Shell’s announcement last week that the oil company has ceased exploration activity in offshore Alaska did not take many industry watchers by surprise, even as the company seemed bullish about its prospects. In its press release, Shell blamed discouraging oil and gas finds in the “Burger J” well that was considered the brightest of its prospects, high project costs and “the challenging and unpredictable federal regulatory environment in offshore Alaska.”
That statement and the obstacles Arctic drilling has faced in recent years aside, falling oil prices appear to be the prime culprit. Back in 2007, when Shell launched its Alaskan Arctic oil exploration program, oil prices were booming, China was on a roll with a seemingly insatiable growth appetite and the threat of shale oil production in the U.S. was a distant prospect.
Shell acquired its offshore Alaskan leases between 2005 and 2008, noted Wharton legal studies and business ethics professor Sarah E. Light, whose research specialties include environmental law and policy. In 2008, oil reached an all time high of $138 a barrel, but now it is less than $50 a barrel, she said, adding that Shell’s decision was “driven by economics.”
Lori Snyder Bennear, a professor of environmental economics and policy at Duke University, expected the Shell withdrawal to essentially cease exploration in the Arctic by almost the entire energy industry. “[There will be] no drilling there until oil prices rise,” she said.
Light and Bennear discussed the implications of Shell’s decision on the future direction of exploration by the energy industry on the Knowledge at Wharton show on Wharton Business Radio on SiriusXM channel 111. (Listen to the podcast at the top of this page.)
“One of the great ironies is that only because of human-induced climate change is drilling in the Arctic possible and potentially commercially viable.” –Sarah Light
The Perfect Storm
Oil prices aside, Shell faced unrelenting pressure from environmental groups who said Arctic exploration would hurt sea life and polar bears; tighter safety and regulatory requirements stemming from BP’s Deepwater Horizon oil spill in the Gulf of Mexico in 2010, and a series of accidents at its project location. Shell had invested $7 billion in its Arctic oil chase since 2007. It put the balance sheet value of its Alaska assets at about $3 billion, plus $1.1 billion in future contractual commitments for the project. “[It has been a] long and tortured process for Shell,” said Light.
Bennear noted that not many companies were active or planned to be active in the Alaskan Arctic oil search in the first place. In the European Arctic, some oil companies expect to find gas, but the Norwegians have also indicated that they are holding back on their investments in the Arctic, she said. Last year, Exxon Mobil had to stop drilling in the Russian Arctic after the U.S. imposed sanctions against Russia. In the last two years, others — including Chevron, ConocoPhillips and Statoil — have also dropped plans to explore in the Arctic.
The only helping hand for Shell in the Arctic was climate change, although that was eventually in vain. “One of the great ironies is that only because of human-induced climate change is drilling in the Arctic possible and potentially commercially viable,” said Light. With the reduction in sea ice, the time available for companies to conduct exploration activities has lengthened, she explained. However, that time window is still relatively small — from the end of July through September — and conditions for drilling in the Arctic are inhospitable, she added.
Reading into Shell’s reference to an unpredictable regulatory environment, Bennear said the cost of drilling in inhospitable environs would also make Arctic drilling unviable. She referred to new Arctic drilling rules proposed by the Bureau of Ocean Energy Management and the Bureau of Safety and Environmental Enforcement in the U.S. Department of the Interior. “They increase the regulatory burden on companies in protecting the fragile marine ecosystem,” she added.
“If Alaska is no longer in play and we’re just looking at the Gulf of Mexico, I expect there to be increasing pressure on the administration to open up more parts of the Atlantic.” –Lori Snyder Bennear
Bennear saw other “worrying environmental issues” looming on the horizon as the U.S. government looks for alternatives to the Alaskan Arctic. Alaska, which depended on the Shell project to fill the Trans-Alaska Pipeline System, is also looking for alternatives to make it viable, she noted. “If Alaska is no longer in play and we’re just looking at the Gulf of Mexico, I expect there to be increasing pressure on the administration to open up more parts of the Atlantic,” she said. The government’s five-year plan from 2021 calls for more of the Mid- and South Atlantic to be opened for exploration, she added.
But those plans will not be easy to implement, according to Bennear. She said public concern over the potential environmental impact of drilling off the Atlantic is running high in Virginia, North Carolina, South Carolina and Georgia. Clearly, they would invite regulatory pressures, she predicted. The government’s five-year plan proposals for oil exploration makes reference to concerns over tourism, the environment and the infrastructural needs to support a drilling industry, she noted.
Rising Public Concerns
Environmental groups like Greenpeace have claimed that Shell’s decision is a victory for their efforts. Bennear said it is difficult to estimate how much can be attributed to environmental pressure, but added that projects like that of Shell and other oil companies will face mounting public scrutiny.
“Oil prices have to be significantly higher than $60 a barrel to make it work.” –Lori Snyder Bennear
Bennear attributed that to the huge outcry over the BP Deepwater Horizon oil spill in 2010 in the Gulf of Mexico that meant huge cleanup costs and penalties for the parties involved. BP could face penalties of up to $20 billion over two decades, while rig owner Transocean and contractor Halliburton have agreed to pay penalties totaling $2.5 billion over the next few years.
Investors, too, are turned off by the traditional oil and gas industry, a process accelerated by the Deepwater Horizon incident and rising concerns over greenhouse gas emissions, Light and Bennear noted. Light recalled that the latest sale of oil exploration leases by the Department of the Interior in August drew a poor response. “It only attracted about $23 million in sales, which is a very low amount,” she said. She also noted that many university endowments have in recent years decided to unwind their investments in oil companies.
All said, it appears as if money will do the talking for the future of Alaskan Arctic oil exploration. “Oil prices have to be significantly higher than $60 a barrel to make it work,” said Bennear.