Upstream spending is rising sharply as oil companies pursue ambitious growth targets, but reserve replacement rates will need to be improved if the industry is to achieve its objectives. Average replacement rates (excluding net purchases) fell sharply after companies slashed upstream investment in the wake of the 1998 oil price collapse and investors are now looking more closely at oil companies' rates of reserves replacement as a measure of company growth. At present, companies are ploughing back into the upstream their record profits from last year's high oil prices in a bid to reverse the adverse trend in replacement rates.
Companies are focusing new investment in oil on a handful of areas where reserves are known to be large and accessible, and the political environment is relatively stable. Opportunities for new investment in gas are greater, more numerous than oil and more geographically dispersed. As a group, the five super-majors plan to raise their hydrocarbons output by 1.5 mboepd over the next three years, an average annual increase of 3.6 %. This, however, will require a higher reserves replacement rate than all of them - except TotalFinaElf - have achieved over the past three years from exploration and revisions to existing reserves. Unless their success rate improves, the super-majors will also need to continue buying up reserves from other companies if they are to achieve their objectives.
Most companies intend to boost their hydrocarbon production volumes by replacing oil production with gas production. In recent years, gas has proved to be a more attractive investment than oil. Discovery and reserve replacement rates have been higher and production costs are often lower than oil's. Demand is also growing faster for gas than for oil, but developing new natural gas deposits in remote areas will require massive investment in transport facilities - either LNG plants and ships, or long-distance pipelines. Nevertheless, companies cannot afford to neglect their existing oil and gas production assets.
Mature oil-producing regions with low replacement rates such as the US, Europe and Latin America pose a considerable challenge as companies strive to sustain output levels. According to the UK's "Brown Book", reserves of hitherto discovered oil in the UK North Sea are over 70% depleted and most of the large fields are already 90% depleted. Yet, new technology that permits the extraction of hydrocarbons from more remote areas of existing structures, thus extending the producing lives of older fields, could boost crude output by more than the incremental production expected from entirely new developments. Meeting targets for output growth over the next five years will therefore involve stemming the decline in output as well as speeding along new developments, and companies are now directing substantial amounts of capital expenditure towards mature fields in established areas.