"In 2012 we have seen more than four percent in cost escalations and we expect this trend to continue in 2013 as demand remains strong."
The costs of both building and operating upstream oil and gas facilities continued to rise over the last six-month period—albeit at a slower pace—and have reached record highs, according to two cost indexes developed by IHS (NYSE: IHS). The IHS Upstream Capital Cost Index (UCCI) rose one percent over the Q1 2012-Q3 2012 period to an index score of 230, matching its Q3 2008 high. Its counterpart, the IHS Upstream Operating Cost Index (UOCI), rose to 0.5 percent to a new high score of 190 over the same period.
The indexes are proprietary measures of cost changes similar in concept to the Consumer Price Index (CPI) and draw upon proprietary IHS insight and analysis to provide a benchmark for comparing costs around the world. Values are indexed to the year 2000, meaning that capital costs of $1 billion in 2000 would now be $2.3 billion in current dollars. Likewise, the annual operating costs of a field would now be up from $100 million in 2000 to $190 million.
The one percent increase in the UCCI over the six-month period ending September 30, 2012 is muted compared to the increase during previous six months, which registered a 2.3 percent increase. While equipment costs and dayrates for drill rigs and vessels have continued to increase, this has been muted due to the fall in steel products prices. Oil prices remained above the threshold price of production for most projects, keeping increasing demand for oilfield goods and services steady.
The small rate of increase for the UCCI can be attributed to increased day rates for deepwater rigs. Despite new entries into the market these rigs are in high demand and with rising fuel and labor costs can command premium rates. High spec rigs continue to increases in day rates in North American driven by tight oil and unconventional activity.
Among the 10 markets that the UCCI tracks, only steel (nine percent decrease) and engineering and project management (0.1 percent decrease) declined.
Countries that require a high local content continue to experience the largest cost escalations as demand continues to outgrow local supply. Backlogs for equipment and subsea orders continue to grow, with little pass through of falls in raw material costs.
Engineering and project management costs remain static as companies compete for new work; however, construction labor rates continue to rise as new projects are sanctioned.
Recent project sanctions and new contract awards among contractors confirms the rising industry activity and spending levels. According to the IHS Upstream Spending Report, 2012 capital spending (CAPEX) is expected to reach $633 billion, rising from $557 billion in 2011. Operational spending (OPEX) for 2012 is $493 billion, up from $464 billion in 2011. Rising costs remain a major driver of the rise in industry spending, contributing to just under half of the year-on-year rise in E&P CAPEX seen during 2012.
“As more projects continue to be sanctioned in 2013, we expect further CAPEX escalation,” said Pritesh Patel, senior director of the IHS CERA Upstream Capital Costs Analysis Forum. “In 2012 we have seen more than four percent in cost escalations and we expect this trend to continue in 2013 as demand remains strong.”
The Upstream Operating Costs Index (UOCI) did increase slightly to 190 from 189 over Q1 2012-Q3 2012, despite mixed movements of each component market.
Each of the markets was impacted by similar factors, namely a decrease in oil prices and uncertainty over the economy in many parts of the world. Nevertheless, activity levels are still high; resulting in tightness in supply chains for what can be very highly specialized services and equipment. The lack of availability of skilled labor has been an issue for the past few quarters, and Q3 2012 was no exception.
“Our outlook on overall cost escalations are more muted now than it was at the beginning of 2012. Nevertheless, we see costs for skilled workers and technical personnel continuing to increase,” said IHS Associate Director David Vaucher, who leads the OPEX forum.
IHS still expects upstream capital and operating costs to continue to rise by 4-5 percent in 2013.
IHS (NYSE: IHS) is the leading source of information, insight and analytics in critical areas that shape today’s business landscape. Businesses and governments in more than 165 countries around the globe rely on the comprehensive content, expert independent analysis and flexible delivery methods of IHS to make high-impact decisions and develop strategies with speed and confidence. IHS has been in business since 1959 and became a publicly traded company on the New York Stock Exchange in 2005. Headquartered in Englewood, Colorado, USA, IHS is committed to long-term, sustainable growth and employs more than 6,000 people in 31 countries around the world.