Rig count moves in line with oil strategy

Published in MEED, 25 October 2016

The Middle East has bucked a global trend for declining oil rig counts, spurred on by Saudi Arabia’s pursuit of market share

In most corners of the oil and gas industry there is a strong, and unsurprising, correlation between energy prices and the number of drilling rigs in use.

When prices were above $100 a barrel, as they were for most of the period from 2011 to 2014, the number of rigs in operation around the world was also high, reaching a peak in February 2012 of 3,900 rigs, according to US oil field services company Baker Hughes. But since the oil price began to spiral downwards in late 2014, so too have the number of drilling platforms. As of September this year, there were 1,584 rigs in operation around the world, some 59 per cent lower than the peak in the space of just four and a half years.

The Middle East, however, has bucked that global trend. When oil prices began to falter in 2014, the number of rigs in use in the region held fairly steady at just over 400. This year their number has slipped back a little, falling to 379 in August before recovering slightly in September to 386. That relative stability has meant the proportion of the world’s rigs that are now in the Middle East has risen from 10 per cent in 2012 to 24 per cent this year.

The unusual trend in the region stems, in large part, from the decision by Saudi Arabia to maintain high output levels even as prices were falling. Riyadh’s aim was to maintain its share of the global market and force other, high-cost producers – principally in the US – out of the market by making it uneconomical for them to continue drilling.

The policy has had only limited success. The US rig count fell dramatically as prices went south, from just over 1,900 rigs in late 2014 to a low of 408 rigs in May this year. Since then, however, the number has been creeping up again, reaching 481 rigs in August and 509 in September, as the oil price has shown some signs of life. Even more importantly, US production levels have remained relatively high – output peaked at 9.6 million barrels a day (b/d) in June 2015, but it was still running at 8.5 million b/d in late September this year, proving that US producers have been far more resilient than many analysts in Riyadh and elsewhere had expected.

Part of the reason for that resilience is that producers in the US have been cutting costs and focusing on lower-risk assets. This too is a global trend. “The new economics of exploration mean that rather than pursuing high-cost, high-risk exploration strategies, the majors have become more conscious of costs,” says Andrew Latham, vice-president of exploration research at UK consultancy Wood Mackenzie. “Smaller budgets have required them to choose only their best prospects for drilling, including more wells close to existing fields.”

Perhaps the biggest problem for the Saudi strategy is that any sign of a rise in the oil price tends to prompt US producers to invest and expand. As Saudi bank Jadwa Investment noted in a September 2016 report, the number of US oil rigs was steadily rising over the course of the summer months. “Oil prices around the $50 a barrel mark are encouraging US producers to add oil rigs,” it said.

Saudi Arabia needs oil prices to be higher if it is to have any chance of bringing its large budget deficit under control, but for that to happen it will also have to accept that it will no longer be the dominant actor in the market. The production cut announced at an Opec meeting in Algiers on 28 September, designed to prop up the price of oil, appears to be a recognition of this reality.

Nonetheless, Saudi Arabia remains the dominant figure in the regional industry. It has, by far, the highest number of rigs in operation and, while other countries have been holding their fleets steady (or seen them decline in the case of Iraq and Egypt), the kingdom has been expanding. From about 80 rigs through most of 2013, Saudi Arabia has increased the number to 124 as of September this year. That is almost twice the figure of the next largest operator, Oman, which has 64 rigs in use. Following them are Algeria with 53 rigs, Abu Dhabi with 49 and Kuwait with 48.

The majority of rigs in the Middle East today are onshore, accounting for about 87 per cent of the total. However, the picture varies considerably from country to country. In Abu Dhabi only 55 per cent of rigs are onshore, while in Algeria, Iraq, Kuwait and Oman, all of them are. In Saudi Arabia, the vast majority, 88 per cent, are on dry land.

As has been the case for many years, roughly three-quarters of the region’s rigs are used to pump oil rather than gas. The two countries where gas rigs account for a more sizeable minority are Algeria, where it is 34 per cent of the total, and Saudi Arabia (43 per cent).

The fall in global rig counts over the past two years means there is now significant oversupply in the market, which is leading to a sharp fall in costs, according to analysts. “Rig utilisation, vessel utilisation has plummeted and day-rates have fallen in some cases by more than 60 per cent,” says Steve Robertson, director of the research centre at UK energy consultancy Douglas-Westwood. “Oversupply will take some time to work its way out of the system as older units are scrapped.”

The future trajectory of the market depends, as ever, on factors such as oil prices and the balance between supply and demand, but some at least are predicting that activity and investment levels should start to pick up in the coming years. Douglas-Westwood forecasts that global expenditure on onshore oil field equipment is set to rise by 8 per cent a year between now and 2020, from $61bn in 2016 to $83bn in 2020. Most of the activity will be focused on onshore sites, with investment in more expensive offshore operations likely to decline from $67bn this year to $43bn by 2020. For Middle East producers, that could mean that competition will be getting tougher in the years to come.