An Oil Enigma: Production Falls Even as Reserves Rise
For six consecutive years, ChevronTexaco has had good news for anyone worried that the world is running out of oil: the company has found more oil and natural gas than it has produced. Over that time, ChevronTexaco's proven oil and gas reserves have risen 14 percent, more than one billion barrels.
But near the bottom of ChevronTexaco's financial filings is a much less promising statistic. For each of those years, ChevronTexaco's wells have produced less oil and gas than the year before. Even as reserves have risen, the company's annual output has fallen by almost 15 percent, and the declines have continued recently despite a company promise to increase production in 2002.
ChevronTexaco is not the only big oil company whose production is falling despite rising reserves, though it has the largest gap. As consumers, economists and governments around the world wonder if oil supplies can keep pace with rising demand, production trends at the industry's publicly traded companies are not promising.
Collectively, they paint a picture of an industry that has depleted nearly all of the world's easily exploited reserves outside the Middle East and that is now struggling to sustain production, much less increase it. Fears about supply shortfalls and rising demand have already caused prices to climb about 20 percent this year, hovering around $40 a barrel. The four biggest companies own only about 4 percent of the world's reserves, which are mostly government-held, but they offer a unique glimpse of supply trends because they must disclose their reserves and production each year.
Historically, proven reserves and output have moved in tandem. Industry experts disagree why the relationship has broken down. Although the reserves are only estimates, federal rules require companies to calculate them conservatively.
Some analysts and the companies themselves take a relatively benign view of the production declines, promising that output will soon rise again as big new projects come online around the globe.
ChevronTexaco said its production had declined in part because of asset sales and production agreements that allocate it less oil when prices are high, as they are now, than when prices are low, as they were in 1998. The company says it expects production to stay flat through 2005, then begin rising in 2006 as output increases from fields in Chad, Kazakhstan, Venezuela and Angola.
But ChevronTexaco has promised to reverse its production declines before. In 2002 the company said that it expected its output to rise more than 20 percent by 2006, a forecast it has now dropped.
Royal Dutch/Shell, the world's third-largest oil company, admitted this year that it overstated its oil and gas reserves by 22 percent, the equivalent of 4.5 billion barrels of oil. Regulators and prosecutors in Europe and the United States are investigating Shell, which in March forced out Sir Philip Watts, its chairman.
Some analysts say that the debacle at Shell proves that companies sometimes bend the rules to satisfy Wall Street's intense hunger for new reserves.
In the 1990's, many public companies used aggressive accounting gimmicks — some legal, some not — to satisfy investors' demands that they report higher earnings. Oil companies face similar pressures to build reserves. And intentionally or not, some companies may have booked reserves that are not technically or economically viable, said Matt Simmons, a Houston investment banker who has warned of a potential supply crisis. Outsiders have essentially no way to know whether estimates of reserves are accurate, he said.
"We're going to have another Shell," Mr. Simmons said. "They're not the only company that got optimistic on proved reserves." Neither Mr. Simmons nor anyone else is asserting that ChevronTexaco did anything illegal.
Once a year, companies announce their "reserve replacement ratio," telling investors whether they have found enough new oil and gas during the year to make up for their production.
Energy investors scrutinize the reserve replacement ratio more closely than any other measure of corporate performance, said Fadel Gheit, senior energy analyst with Oppenheimer & Company. Every company aims to replace at least 100 percent of its production every year. And for the last decade, the industry's four giants, Exxon Mobil, BP, Shell and ChevronTexaco, have met that goal with remarkable consistency, at least until Shell's admission in January.
But outsiders cannot tell whether companies are properly estimating their reserves, Mr. Gheit said. The calculations are extremely complicated, and companies do not disclose the raw production and seismic data that would enable an outside analyst to check their estimates. Nor are the reserves subject to third-party audit.
"Reserves are very important but are extremely difficult to verify," Mr. Gheit said.
Oddly, Wall Street pays less attention to actual production, which is generally relegated to a few lines in quarterly and annual reports. But output data deserves more attention, because reserves can be manipulated more easily than production, said John H. Lichtblau, chief executive of the Petroleum Industry Research Foundation in New York.
"Reserves are an estimate of what's in the ground; production is what you see coming out of the wells," Mr. Lichtblau said. "You don't have to take their production on faith."
The fall in production at the big oil companies does not portend an immediate crisis in the industry. The four so-called supermajors produce only a small fraction of the world's oil; together, they extracted 3.2 billion barrels last year, about 10 percent of production worldwide. (Some analysts classify Total, a French company slightly smaller than ChevronTexaco, as a fifth supermajor.)
The supermajors control an even smaller share of global reserves. Together, the four companies have about 40 billion barrels of oil, or 4 percent of the world's proven reserves. They also have about 150 trillion cubic feet of natural gas, enough to produce the energy of 25 billion barrels of oil.
No one really knows how much oil remains worldwide, or whether existing fields can be quickly squeezed should more oil suddenly be needed. Estimates range from just under one trillion barrels remaining worldwide, about 34 years at current production levels, to more than two trillion.
Saudi Arabia alone says it has proven reserves of 260 billion barrels of oil.
But these estimates are far from exact. For most countries, the details of reserves and output are closely guarded secrets. During the 1980's, the members of the Organization of the Petroleum Exporting Countries sharply raised their reserve estimates, because OPEC's output quotas were based in part on national reserves.
"Countries want a higher allocation, so they tweak their numbers," Mr. Gheit said. "Everybody lies about the reserve, so you want to make sure that you lie even more than the guy next to you."
On the other hand, the Securities and Exchange Commission requires companies like ChevronTexaco to disclose detailed production data and reserve estimates to their investors each year.
The S.E.C. rules are deliberately conservative and intended to prevent companies from overstating their reserves. The mere existence of oil and gas does not make a proven reserve; companies are supposed to report reserves as proven only if they can be recovered with current technology and are economically viable.
Reserves classified as proven do not have to be producing at the time. But companies must usually have made a financial commitment to bring them into production before classifying them as proven.
New discoveries, lease extensions that give a company more time to exploit a field, or a more optimistic view of a field's potential are all cause to increase reserves. On the other hand, companies must cut reserves if they think that their initial estimates have been too high.
"The studies that I have seen show there have been upward and downward revisions, but over time, the revisions have been modestly upward," said Gene Gillespie, senior energy analyst at Howard Weil. "You're measuring something that's a couple miles under the surface of the earth that you can't see. It amazes me that over time they come as close as they do."
But in the long run, actual production is the most important proof that reserves exist. And the relationship between reserves and production is weakening.
At Exxon Mobil, oil reserves rose from 9.6 billion barrels at the beginning of 1994 to 12.1 billion barrels at the start of this year, a 26 percent increase. But Exxon Mobil's production fell 2 percent, from 909 million barrels in 1994 to 893 million last year.
At ChevronTexaco, oil reserves jumped from 6.9 billion barrels at the beginning of 1994 to 7.7 billion barrels in January 1998 to 8.6 billion barrels at the start of this year. But after surging from 644 million barrels in 1994 to 757 million in 1998, production plunged to 641 million barrels last year.
At BP, the data is considerably more confusing, because the company has had so many acquisitions and sales over the last several years. Still, BP's production at its wholly owned fields has plunged to 562 million last year from 672 million barrels in 1998, while its reserves have risen to 7.5 billion from 6.5 billion over that span.
(BP, ChevronTexaco and Exxon Mobil are all the products of mergers within the last decade; the reserves and production data reflect what the companies would have done if they had existed in their current form for the entire period.)
Shell has actually increased its production slightly since 1994, despite the embarrassment of its announcement in January that it had improperly classified billions of barrels of reserves as proven instead of probable or possible. Shell's admission shows just how muddied reserve data can be, analysts say; the reserves it reclassified are real, but they will not be developed for years because of technical and political problems, so they should not be called proven. In coming years, if those problems can be solved, Shell may be able to once again classify them as proven, said Jennifer Rowland, senior oil analyst at J. P. Morgan.
"It's not like all of a sudden those assets are gone," Ms. Rowland said.
Mr. Simmons, the Houston investment banker, said that the output declines suggested that the companies needed to disclose more information about the performance of individual fields so that outside analysts could judge the companies' reserves estimates.
"What we have now is meaningless data," Mr. Simmons said. Big oil companies once prided themselves on conservative reserve estimates. But today, to justify multibillion-dollar investments in politically or technologically risky fields, companies have become much more aggressive, he said.
Gerald Kepes, managing director for PFC Energy, a consulting firm based in Washington and Paris, said that the slowdown in production underlined the transition period that big publicly traded energy companies face.
"The areas that have been long producing are really starting to become very mature," Mr. Kepes said. "For the integrated oil companies, more of the remaining reserves and reserve potential are in areas where the risks are higher."
Combined with a survey from the International Energy Agency that shows rising demand, the drop in production at the supermajors offers more evidence that energy prices may stay high for the foreseeable future, said Steven Pfeifer, senior oil analyst at Merrill Lynch.
"The data is starting to say that underlying all this, the supply-demand balance is tighter than we thought," Mr. Pfeifer said. "The maturing geological base is starting to rear its ugly head."