Peaking Oil Production

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					          International Energy Consultants
           Houston • Los Angeles • Calgary
      London • Moscow • Singapore • Buenos Aires

   A Twice-Yearly Overview of Energy Trends
                                                                                     O                  utlook
                                                                                                                           December 2004



Peaking Oil                                                                             Purvin & Gertz
                                                                                        Message from the President
Production?                                                                             William J. Sanderson
                                                                                                                     For the first time in
                                                                                                                     many years, spare crude
The recent tight supply/demand balance and high crude oil prices have brought the
                                                                                                                     oil production capacity
“running out of oil” debate back to the front page. Oil is indeed a finite resource,
                                                                                                                     is at very low levels.
unless one believes petroleum is somehow produced by non-biological processes
                                                                                                                     The ability of the
deep in the Earth (abiogenic theory). Most major basins have already been
                                                                                                                     industry to meet future
identified and explored to a greater or lesser extent. Since production has been
                                                                                                                     requirements is being
exceeding the addition of reserves by exploration for some time, production will
                                                                                                                    strongly questioned.
eventually reach a peak. The ultimate questions are:
                                                                                                                    Stephen Jones
         When will the peak happen?                                                                                 (sljones@purvingertz.com)
         How fast will production decline?                                                                          gives our views on this
                                                                                        very important subject in the feature article.
Some highly-publicized analysts believe the peak in production has now been
achieved. Others forecast that the peak would occur in the next several years while     In order to meet demand, more oil will come from
still others predict it is still many years away. Most of the peak oil theorists that   less conventional sources such as the Canadian oil
have gained recent headline recognition based their predictions largely on              sands and the Orinoco belt in Venezuela. Our
variations of “bell curves” that were originally developed by M. King Hubbert in        Calgary office has been active in issues related to oil
the 1950s. Hubbert successfully forecast the peak in the U.S. lower-48 production,      sands development starting with the original Suncor
thereby giving the method creditability. However some serious doubts exist about        operation. Our work has included issues related to
the appropriateness of applying Hubbert’s method to the global outlook for oil          upgrading technology, project management and
production.                                                                             market assessments for the heavy oils and synthetic
                                                                                        crude oils. Likewise we have actively worked on the
                           Crude Production Outlook                                     Orinoco projects, especially in helping the producers
         Millions B/D
    90
                                                                                        develop streams with qualities that best fit the
                  Sweet
                                                                                        market.
    80
                  Medium Sour                                                           GTL is another unconventional source of liquid
    70            Heavy
                                                                                        hydrocarbons that will add to supply. Worldwide
    60                                                                                  natural gas resources are much less developed than
                                                                                        liquid reserves. In addition to providing high quality
    50
                                                                                        liquid fuels, GTL developments have the potential to
    40                                                                                  impact lube oil markets. Blake Eskew
                                                                                        (bteskew@purvingertz.com) and Geoff Houlton
    30
                                                                                        (gahoulton@purvingertz.com) review the many
    20                                                                                  challenges facing the lube business and the role of
    10
                                                                                        GTLs.

     0
                                                                                        Refineries are operating at capacity worldwide, in
     1985           1990        1995      2000      2005       2010        2015         much the same manner as crude oil production is at
                                                                                        capacity. Asian refineries have filled up particularly
                                                                                        fast because of the rapid demand growth in the
Reserves are not publicly well known in some of the major producing countries.          region, especially in China. John Vautrain
The method ultimately relies on an inspired guess of total reserves and excludes        (jhvautrain@purvingertz.com), the manager of our
non-conventional resources. It assumes most oil has already been discovered.            Singapore office, authors the accompanying article
The method “backdates” revisions and extensions of reserves to the year of              on Asia refining.
discovery, thus diminishing the role of technology and overstating the gap
                                                                                        As usual, we welcome feedback on the ideas
between reserve additions and production.
                                                            Continued on last page      presented in the Outlook.
GTL BASE OILS: Drivers & Impacts
(Based on a presentation by Blake Eskew to the 2004 NPRA Annual             potentially reach 30,000 to 50,000 B/D by 2010-2012. If so,
Meeting)                                                                    major changes are in store for the base oil market.
The past decade has not been easy for the lubricant and base oil            SUPPLY AND DEMAND
business. New plants, new technologies, and new stringent product
                                                                            GTL base oil qualities will be very high, with particular
specifications have all sent waves of change through the industry. Now,
                                                                            application to advanced gasoline and diesel engine oil
the commercialization of Gas-to Liquids (GTL) base oils may create a
                                                                            formulations. However, the expected production of GTL
new series of challenges.
                                                                            base oil will swamp future markets for synthetics and high
NEW GTL PROJECTS                                                            quality Group III base oils. GTLs will then have to compete
                                                                            with Group II base oils in less-demanding applications. Price
Even though GTL technology is still in the early stages of commercial-
                                                                            differentials between quality Groups are likely to fall. Less-
ization, roughly 1.5 million B/D of GTL projects have been announced.
                                                                            competitive producers will come under pressure due to the
GTL plants are now receiving strong consideration as either alternatives
                                                                            volume impacts of the surge of new supply. More rational-
or complements to Liquefied Natural Gas (LNG) production in loca-
                                                                            ization of Group I facilities in Europe, Asia, and North
tions with large gas reserves and limited markets. Most projects have
                                                                            America is likely.
been proposed in the Middle East, Southeast Asia, West Africa, and
South America. GTL offers the potential to monetize large volumes of        These major market changes are still uncertain, but the
gas reserves and to eliminate the marketing constraints associated with     outlines of future competition with GTL base oils are
LNG. In addition, GTL products are well positioned to meet growing          starting to come into view. Successful producers and
worldwide needs for high-quality products. We now anticipate that up        consumers of base oils must now begin developing strategies
to 500,000 B/D of GTL production may come on stream in the 2009-            to cope with the GTL challenge.
2012 time period.
                                                                            Purvin & Gertz offers a full range of consulting services to
DEMAND FOR HIGH QUALITY DIESEL FUEL                                         the lubricant and base oil markets, ranging from supply/
                                                                            demand analysis to strategy development. Please contact
GTL plants are generally expected to focus on production of diesel and
                                                                            Blake Eskew or Geoff Houlton in our Houston office for
naphtha, with these products accounting for 80%-95% of typical yields.
                                                                            further information.
The demand for high-quality diesel fuel is growing rapidly, particularly
in Europe and Asia. GTL naphtha is highly paraffinic and is likely to
become a favored feedstock for olefin producers. However, gas                   New Market Studies from Purvin & Gertz
monetization will be the primary driver for GTL commercialization–
neither the refining industry nor oil markets are waiting for GTL           Fuel Options for Oil Sands Development
products to solve their problems!
                                                                            Global Petroleum Market Outlook
Lubricant base oil production can offer significant upside benefits to
GTL projects. Base oils have the highest commodity value of any of the      North American Natural Gas Market Outlook
potential high-volume GTL products. Specialty waxes and solvents may
also offer high values, but have very limited market size. In addition to   Outlook for Russian Petroleum Trade to Europe--
their high commodity value, base oils offer the highest potential premia    Opportunities & Risks Ahead
for GTL quality versus the standard quality products. Potential partici-
                                                                            Southern Cone Natural Gas--Development at the
pants throughout the industry have recognized the potential value of
                                                                            Crossroads
specialty products to GTL projects. Several smaller projects have been
proposed as specialty-focused plants, while the larger fuels-focused        World LPG Market Outlook
plants offer attractive platforms for incremental base oil production.
Each of the supermajors involved in massive GTL projects are major          The World Petrochemical Feedstocks Analysis
base oil and lubricant market players. Shell has announced that base oil
production will be incorporated in its GTL facilities in Qatar.             Visit the Purvin & Gertz website at
ChevronTexaco (through its Sasol Chevron joint venture) has an-             http://www.purvingertz.com or contact any Purvin &
nounced that base oil is being considered for its Qatar plant. Depending    Gertz office to receive a study description and subscription
                                                                            details.
on the decisions of these and other players, GTL base oil volumes could

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                         Canadian Oil & Gas Outlook
Asia Refining:
Time for Conversion Capacity?
          The Asian refining industry has endured drastic cycles during the past 15 years. In the early 1990s the unprecedented eco-
nomic expansion led to rapid growth in petroleum demand and the need for refining capacity. Product demand growth came to an abrupt
halt with the financial crisis of 1997, but refining capacity projects already underway kept coming onstream, leading to significant
overcapacity. In the 1995-2002 period over 4 million B/D of capacity was added, with about 1.7 million B/D starting up in just 2000-01
alone. The capacity utilization of Singapore refineries (the incremental supplier to the region) declined sharply to about 60%.
          The resurgence of Asian demand in 2003-04 has greatly improved Singapore utilization to about 90% today. As shown in the
chart, margins have risen with capacity utilization. Asian refineries, like most others worldwide, are now operating at near capacity. It
now appears that refinery investments are lagging demand growth. In addition, capacity in the Philippines, Japan and Australia has been
rationalized, in part to avoid clean fuels investments.
         Taking a long-term perspective, Asian                              Singapore Net Refinery Margins
product demand growth has been extraordinary,           $/BBL
                                                      4.00                              Dubai Hydroskimming
even including years of slower growth in 1998-
2002. Since 1990, regional demand has grown           3.00                              Dubai Hydrocracking
from 12 million B/D to about 19 million B/D.
                                                      2.00
Our outlook is for demand to top 23 million B/D
by the end of this decade. Asia’s global petroleum    1.00

demand share will expand to 29% by 2010 from          0.00
19% just 15 years ago.
                                                      -1.00
         China has been a key factor to this
                                                       -2.00
petroleum growth and the country’s remarkable
                                                             1995   1996   1997   1998    1999    2000    2001    2002    2003 YTD 2004
economic expansion is now driving other
commodity markets. Going forward, crude oil
imports will increase rapidly in tandem with refinery capacity expansions. Over 1 million B/D of refinery capacity additions will be
required within the next 10 years in order to keep refined product imports at manageable levels. In particular, diesel fuel imports driven
by demand from the transportation sector will increase rapidly. Fuel oil imports will remain significant although fuel oil demand will
decline over the longer term due to the penetration of natural gas.
         This year, margins have jumped as a result of the tightening supply/demand balance and higher refinery utilizations. Margins
have been mostly depressed since 1997 with negative net (full cash cost) hydrocracking in some years. The margin improvement is not
being equally shared between simple and complex refinery margins. Hydrocracking margins will average near $2.50/B this year up
from ($0.60/B) in 2002. Simple margins have increased but remain near breakeven levels.
          The reason for this unequal margin improvement is related to the low residual fuel oil demand growth. Stationary residual fuel
demand is not experiencing a downward trend in essentially all Asian markets. Bunker fuel growth, although modest, is sufficient to
create a flat to slightly contracting residual fuel market. All the growth is in light fuels. As a result, incremental runs need to be
effectively 100 percent conversion.
         Asia has little opportunity to rebalance by lightening the crude slate. The region consumes nearly 20 million B/D of crude of
which 7 million B/D is light and medium sweet regional production. Sour imports from the Middle East account for 11 million B/D of
supply and Africa supplies much of the balance. Moving forward, Middle East imports are projected to gain market share. We foresee
growth in Russian/CIS crude imports both from the Caspian and East Russia as well as growth in sweet and sour condensates and high
TAN crudes. On balance, these changes will have little effect on the crude bottoms content, but the slate will become increasingly sour.
          With outlook for little change in crude slate, rapidly rising light product demand and flat residual demand, everything points
to the need for conversion investments. Responding to the market fundamentals and margin signals, forward-looking refining compa-
nies should start actively evaluating conversion investments. While there are few purely simple refineries left outside of niche inland
markets or petrochemical condensate splitters, the majority of Asian refineries are not full-conversion or even full-cracking. A cracking
unit, built in a current partial-cracking refinery, is the probable next investment for many refineries.
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Peaking Oil Production?                                                           Purvin & Gertz Event Calendar
Continued from front page                                                         19th Annual International LPG Seminar
The historical application of the method to the U.S. lower-48 relates to a time   March 7-10, 2005
when demand and price were not a factor in the build-up of reserves or the        InterContinental Houston
production decline that followed. There was always more oil readily available
                                                                                  9th Annual Asia LPG Seminar
elsewhere, largely in the Middle East. When considering the whole world,
                                                                                  July 7-10, 2005
demand and price will influence the curve.
                                                                                  The Grand Hyatt Singapore
For our work, the time period we are primarily concerned with is the next
15-20 years. During this period, we believe that the rate at which reserves       10th Annual Latin America LPG Seminar
can be developed, rather than pure exploratory success, will be the primary       November 7-10, 2005
factor determining whether or not demand will be production limited.              Location pending
Plentiful resources are available in the Middle East, in Russia/CIS, in deep-     Refining Economics Seminar
water basins, and the oil sands in Venezuela and Canada. Development of           Crude Oil Valuation
these resources will take time, large amounts of capital and the elimination      Natural Gas Fundamentals Seminar
of some political constraints. Our forecast of crude oil production as shown      Various dates/locations. See the website for more details.
in the chart has supply (and demand) increasing 11 million B/D by 2015, an
average growth rate of 1.4% per year. It will be a challenge indeed to            For more information:
increase production by this amount while overcoming the production                Glenda Burres, Conference Coordinator
declines of mature basins. Our forecast is based on demand gradually              Telephone 713 236-0318 Fax: 713 331-4000
tapering to a plateau. In addition to limitations of supply, demand will also     gmburres@purvingertz.com
be affected by the economic growth that requires less energy, global warm-
ing pressures, conservation, vehicle technology and alternative energy            www.purvingertz.com/seminars
sources. As conventional supplies tighten, price increases will slow demand
growth and stimulate additional supplies. Peak production will ultimately
occur, but the worldwide decline of production is likely to be less severe
than experience from historical basins may suggest.




Outlook
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