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Compensating for Disruptions in the Oil and Gas Industry

Compensating for Disruptions in the Oil and Gas Industry

Hurricane Damage, Shut-Ins and High Energy Demands Put Pressure on Oil and Gas Supplies

By Ann-Marie Fleming,, October 2005

The domestic oil and natural gas sectors, as they work to compensate for the disruptions caused by Hurricane Katrina and Rita, are facing a variety of factors that will continue to constrain supply. On the oil side, refineries are believed to be playing a significant role in the industry's inability to meet demand. While importing crude oil may help in raising supply levels, it still has to be refined before it reaches the market. With the Gulf Cost area representing almost half of the United State's refining capacity, and pre-disaster refining levels already under serving demand even at almost maximum capacity, supply constraints have escalated as a result of the damage and shut-ins caused by the hurricanes.

The nation's constraints on its current refining capacity have some anticipating an upward pressure on price levels despite recent declines. According to Philip McPherson, Director of Research, C.K. Cooper & Company, "Global oil demand is still strong, and I believe this recent sell off is a buying opportunity for investors. We still believe oil prices will stay well above $50 per barrel, and our 2006 price deck is $57.50."

The production levels in the Gulf Coast area have experienced heavy disruptions that continue to plague the region. The Minerals Management Service (MMS) reported that the level of lost production as a result of Hurricane Katrina and Rita from August 28th to September 28th totaled 37.9 million bbl of crude and 180.6 bcf of natural gas.

In a discussion of the effects that the Hurricanes have had on energy supply, President George Bush stressed the need for additional refining capacity. "The storms have shown how fragile the balance is between supply and demand in America. I've often said one of the worst problems we have is that we're dependent on foreign sources of crude oil, and we are. But it's clear, as well, that we're also really dependent on the capacity of our country to refine product, and we need more refining capacity," stated the President.

Natural Gas Market

There has been an upward impact on the cost of gas supplies that have to be purchased post Katrina, as described by Mr. Jon Stoltz, Senior Vice President of Gas Supply and Regulatory Affairs for Cascade Natural Gas Corporation, a distributor of natural gas to residential, commercial, and industrial customers in Washington and Oregon. However, as Stoltz explains, "By locking in a large amount of supplies prior to the disasters, Cascade has been able to shield itself somewhat from the rise in prices that has taken place in the aftermath of the hurricanes."

Kam Shah, CEO of Bontan Corporation, a natural resource company operating in the Louisiana area, anticipates a short-term shortage in the supply of natural gas as a result of the hurricanes as revealed by damage reports indicating numerous rigs that were either missing or destroyed, in addition to impacted drilling and completion operations for several companies suffering serious damage. Bontan was fortunate in that their drilling site was unaffected by both Katrina and Rita. Drilling for the Company resumed within 48 hours of the storms passing. "We continue to monitor the situation and are confident that the situation in Southern Louisiana remains dynamic," states Shah.

"It is going to take a while for the industry to know the full amount of damage caused by the Hurricanes; we still don't know how bad underwater pipelines were damaged. The tight supply of rigs and boats and personnel in general pre storms, is only making it worse," states McPherson.

However as Paul Branagan, CEO of Petrol Oil and Gas, an oil and gas producer focused primarily on coal bed methane describes, "Americans are well adept at rising to a national challenge and the oil and gas industry has time and again demonstrated its creativity and ability to overcome significant difficulties imposed by all sort of disasters.

Winter's Impact:

As we move into the colder months, with winter fast approaching, there are concerns regarding the additional price pressures that will be realized as demand for natural gas moves even higher.

The Natural Gas Supply Association describes weather as the most prominent factor in determining the nation's ability to meet natural gas supply; unfortunately it is also the most unpredictable variable, an input further complicated by the anticipation of a colder winter than last year as predicated by the National Oceanographic and Atmospheric Administration.

It is believed by industry insiders such as Chesapeake Energy, the nation's third largest independent producer of natural gas in the United States, that the market is currently experiencing a false sense of

security, which is common in September and October as these are typically months with low demand for natural gas. As Aubrey McClendon, CEO of Chesapeake Energy explains, "There is no physical shortage today since we are just putting gas in storage. However, we are going to go into wintertime with our lowest amount of storage in three years. Offsetting that you have very high gas prices right now and the question the market is searching for is - have we forced enough conservation to offset the supply losses? Our view is that we have likely not done this, and now we are all in the hands of Mother Nature."

"This damage may create a short-term shortage in gas supply at a time when demand is likely to peak due to the onset of winter, which may push gas prices further upward," explains Shah.

In terms of how high natural gas prices can reach, the debate continues. Weather is the variable that can make all of the difference in future gas prices. "When you have a market that is perfectly balanced between supply and demand, a mild winter and a mild summer helps gas consumers and a cold winter and a hot summer helps gas producers. Whether or not gas goes to $20 this winter or whether it falls back to $10 is a function of what kind of winter we have and a function of how fast supply comes back online," describes McClendon.

Working towards Recovery

Natural Gas Supply:

Given the EIA statistical data that indicates shut-in totals of Gulf natural gas supply for early October at approximately 7.5Bcfd, a reduction of about 72% of its normal capacity, on-shore producers will need to boost current production by about 17% to offset the shortfall of Gulf production, according to Paul Branagan.

"Petrol like most American independent oil and gas producers appreciates the need to do its part to increase supply and understands the urgency of the situation. Since Petrol's CBM gas reserves are known and relatively shallow we are able to bring new gas into the pipeline within weeks. Our field operations teams will be hard pressed to meet a 17% production increase, but we nevertheless intend to meet that challenge though an accelerated drilling program inspired by the needs of the country," states Branagan.

As the nation works towards meeting the continuous rise in demand for natural gas, further pressurized as a result of the recent disasters, the ability to increase supply in part rests on the pursuit of additional and diversified sources of gas. "It is our hope that in the wake of what will certainly go down as the most significant hurricane season ever to impact the natural gas industry, the nation will come to see the value of further diversifying natural gal supplies. America's appetite for clean-burning natural gas is not shrinking. Without these additional sources of supply, the market will continue to be at risk for disruptions such as Katrina and Rita, and the higher costs that inevitable result," explains Joseph A. Blount, NGSA Chairman.


In looking to ways to help alleviate price pressures and supply constraints that have been accelerated since the disasters, companies such as Cascade are looking to conservation efforts. "Energy efficiency and conservation are the most viable near-term tactics to influence current natural gas prices as well as a vital strategy for stabilizing the cost of gas over the long term. We are very pro-conservation and are pursuing de-coupling mechanisms for both Washington and Oregon that help in the recovery of fixed costs regardless of volumes, therefore creating a much better position to be able to promote conservation," states Stoltz.

President Bush has called for all Americans to consider energy conservation as we head into what some consider to be an impending cold winter season, nevertheless as described by Mr. Branagan, circumstances dictate that this is also a time by which the non-effected natural gas producers are now challenged to boost production to augment that lost Gulf supply.

Ann-Marie Fleming

Ann-Marie Fleming completed her MBA in the United States, where she attended Webster University. She also holds an Honors B.A from the University of Toronto. She has over fifteen years of experience within the financial industry to include retail banking and brokerage, investment banking, and mortgage brokerage within the United States and Canada, with a firm background in corporate research.


©Copyright InvestorIdeas 2005

About the author:

Ann-Marie Fleming completed her MBA in the United States, where she attended Webster University. She also holds an Honors B.A from the University of Toronto. She has over fifteen years of experience within the financial industry to include retail banking and brokerage, investment banking, and mortgage brokerage within the United States and Canada, with a firm background in corporate research.


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