GOM Rig Activity Could Take 1 to 2 Years to Recover to Half Current Level

The near-term outlook for the Gulf of Mexico drilling operations remains uncertain as operators seek to clarify how the Minerals Management Services' (MMS) May 30 Notice to Leaseholders (NTL) to cease deepwater drilling activity and six-month ban on new deepwater drilling permits will affect their Gulf operations.

The NTL called on operators to cease the drilling Gulf of Mexico wells in greater than 500 feet of water and banned the issuance of new drilling permits for leases in over 500 feet of water until late November 2010. Some activities are not impacted by this decision, including relief wells in process, operations needed to sustain reservoir pressure in producing fields, workover operations, waterflood, gas injection, disposal wells and well completion operations.

Not surprisingly, many operators are working towards temporary abandonment of deepwater wells to comply with MMS' NTL or seeking to keep rigs busy with drilling activities still permitted in the Gulf in the next six months, said officials with service company Halliburton during a recent conference call. Other operators such as Cobalt International Energy have decided to invoke the force majeure provision for rigs they have under contract in the Gulf; others will likely seek to move rigs from the Gulf to drilling sites outside the U.S.

Potentially, shelf drilling activity in less than 500 feet of water could resume in the coming weeks, but delays are anticipated as operators comply with the new MMS regulations, and pricing pressure for equipment could occur because of short-term excess capacity in the Gulf of Mexico, Halliburton officials said.

While it's unclear how many rigs that water injection and workover well opportunities might absorb in the short-term, Halliburton officials said they expect to see some immediate pickup in work after six months, given the number of permits held up by the NTL. In the next 12 to 24 months, Halliburton estimates that rig exploration and development activity will have returned to about half of the level seen prior to the Deepwater Horizon incident and grow from there.

Once drilling operations resume again the Gulf, operators and service companies will face a "double edged sword" of balancing new safety recommendations regarding new well control and design standard for casing and cementing and overall economics of given projects.

Change of Focus

The drilling moratorium and permitting rule changes has prompted Halliburton to refocus its business plans away from deepwater towards potential water injection and workover operations in the Gulf. The company also plans to temporarily relocate some personnel from its Gulf operations to work on contracts in the Eastern Hemisphere the latter half of this year.

Approximately 65 percent of Halliburton's Gulf of Mexico business is focused on deepwater, with the remaining 35 percent comprised of shelf work on onshore Gulf Coast projects. The deepwater Gulf comprises approximately six percent of Halliburton's overall business; the Gulf of Mexico represented about 13 percent of Halliburton’s North America business in the first quarter of 2010.

Price erosion could occur for products utilized in the deepwater market such as directional drilling LWD equipment and services specific to marine applications. However, the inventory of proppants and barite speciality chemicals used in the offshore Gulf market could be absorbed into other markets, particularly the U.S. land market. Proppants currently are in short supply in the U.S. land market, and the flow of this product from the offshore market to the land market will likely ease fears of cost increases in the land market, Halliburton officials said.

Meanwhile, Halliburton anticipates its second quarter earnings to remain strong thanks to its robust U.S onshore business, where a strong rig count and activity levels and increased pricing across most of its product lines continues to improve the company's margins.

Halliburton's international customers have indicated that they will increase their activity, and the company is preparing by shipping equipment to its base in Iraq. Halliburton expects activity to improve in Iraq, and its other markets such as Brazil, Russia, West Africa and across part of North Africa, through the second half of 2010 and into 2011.