Deepwater drilling moratorium delivers a potentially lethal punch

Russell McCulley
Friday, July 9, 2010

The six-month moratorium on deepwater drilling in the Gulf of Mexico following the Deepwater Horizon disaster has forced oil & gas companies to redraw their plans for the rest of the year. But the effects of the ban could linger long after, as Russell McCulley reports.

The Obama administration called a halt to deepwater drilling in the Gulf of Mexico in late May, a month after the well blowout at the BP-operated Macondo prospect in Mississippi Canyon block 252 destroyed the Deepwater Horizon rig, killing 11 and precipitating the worst oil spill in US history. The time out - which includes a halt to drilling at wells already in progress and affects 33 floaters at work in the Gulf - was necessary, the administration said, to ensure the safety of other deepwater installations and give a governmentappointed commission time to determine what caused the 20 April explosion. The US Department of the Interior also cancelled planned lease sales offshore Virginia in 2012 and in the western Gulf this year and suspended planned activity in Alaskan waters.

The response from industry groups was swift, and alarmed. The International Association of Drilling Contractors said the ban could cost as much as $330 million per month in lost wages among oilfield workers not involved in the Macondo relief effort. The six-month moratorium 'will lay waste to tens of thousands of jobs, not only in the deepwater industry itself, but also in the neighborhoods and communities of its workforce', the IADC said. The American Petroleum Institute said the ban would result in a production loss of between 80,000b/d and 130,000b/d and idle some 50,000 workers in the Gulf, and urged the administration to reconsider the moratorium's six-month duration.

The National Ocean Industries Association (NOIA) issued a similar statement, warning in early June that the deepwater ban 'is already having profound impacts on the offshore energy industry, and these impacts will only worsen the longer the pause continues'. The group went on to list a sampling of its members, including smaller E&P companies, mooring specialists, communications providers, engineering companies and equipment manufacturers that would suffer under the drilling ban. 'Since the Gulf region depends on the offshore industry for thousands of jobs and billions of dollars in revenue, the impacts of the "one size fits all" moratorium will add further job loss and economic woes to a region already suffering from these same hits to its seafood and tourism industries,' NOIA said.

The Louisiana-based Offshore Marine Service Association (OMSA) was perhaps harshest in its reaction - not surprising, given that the state probably has the most at stake. The ban 'is already causing irreparable economic harm for America's maritime industry', OMSA said, and warned that a wave of cancelled OSV contracts would ripple throughout the offshore industry and beyond. 'We are already dealing with both an ecological and economic disaster,' said OMSA chairman Otto Candies III. 'This kind of sudden and ill conceived government policy can only make it worse.'

Obama acknowledged the uproar in a 15 June Oval Office address. 'I know this creates difficulty for the people who work on these rigs, but for the sake of their safety, and for the sake of the entire region, we need to know the facts before we allow deepwater drilling to continue,' he said. 'And while I urge the commission to complete its work as quickly as possible, I expect them to do that work thoroughly and impartially.'

On the ropes?
Louisiana is in a difficult position all around: while it's true that the ban will likely have an outsized effect on the state, both in lost wages and economic hardship for coastal communities, Louisiana is also suffering the greatest damage from the massive oil spill, which has shut down commercial and recreational fishing in a huge swath of the Gulf and infiltrated the state's already fast-disappearing marshlands. Despite the conflict, most lawmakers in the region, including Louisiana's two US senators, have called for the ban to be lifted. Louisiana's office of the lieutenant governor organized the Gulf Economic Survival Team, which is petitioning the federal government to overturn the ban. A lawsuit filed by Hornbeck Offshore Services against the US Interior department and its secretary, Ken Salazar, is attempting to do the same.

The damage may have already been done, says Tulane Energy Institute associate director Eric Smith. 'It doesn't really matter when it expires. All the moratorium has to do is convince the drilling rigs to leave the Gulf, and you have crippled the Gulf of Mexico deepwater [market] for the next five or six years,' he said.

Smith said the ban threatens to abrogate the contracts rig operators must line up in advance in order to raise the $500-600 million needed to build ultra-deepwater rigs. Larger E&P companies with extensive international holdings can move rigs to other locations; those with leases concentrated in the US Gulf will increasingly try to get out of contracts. 'So if you were a rig owner, what would you do? Most likely, you would call up your friend Mr Lula [da Silva, president of Brazil] or your equivalent friend in West Africa and say: "I've got this great rig. You don't have to wait three years for it, you can have it now, but you have to sign the equivalent of a three-year contract to get it." Which these guys will jump at, because they can't build anything in three years to keep their drilling programs alive,' Smith says.

'If the rigs move to Brazil and sign a new four-year contract, it doesn't matter whether the moratorium lasts six months or three months. The rigs are gone, and they don't come back.'

The Gulf Economic Survival Team estimates that the ban could lead to more than 20,000 lost jobs over 18 months if idle rigs relocate to international markets. The effects would extend to the broader Louisiana economy, the organization warned in a position statement: 'Every sector of our economy, from grocery stores and restaurants to hospitals and schools, will be crippled by the moratorium and may never recover.'

According to ODS-Petrodata, there are 33 deepwater rigs currently under contract in the Gulf of Mexico. Transocean, with 14 floaters under contract, is the most exposed in the gulf; Noble and Diamond Offshore have six each, Ensco has three, and Stena Drilling, Seadrill, Frontier Drilling, Pride and Maersk Drilling have one each.

Time of departure
At press time, no rigs had exited the Gulf of Mexico. But the number of floating rigs at work in the Gulf in mid-June stood at 18, out of 33 floaters under contract, including two Transocean rigs drilling relief wells at the Macondo site. Several companies were using contracted rigs for intervention and workover operations, which the moratorium allows. But at least one company, Anadarko, had invoked force majeure on three contracted rigs working in the region: Discoverer Spirit; Ocean Monarch, which was sublet to Cobalt; and Noble Amos Runner, which Anadarko was using to drill the second of three appraisal wells at the company's Lucius prospect in Keathley Canyon block 875. An extended moratorium would likely lead more companies to follow suit. In a June fleet update, Transocean, which owns Discoverer Spirit, disputed the force majeure provision in the Deepwater Horizon case, a position other rig owners have adopted.

The legal wrangling may not lead to an all-out war between rig owners and operators, however. 'Everybody, so far, is still trying to work things out, so maybe there's going to be some give and take between the operators and the drillers,' says Matthew Beeby, senior analyst for oilfield services at Global Hunter Securities. 'You have to have long-term relationships here. You want to continue to work with your clients.

'There's a fairly substantial supply of rigs, and more coming into the market,' he says. 'If [the drillers] want to have any kind of pricing power, they have to maintain their current agreements, and try to stay on the good side of the operators.'

There will likely be layoffs, but probably not as many as some in the industry have warned. 'If you look at all the rigs, including semisubmersibles, drillships - there's a fair amount of workover work. A handful of rigs are doing workover work, some are considering it, and there are some that could move to Brazil,' he says.

'In the meantime, I think rigs are continuing to make their day rates. And if (the moratorium) does end in six months, I think the drillers are big enough, and strong enough, that they will probably try to sustain their skilled personnel as much as possible, and maybe take a little bit of a hit to their 3Q, maybe 4Q earnings. I guess I'm more optimistic than a lot of people are.'

Perhaps those most at risk are the smaller independent operators that invested heavily in the deepwater Gulf of Mexico and have few, if any, opportunities to divert contracted rigs to international leases. ATP Oil & Gas, for one, had to postpone two development wells it planned to put in production this year at the company's Telemark hub. The company expects to defer revenues of $1 million per day related to those two wells and a suspended sidetrack well at the Canyon Express hub in Mississippi Canyon block 305.

One lasting result of the Deepwater Horizon tragedy will almost certainly be an increase in the liability cap for drilling permits, which currently stands at $75 million per well. Some lawmakers have advocated raising the liability limit to $10 billion per well - an amount that is probably unrealistic, but the industry is bracing for significantly higher costs to do business in the deepwater Gulf of Mexico.

'That would basically wipe out everybody but the major players,' Beeby says.

As Global Hunter Securities analysts stated in an advisory to investors: 'ATP has a tremendous amount of future reserves to develop; however, the value of those reserves and the ability to develop them are in serious question. In our opinion it's a shame to see a company affected so drastically because of the negligence of others.'

The same could be said for the Gulf Coast economy, and environment, as a whole. OE

Categories: Deepwater North America Gulf of Mexico

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