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					                                                                                                                                       Oil & Gas
                                                                                                                                Research Report
                                                                                                                                12 February 2013



USD 120+ is soon the new norm
                                                                                           OPEC spare production capacity 1970 - 2017e
We believe the oil market is set to tighten over the next five
years. Demand growth should accelerate and outstrip growth in                              In % of world demand
production, putting further downward pressure on spare                                    25%
production capacity. This drives oil prices higher, and we expect
Brent to average USD 120/bbl in 2013/2014e with risk skewed                               20%
to the upside. This differs from consensus at USD ~110/bbl.
                                                                                          15%


Supply demand balance set to tighten over the next 5 years                                10%

 Global demand growth should accelerate from 1.0 mbd in 2012                               5%
  to ~1.3 mbd p.a. in 2014-2017, due to improving GDP growth
  and a slowdown in the sharp demand declines in Europe and US.                             0%
 Global production capacity is estimated to increase 1.0 mbd p.a.                            1970          1980         1990          2000         2010
  on average through 2017, driven by US tight oil and Iraq.
 The result is further downward pressure on spare production                              The inelasticity of oil production
  capacity through 2017.                                                                   Index
 IEA/Consensus is too optimistic on new production.                                      700
                                                                                                                                                     13.5% p.a.

                                                                                          600
We expect oil prices (Brent) to increase to USD 120/bbl …
                                                                                          500
On the back of the tighter supply demand balance, we expect
                                                                                          400
Brent to increase from the USD 111-112/bbl average level seen in
2011-2012. Our forecast is an average price of USD 120/bbl in                             300
both 2013 and 2014, and USD 120/bbl thereafter in real terms.                             200                                                          1.8% p.a .
USD 120/bbl should not be too high for demand. Historically, oil                          100
demand has proven to be resilient to oil price increases, and                                   0
demand growth now looks to accelerate.                                                           1998 2000 2002 2004 2006 2008 2010 2012e
                                                                                                    E&P spending (nominal)                Oil & gas production
… with risk skewed to the upside
We believe the risk to our price forecast is skewed to the upside,                         Chinese demand: Not that extraordinary
especially in 2015 onwards. Supply and demand may well tighten                            Oil demand (mbd)
more than anticipated, potentially wiping out all spare capacity                          12
by 2016. Furthermore, USD 120/bbl could be too low to fund the
                                                                                          10
E&P spending needed to increase production. At USD 120/bbl,
                                                                                            8
there is limited potential for growth in E&P spending from
2015/2016 onwards as oil companies become cash flow                                         6
constrained. Could production increase and meet demand                                      4
growth with flat spending? No, if history is any measure, as                                2
                  nd
indicated in the 2 figure to the right.
                                                                                            0
                                                                                                1975 1980 1985 1990 1995 2000 2005 2010
Other topics in this report:
                                                                                                   Aggregate of Algeria, Ecuador, India, Qatar, Saudi Arabia,
 Oil demand should be set for substantial long term growth.                                       Singapore, UAE, Vietnam
                                                                                                   China
 Latent demand in non-OECD is significant and overshadows
    efficiency gains and substitution in OECD.
   Chinese demand growth is not that extraordinary (illustrated in
          rd                                                                               Analyst
    the 3 figure to the right).
                                                                                           Sigurd-Erik Nissen-Meyer
   Tight oil will not change the market. It is needed and costs are
    high.                                                                                  +47 24 13 21 34, sigurd@paretosec.com
   Don’t get blinded by North America: The decline in imports is old
    news and in all other regions the opposite forces are at work.
   Actual data on fundamentals show improvements. Demand
    growth is strengthening and broad-based. Inventories decline.




                                   Please refer to important disclosures at the end of this document
Oil & Gas                                                                                                                                                Research Report




SUMMARY........................................................................................................................................................................... 3


1.    OIL PRICES SHOULD HEAD HIGHER ............................................................................................................................. 4


2.    DEMAND SET FOR SOLID LONG TERM GROWTH ...................................................................................................... 11


3.    THE OIL SUPPLY SIDE IS TIGHT ................................................................................................................................... 19


4.    TIGHT OIL IS NEEDED AND COSTS ARE HIGH ............................................................................................................. 23


5.    REGIONAL OIL BALANCES: DON’T GET BLINDED BY NORTH AMERICA ..................................................................... 29


6.    DOWNSIDE SUPPORT AT USD 90-100/BBL ................................................................................................................ 31


7.    RECENT DATA HAVE BEEN SUPPORTIVE.................................................................................................................... 33


8.    GEOPOLITICAL RISK ................................................................................................................................................... 36




12 Feb 2013                                                                Pareto Securities Research                                                                         2(41)
Oil & Gas                                                                                                Research Report



                                      Summary
                                      We expect the oil market to tighten over the next five years. Oil demand growth
Oil market should tighten             should accelerate from the growth rates seen in 2011-2012 and overall outstrip
                                      growth in new production capacity. As a result, spare production capacity
                                      comes under further downward pressure by 2017.

                                      On the back of the tighter market balance, we expect oil prices (Brent) to
Brent forecasted to USD 120/bbl…      increase from the USD 111-112/bbl average level seen in 2011-2012. Our
                                      forecast is an average price of USD 120/bbl in both 2013 and 2014, and USD
                                      120/bbl thereafter in real terms.

                                      We do not believe a price of USD 120/bbl is too high for the demand side.
                                      Historically, oil demand has proven to be resilient to increases in the oil price.
                                      The fact that oil demand growth has remained solid at ~1% p.a. in both 2011
                                      and 2012 – despite weak macro, significant headwinds in Europe and the US,
                                      and a “soft” China – suggest that a price of USD 111-112/bbl is not too high. Oil
                                      demand growth already looks to accelerate and we do not believe a price of
                                      USD 120/bbl will change this.

                                      We believe the risk to our price forecast is skewed to the upside, especially in
                                      2015 onwards. The supply and demand balance could easily tighten more than
                                      anticipated, potentially wiping out all spare capacity by 2016. Furthermore, USD
.. with risked skewed to the upside   120/bbl could be too low to fund the necessary E&P spending. At USD 120/bbl,
                                      there is likely limited potential for further growth in E&P spending from
                                      2015/2016 onwards as oil companies become cash flow constrained. It is fair to
                                      question whether it is possible for oil production to increase further and meet
                                      demand growth with flat E&P spending. If history is any measure, the answer is
                                      no.

                                      This report is structured as follows. In the first section, we present our supply
                                      and demand outlook through 2017, and our price forecast. In Section 2 and 3,
Structure of this report              we take a closer look at the drivers and trends on the demand and supply side
                                      that underpin our view of a strong oil market both shorter and longer term. In
                                      Section 4, we argue that tight oil is needed and that costs are high. In Section 5,
                                      we look at regional oil imports/exports, highlighting that the recent worries
                                      around the coming decline in North American imports are exaggerated. In
                                      Section 6, we present recent data on oil market fundamentals, which overall
                                      have been positive, before we look at downside potential in prices in Section 7
                                      and geopolitical risk in Section 8.




12 Feb 2013                                    Pareto Securities Research                                                   3(41)
Oil & Gas                                                                                                 Research Report



                                      1. Oil prices should head higher
                                      We expect the oil market to gradually tighten over the next five years. Oil
                                      demand growth should accelerate from the growth rates seen in 2011-2012
                                      and overall outstrip growth in new production capacity. As a result, spare
                                      production capacity comes under further downward pressure by 2017, which
                                      provides the basis for increasing oil prices.

                                      Spare capacity should come under further pressure
                                      As shown in the figure below, spare production capacity has overall been in a
                                      structural decline over the past 15 years as growth in production capacity has
                                      struggled to keep pace with demand growth. We estimate spare capacity to
                                      ~3.0 mbd (3.3% of global demand) in 2013 which is low in a historical
                                      perspective. Furthermore, we expect spare capacity to remain at low levels
                                      going forward and come under further downward pressure by 2017, which we
                                      discuss in more detail below.

                                      One should note that most of the spare capacity is crude oil with relatively low
                                      quality (heavy and/or sour). This means that the actual amount of spare
                                      capacity likely is lower than what the aggregate figures suggest, as the
                                      Spare oil production capacity should remain low
                                      additional barrels might not meet the quality properties needed by refineries
                                      and end-user consumers.
                                      OPEC spare capacity relative to world demand 1970 – 2017e
                                      OPEC spare capacity relative to world demand 1970 – 2017e

                                         OPEC spare capacity relative to world demand
                                       25%


Spare production capacity has          20%
been in structural decline the past
15 years, and we believe there will
be further downward pressure           15%
through 2017
                                                                                              The structural decline in
                                       10%                                                    spare capacity continues


                                         5%


                                         0%
                                           1970 1975 1980 1985 1990 1995 2000 2005 2010 2015e
                                      Source: IEA; BP; BP;
                                      Source: IEA;ParetoPareto


                                      Furthermore, we believe that supply and demand could easily tighten more
                                      than expected due to the underlying asymmetry between growth potential in
                                      oil demand compared with supply. This is illustrated in the figure below, which
                                      shows how China and India could wipe out all spare capacity by 2016. What is
                                      needed is an increase in annual consumption per capita from 1.1 barrels to 1.4
                                      barrels in India and from 2.7 barrels to 3.4 barrels in China. In comparison,
                                      consumption is about 9 barrels in Europe and 22 barrels in the US. If this was to
                                      happen, spare capacity would be gone in 2016, all-things-equal.




12 Feb 2013                                      Pareto Securities Research                                               4(41)
         Oil & Gas                                                                                                       Research Report



                                                   Consumption per capita: India, China, EU, US

                                                   Oil consumption per capita (bbls/year)
                                                   25

                                                   20
            A slight increase in consumption
            rates in China and India could wipe    15
            out all spare production capacity
            by 2016 …                                                                                                         21.7
                                                   10

                                                     5                                                    9.4

                                                                                            2.7
                                                     0             1.1
                                                                  India                    China          EU                  US
                                                         2012      Zero spare capacity in 2016 (Demand 2.2 mbd higher than base case)
                                                   Source: IEA; IMF; BP; Pareto


                                                   Such a demand scenario is not our base case, but still not completely unrealistic
                                                   given historical growth. As shown in the figure below, China would have to
                                                   follow the growth trend in consumption per capita seen in the past decade,
asymmetry in supply and demand’s growth potential: while India would need to accelerate like China did in the 1990s. The supply side
                                                   on the other hand would not be close to deliver such volumes. This illustrates

and India could wipe out spare capacity by 2016    the inherent asymmetry between growth potential in oil demand compared
                                                   with supply, and suggests that a high oil price is exactly what the market needs
                                                   in order to constrain demand growth and balance the market.
pita: India, China, EU, US                          Consumption per capita ‘65-’16e: India, China
                                                   Consumption per capita 1965-2016e: India, China

bls/year)                                            China and India oil consumption per capita (bbls/capita)
                                                     3.5

                                                     3.0                 Change in growth needed to wipe
            … although this is not base case, it                         out spare capacity by 2016
                                                     2.5
            is not completely unrealistic
                                                     2.0
                                          21.7       1.5

                                                     1.0
                       9.4
                                                     0.5
  2.7
                                                     0.0
China                  EU                  US              1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015e
y in 2016 (Demand 2.1 mbd higher than base case)                     Zero spare capacity in 2016            China               India
                                                   Source: IEA; IMF; BP; Pareto

ty would be gone in 2016 if                        In Although such an increase of our supply and demand forecasts
                                                      the table below, we show a summary in consumption per
ption per capita increases…                        through 2017.
                                                       capita over just four years is not very likely, it is not
4 bbls in China                                        completely unrealistic
                                                   Starting with demand, we forecast global growth of 1.0 mbd in 2013,
         Global demand growth should               accelerating to 1.3 mbd p.a. on average in 2014-2017. In 2011 and 2012 – years
o 1.5    bbls in Indiaforward
         accelerate going                            Supply however, could not be anywhere increased by 0.8
                                                   with weak macro support and GDP growth – global oil demand near those
                                                       levels, mbd, respectively. that a high oil are several factors that
                                                   mbd and 1.0 which means Going forward, thereprice is needed
                                                   suggest growth will accelerate significantly from this level:
                                                         to constrain demand growth
                                                                                                                                           6

         12 Feb 2013                                          Pareto Securities Research                                                5(41)
Oil & Gas                                                                                                 Research Report



                                        Improving macro support and GDP growth. IMF for instance projects global
                                         GDP growth to increase from 3.2% in 2012 to 3.5% in 2013, 4.1% in 2014 and
                                         4.5% p.a. in 2015-2017. This is consistent with 1.3-1.4 mbd p.a. oil demand
                                         growth.

                                        The European demand decline should slow down, as the worst hit has been
                                         taken. This could significantly boost global demand growth as European
                                         demand fell 0.5 mbd in 2012. This is discussed in more detail on page 34.

                                        The same should be the case for the US. US demand fell by 0.3 mbd in 2012.
                                         Now there are signs of improvements with US demand posting slight positive
                                         growth y/y in the past two months.

                                        China provides further upside to the growth rate. Chinese growth was fairly
                                         weak in 2012 (0.36 mbd). An improvement in Chinese growth (which in fact
                                         has happened in the past three months) could lift the global growth rate
                                         further.

                                        Actual data suggest that growth already has started to accelerate. In Q4’12,
                                         demand increased 1.6 mbd y/y, the highest rate since Q1’11.

                                       Non-OPEC production growth has been fairly weak in recent years, posting 0.2
                                       mbd in 2011 and 0.6 mbd in 2012. Going forward, we expect growth to
Non-OPEC production growth
                                       improve, though still lag global demand growth significantly. We forecast
should improve, but still lag global
                                       growth of 0.8 mbd in 2013, and also 0.8 mbd p.a. on average in 2014-2017. The
demand growth
                                       growth is led by North America which is expected to increase 0.9 mbd in 2013,
                                       and 0.7 mbd p.a. on average in 2014-2017 (mainly driven by US tight oil). Note
                                       that our estimate for North America is higher than for instance IEA’s and BP
                                       Energy Outlook’s forecasts.

                                        OPEC crude oil production capacity is expected to grow from 32.9 mbd in 2012
OPEC capacity increases modestly        to 33.4 mbd in 2017, or about 0.1 mbd p.a. on average. The relatively modest
as Iraqi growth is partly offset by     increase masks diverting trends among the various countries. Iraqi capacity is
declines elsewhere                      estimated to grow from 3.1 mbd in 2012 to 4.8 mbd in 2017, which is largely in
                                       line with estimates from IEA, Wood Mackenzie and IHS Cera. The strong
                                       increase in Iraqi capacity is however to a large extent offset by capacity declines
                                       in other countries including Algeria, Iran, Nigeria, Ecuador and Kuwait.




12 Feb 2013                                     Pareto Securities Research                                                   6(41)
Oil & Gas                                                                                                                       Research Report



Oil supply and demand 2007 – 2017e

Oil supply and demand        2007       2008         2009        2010       2011          2012    2013e        2014e   2015e    2016e    2017e
Demand
OECD                  mbd    50.1       48.4         46.4         46.9       46.5         46.1      45.7        45.6     45.4     45.2     45.0
Non-OECD               "     37.0       38.1         39.1         41.2       42.4         43.7      45.1        46.7     48.1     49.6     51.1
World                  "     87.1       86.5         85.5         88.1       88.9         89.8      90.8        92.3     93.6     94.9     96.2
Growth y/y
OECD                   "         -0.1   -1.7         -2.0          0.5       -0.4         -0.4      -0.4        -0.1     -0.2     -0.2     -0.2
Non-OECD               "          1.5    1.1          1.0          2.1        1.2          1.4       1.4         1.5      1.5      1.5      1.5
World                  "          1.4   -0.6         -1.0          2.6        0.8          1.0       1.0         1.4      1.3      1.3      1.3
Production
Non-OPEC               "     50.7       50.6         51.5         52.6       52.8         53.3      54.2        55.1     56.1     56.9     57.6
OPEC NGLs              "      4.3        4.5          4.9          5.4        5.8          6.2       6.4         6.5      6.8      6.8      6.7
Growth y/y
Non-OPEC               "         0.3    -0.1          0.9          1.1        0.2          0.6       0.8         0.9     0.9      0.8       0.7
OPEC NGLs              "         0.0     0.2          0.4          0.5        0.4          0.4       0.2         0.1     0.2      0.1      -0.1
Call-on-OPEC           "     32.0       31.4         29.1         30.1       30.3         30.3      30.3        30.6     30.7     31.2     31.9
OPEC production        "     30.7       31.6         29.1         29.3       29.9         31.4      30.3        30.6     30.7     31.2     31.9
OPEC crude capacity    "     34.2       33.2         33.9         33.7       32.2         32.9      33.3        33.6     33.5     33.4     33.4
OPEC spare capacity    "      2.2        1.8          4.8          3.6        1.9          2.6       3.0         3.0      2.8      2.2      1.5
OECD inventory chg     "         -0.3     0.3         -0.1         0.1       -0.2          0.2
Implied non-OECD chg   "         -1.1    -0.1          0.0        -0.9       -0.2          0.9
Source: IEA; Pareto


                                                In our forecast, OPEC will need to increase production further through 2017,
                                                which is supportive for oil prices. As shown in the figure below, Call-on-OPEC
                                                (the amount of crude oil OPEC has to produce to balance the market) grows
                                                from 30.3 mbd in 2012 to ~32 mbd in 2017. This is supportive for oil prices as it
                                                puts pressure on OPEC’s spare production capacity. Furthermore, it is positive
                                                for OPEC‘s ability to support prices through production management.

                                                Call-on-OPEC* vs. Oil price 1999 – 2017e

                                                Call-on-OPEC* (mbd)                                              Oil price, annual avg (USD/bbl)
                                                32                                                                                          140

                                                31                                                                                         120

Call-on-OPEC increases through                  30                                                                                         100
2017
                                                29                                                                                         80

                                                28                                                                                         60

                                                27                                                                                         40

                                                26                                                                                         20

                                                25                                                                                         0
                                                      1999 2001 2003 2005 2007 2009 2011 2013e 2015e 2017e
                                                               Call-on-OPEC                 Oil price, Brent

                                                *Average annual growth in 2013-2017: Global demand 1.3 mbd, Non-OPEC production 0.8 mbd,
                                                OPEC NGL production 0.1 mbd
                                                Source: IEA; Pareto




12 Feb 2013                                                  Pareto Securities Research                                                            7(41)
Oil & Gas                                                                                                   Research Report



                                         We believe IEA (and thereby consensus) is too optimistic on production growth.
                                         Just in Angola, Nigeria, US, UK and Norway, we count 22 projects where IEA’s
                                         assumed start-up year is too optimistic compared with the most recent
                                         company data. As shown in the dark blue line in the figure below, these projects
                                         should ramp up to ~1.5 mbd in 2015-2016, based on IEA’s start up schedules.
                                         In reality (or “best case” based on the most recent company data), production
                                         will just be ~0.3 mbd in 2015-2016.

                                         Aggregate production from selection of 22 new projects in Angola, Nigeria,
                                         US, UK, Norway

                                          mbd
                                          1.8

 A selection of 22 projects in            1.5
 Angola, Nigeria, US, UK and              1.2
 Norway should produce ~1.5 mbd
 in 2015-2016, based on IEA’s start       0.9
 up schedules. In reality (best case),
 production will be ~0.3 mbd              0.6

                                          0.3

                                          0.0
                                                     2013e             2014e       2015e          2016e          2017e
                                                   Production based on IEA's start up schedules
                                                   Production, adjusted for too optimistic start up schedules (Best case)
                                         Source: Company data; IEA; Pareto


                                         Brent oil price should rise to USD 120/bbl, with upside potential
                                         We expect oil prices (Brent) to increase from the USD 111-112/bbl average level
                                         seen in 2011-2012, on the back of the tighter market balance and further
                                         pressure on spare production capacity. Our forecast is an average price of USD
                                         120/bbl in both 2013 and 2014, and USD 120/bbl thereafter in real terms. This
                                         differs from consensus which expects Brent to remain fairly flat at USD 110/bbl.

                                         An oil price of USD 120/bbl should not be too high for the demand side.
                                         Historically, oil demand has proven to be resilient to increases in the oil price.
USD 120/bbl should not be too
                                         As an example, the oil price was 317% higher in 2011-2012 than in 2000-2003,
high for the demand side
                                         and oil demand was still growing at a solid pace. In particular, the fact that oil
                                         demand growth has remained solid at about 1% p.a. in both 2011 and 2012 –
                                         despite weak macro, significant headwinds in Europe and the US, and a “soft”
                                         China – suggest that an oil price of USD 111-112/bbl is not too high. Oil demand
                                         growth already looks to accelerate and we do not believe a price of USD
                                         120/bbl will change this.




12 Feb 2013                                        Pareto Securities Research                                                 8(41)
Oil & Gas                                                                                                   Research Report



                                       World oil demand growth y/y vs. Oil price (Annual average) 2000 – 2012

                                       World oil demand growth (mbd)                      Oil price, annual avg (USD/bbl)
                                         3                                                                              120

                                                                                                                        100
                                         2
 Historically, demand has proven to
                                                                                                                        80
 be resilient to oil price increases
                                         1
                                                                                                                        60

                                         0
                                                                                                                        40

                                        -1                                                                              20
                                             2000         2002          2004   2006     2008        2010         2012
                                                      World oil demand growth (lhs)          Oil price, Brent (rhs)
                                       Source: IEA; Bloomberg; Pareto


                                       We do not believe substitution and increased energy efficiency represent a
                                       major downside risk to oil demand and prices. The impact is mainly longer term
                                       and is overshadowed by large latent oil demand in non-OECD countries. This is
                                       discussed in more detail in Section 2.

                                       We believe the risk to our price forecast is skewed to the upside, especially in
                                       2015 onwards. As discussed above, the supply demand balance could easily
Risk is skewed to the upside
                                       tighten more than anticipated, given the underlying potential for growth in non-
                                       OECD demand. Furthermore we would like to highlight that:

                                       USD 120/bbl could be too low to incentivize and fund the necessary E&P
                                       spending. At an oil price of USD 120/bbl, there is likely limited potential for
                                       further growth in E&P spending from 2015/2016 onwards as oil companies
                                       become cash flow constrained. The figure below shows historical and
At an oil price of USD 120/bbl,        forecasted development in the Brent oil price and E&P companies’ planning
there is limited potential for         price (average). Planning prices are the oil prices E&P companies use when
further growth in E&P spending         budgeting, and are key determinants for spending levels. The average planning
from 2015/2016 onwards                 price is estimated to be around USD 100/bbl this year and approach USD 115-
                                       120/bbl in 2015 given our oil price forecast. As such, in 2015/2016 onwards the
                                       upside in spending is limited if oil prices do not rise further from USD 120/bbl as
                                       E&P companies’ spending levels reflect USD 120/bbl (and there is no excess
                                       cash flow after organic capex and dividends).




12 Feb 2013                                      Pareto Securities Research                                                   9(41)
Oil & Gas                                                                                                              Research Report



                                       Historical development in planning prices and average oil prices

                                        USD/bbl
                                        140

                                         120

                                         100

                                          80

                                          60
                                                                                                                                 >115
                                                                                                      99      100      110
                                          40                                                  80
                                                               70                     70
                                                                          55
                                          20        38

                                            0
                                                   2007      2008       2009         2010   2011     2012     2013e   2014e      2015e

                                            Planning price          Planning price estimate range      Average Brent oil price
                                       Source: Company data; Pareto


                                       It is fair to question whether it is possible for oil production to increase further
                                       and meet demand growth with flat E&P spending. If history is any measure, the
                                       answer is a clear no. As shown in the figure below, there has been a rather
It is fair to question whether it is
                                       brutal relationship between growth in production and E&P spending
possible for oil production to
                                       historically: An increasing amount of investments are needed to sustain
increase further and meet demand
                                       production growth. From 1998 to 2013e, E&P spending has grown 13.5% p.a. in
growth with flat E&P spending…
                                       nominal terms or 6.8% p.a. in volume terms (adjusted for cost inflation). In
                                       comparison, oil and gas production (capacity) has increased by just 1.8% p.a.. As
                                       such, in order to fund the necessary increase in oil production and meet oil
                                       demand growth (which is not likely to halt at USD 120/bbl), the oil price might
                                          The increase further from & gas production
                                       have to inelasticity of oil USD 120/bbl.

                                         E&P spending vs. oil and volume) vs. oil & gas production 1998 – 2013e
                                       E&P spending(nominal& gas production 1998 – 2013e (Indexed) (Indexed)

                                           Index
                                                                                                                                 CAGR
                                          700
                                                                                                                                 13.5%
If history is any measure, the
                                          600
answer is a clear no
                                          500

                                          400

                                          300
                                                                                                                                 6.8%
                                          200
                                                                                                                                 1.8%
                                          100

                                                0
                                                 1998     2000        2002          2004    2006     2008     2010    2012e
                                                   E&P spending (nominal)             E&P spending (volume)     Oil & gas production
                                         Source: Company data; data; IEA;
                                       Source: Company IEA; BP; Pareto BP; Pareto




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Oil & Gas                                                                                                                                     Research Report



                                        2. Demand set for solid long term growth
                                        Oil demand should increase significantly longer term, with forecasts pointing
                                        to more than 15% growth over the next 20 years. The increase is driven by
                                        non-OECD transportation and industrial demand. The latent demand in this
                                        region is significant, and overshadows efficiency gains and substitution in
                                        OECD.

                                        The extraordinary energy density of oil puts it in prime position
                                        Oil has significantly higher energy density than other fuels. With energy density,
                                        we mean energy content per volume or mass. The figure below shows an
                                        overview of energy density of various fuels, measured in mega joule per kg on
                                        the x-axis and mega joule per liter on the y-axis. As can be seen, oil contains
                                        significantly more energy per liter or kg than batteries, and 1.6-1.7 times as
                                        much as ethanol. Compared with CNG and LNG oil has somewhat lower energy
                                        content per kg. However more importantly, oil contains 4 times and 1.6 times
                                        as much energy per liter than CNG and LNG, respectively.

                                        Energy density of various fuels/sources

                                                                                 45
                                                                                 40
                                                                                                                                            Crude oil
                                          Volumetric energy density (MJ/liter)




                                                                                 35
                                                                                                                      Coal
Oil is by far the #1 fuel in terms of                                            30
energy density…
                                                                                 25                                                                     LNG
                                                                                 20                                    Ethanol

                                                                                 15
                                                                                 10                                                                     CNG
                                                                                  5
                                                                                                               Wood                               Natural gas
                                                                                  0       Batteries
                                                                                      0          10             20     30        40          50           60
                                                                                                       Gravimetric energy density (MJ/kg)
                                        Source: BP; MIT; EIA; Pareto


                                        In general, the high energy density of oil gives oil-based technologies a
… which puts oil in a prime
                                        significant inherent advantage compared with technologies based on other
position in meeting energy
                                        fuels. This is one of the reasons why:
demand
                                         Oil is the world’s most used energy source, with a 32% share of global primary
                                           energy demand (shown in the figure to the left below).
                                         Oil is by far #1 in the transportation segment, with a >90% market share
                                           (shown in the figure to the right below).
                                         Oil should remain one of the world’s most important energy sources and by
                                           far #1 within transportation in the foreseeable future.




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World primary energy demand by fuel 2010                         Oil’s share of global transportation 1990 - 2035e

                      2% 1%                                      Oil's share of world transportation demand
              6%
                                                                 100%       94%        93%       92%     91%      89%     88%     87%
    10%                                     Oil
                                    32%                           80%
                                            Coal
                                            Gas
                                                                  60%
                                            Bioenergy
                                            Nuclear               40%
 22%                                        Hydro
                                            Other renewables      20%


                                                                   0%
                              27%                                          1990      2010     2015e     2020e    2025e   2030e   2035e
Source: IEA; Pareto                                              Source: IEA; Pareto


                                           Oil demand expected to increase >15% next 20 years
                                           World oil demand should continue to climb in the long term as increased non-
                                           OECD transportation and industrial demand more than offsets efficiency gains
                                           and substitution. In the figure below, we show long term demand forecasts
                                           from IEA, EIA, OPEC, Exxon and BP through 2030. The estimates point to an
                                           average annual growth from 2011 to 2030 of 0.7-1.1 mbd. Note that the growth
                                           is lower in 2020-2030 than in 2011-2020. We believe these forecasts are fairly
                                           conservative, as discussed below.

                                           World oil demand 1990 – 2030e

                                            World oil demand (mbd)
                                           110
                                           105
World oil demand should continue
                                           100
to climb in the long term as
increased non-OECD                           95
transportation and industrial                90
demand more than offsets
                                             85
efficiency gains and substitution
                                             80
                                             75
                                             70
                                             65
                                               1990       1995       2000         2005      2010      2015e 2020e 2025e 2030e
                                                          IEA               EIA              OPEC               Exxon            BP
                                           Source: IEA; EIA; OPEC; Exxon; BP; Pareto


                                           The increase in global oil demand is solely driven by non-OECD countries, which
                                           offsets a decline in OECD demand. In its World Energy Outlook 2012, IEA
                                           projects an average annual growth of 1.0 mbd in non-OECD demand from 2011
                                           to 2030, and a 0.3 mbd decline in OECD demand.

                                           The strong increase in non-OECD demand is due to the region’s robust
                                           economic and population growth, coupled with a huge latent demand for
                                           personal mobility. This more than offsets efficiency gains.

                                           The decline in OECD demand is largely due to considerable gains in vehicle fuel
                                           efficiency and some substitution. In the US for instance, IEA expects oil demand
                                           to decline from 17.6 mbd (ex. biofuels) in 2011, to 16.6 mbd in 2020 and 13.9
                                           mbd in 2030. This is mainly driven by increased vehicle efficiency, and the


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                                      forecast assumes that the new Corporate Average Fuel Economy 2025 standard
                                      is met (note this could be too optimistic).

                                      Oil demand 1990 – 2035e in IEA’s WEO 2012: OECD vs. Non-OECD

                                       Oil demand (mbd)
                                      70

Non-OECD demand is expected to        60
increase 1.0 mbd p.a. on average
from 2011 to 2030, offsetting a 0.3   50
mbd p.a. decline in OECD demand       40

                                      30

                                      20

                                      10

                                        0
                                         1990      1995     2000      2005    2010 2015e 2020e 2025e 2030e 2035e
                                                            OECD                  Non-OECD
                                      Source: IEA; Pareto


                                      Regarding new technologies, efficiency measures and policies; the time it takes
                                      to significantly impact oil demand should not be understated. This is because of
                                      inertia and technology lead times: It takes many years for new and more
                                      efficient technologies that affect the use of oil to be commercialised.
Considerable time is needed
                                      Furthermore, once commercialized a significant amount of time is needed for
before new technologies and
                                      market penetration as consumers typically buy new vehicles or equipment
efficiency measures impact
                                      when the existing ones are retired. For example, the full effect on oil demand of
demand
                                      an improvement in the average fuel economy of new cars is not felt for more
                                      than 15 years (the average lifetime of cars). In other sectors like industry,
                                      buildings or power generation, technology lifetimes can be much longer, which
                                      means that the impact on demand from a new technology is even more
                                      protracted.

                                      Demand forecasts are fairly conservative
                                      We believe the abovementioned demand forecasts are fairly conservative. First,
                                      substantial efficiency gains are taken into account. Second, the underlying oil
                                      price assumption is relatively high. IEA for instance assumes a real (nominal) oil
We believe the demand growth          price of USD 120/bbl (USD 147/bbl) in 2020 and USD 125/bbl (USD 216/bbl) in
forecasts are fairly conservative     2035, and says a high price is one of the factors that constrain oil demand
                                      growth. A lower oil price assumption would all-things-equal yield higher
                                      demand. Finally, we believe the fact that demand increased by a solid ~0.9 mbd
                                      in both 2011 and 2012, despite soft macro support, is reassuring and bodes well
                                      for the growth rate that should be seen when macro support improves.

                                      Demand has not disappointed historically
                                      Often one can see comments stating that historically IEA has been too
                                      optimistic on the demand side, and that oil demand has significantly
                                      underperformed IEA’s long term projections. At first glance this could seem to
                                      be the case. For instance in 2010, actual oil demand was 88.1 mbd, well below
                                      IEA’s 95.8 mbd projection in its World Energy Outlook from 2000.

                                      A critical fact is however then missed out: The cost of new oil production (i.e.
Too low cost estimates and too        the future oil price) and the ability to increase production capacity were grossly
optimistic assumptions on the         underestimated. For instance in the World Energy Outlook from 2000, IEA
ability to increase production are    assumed an oil price of USD 26/bbl in 2010 and USD 35/bbl in 2020 (both
the reasons why demand has not        measured in 2010 dollars). The actual oil price turned out to be USD 80/bbl in
met forecasts historically
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                                     2010 and USD 111/bbl in 2011-2012, or about 208% and 327% above IEA’s
                                     projection from 2000. In other words, oil demand did not miss IEA’s projection
                                     from 2000 of 95.6 mbd in 2010 due to weak underlying oil demand, but due to
                                     too low assumptions on costs of new supply and too optimistic assumptions on
                                     the ability to increase oil production.

                                     Oil demand has ample long term growth potential
                                     It is important to note that oil demand has ample long term growth potential,
                                     due to substantial latent demand in non-OECD countries. This is illustrated in
                                     the figure below, which maps OECD and non-OECD in terms of population size
                                     (x-axis) and oil consumption per capita (y-axis). It should be clear that the
                                     negative impact on total demand due to less consumption per capita in OECD is
                                     overshadowed by the demand added by higher consumption rates in non-
                                     OECD.

                                     In OECD, there are 1.2bn people and annual consumption per capita is 13.6 bbls
                                     on average. Over time consumption per capita should decline as fuel efficiency
                                     in vehicles etc. increases.

                                     In non-OECD, there are 5.8bn people and annual consumption per capita is just
                                     2.8 bbls. Over time, consumption per capita should increase fuelled by strong
                                     economic (and oil intensive growth), increased income and living standards, and
                                     ample latent demand for personal mobility. As an example, there are only 40
                                     There is ample potential for oil demand growth
                                     cars per 1,000 people in non-OECD compared with almost 500 in OECD.

                                     Annual oil consumption per per vs. population: OECD and OECD and
                                     Annual oil consumptioncapitacapita vs. population: Non-OECD Non-OECD

                                                                   15                         OECD: 1.2 bn people, 13.6 bbls/yr
                                       Annual oil consumption per capita




                                                                   12                                -2 bbls = 7 mbd less oil demand
The negative impact on demand
due to less consumption per capita
in OECD is overshadowed by the                                             9
                                                     (bbls)




demand added by higher
consumption rates in non-OECD                                              6
                                                                                                                  +2 bbls = 32 mbd extra oil demand
                                                                           3
                                                                                                                         Non-OECD: 5.8 bn people, 2.8 bbls/yr
                                                                           0
                                                                                0             1             2           3            4          5          6
                                                                                                                Population (billion)
                                     Sources: IEA; OECD; United States Census Bureau; Pareto                                                                             7
                                     Source: IEA; OECD; United States Census Bureau; Pareto


                                     As mentioned, one could expect that over time increased living standards and
                                     mobility demand in non-OECD would mean that the region would gradually
                                     catch up with the OECD or at least narrow the gap significantly. In this respect it
                                     is interesting to consider the impacts on oil demand. As an example, a 2 bbls
                                     increase in consumption per capita in non-OECD would give an additional oil
                                     demand of 32 mbd. In contrast, a 2 bbls decline in consumption per capita in
                                     OECD would reduce oil demand by just 7 mbd. One should of course note that
                                     such changes in consumption per capita are long term processes. However, the
                                     example still illustrates the underlying forces that are at work on the demand
                                     side, which already is impacting oil demand: Since 2005, OECD demand has
                                     declined 0.6 mbd p.a. on average, while non-OECD demand has increased 1.4
                                     mbd p.a. on average. Furthermore, it also suggests that a high oil price is




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                                     needed in order to constrain demand growth and balance the market as the
                                     supply side otherwise would have a hard time to meet the increase in demand.

                                     Another factor that suggests solid oil demand growth going forward is the fact
                                     that global oil demand is increasingly skewed toward countries with GDP per
                                     capita in the USD 3,000-20,000 range, which is consistent with exponential oil
                                     demand growth. The OECD experience suggests that oil demand takes off
                                     exponentially when GDP per capita reaches USD 3,000 and begins to taper off
                                     after passing USD 20,000.

                                     Oil demand in countries with GDP/capita of USD 3,000-20,000

                                     Oil demand in countries with GDP/capita of USD                Share of total oil demand
Global oil demand is increasingly    3,000-20,000 (mbd)
skewed toward countries with GDP     50                                                                                      50%
per capita in the USD 3,000-20,000                                                                       45%
range, which is consistent with      40                                                                                      46%
exponential oil demand growth
                                     30                                                                                      42%
                                                                                 38%
                                     20                                                                                      38%

                                     10                  32%                                                                 34%

                                       0                                                                                     30%
                                                         1996                   2006                    2016e
                                                     Oil demand in countries with GDP per capita of USD 3,000-20,000 (lhs)
                                                     Share of total (rhs)
                                     Source: IEA


                                     Chinese oil demand growth is not as extraordinary as most think
                                     Although Chinese oil demand has posted strong growth over the past decades,
                                     the growth is not as extraordinary as most think. This is illustrated in the figure
                                     below, which compares Chinese oil demand (dark blue line) with aggregate
                                     demand in Algeria, Ecuador, India, Qatar, Saudi Arabia, and a few other
                                     countries (grey bars). Combined these countries have almost mirrored the
                                     growth seen in China. First, this suggests that Chinese oil demand growth over
                                     the past decade is perhaps not such a large one-off. In other words, it is a
                                     growth rate that could be seen in the future, both in China and a range of other
                                     countries. And second, global demand is less dependent on China. In fact, that
                                     was actually seen in 2012 when global demand growth remained solid despite
                                     at times zero growth in China.




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                                      Oil demand since 1975: China vs. Aggregate of Algeria, Ecuador, India, Qatar,
                                      Saudi Arabia, Singapore, UAE, Vietnam

                                      Oil demand (mbd)
                                      12
Chinese oil demand growth is not      10
as extraordinary as most think
                                        8

                                        6

                                        4

                                        2

                                        0
                                            1975        1980        1985        1990        1995        2000        2005        2010

                                                    Aggregate of Algeria, Ecuador, India, Qatar, Saudi Arabia, Singapore, UAE, Vietnam
                                                    China
                                      Source: BP; Pareto


                                      Natural-Gas-Vehicles (NGVs) represent no major threat
                                      In terms of substitution, the largest threat to oil demand is switching to natural-
                                      gas-vehicles (NGVs which are fuelled by CNG or LNG) in the North American
                                      transportation sector. Although this is set to increasingly take place over the
                                      next 10-20 years due to low natural gas prices, we do not believe it represents a
                                      major threat to global oil demand. First, the lead time for increased NGV market
We do not believe oil-to-gas          share is long due to (a) the need for new infrastructure, including CNG/LNG
switching in US transportation is a   fuelling stations and distribution networks, and (b) the time needed for NGVs to
threat to global oil demand and       take a significant share of the vehicle fleet (as discussed on page 13). Second,
prices                                initially it is mainly the trucking segment that is exposed to substitution and this
                                      market amounts to “just” 2.3 mbd. Compared with the passenger vehicle
                                      market, less new fuelling stations are needed within the trucking segment for
                                      NGVs to take market share. In addition, the economic incentives of switching to
                                      NGVs are in general better for trucks than for passenger vehicles as trucks are
                                      much more fuel intensive.

                                      The figure below shows various estimates of the amount of US transportation
                                      demand in 2025 and 2035 that will be met by CNG/LNG (and not oil). Currently,
                                      US transportation demand is 11.4 mbd (light duty vehicles, buses and trucks) of
                                      which CNG/LNG accounts for ~0.02 mbd. In 2025, the estimates of CNG/LNG
                                      use vary from 0.08 mbd in IEA’s base case forecast to 1.12 mbd in Encana’s high
                                      case. Encana is the among the largest natural gas producers in North America
                                      and is promoting and participating in projects that support increased use of
                                      natural gas within transportation. For 2035, forecasts vary from 0.24 mbd in
                                      IEA’s base case to 0.93 mbd in the National Petroleum Council’s (NPC) high
                                      case. NPC’s forecast is part of a study on future transportation fuels that was
                                      requested by the US Secretary of Energy.




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                                   Forecasts of oil-to-gas switching in US transportation

                                    US transportation demand taken by natural gas (mbd)
                                   1.2                                        1.12

                                   1.0                                                                                 0.93
                                                                                                   0.88
                                   0.8
                                                                   0.56                                       0.55
                                   0.6
                                                        0.37
                                   0.4
                                                                                           0.24
                                   0.2       0.08
                                   0.0
                                          IEA base EIA high Encana Encana IEA base EIA high                   NPC NPC high
                                                             low    high                                      base
                                                              2025e                                    2035e
                                   Source: EIA; IEA; Encana; NPC; Pareto


                                   With world oil demand around 90 mbd, switching from oil to gas in the US
                                   transportation does not look to be a major threat to oil demand, even under
                                   the most optimistic forecasts. A comparison of world oil demand (2012 figure)
                                   and average forecasted oil-to-gas switching in US transportation as well as the
                                   “maximum upside” potential in the trucking segment (equivalent to current oil
                                   use) is shown in the figure below.

                                   Outside of US and Canada, natural gas prices are in general much higher which
                                   should limit the incentives to switch to NGVs and in many cases make it
                                   uneconomical. For instance over the past year, European (NBP) prices and Asian
                                   (LNG) prices have been in a USD 8-11/mmbtu and USD 10-20/mmbtu range
                                   respectively, compared with USD 2-4/mmbtu in the US (Henry Hub).

                                   World oil demand vs. US oil-to-gas switching in transportation

                                   mbd
                                   100
                                                       89.8

                                     80
Oil-to-gas switching in US
transportation should not impact     60
oil prices as volumes are small
compared with global oil demand      40
and the lead time is long
                                     20

                                                                                     0.6                         2.3
                                      0
                                                                           Oil-to-gas switching by        Current oil use in
                                                                                 2025/2035*                   trucking
                                              World oil demand                       US transportation demand

                                   *Average of 2025 and 2035 forecasts from Encana; NPC; EIA and IEA
                                   Source: IEA; EIA; Encana; NPC; Pareto




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                                  Limited demand impact from electric vehicles
                                  Electric vehicles are expected to have an insignificant impact on oil demand, at
                                  least over the next 10 years. This is illustrated in the figure below, which shows
                                  various scenarios for global electric vehicle sales and corresponding oil demand
                                  savings in 2020. In IEA’s base case, annual electric vehicle sales stand at 0.4
                                  million in 2020, and 0.02 mbd of oil demand in 2020 is saved compared with a
                                  scenario with zero electric vehicles. In an upside scenario, where electric vehicle
                                  sales grow to targets set forth by various countries**, reaching more than 7
                                  million, 0.42 mbd of oil demand in 2020 is saved. Such oil demand savings are
                                  small (~0.5% of current oil demand), especially considering that the country
                                  targets are highly ambitious. As an example, expansion plans from car
                                  manufacturers (as of mid-2011) indicate that annual production capacity may
                                  reach 1.4 million vehicles in 2020. Assuming that 1.4 million vehicles are sold,
                                  0.08 mbd of oil demand would be saved.

                                  Annual electric vehicle sales and oil demand savings 2020e

                                   Annual sales of electric vehicles in 2020 (millions)                   Oil demand savings
                                                                                                                in 2020 (mbd)
                                  8                                                                                            1.0

Limited oil demand savings from   6                                                                                            0.8
electric vehicles                                                                                                              0.6
                                  4
                                                                                                                 0.42          0.4
                                  2                                                                                            0.2
                                                                                     0.08
                                  0                   0.02                                                                     0.0
                                             IEA forecast             Industry expansion           Country targets**
                                                                             plans
                                        Annual sales of electric vehicles 2020e* (lhs)

                                        Oil demand savings (relative to a scenario with no electric vehicle sales) in 2020e
                                        (rhs)
                                  *Electric vehicles include full electric vehicles and plug-in hybrids
                                  ** Countries included: Austria, Canada, China, Denmark, Finland, France, Germany, Ireland, Israel,
                                  Japan, Korea, Netherlands, Portugal, Spain, Sweden, Switzerland, the United Kingdom and the
                                  United States
                                  Source: IEA; Pareto




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                                           3. The oil supply side is tight
                                           In this section we go through a few examples and drivers that illustrate the
                                           tightness and challenges on the supply side in the oil market. These
                                           examples/drivers are some of the reasons why spare production capacity has
                                           been in a structural decline over the past 15 years, why oil prices are high, why
                                           they exceed consensus expectations and why they should remain high in the
                                           future.

                                      One example is Brazil, which as shown in the figure below, by far was #1 in
                                      terms of discovered oil and gas volumes from 2001 to 2010. In 2006-2010 for
                                      instance, Brazil #1 in terms of discovered volumes in 2001-2010…
                                   Brazil was by faraccounted for 40% of global discovered oil volumes.
                                        Discovered recoverable oil and 2001-2010 by basin
                                   Discovered recoverable oil and gas resources ingas resources in 2001-2010   by basin (bn boe)*




Brazil was by far #1 in terms of
discoveries in 2001-2010…




                                           *Excludes oil sands and tight oil
                                           Source: Wood Mackenzie
                                   Source: Wood Mackenzie                                                                            19

                                           Supported by the large discoveries, plans targeting sharp production growth
                                           were announced, illustrated in the figure below (light blue line) by Petrobras
                                           production targets in the Business Plan from 2011. Such growth has also largely
                                           been the consensus view among oil market forecasters. However, increasing
                                           production is hard. As shown in the dark blue line, production has not increased
                                           since 2009, is expected to show limited growth this year and be up to 1.0 mbd
                                           lower than previous expectations thereafter. In other words, the number one
                                           area in terms of discoveries over the past decade has difficulties with increasing
                                           its production.




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                                                 Petrobras Brazilian oil production: Business Plan 2011 targets vs. Actual
                                                 production and Business Plan 2012

                                                 Petrobras oil production in Brazil (mbd)
                                                 3.5
                                                                                                                                                    3.4




                                     Thousands
                                                 3.3
… but struggles to increase its                  3.1
production                                                                                   Production target in
                                                 2.9                                         2011 Plan

                                                 2.7

                                                 2.5                    Actual production                                                           2.5
                                                                        and 2012 Plan
                                                 2.3

                                                 2.1

                                                 1.9
                                                            2009            2010      2011        2012      2013       2014        2015        2016

                                                 Source: Petrobras; Pareto


                                                 Furthermore, lower-than-expected production growth is a trend seen in a wide
                                                 range of countries across the world and is not specific to Brazil. The blue line in
                                                 the figure below shows consensus/IEA’s forecast published in June 2010 of
                                                 aggregate production in UK, Norway, Azerbaijan, Kazakhstan, India, Indonesia,
                                                 Australia and a few other countries, plus NGLs from OPEC and global biofuels.
                                                 Production was expected to increase from 18.8 mbd in 2009 to 21.2 mbd in
                                                 2012. Actual production is shown the dark blue line, and was 1.4 mbd lower
                                                 than the forecast in 2011, and 1.8 mbd below in 2012. This shortfall is
                                                 significant, and equivalent to about ~4 years of tight oil production growth in
                                                   There
                                                 the US. are plenty of other examples …

                                                  Aggregate* production 2009 – 2012e: IEA forecast in 2010 vs. Actual
                                                 Aggregate* oil production 2009 – 2012e: IEA forecast in JuneJune 2010 vs. Actual

                                                  Aggrega te production* (mbd)
                                                  21.5
                                                                                                                                                 21.2
                                                   21.0
                                                                                Consensus/IEA forecast*

                                                   20.5
 Lower-than-expected production is
 a trend seen in a wide range of                   20.0
 countries across the world and is
 not specific to Brazil                            19.5
                                                                                                                                                 19.4

                                                   19.0
                                                                                                              Actual production*
                                                   18.5
                                                                         2009                  2010                 2011                   2012
                                                 *UK, Norway, Azerbaijan, Kazakhstan, Turkmenistan, India, Indonesia, Australia, Algeria, Argentina,
                                                   *UK, Norway, NGLs, Biofuels
                                                 Colombia, OPECAzerbaijan, Kazakhstan, Turkmenistan, India, Indonesia, Australia, Algeria, Argentina, Colombia, OPEC NGLs, B
                                                 Source: IEA; Pareto
                                                  Source: IEA; Pareto


                                                 The cost and capex intensity of oil production have increased sharply over the
                                                 past decade. The figure below illustrates the “inelasticity of oil production”.
                                                 From 1998 to 2013e, E&P spending has increased 13.5% p.a. in nominal terms
                                                 or 6.8% p.a. in volume terms (adjusted for cost inflation). In comparison, oil and
                                                 gas production (capacity) increased by just 1.8% p.a. In other words, the capex
                                                 intensity of production is increasing rapidly; that is an increasing amount of



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                                     investments are needed to sustain production growth. The underlying driver is
                                       The inelasticity of oil & gas projects, as well
                                     increasing complexity of reservoirs andproduction as cost inflation.

                                       E&P spending vs. oil and volume) vs. oil & gas production 1998 – 2013e
                                     E&P spending(nominal& gas production 1998 – 2013e (Indexed) (Indexed)

                                         Index
                                                                                                                                        CAGR
                                         700
                                                                                                                                        13.5%
                                         600
The inelasticity of oil production       500

                                         400

                                         300
                                                                                                                                        6.8%
                                         200
                                                                                                                                        1.8%
                                         100

                                             0
                                              1998        2000           2002     2004       2006        2008       2010      2012e
                                                  E&P spending (nominal)              E&P spending (volume)            Oil & gas production
                                       Source: Company data; data; IEA;
                                     Source: Company IEA; BP; Pareto BP; Pareto


                                     The growing capex intensity of oil production of course also translates into
                                     higher costs per bbl. The development in marginal costs of new supply is shown
                                     in the figure below. Over the past decade marginal costs are up from USD 20-
                                     35/bbl to USD 75-95/bbl. Going forward, the long term trend is also expected to
                                     be upwards as technological improvements likely are not enough to offset the
                                     effect of high and rising complexity since the early 2000s
                                     Marginal costs are up ~3xof reservoirs and projects.
                                     Marginal cost of new oil supply
                                     Marginal cost of new oil supply

                                      Marginal cost of new oil supply (USD/bbl)
                                     160
                                                                                  Marginal costs up ~3x since the
                                                                                  early 2000s driven by:
                                                                                  o   Rising complexity of
                                     120                                              reservoirs and projects
                                                                                  o   Cost inflation
Marginal costs are up ~3x since
                                                                                         USD 75-95/bbl
the early 2000s                        80
                                                                                                                Although a steady technological
                                                                                                                improvement can be expected, the
                                                                                                                net effect of high and rising
                                       40                                                                       complexity will probably push
                                                       USD 20-35/bbl                                            long-term costs higher*


                                         0
                                                       Early 2000s                           Now                           Future
                                     *Statoil Energy Perspectives 2012
                                     Source: Statoil; IEA; Pareto
                                     *Statoil Energy Perspectives        2012
                                     Source: Statoil; IEA; Pareto




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                                     Finally, it is important to not forget that the need for new oil production
                                     capacity is all about decline in existing production and not oil demand growth.
                                     With decline in existing production around 3-4 mbd p.a., it accounts for 75-80%
                                     of the need for new oil production capacity and is equivalent to either

                                        4x world demand growth
                                        10x Chinese demand growth
                                        9x US tight oil net production growth
                                        1 Saudi Arabia every third year
                                      The need for new oil production is driven by declin
                                     This makes the outlook for a tight oil market more robust and less sensitive to
                                      production and not growth in demand
                                     uncertainties on the demand side.

                                      Decline existing production vs. demand and production growth
                                     Decline in in existing production vs. demand and prod. growth
                                         mbd
                                                                                                               9.9
                                         10

The need for new oil production is
                                          8
driven by decline in existing                                                                                              Decline* in
production and not growth in                                                                                                equivalent
demand
                                          6                                                                                  4x world
                                                                                                                             13x Chin
                                          4
                                                            Annual decline in existing production: 3-4 mbd *                 9x US tig
                                                                                                                             1 Saudi A
                                          2
                                                      0.8
                                                                              0.3                    0.4
                                          0
                                                World annual         Chinese annual US tight oil annual Saudi Arabia
                                               demand growth         demand growth    prod growth      crude production

                                     *Based on IHS Cera, IEA, Wood Mackenzie estimates and company guiding
                                     Source: Pareto
                                      *Based on IHS Cera, IEA, Wood Mackenzie estimates and company guiding
                                      Source: Pareto




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                                       4. Tight oil is needed and costs are high
                                       In this section we discuss in more detail why we believe growth in US tight oil
                                       production is needed. In addition, we look at oil price breakeven levels,
                                       highlighting that tight oil is a fairly expensive source of new supply, and argue
                                       that tight oil outside of North America will not change the market
                                       substantially.

                                       First, we will put US tight oil production growth into perspective. It is not a step
                                       change in global supply in our view. As shown to the left in the figure below, US
US tight oil is not a step change in   tight oil production is expected to grow by up to 500’ bpd per annum on
supply…                                average through 2020. Although this definitely is strong, it is not more than the
                                       growth seen from other sources historically. For instance from 2001 to 2010,
                                       the Former Soviet Union (FSU) increased production 550’ bpd every year on
                                       average. On top of this, OPEC production increased 400’ bpd p.a. on average.

                                       More importantly, over the next 5-10 years the potential for further growth
                                       from FSU and OPEC (excluding Iraq) looks to be limited. FSU production is
                                       expected to remain fairly flat, while OPEC production (excluding Iraq) is close to
… and will be needed                   peak levels and spare capacity is at historical lows. As such, with the two main
                                       growth drivers over the past decade largely gone, growth from US tight oil and
                                       other “new” sources such as Iraq, oil sands and more deepwater should be
                                       exactly what the supply side needs in order to grow global production and meet
                                       In fact, tight oil has already been crucial for the oil market
                                       demand growth.

                                       Non-OPEC crude oil production growth y/y Q1’10 – Q3’12e
                                       Annual growth: US tight oil 2012-2020 vs. FSU and OPEC in 2001-2010

                                       Annual production growth ('000 bpd)
                                       700                                                                   2012-2020 growth likely close to 0

                                       600
                                                           US tight oil production growth forecasts*
                                       500
                                       400                                                             2.4


                                       300
                                                                                              500                  550
                                       200                                                                                          406
                                                                             350
                                       100                   200
                                            0
                                                             Low             Mid              High             2001-2010        2001-2010
                                                                   US tight oil 2012-2020                    Former Soviet       OPEC (ex.
                                                                                                                Union              Iraq)
                                       Source: EIA; IEA; Pareto

                                       *Range is based on forecasts from Bentek, Wood Mackenzie, Statoil, EIA, IEA and company guiding
                                       Source: IEA; Pareto


                                       In fact, this has been the situation over the past two years already. US tight oil
                                       has been very much needed. This is illustrated in the figure below which shows
                                       y/y growth in non-OPEC crude production divided into US onshore, denoted by
                                       the grey bars, and the rest of non-OPEC, denoted by the blue bars. It should be
                                       clear that without growth from US onshore, non-OPEC production would have
                                       been on a steep decline since Q1’11 and been ~1.6 mbd below the actual level
                                       in 2012. In such a scenario, oil prices would likely have spiked sharply with a
                                       further set-back in world GDP and oil demand growth as the result.




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                                    Non-OPEC crude oil production growth y/y Q1’10 – Q3’12

                                     Crude oil production growth y/y (mbd)
                                     1.0


                                     0.5               0.7             0.3                                           0.9     0.9
                                              0.8               0.3                                         0.8
                                                                                                    0.7
In fact, US tight oil has already                                                            0.5
                                                                0.3    0.3    0.3    0.4
been very much needed                                  0.1
                                     0.0
                                                                              -0.2

                                                                                     -0.7                   -0.7     -0.8
                                    -0.5                                                     -0.9   -1.0                     -0.9



                                    -1.0
                                            Q1'10              Q3'10         Q1'11          Q3'11          Q1'12            Q3'12
                                              Non-OPEC ex. US onshore                 US onshore             Non-OPEC total
                                    Source: EIA; IEA; Pareto


                                    In terms of economics, tight oil is not a game changer. The figure below shows
                                    oil price breakeven ranges for various regions or supply sources. US tight oil is
                                    not cheaper than for instance projects in Norway, Gulf of Mexico, or deepwater.
Tight oil costs are fairly high
                                    We estimate a Brent breakeven at Bakken to between USD 50/bbl and USD
                                    100/bbl with an average above USD 80/bbl. The high cost of marginal tight oil
                                    drilling is further illustrated by a 15% drop in the rig count at Bakken since last
                                    summer, which partly is driven by cuts after the WTI oil price fell to USD 80-
                                    90/bbl. In comparison, breakeven at Norwegian fields are between USD 20/bbl
                                    and USD 75/bbl, with an average of around USD 50-55/bbl. Note, in this figure
                                    we have assumed a USD 10/bbl spread between Brent and WTI oil prices.

                                    Furthermore, one should not take for granted that technology improvements
                                    will reduce tight oil breakeven going forward. By all means, technology
                                    advancements (such as better proppant quality, fracture design, etc.) could
Technology improvements could       definitely improve productivity per well, which is a key determinant for
be offset by declining acreage      economics, and thereby bring cost/capex per boe down all-things-equal.
quality                             However, it will not necessarily offset declining acreage quality as the sweet
                                    spots are drilled first. In fact, our analysis of monthly production and well count
                                    data at the Bakken field, suggests that there has not been any improvements in
                                    average productivity of the new wells since early 2011.




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                                     Breakeven oil price ranges*

                                      Breakeven oil price* (USD/bbl)
                                      120

                                      100

                                       80

                                       60

                                       40

                                       20

                                         0
                                                  Norway            US GoM          Deepwater          US tight oil       Oil sands
                                     *Breakeven is calculated as the oil price that sets the Net Present Value (with a 10% WACC) to zero.
                                     Assumes USD 10/bbl Brent-WTI spread. Excludes exploration/acreage cost.
                                     Source: Wood Mackenzie; IEA; Pareto


                                     One should be aware of two factors that together could turn out to be a
                                     significant constraint to US tight oil production growth: The US crude export
                                     ban, and US refineries’ ability to process light sweet crude oil. Together these
                                     factors could cap the upside in demand for US tight oil and give US tight oil
The US crude export ban and          significant price discounts compared with international oil prices in the long
refinery constraints could cap the   term. The reason is that most US refinery capacity is designed to run much
upside in demand for US tight oil    heavier crude than tight oil which typically has an API-gravity above 40. Of the
                                     8.6 mbd imported in Jan-Nov 2012, only 1.5 mbd had an API-gravity above 35.
                                     Once the light imports have been displaced, additional demand for tight oil
                                     could be constrained by refineries’ ability to run light crude oil and the US crude
                                     export ban. It is uncertain how much flexibility refineries have to switch from
                                     medium-heavy crude to light crude. There should be some, but significant
                                     switching could require capital spending and lead time or require large tight oil
                                     price discounts in order to incentivize switching. The result is that oversupply of
                                     landlocked crude in the US could persist longer term, unless the export ban is
                                     eased/removed.




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                                   What about international tight oil?
                                   Tight oil production outside of North America is still in nascent stages with no
                                   commercial large scale production volumes. Over the next 10-20 years,
                                   international tight oil production should increase, but at a much slower pace
                                   than in the US due to a range of challenges. Most growth is expected to take
                                   place post 2020, at a time when North American tight oil production levels off.
                                   In other words, a concurrent surge in North American and international tight oil
                                   production is not expected to happen. Below we discuss this in more detail. In
                                   conclusion, we think it is fair to say that international tight oil will not change
                                   the oil market significantly.

                                   Large resource potential, but little subsurface understanding at present
                                   Potential tight oil resources should be ample outside of North America, as
                                   indicated in Wood Mackenzie and Fugro Robertson’s joint multi-client study
Large resource potential
                                   “The Future of Shale Oil”. However, the level of understanding of subsurface
                                   factors and commercial enablers is in general low. International basins that
                                   have drawn headlines include the Neuquén (Argentina), Middle Magdalena
                                   (Colombia), Paris (France), Georgina, Arckaringa,++ (Australia) and West Siberia
                                   (Russia).

                                   There are also aboveground challenges, which suggest a much slower
                                   development than in the US
                                   Besides low subsurface understanding, each basin faces unique sets of above-
Development should be much         ground challenges, with issues such as rig and pressure pumping availability,
slower than in the US              skilled labour, environmental concerns, water scarcity, funding and regulatory
                                   drag potentially slowing development.

                                   The rapid tight oil development in the US benefited from a unique set of
                                   enablers that were largely in place on the back of the shale gas revolution and
                                   decades of onshore E&P development and experience. These enablers include;
                                   essential skills, labour, equipment, infrastructure, favourable fiscal/regulatory
                                   terms, access to funding and a large number of independent E&P companies.

                                   The lack of at least some of these enablers in most regions outside of North
                                   America, suggests a much slower development than in the US. Even in Russia
                                   for instance, where the onshore rig count is above 1,000, most will not be of
                                   high enough specification for drilling tight oil wells in the Bazhenov formation
                                   according to Wood Mackenzie. Limited pressure pumping capacity outside
                                   North America and lack of experienced personnel are also likely to be
                                   constraints.

                                   Breakeven is expected to be high
                                   In its “Future of Shale Oil” study, Wood Mackenzie evaluated economics at 25
                                   prospective tight oil basins outside North America. Post-tax full-cycle breakeven
                                   varied from USD 55/bbl to USD 300/bbl. The basins with the greatest
Tight oil breakeven outside of     production potential by 2030 had a breakeven in the USD 55-140/bbl range,
North America is estimated to be   with an average of USD 87/bbl. As Wood Mackenzie noted, it is evident that
high                               tight oil outside North America are among the resources with highest
                                   breakeven – only the integrated oil sands projects are higher. In other words,
                                   international tight oil breakeven is in general well above the breakeven of US
                                   tight oil and offshore projects.

                                   Higher tight oil breakevens outside of US than in the US are mainly a result of
                                   fiscal terms (which in general are worse and not geared towards
                                   unconventional development) and higher infrastructure and transportation
                                   costs. One should note that there of course is potential for international tight
                                   oil breakevens to come down through better well performance, efficiency gains,



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                                        multi-well pad drilling, general economies of scale, as wells as changes in
                                        regulatory and/or fiscal terms.

                                        Production outlook: Growth mainly expected to take place post 2020
                                        Wood Mackenzie’s tight oil production forecast is shown in the figure below.
                                        Limited tight oil production (< 0.3 mbd) is expected outside of North America
Limited production growth prior to
                                        prior to 2020. In 2020-2030, production growth picks up, but is still fairly
2020 according to Wood
                                        modest with production reaching 1.5 mbd in 2030 in the base case. In the
Mackenzie
                                        upside scenario, production outside of North America reaches ~1.0 mbd in 2020
                                        and slightly above 4.0 mbd in 2030. As can be seen, such growth is actually
                                        what is needed to sustain a solid growth rate in total global tight oil production
                                        in 2020-2030 as production in North America is expected to level off around
                                        2020. A slowdown in North American growth post 2020 is due to the current
                                        view of the resource base, declining acreage productivity/quality and the fact
                                        that it becomes increasingly challenging to sustain growth due to the sharp
                                        underlying decline rates.

                                        Wood Mackenzie: Global tight oil production forecast through 2030




Fairly modest tight oil growth
outside North America in the base
case. The upside case is actually
what is needed to sustain a solid
growth rate in total global tight oil
production in 2020-2030 as
production in North America is
expected to level off around 2020




                                        Source: Wood Mackenzie


                                        Fairly modest tight oil production growth outside of North America is also
                                        indicated in forecasts in BP’s energy outlook and Exxon’s energy outlook. BP
                                        expects tight oil production outside of North America at ~0.8 mbd in 2020 and
                                        ~2.4 mbd in 2030, and says: “The pace of development elsewhere [outside of
                                        North America] is likely to be measured, given the lengthy checklist of factors
                                        required for development of shale gas and tight oil resources.” BP also expects
                                        North American tight oil production growth to slow down significantly in 2020-
                                        2030. Exxon overall has a much lower tight oil forecast, expecting global tight oil
                                        production around 3 mbd in 2020 and 4 mbd in 2020.

                                        There is of course both upside and downside risk to these forecasts. Tight oil
                                        production is still in its relative infancy and there are still many uncertainties
                                        around its longer term sustainability. Much will depend on maintaining the pace
                                        of drilling. There are also question-marks around the integrity of tail-end well
                                        production profiles.




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                                The figure below puts the long term impact of US and international tight oil
                                growth into further perspective. The grey area shows new tight oil production
                                assuming fairly aggressive growth both in the US and internationally, with
                                production reaching 8.6 mbd in 2030. The dark blue area denotes incremental
                                oil demand, while the light blue area shows decline in existing production. It
                                should be evident that tight oil doesn’t change the outlook significantly, and
                                that a substantial amount of new production will be needed from sources other
                                In fact, tight oil has already been crucial for the oil marke
                                than tight oil.

                                World oil crude oil production growth y/y Q1’10 Q3’12e
                                Non-OPECdemand, decline in existing production*–vs. tight oil production**
                                 mbd
                                105
                                                                                                          Incremental demand
                                   90
A significant amount of new                                                                    Decline in existing production
production from other sources      75                                                                                               Without U
than tight oil will be needed                                                                                                        non-OPEC
                                   60                                                                                                have decli
                                                                                                    2.4
                                   45                                                                                               In this cas
                                                                                                                                     have skyro
                                                                              New tight oil production**
                                   30

                                   15

                                     0
                                      1990           1995    2000          2005    2010     2015e     2020e      2025e    2030e

                                *Average of demand forecasts from IEA, EIA, OPEC, Exxon and BP; 4.5% decline p.a in existing
                                production on average
                                **Assumes global tight oil production reaches 4.6 mbd in 2020 and 8.6 mbd in 2030. Wood Mac/IEA
                                estimates 4.8/3.8 mbd in 2020 and 6.1/4.0 mbd in 2030. Includes crude oil and condensate
                                Source: BP; IHS Cera; Wood Mackenzie; IEA; Company data; Pareto
                                Source: EIA; IEA; Pareto




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                                     5. Regional oil balances: Don’t get blinded
                                        by North America
                                     The coming decline in North American oil imports has been a very hot topic
                                     over the past year. One could almost get the impression that this is something
                                     new that just has started to happen, that will accelerate over the coming
                                     years and that the oil market is all about North America. In this respect, there
                                     are however some critical facts that often are overlooked.

                                     First, the decline in North American imports is old news, and has been part of
Declining North American oil
                                     the market for five years already. This is illustrated in the figure below which
imports is old news, and has been
                                     shows North American net oil imports (includes both crude and products). From
part of the market for five years
                                     2007 to 2012, imports declined 0.9 mbd p.a. on average.

                                     Furthermore, if we look on the outlook through 2020, the annual decline in
                                     imports will not necessarily be higher than what we’ve seen over the past five
                                     years. In fact, based on IEA’s forecast from November 2012 - which received a
                                     lot of attention due to its prediction of sharp reductions in North American
                                      North America: annual decline of 0.4 mbd on average through 2020.
                                     imports - there will be anThe decline in imports is old news
                                     In other words, significantly less than what we have had the past five years.

                                     North America: Net oil imports 1990 2020e*
                                     North America: Net oil imports 1990 –– 2020e

                                      North American net oil imports* (mbd)
                                      12
                                                                                                                            2008-2012:
                                                                                                                           -0.9 mbd p.a.
                                      10

                                        8
                                                                                                                                                     2013-2020:
                                                                                                                                                    -0.4 mbd p.a.
                                        6

                                        4

                                        2

                                        0
                                            1990               1995               2000                2005                2010               2015                2020
                                     *Implied imports = Consumption – Production. Implied imports should reflect the underlying trend in imports, but may differ slightly from
                                      actual imports due to = Consumption – Production. Implied imports should reflect the underlying the production).
                                     *Implied imports1) Inventory changes and 2) Refinery processing gains (which are included in the consumption but nottrend in
                                      Historical but may on BP slightly from World imports while 2020e based on IEA forecasts.
                                     imports,data are baseddifferStatistical Review ofactualEnergy 2012, due to 1) isInventory changes and 2) Refinery
                                      Source: BP: IEA; Pareto
                                     processing gains (which are included in the consumption but not the production). Historical data are
                                     based on BP Statistical Review of World Energy 2012, while 2020e is based on IEA forecasts.
                                     Source: BP: IEA; Pareto


                                     Second, in all the other major regions, the opposite forces are at work. That is,
In the other regions, the opposite   imports are increasing or exports are declining or under pressure. The map
forces are at work                   below shows change in net oil imports (dark blue bars) and exports (light blue
                                     bars) from 2010 to 2012.

                                     In Asia, imports have increased by 1.8 mbd, and consequently almost alone
                                     offset the decline in North America. Also interesting, net imports in Europe and
                                     Euroasia have increased by 0.1 mbd. As we all now, oil demand has been weak
                                     in this region, however production has actually been even weaker. This is in
                                     contrast to the 17 previous years, when oil imports declined steadily, on
                                     average by 0.4 mbd per annum.




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                                                In the exporting regions, net exports out of both South America and Africa have
                                                decreased by around 0.5 mbd. This has been driven by strong demand growth
                                                for South America and a combination of weaker production and solid demand
                                                growth for Africa. From the Middle East on the other hand, exports have grown
                                                sharply, and this is exactly what has been needed to balance the market. It is
                                                however important to note that the increase in exports largely has been at the
     Regional oil balances: Don’t get blinded by North America
                                                cost of lower spare production capacity which now is at historically low levels.
                                                In other words, this is not a sustainable driver for further growth in exports.
     Change in net oil imports and exports (implied) from 2010 to 2012e (million bbls/day)
Change in net oil imports and exports (implied) from 2010 to 2012e (mbd)



          North America                             Europe & Eurasia
                                                            +0.1
                     -2.0
                                                                             Middle East
                                                                                                      Asia Pacific

                                                       Africa                        +2.6                  +1.8
                                                        -0.5

                                    Exports are declining
                               South America
                                   -0.4
                                                                       o Needed to balance the market
                                                                       o Largely at the expense of spare capacity

           Change in net imports 2010 – 2012           Change in net exports 2010 – 2012
     Source: BP; IEA; Pareto                                                                                                30
Source: BP; IEA; Pareto




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                                          6. Downside support at USD 90-100/bbl
                                          In a downside scenario for oil demand, we believe both OPEC production
                                          curtailments and cuts in US tight oil drilling will support an average price
                                          above USD 90-100/bbl (Brent).

                                          We believe OPEC would cut production if the oil price (Brent) declines below
                                          USD 100/bbl, in order tighten the market and support a price of at least this
                                          level. This view is supported by both comments from OPEC countries, stating
OPEC is likely to cut production if       that USD 100-110/bbl is a fair price level, as well as recent developments in
the oil price (Brent) declines below      OPEC production (which is discussed in more detail on page 35). In addition, it
USD 100/bbl                               also largely corresponds to government breakeven oil prices (the price needed
                                          to cover government spending). As shown in the figure below, government
                                          breakeven for most OPEC countries (and Russia) was in the USD 80-90/bbl
                                          range in 2011, and has likely inflated further since then. One should note that
                                          government breakeven prices have climbed sharply over the past 4-5 years,
                                          fuelled by increased government spending. For Saudi Arabia for instance,
                                          government breakeven is up from an estimated USD 50-60/bbl in 2008-2009 to
                                          USD 80-90/bbl in 2011.
                                          Saudi and OPEC support prices above USD 90/bbl
                                          Government budget breakeven* oil price 2011
                                          Government budget breakeven* oil price 2011
                                           Government budget breakeven oil price (USD/bbl)
                                           110




                                                                                                                                                                Venezue.
                                           100




                                                                                                                                Ecuador
                                                                                                                                                  Russia




                                                                                                                                Nigeria
                                                                                                                                          Iran


                                                                                                                       Angola
                                                                                                      Algeria
                                            90                                                                  Iraq
                                                                                       Saudi Arabia
                                                                              Libya




                                            80
                                                                        UAE




                                            70
                                            60
                                                           Kuwait




                                            50
                                                  Qatar




                                            40
                                            30
                                                  0                 5                 10       15          20                   25          30   35        40              45
                                                                                          Oil production (mbd)
                                           *Oil price needed to balance government budget
                                          *Oil price needed to balance government budget
                                           Source: IEA; Pareto                                                                                                                  12
                                          Source: IEA; Pareto Research


                                          Second, if Brent was to decline to USD 90-100/bbl and WTI consequently likely
                                          to USD 75-90/bbl (assuming a USD 10-15/bbl discount), there should be
US tight oil drilling is also likely to
                                          reduced onshore/tight oil drilling in the US. With US tight oil being the #1 driver
come down if Brent declines to
                                          of global oil production growth, reduced drilling and thereby production growth
USD 90-100/bbl
                                          should be positive and provide additional support for a Brent price above USD
                                          90-100/bbl. The CEO of Baker Hughes, Martin Craighead, said in July last year
                                          that drilling for tight oil in North Dakota and Texas is likely to slow if US oil
                                          prices drop below USD 80/bbl. This is also in line with comments from several
                                          E&P companies. Looking at drilling activity, the number of active rigs has in fact
                                          declined by 15% at Bakken since the peak last summer.




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                                     Finally, one should note that oil demand is more robust now than in 2008 as
                                     most of the easy cuts and substitutions in OECD were taken back in 2008 and
                                     2009. As shown in the figure below, OECD demand fell by 3.7 mbd from 2007
                                     to 2009 and has been fairly flat thereafter. It should be much harder to reduce
                                     demand by 3-4 mbd from current level than what it was in 2007-2008. We
                                     believe our 2013 forecast is fairly conservative.


                                     OECD oil demand 2007 – 2013e

                                     OECD oil demand (mbd)
                                     51
                                           50.1
                                     50
                                     49                    48.4
There should be less downside risk
to demand now than in 2007-2008      48
                                                                               46.9
                                     47                                 46.4          46.5
                                                                                                46.1
                                     46                                                                     45.7

                                     45
                                     44
                                     43
                                              2007         2008         2009   2010   2011      2012       2013e
                                     Source: IEA; Pareto




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                                 7. Recent data have been supportive
                                 Actual data on fundamentals have shown improvements recently, and support
                                 the outlook for strong oil prices going forward. Demand growth is improving
                                 and broad-based with substantial upside. Oil inventories are declining and
                                 Saudi production is down 0.6 mbd from October to December, indicating
                                 supply discipline.

                                 Demand growth is improving and broad-based
                                 Global demand growth is trending upwards, as shown in the figure below.
                                 Q4’12 growth y/y stands at 1.6 mbd, the highest growth rate since Q1’11. The
                                 improvement is due to a combination of both higher non-OECD growth and a
                                 reduction in the decline in OECD.

                                 World oil demand growth Q1’01 – Q4’12

                                  World quarterly oil demand growth y/y (mbd)
                                  4

Global demand growth has been      3
improving. Q4’12 growth y/y        2
stands at 1.6 mbd, the highest
                                   1
growth rate since Q1’11
                                   0
                                  -1
                                  -2
                                  -3
                                  -4
                                       Q1'01

                                                 Q1'02

                                                         Q1'03

                                                                 Q1'04

                                                                         Q1'05

                                                                                  Q1'06

                                                                                          Q1'07

                                                                                                  Q1'08

                                                                                                          Q1'09

                                                                                                                  Q1'10

                                                                                                                          Q1'11

                                                                                                                                  Q1'12
                                                  Non-OECD                       OECD                 World
                                 Source: IEA; Pareto


                                 Also important, the growth is broad-based as shown in the table below.

                                 In non-OECD, all regions have shown solid growth y/y in recent quarters: 0.1
                                 mbd in the Former Soviet Union, 0.3-0.4 mbd in Asia (ex. China), 0.2-0.3 mbd in
                                 both Latin America and the Middle East, and 0.1-0.2 mbd in Africa. Finally,
                                 growth in China has also rebounded, posting 0.7 mbd in Q4, after a fairly soft
                                 H1’12.

                                 In Europe and the US, demand declined by 0.5 mbd and 0.3 mbd in 2012,
                                 respectively. On the positive side, the decline rate now looks to slow down,
                                 especially in the US where demand has posted slight positive growth y/y in the
                                 past two months. We believe the decline rate in Europe/US will continue to
                                 slow down going forward, which could significantly boost the global growth rate
                                 from the 1.0 mbd level seen in 2012. In OECD Asia, demand increased by 0.3
                                 mbd in 2012, led by a 0.2 mbd gain in Japan due to increased use of oil in power
                                 generation following the shutdown of nuclear reactors. As several reactors are
                                 likely to restart in 2013-2014, the temporary increase in Japanese demand
                                 should reverse, partly offsetting the improvements in the US and Europe.




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                                       Oil demand growth y/y by region Q4’11 – Q4’12

                                          Demand growth y/y              Q4'11       Q1'12   Q2'12    Q3'12     Q4'12
                                          OECD
                                          Americas            mbd          -0.2       -0.7     0.0     -0.3       0.1
                                          Europe               "           -0.8       -0.5    -0.4     -0.9      -0.3
                                          Asia                 "            0.3        0.5     0.6      0.3       0.0
                                          Total OECD           "           -0.7       -0.8     0.2     -0.9      -0.2
Growth is broad-based, with solid         Non-OECD
gains in all non-OECD regions             FSU                   "           0.3        0.2     0.1      0.1       0.1
                                          China                 "           0.0        0.3     0.0      0.4       0.7
                                          Other Asia            "           0.2        0.2     0.4      0.4       0.3
                                          Latin America         "           0.3        0.2     0.2      0.2       0.3
                                          Middle East           "           0.1        0.2     0.3      0.2       0.2
                                          Africa                "          -0.1        0.1     0.1      0.2       0.1
                                          Total non-OECD        "           0.9        1.2     1.1      1.5       1.7
                                          World                 "              0.2     0.5     1.3      0.5       1.6
                                       Source: IEA; Pareto


                                       In the figure below, we have taken a closer look at European oil demand.
                                       Demand (four quarter rolling average) is down from 14.7 mbd in Q4’10 to 13.8
                                       mbd in Q4’12. Eventually the decline rate should slow down, like it did in 2009-
                                       2010, as the deterioration of GDP and industrial production halt, the easy cuts
                                       in vehicle use have been taken, and the negative impacts of general inventory
                                       drawdowns come to an end. In this case global demand growth could be
                                       boosted significantly as noted above.

                                       European oil demand Q1’01 – Q4’12 (four quarter rolling)

                                        European oil demand, four quarter rolling avg (mbd)
                                       16.0


                                       15.5

European oil demand declines           15.0
sharply. Eventually the decline rate
should slow down, in which case
the global growth rate could be        14.5
boosted

                                       14.0


                                       13.5
                                              Q1'01          Q1'03       Q1'05       Q1'07    Q1'09     Q1'11
                                       Source: IEA; Pareto


                                       Inventories are declining
                                       As shown in the figure to the left below, total OECD oil inventories have
                                       decreased in recent months, posting a 0.69 mbd decline in Oct-Dec. This is more
                                       than the 5-year average of a 0.48 mbd decline, and an improvement from the
                                       development seen earlier in 2012. As shown in the figure to the right, Chinese
                                       oil inventories have also come down, declining by 0.16 mbd from July to
                                       December.




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Oil & Gas                                                                                                                                           Research Report



Total OECD inventories 2012 vs. 2007-2011 range                                          Chinese oil inventories (ex. strategic) 2012 and 2011

 OECD crude and product inventories (mbls)                                              Chinese commercial crude and product inventories (mbls)
2,950                                                                                   380

                                                                                        370
2,850

                                                                                        360
2,750
                                                                                        350
2,650
                                                                                        340

2,550
                                                                                        330
        Jan   Feb Mar Apr May Jun            Jul     Aug   Sep    Oct     Nov Dec
                                                                                               Jan     Feb Mar     Apr May    Jun    Jul   Aug   Sep   Oct      Nov Dec
               Average 2007-2011               2012                                                      2012             2011
Source: IEA; Pareto                                                                            Source: Bloomberg; IEA; Pareto


                                                            OPEC production has decreased
                                                            OPEC production fell from 31.2 mbd in October to 30.6 mbd in December,
                                                            according to IEA figures. The decrease was driven by Saudi Arabia, where
                                                            production fell from 10.0 mbd to 9.4 mbd. There has been much speculation
                                                            around the reason for the decline in Saudi production. Explanations have
Saudi Arabian production has                                ranged from “declining production capacity”, “attempt to push oil prices
decreased recently, indicating                              higher” and “just an adjustment to seasonal swings in crude oil demand”. The
supply discipline and comfort with                          first would of course be the most bullish one, but is also the least likely.
higher prices                                               Whether it is number two or three is hard to say, but in either case the read-
                                                            through and most important takeaways are that it clearly indicates (1) supply
                                                            discipline and (2) they are not actively trying to get the price down to USD
                                                            100/bbl (which is what they said last spring/autumn and what has been
                                                            "consensus" on their price/production policy). This is positive and supports the
                                                            case that OPEC/Saudi would defend a price level above USD 100/bbl (perhaps
                                                            an even higher level given that the recent production reduction took place
                                                            when Brent traded in a USD 105-112/bbl range).

OPEC crude oil production Jan 1998 – Dec 2012                                           Saudi Arabia crude oil production Jan 2010 – Dec 2012
   OPEC production (mbd)                                                                Saudi Arabia crude oil production (mbd)
   32                                                                                  10.5
   31
                                                                                       10.0
   30
   29
                                                                                        9.5
   28
   27                                                                                   9.0

   26
                                                                                        8.5
   25
   24                                                                                   8.0
    Jan-98    Jan-00   Jan-02      Jan-04   Jan-06    Jan-08     Jan-10    Jan-12             Jan-10      Jul-10     Jan-11      Jul-11    Jan-12      Jul-12

Source: IEA; Pareto                                                                     Source: IEA; Pareto




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                                     8. Geopolitical risk
                                     Geopolitical risk has been and will be a key part of the oil market. As an
                                     example, countries in the Middle East and North Africa have 52% of global
                                     proven oil reserves and 38% of global oil production, according to BP Statistical
                                     Review 2012. Five of the world’s ten largest oil exporters are located in this
                                     region.

                                     Whether geopolitical risk will increase or decrease going forward is hard to say.
                                     However, the development in the Middle East and North Africa over the past 2-
                                     3 years, the political dynamics set in motion by the Arab Spring and the current
                                     conflicts in Syria and between the West and Iran, could point to an increasing
                                     likelihood of disruptions to oil production going forward.

                                     Over the past year, much focus has been on Iran and the loss of Iranian crude
                                     oil production/exports following the US and European sanctions. Iranian crude
                                     oil production and exports are shown in the figure below. From H2’11 to H2’12,
Iranian oil production and exports   crude oil production was down 0.8 mbd (from 3.5 mbd to 2.7 mbd), while
have been hit by US and EU           exports were down 1.3 mbd (from 2.4 mbd to 1.1 mbd). The larger drop in
sanctions. The future trajectory     exports indicates that reported production is too high and/or parts of
remains uncertain. However, one      production ends up in storage or is exported "under the radar". The future
should not overestimate the          trajectory of Iranian oil production and exports remain uncertain. However, one
impact on oil prices                 should not overestimate the impact on oil prices. A rebound in Iranian
                                     production should not have a major negative effect as it would be met by a
                                     reduction in Saudi Arabian production. Similarly, if sanctions were to make the
                                     market too tight, they would likely be adjusted in order to prevent a sharp
                                     increase in oil prices which could set the global economic recovery at risk.

                                     Iran crude oil production and exports since Jan 2011

                                     Iranian crude oil production (mbd)                    Iranian crude exports (mbd)
                                     4.0                                                                            3.0


                                     3.5                                                                             2.5


                                     3.0                                                                             2.0


                                     2.5                                                                             1.5


                                     2.0                                                                             1.0


                                     1.5                                                                             0.5
                                       Jan-11 Apr-11          Jul-11    Oct-11 Jan-12 Apr-12    Jul-12    Oct-12
                                                Iranian crude production (lhs)       Iranian crude exports (rhs)
                                     Source: IEA; Pareto




12 Feb 2013                                     Pareto Securities Research                                             36(41)
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Credit ratings:            AAA                         Best Quality

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                           BB+ / BB / BB-              Speculative risk. Future not well secured
                           B+ / B / B-                 Timely payments at the moment, but very exposed to any negative changes
                           CCC+ /CCC/ CCC-             Default a likely option




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Appendix A


Disclosure requirements pursuant to the Norwegian Securities Trading Regulations section 3-10 (2) and section 3-11 (1), letters a-b
Pareto Securities AS does not alone or - together with affiliated companies or persons – owns a portion of the shares exceeding 5 % of the total share capital in any company where a
recommendation has been produced or distributed by Pareto Securities AS.

Pareto Securities AS or its affiliates own as determined in accordance with Section 13(d) of the Exchange Act, 1 % or more of the equity securities of Equinox Offshore Accommodation
Ltd.

Pareto Securities AS may hold financial instruments in companies where a recommendation has been produced or distributed by Pareto Securities AS in connection with rendering
investment services, including Market Making.

Please find below an overview of material interests in shares held by employees in Pareto Securities AS, in companies where a recommendation has been produced or distributed by
Pareto Securities AS. By material interest is meant holdings exceeding a value of NOK 50 000.


Company                                Analyst holdings            Total holdings        Company                                   Analyst holdings            Total holdings
Archer                                                -                  17 500          Olav Thon Eiendomsselskap                            420                         920
Bonheur                                               -                  15 800          Orkla                                                   -                    22 564
BW Offshore                                           -                  61 686          Petroleum Geo-Services                                  -                      2 700
BWG Homes                                       14 300                   14 300          Prosafe                                                 -                      1 405
Cermaq                                                -                   3 000          Protector Forsikring                                    -                   499 000
Discovery Offshore                                    -                  12 000          Questerre Energy                                        -                    67 000
DNB                                                   -                  48 227          Renewable Energy Corp                                   -                    52 256
DNO International                                     -                  20 400          S.D. Standard Drilling                                  -                   100 000
DOF                                                   -                 100 000          SalMar                                                  -                    58 400
EOC Limited                                           -                  25 000          Sandnes Sparebank                                       -                      5 617
Farstad Shipping                                      -                  21 700          Seadrill                                                -                      5 500
Fred Olsen Energy                                   100                     300          Selvaag Bolig                                           -                    50 000
Gjensidige Forsikring                                 -                  48 528          Ship Finance Ltd                                        -                      3 184
Golden Ocean Group                                    -                  50 200          Solstad Offshore                                        -                      4 100
Havila Shipping                                       -                   3 650          Sparebank 1 Nord-Norge                                  -                    20 637
Höegh LNG                                             -                   7 263          Sparebank 1 SR-Bank                                     -                   143 117
Itera                                           40 000                   41 000          Sparebanken Øst                                         -                    22 349
Kongsberg Gruppen                                 1 200                  59 700          Statoil                                                 -                      8 742
Lerøy Seafood Group                                   -                  20 700          Storebrand                                              -                      2 263
Marine Harvest Group                                  -                  20 000          Subsea 7                                                -                    76 471
Morpol                                                -                  18 000          Telenor                                                 -                      7 800
Noreco                                                -                  75 000          TGS-NOPEC                                               -                      7 450
Norsk Hydro                                           -                 286 308          Veidekke                                                -                    42 400
Northland Resources                                   -                 467 000          Wilh. Wilhelmsen Holding A                              -                        404
Odfjell                                               -                   7 300          Yara International                                      -                    30 519




This overview is updated monthly (last updated 31.12.2012)




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Appendix B


Disclosure requirements pursuant to the Norwegian Securities Trading ST Regulation § 3-11, letters d-f, ref the Securities Trading
Act Section 3-10
Overview over issuers of financial instruments where Pareto Securities AS have prepared or distributed investment recommendation, where Pareto Securities AS have been lead
manager/co-lead manager or have rendered publicly known not immaterial investment banking services over the previous 12 months:

Aker                                                                Havila Shipping                                                Protector Forsikring
Aker Floating Production                                            Hercules Offshore                                              Rocksource
Austevoll Seafood                                                   Houston American Energy Corp                                   Saga Tankers
BassDrill                                                           Höegh LNG                                                      SalMar
Bergen Group                                                        Idex                                                           Scana Industrier
Berner Gruppen                                                      Interoil                                                       Scandinavian Insurance Group
BN Bank                                                             Kistefos                                                       Seadrill
BW Offshore                                                         KrisEnergy                                                     Selvaag Bolig
Clearwater                                                          Mecom Group                                                    Siemens
Concedo                                                             Morpol                                                         Sigma Drilling
DDI                                                                 Neptune Offshore                                               SinOceanic Shipping
Det Norske Oljeselskap                                              Noreco                                                         Solør Bioenergi
DNB                                                                 Norse Energy Corp                                              Songa Offshore
Dockwise                                                            North Atlantic Drilling                                        Sparebank 1 SR Bank
DOF                                                                 North Energy                                                   Sparebanken Møre
Dolphin Group                                                       Northern Offshore                                              Sparebanken Øst
EMS Seven Seas                                                      Northland Resources                                            Teekay
Equinox                                                             Ocean Yield                                                    Teekay LNG
Expro Intl Group                                                    Oceanteam Shipping                                             Tizir
Floatel                                                             OSX                                                            Troll
GasLog                                                              Pacific Drilling                                               TTS Group
Global Investment Group                                             Panoro Energy                                                  Wilh. Wilhelmsen
Grieg Seafood                                                       Prosafe                                                        Xtreme Drilling and Coil Services
Haikui                                                              Prospector Offshore Drilling                                   Protector Forsikring
                                                                                                                                   Rocksource




This overview is updated monthly (this overview is for the period 31.12.2011 – 31.12.2012).




Appendix C


Disclosure requirements pursuant to the Norwegian Securities Trading ST Regulation § 3-11 (4)

Distribution of recommendations
Recommendation              % distribution
Buy                             66.1%
Hold                            25.4%
Sell                             8.5%

Distribution of recommendations (transactions*)
Recommendation              % distribution
Buy                             85.7%
Hold                            11.4%
Sell                             2.9%

* Companies under coverage with which Pareto Securities Group has on-going or completed public investment banking services in the previous 12 months

This overview is updated quarterly (last updated 15.01.2013).




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Appendix D


This section applies to research reports prepared by Pareto Öhman AB.

Disclosure of positions in financial instruments
The beneficial holding of the Pareto Group is 1 % or more of the total share capital of the following companies included in Pareto Öhman AB’s research coverage universe: Isconova.

The Pareto Group has material holdings of other financial instruments than shares issued by the following companies included in Pareto Öhman AB’s research coverage universe: RusForest.

Disclosure of assignments and mandates
Overview over issuers of financial instruments where Pareto Öhman has prepared or distributed investment recommendation, where Pareto Öhman AB has been lead manager or co-lead
manager or has rendered publicly known not immaterial investment banking services over the previous twelve months:

Africa Oil                                                           Isconova                                                           ShaMaran Petroleum
Alpcot Agro                                                          Klövern                                                            Sagax
Blackpearl Resources                                                 Lucara Diamond                                                     Tethys Oil
Black Earth Farming                                                  RusForest                                                          Vostok Nafta



Members of the Pareto Group provide market making or other liquidity providing services to the following companies included in Pareto Öhman AB’s research coverage universe:

Africa Oil                                                           Isconova                                                           Tethys Oil
Blackpearl Resources                                                 ShaMaran Petroleum                                                 Trigon Agri
Lucara Diamond




Members of the Pareto Group have entered into agreements concerning the inclusion of the company in question in Pareto Öhman AB’s research coverage universe with the following
companies: Africa Oil, Isconova, Shamaran Petroleum.

This overview is updated monthly.




Appendix E

This part applies to research reports prepared by Pareto Securities Oy.

Disclosure of positions in financial instruments
The beneficial holding of the Pareto Group is 1% or more of the total share capital of the following companies included in Pareto Securities Oy’s research coverage universe: N/A.
The Pareto Group has material holdings of other financial instruments than shares issued by the following companies included in Pareto Securities Oy’s research coverage universe:
N/A.

Disclosure of assignments and mandates
During the past 12 months, members of the Pareto Group have been lead manager or co-lead manager of publicly disclosed issues or offers of or with regard to securities of the
following companies included in Pareto Securities Oy’s research coverage universe: N/A.

During the past 12 months, members of the Pareto Group have provided other investment banking services to and received compensation for such services from the following
companies included in Pareto Securities Oy’s research coverage universe: N/A.

Members of the Pareto Group provide market making or other liquidity providing services to the following companies included in Pareto Securities Oy’s research coverage universe:
N/A.


Previous rating system (up to 4 July 2012)
Rating Expected total return in six to twelve months
OUTPERFORM - The stock is expected to outperform the return on our Nordic sector universe
NEUTRAL - The stock is expected to perform in line with the return on our Nordic sector universe
UNDERPERFORM - The stock is expected to underperform the return on our Nordic sector universe



Neither Pareto Securities Oy nor any other member of the Pareto Group has entered into an agreement with the Company to write this report.




 12 Feb 2013                                                                     Pareto Securities Research                                                                       41(41)

				
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