Comments: The Spending Challenge
Authors: Donnelly John 
Published: February 2015

The good news is that upstream spending is up, way up. But looking beneath the surface numbers reveals that cost inflation is eroding future production gains.
With oil prices roughly double and global demand, boosted by consumption from developing countries, 9% higher since 2000, industry upstream capital spending was bound to increase. And it has—a 70% jump (U.S. $340 billion) from 2000 to 2005, according to a new survey of international oil companies (IOCs), national oil companies (NOCs), and independents. But the rising cost of equipment and services ate heavily into that increase, meaning that real investment grew only 5% during the period, says the Intl. Energy Agency (IEA), the energy association that represents 26 major industrial nations. Looking ahead, the companies surveyed reported that they expect to spend $470 billion from now to 2010 on upstream projects.
Demand growth in the first part of this decade has raised questions about whether the industry can supply enough oil and gas to the world if demand continues rising at such a rapid pace. Peak-oil theories abound, companies say the easy oil has been found, and host nations are making foreign investment more challenging. And while many reports and studies counter that doomsday scenarios about declining global oil production are faulty, if cost inflation continues to chew up spending increases, the industry will have a hard time replacing production not to mention raising output. Rising consumption from developing countries and industrialized nations such as in western Europe and the U.S. is putting enormous pressure on the majors and NOCs, perhaps unrealistic pressure regardless of whether peak-oil-production forecasts carry weight.
In addition, the cost of talent is spiraling higher as the industry's technical-skills shortage creates bidding wars among companies. That situation is unlikely to change anytime soon, regardless of the oil price. Meanwhile, host countries—taking advantage of IOCs' need to boost production—are raising royalties and taxes and asking for a bigger share of the hydrocarbons rent. Service companies have raised prices, while rig rates are much higher than even a year ago.
Those factors dictate that even more upstream investment is needed, warns the IEA. It cited Russia, which supplies a quarter of Europe's gas demand, as a country that is underinvesting in its production future—perhaps not even enough to maintain export levels and not enough to be able to export gas to Asia. Technology has helped Russia build back production levels since output peaked in the late 1980s and fell dramatically in the 1990s. Russia was the reason oil producers were able to handle the surge in demand in the first part of this decade. As technical papers and plenary presentations at the recent SPE Russian Oil and Gas Conference in Moscow emphasized, great gains have been made in improving the recovery factor from the country's massive brownfields. But frontier areas, such as the Arctic offshore and large swaths of Siberia, remain ripe for investment.
Reports, such as the IEA's, are meant to sound alarm bells. But, from an industry perspective, it is worth noting that its job of supplying energy to meet the world's growing consumption has gotten harder.