead and make the decisions about how to develop the find, often employ their choice of technology in production but all partners have to share the costs so a lot of negotiating takes place about exactly how to proceed. Those interested in conflict management could take lessons from the negotiations undertaken in such circumstances.

As far as ownership of Deepwater Tano and West Cape Three Points licences goes, according to Tullow’s press release, in the first, Tullow has 49.95% ownership, with the other interests being Anadarko, Kosmos, GNPC, Sabre. None of those interests have a greater share than Tullow.

In the latter, Kosmos has 22.90% with Anadarko, GNPC, E.O. Group and Sabre taking up the balance.

There are sophisticated software programmes that show the complex networks of interests in every block around the world. Companies have specialists that forecast who will produce what, where, and when, and how it will impact their partners and competitors. Your partner in one block may be your competitor in another.

An FPSO is a “floating production, storage and offloading” facility—basically a really big floating tank that stores oil during production and will then pump it into oil tankers that ship it to refineries.

“..targeting first production in the second half of 2010…” means pretty much what it says. They aim to produce commercial quantities of oil (not just explore or appraise) from the second half of 2010.

So, in summary, when reading an article about oil production or exploration, check the name of the field, the block, the name of the well, the well’s number (1, 2, 3, 4 which gives you a hint of how mature the exploration program is), the name of the operator, the location, the volume of oil discovered or forecast for production (barrels of oil per day), the type of reserves: P10, P50, P90, and so on.

OK, so that’s the basics of oil production and exploration. In the next post I’ll refer to the issue of the potential boundary dispute with The Ivory Coast. And in the final post I’ll answer the question: What does this mean for Ghana? (I’ll try, anyway.) In that final post I’ll look at the agreement between the national petroleum authority and the oil companies and interpret what this means in terms of income. I’ll explain what that means in economic terms by comparing it to, say, cocoa (if I can find reliable statistics) or other major industries.

Check out Tullow Oil here. The image at the top is a platform courtesy of Wikimedia Commons.

4 comments:

  1. Thanks very much. It's a lot of info (I thought it was short when I was writing it!) but it's worth sticking with if you really want to grasp the industry basics for future debates, which I sense many in Ghana will want to do.

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  2. When can we expect Part II? Not being too pushy, I hope.

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  3. No not pushy at all. It's in the works. Exactly when, probably by Monday/Tuesday. I'm still working on it as I'm finding it difficult to get consistent information and I'm a little rusty on the analysis so it's taking longer than expected. But it is coming! Thanks for the nudge!

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