The New World of Oil :...

As it has managed to do for more than a century, the global oil industry is adjusting to a vastly changed landscape.

Contrary to doomsday scenarios, and despite its critics, the oil business is by most accounts emerging from troubled times still solidly at center stage in the energy industry and with a supporting cast of increasingly flexible, lean, internationally competitive companies.

And there are more surprises in this new world of oil: a wiser Organization of Petroleum Exporting Countries cartel that yearns to be a dependable supplier; revamped oil companies that hope to earn profits whether crude prices are high or low, and a planet with far more petroleum than any wildcatter’s dream.

Even the developed nations, which have long been haunted by fears of energy shortages because of their heavy reliance on Middle East oil, are resting easier after the Persian Gulf War. The true accomplishments of the war, from the industry’s standpoint: The U.S.-led coalition responded to Iraq’s invasion of Kuwait by sending in troops. And it sided with Saudi Arabia, the world’s Ft. Knox of petroleum reserves.

“We’ve taken care of the security issues,” says Joseph Stanislaw, managing director of Cambridge Energy Research Associates. “Now people have begun to focus on the strict fundamentals of the marketplace and the ability of the industry to invest for the future.”

Certainly, most U.S.-based oil companies, battered by years of severely low prices and narrow profit margins, are still going through a painful restructuring, selling off assets and laying off workers.

And oil executives still growl bitterly about the constraints they feel in the birthplace of the petroleum industry, the United States. Topping these complaints are expensive refinery modifications to satisfy air-pollution rules and moratoriums on exploration in the most promising regions of Alaska and the U.S. outer continental shelf.

Most U.S.-based oil companies, in fact, are shifting their exploration efforts overseas.

“They’re obviously going through a tough time at the moment,” says Charles J. DiBona, president of the American Petroleum Institute.

Yet DiBona and most industry veterans agree that the oil business is poised for dramatically improved performance. “If this economy picks up and gains some steam,” he predicts, “the companies will be a lot better off this year.”

One perennial worry has subsided--fear over total world petroleum reserves. For decades, predictions have persisted that the world was running out of oil.

“And in some sense,” says William D. Hermann, chief economist for Chevron Corp., “that is still undoubtedly true.”

After all, oil is a finite resource. But large increases in the world’s proven reserves give the industry cause for optimism--the inevitable oil shortage is far into the future. Hermann says that while the world consumed 200 billion barrels of oil during the 1980s, at the end of the decade “we had 50% more reserves than at the beginning.”

Indeed, from 1970 to 1991, the world’s proven oil reserves (oil known to be in the ground, not just estimated) nearly doubled, from 532.5 billion barrels to 1,003.3 billion barrels, according to a study by Cambridge Energy and Arthur Andersen & Co.

And a recent report in the American Assn. of Petroleum Geologists Bulletin raises the amount of oil estimated to be underground--beyond these proven reserves--from 1 trillion barrels to 3 trillion.

“So we have tripled the exploration potential,” says Albert J. Anton, an energy analyst with Carl Pforzheimer & Co. in New York.

“Of course, no one has found this oil,” he cautions, “and it might be in the Arctic below the Naval Petroleum Reserve or offshore Santa Barbara or under ANWR (the Arctic National Wildlife Refuge)”--areas now off limits to commercial oil exploration.

Even so, few doubt that improved research technology, expanded worldwide exploration and better oil-recovery techniques have virtually ensured that the world will not soon run out of petroleum.

That is, if the world wants to keep relying so much on oil.

Environmentalists have organized an international campaign to cut use of petroleum and other fossil fuels, which they blame for problems ranging from acid rain to global warming.

And the Union of Concerned Scientists and other groups have taken some encouragement from the fact that demand for oil has been flatter than expected in recent years, accounting for a shrinking share of growing worldwide energy use.

This shift partly reflects what many environmentalists consider baby-step turns toward auto and industrial energy conservation programs, as well as development of alternative fuels. Interest in energy alternatives has been spurred during times of high oil prices, especially during the OPEC embargo of 1973 and the panic of 1979 after the fundamentalist revolution in Iran.

From a 1973 peak of 48%, oil’s share of annual world energy consumption fell to 39% in 1990.

“When prices went sky-high,” says Chevron’s Hermann, consumers “found all kinds of ways to cut fuel consumption.”

In the United States, oil consumption fell from about 19 million barrels a day in 1979 to 16 million barrels a day in 1986.

“That doesn’t sound like much,” Hermann says, “but on a percentage basis going from 1960, it’s a huge drop.” For most of the years since World War II, Hermann says, the nation had been increasing consumption by a relatively steady 7% annually.

High oil prices brought such measures as the federal Corporate Average Fuel Economy (CAFE) standards to raise auto fuel economy. As Hermann notes, the federal government has since “relented” on its campaign to lower oil use through these standards.

But high prices in the early ‘80s also lured investment in non-OPEC exploration and production, despite manipulations by Saudi Arabia to maintain market share.

What happened next is explained by simple supply and demand.

In 1986, oil prices collapsed dramatically, with benchmark West Texas intermediate crude falling in a few months from $31.75 a barrel to $10. Oil prices have generally been low ever since.

“It’s not at all surprising what happened,” says Philip K. Verleger Jr., an energy economist at the Institute for International Economics in Washington. “If you look at oil, prices revert to the mean. . . . (Increased production) essentially undercut OPEC’s market,” setting up the collapse.

After the 1986 collapse, as years passed with no significant return to high prices, industry planners began to see a new oil world dawning--one of sustained low or moderate prices.

This change has received mixed reviews.

While environmentalists are frustrated at low oil prices that can undermine the competitiveness of alternative energy sources, consumers have had an unexpected gift: gas-pump prices that, adjusted for inflation, are the lowest since the 1940s.

Using an industry measure of price--which takes into account auto efficiency, gasoline and gasoline taxes--Chevron’s Hermann says the average automobile fuel cost is 5 cents per mile. In 1981, the comparable cost was 10.5 cents.

The lessons of the last two decades have also not been lost on OPEC, the oil cartel first proposed in 1959 at a secret meeting of several producing nations at a deserted yacht club near Cairo.

The goal then--and now--was not only a bigger chunk of oil profits for producing nations but “stable markets,” as the gentlemen’s agreement signed at Cairo stated.

OPEC’s founding fathers--Venezuelan Oil Minister Juan Pablo Perez Alfonzo and Saudi Arabia’s first oil minister, Abdullah Tariki--wanted dependable revenues for their governments, bedeviled as they were by foreign oil companies and a flood of Soviet oil on the world market.

A flood of oil from what is now the former Soviet Union is again a big OPEC concern.

Production has slipped badly in oil-rich Russia--still the world’s largest producer--the result of outmoded technology and management problems. But proposed deals between high-tech international oil companies and several of the new republics could bring another cascade of oil on the market.

Meanwhile, all non-OPEC oil production rose steadily through most of the 1970s and 1980s. OPEC production, in contrast, has hit dramatic highs and lows but in the end has grown little in the past two decades.

OPEC, which still supplies 59% of U.S. crude oil imports, is hardly toothless.

Yet many OPEC member nations, including powerhouse Saudi Arabia, have seen better days. Partly as a result of Gulf War costs, some experts estimate that Saudi cash reserves have shriveled from $100 billion to less than $20 billion.

It is only Saudi Arabia’s unequaled reserves that keep it in such a pivotal role.

“At the moment at least, Saudi Arabia controls any excess of crude oil supply and in effect controls the world’s supply of oil and its price,” says Robert E. Wycoff, president and chief operating officer of Los Angeles-based Atlantic Richfield Co. “Fortunately, I think they have been champions” of price stability.

Most observers agree that the Saudis’ longstanding policy has been to moderate oil prices, largely to ensure continued reliance on oil as a fuel.

“That was the strategy about 10 years ago,” Verleger says, “but now it’s to keep Russian oil priced out of the market.”

Whatever the reason, the OPEC nations want to avoid the image of having a stranglehold over the developed nations.

“OPEC needs us as much as we need them, and that’s a major difference in recent years,” says Stanislaw.

“The OPEC countries today need our investment dollars and technology,” Stanislaw explains. “These countries want to be seen as potentially secure suppliers of oil.”

This is not to say that OPEC would not like to make more money from its oil. But the cartel is unlikely to push for dramatic increases in prices, hoping to avoid a replay of the 1970s oil crises when high prices pushed industry and government to consider alternative energy sources.

“They have learned that lesson,” says William L. Liscom, publisher of the New York-based OPEC Listener, an industry analysis service. But that does not mean that OPEC would not support a sustained, gradual increase in price. In fact, Liscom says, OPEC “would love to do that.”

Uncertainty over oil prices--and the possibility of sustained low prices--has caused U.S. oil companies to rethink their strategies. No longer can these companies count on oil prices going up, sooner or later.

Part of the new thinking is to embrace, however reluctantly, a new flexibility.

“In the 1980s, we used to make five- and 10-year plans. . . . Right now a long-range plan for most oil companies is about 12 months,” says Dave Hentschel, chairman and chief executive of Occidental Oil & Gas Corp., the exploration and production subsidiary of Occidental Petroleum Corp.

“Now we have elastic programs,” Hentschel says. “It’s not the way we’d like to operate.”

Another case in point is Unocal Corp.

Richard J. Stegemeier, Unocal’s chairman and chief executive, has been slashing costs and restructuring. His expectation is for lower oil prices.

“We went into this year with a profit plan for 1992 based on $18 (a barrel) oil and natural gas at $1.35 (per thousand cubic feet),” Stegemeier says. Now, West Texas intermediate is in the $22-a-barrel range, and natural gas is about $1.65.

“We were prepared to run a profitable company at that lower price expectation,” Stegemeier says. “We’re just a tighter, leaner industry and company and prepared to take these cyclic situations much better than we were in the past.”

Conoco Inc. has even formally accepted what other U.S.-based oil companies have yet to admit: that ANWR and other potential fields will likely remain closed and that the hunt for new oil will almost certainly be overseas.

Conoco recently called on the federal government to use tax incentives to encourage such foreign exploration investments by U.S. companies, both in the short and long term.

“The whole issue is not how to manage independence, but how to manage energy dependence,” says Conoco spokesman Loren A. Finkelstein.

What all this means to the United States and world economies is less clear.

Unocal’s Stegemeier predicts that overseas investments will bring quick wealth to a number of developing nations, but he warns that increased reliance on foreign crude will hurt the U.S. balance of trade.

Yet this seems not to be an overriding concern of U.S. Energy Secretary James D. Watkins, who says he would not be opposed to oil imports from Russia, Kazakhstan or elsewhere. However, Watkins said last week, “We would be very concerned if the United States came to rely more on the Middle East.”

Indeed, in the new thinking about oil, worries about U.S. dependence on foreign sources have given way to concern that the foreign crude to which the nation is becoming increasingly accustomed will at least come from a balance of sources around the world.

The New World of Oil

Demand has been flatter than expected . . . As non-OPEC supply grew . . . And world reserves increased . . . Depressing prices . . . And shrinking coffers

Source: Cambridge Energy Research Associates / Arthur Andersen