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Shell to Face Challenges Replacing Damaged Arctic Rigs

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Royal Dutch Shell PLC's plans to send its two offshore drilling rigs to Asia for extensive repairs will likely mean the cancellation of its second summer of drilling in the U.S. Arctic Ocean, unless it can find replacements fit to do the work - something that may prove to be a challenge.

Rigs able to operate in harsh Arctic conditions are rare and even if found, would have to be modified and receive U.S. government blessing to operate in a remote and environmentally sensitive area in less than five months.

The likely delay is the latest bump in what has been a tough road to Arctic drilling for the Anglo-Dutch oil giant, underscoring the increasing difficulty big oil companies have in finding large deposits of conventional oil.

If Shell cannot drill this summer, it will have to wait until 2014 to get another shot at finding oil in the Beaufort and Chukchi seas, a high-profile and expensive effort that is being closely watched by investors and U.S. regulators.

Moreover, the hiccup is adding fuel to criticism from environmental groups such as Greenpeace, who maintain that the litany of issues Shell has run into during its Arctic drilling campaign shows the company can't drill safely in that region. "Shell made a mess of its operations last year and there's every likelihood it will do the same this year," Greenpeace said in a statement Tuesday.

On Monday, the company said the Kulluk and Noble Discoverer rigs will be moved from Alaskan waters to Asian dry dock facilities. The Kulluk suffered hull and electrical equipment damage when it ran aground 300 miles Southwest of Anchorage while being towed during a storm January 1.

The Discoverer suffered an engine fire and may need to have its entire propulsion system replaced. Both incidents occurred after the drilling season had ended and took place far from the Beaufort and Chukchi seas where the rigs drilled a pair of partial wells last summer.

James West, an analyst with Barclays Capital, said that aside from the Kulluk, there are only two other rigs able to operate in sea-ice conditions - the Orlan and the SDC Drilling Rig - but neither appears to be available. The Orlan is part of drilling and production operations at the massive Exxon Mobil Corp. and OAO Rosneft joint project off Sakhalin Island in Russia.

The SDC, which is owned by SDC Drilling Inc., has been used sporadically over the last decade, most recently by Devon Energy Corp. in 2005 and 2006 for drilling in the Canadian Arctic, according to Don Connelly, technical manager of the rig. But the rig wouldn't be a good replacement for either the Kulluk or the Discoverer, Mr. Connelly said, because it can only operate in 80 feet of water: both of Shell's drilling sites are in 200 feet or more of water.

Built nearly 30 years ago, the Kulluk was designed for seasonal Arctic drilling and to be able to withstand thick ice and forceful waves. Shell spent $292 million over six years to upgrade the rig after buying it in 2005.

Self-propelled drill ships like then Noble Discoverer are easier to find, but will be expensive. Shell pays Noble Corp. about $244,000 a day to lease the Discoverer, said Trey Stolz, managing director of oil services research at Iberia Capital Partners. The day rates for other harsh-climate rigs that would be considered comparable replacements are about $350,000 a day, Mr. Stolz said.

Even if a pair of new rigs was found to do the work they would likely need to undergo modifications for the job, and Shell would have to file amendments to its drilling permits to use the vessels.

The arctic drilling season runs from July 15 to October 31, but can be shortened due to ice conditions. Last year's drilling season was delayed by nearly a month because sea ice had not receded until August.

Shell has spent nearly $5 billion on permits, personnel and equipment over the past six years to assure regulators and native Alaskans that the first drilling in the U.S. Arctic Ocean in more than a decade would be safe and environmentally benign. But the drilling campaign has been marred by problems, as the Noble Discoverer almost ran aground when its anchor dragged in Dutch Harbor, Alaska, and critical oil-spill fighting equipment was damaged during testing.

Copyright (c) 2012 Dow Jones & Company, Inc.

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