Eroding oil prices could affect Montana

By Ed Kemmick - 11/22/2008

David Grubbs / The Billings Gazette Oil field crews for Schlumberger Drilling tear down a drilling rig near Sidney in July.

BILLINGS — In July, when the price of a barrel of oil was nearing an all-time high, Tom Richmond was a rare voice of caution in an otherwise exuberant oil industry.

Many observers were talking about new world conditions, unprecedented booms and how the price of oil was unlikely ever again to drop below $80 a barrel. Richmond, division administrator for the Montana Board of Oil & Gas Conservation, begged to differ.

"People tell you the fundamentals have changed, that the price can't go any lower," he told The Billings Gazette in a story published July 20. "Well, I've heard that before." Last week, with the world still reeling from an economic meltdown and the benchmark price of oil below $60, Richmond modestly reflected on his foresight.

After the article was published in July, he said, "I really felt uncomfortable about it for a while, but then I thought, something will happen. It always does." The effects of dropping oil prices are felt acutely in Montana and North Dakota, where almost all the oil activity in recent years has been centered in what is known as the Bakken formation.

In the Bakken, the upfront costs of a well are unusually high because of the technology required to capture oil trapped in layers of rock 10,000 feet underground. Development costs for typical wells are about $5 million, with some costing as much as $8 million.

"I do know that people are reconsidering their investments, at least in the more expensive wells," Richmond said.

Chip Youlden, who works in the Billings office of Helis Oil & Gas Co., said there has been a "sea change since July," when oil peaked at a little more than $145 a barrel. On Wednesday, the price was hovering at around $55.

He said the situation is even worse in the Williston Basin, the larger oil-producing area of which the Bakken formation is a part. In the Williston, Youlden said, the two main pipelines that move crude oil to refineries are at capacity, forcing some producers to ship by rail. That adds $25 in transportation costs to a barrel of oil, making the effective price somewhere around $30 a barrel for those producers.

"Many producers are drastically slashing their drilling budgets for 2009," said Youlden, who is also the secretary-treasurer for the Montana Petroleum Association.

If there is any good news for the Montana oil industry, it is that wells have already been drilled in most of the known oil-bearing areas, so there is no great expense in continuing to allow those wells to pump oil. Cutbacks may be more severe in North Dakota, where new fields are opening up and lots of drilling is yet to be done.

Jimmy Knapp, the founder of Knapp Oil Corp. in Sidney, has been in the oil business in Montana since 1954. He was one of those predicting in July that prices weren't likely to go below $80 again, and like so many people, the world financial crisis took him by surprise.

"I've never seen it happen quite like this," he said.

In the past couple of months, he said, some companies have been letting rigs go, and others have basically suspended activity until early in 2009, when they'll try to figure out how to proceed. Part of that vigil will be waiting on a new president and Congress and trying to gauge what effect they will have on the economy.

For now, he said, "Nobody knows where this is going to end." Dan Larson, a public-affairs representative in Denver for Enerplus Resources USA, said virtually all of his company's producing wells are in Richland County, of which Sidney is the county seat. He said Enerplus has 183 wells producing 11,000 barrels a day of "a very nice, light, sweet crude oil." "We're not planning on going anywhere," he said.

The credit crunch and dropping oil prices could lead Enerplus to scale down its plans for 2009. Eventually, Larson said, the company wants to develop a third well on every square-mile section of land on which it has a lease.

In the Bakken formation, horizontal wells go down two miles and radiate out horizontally. It takes three such wells to reach most of the oil under one section of land, and Enerplus has only about 15 sections left with no third well.

The cost of developing wells has doubled in the past three years, he said, and with oil prices low, it's possible that the company might trim back plans to sink new wells next year.

If any cutbacks are being made, they haven't shown up in statistics gathered by the state of Montana.

"We haven't seen any declines yet in oil and gas that could be considered a trend," said Barbara Wagner, the senior economist in the Research and Analysis Bureau of the Department of Labor and Industry. That might change on Friday, when the bureau will have numbers for October, but so far, Wagner said, "I have not heard anything at all." The same is true at the Sidney Job Service Workforce Center. Vernette Torgerson, the manager of the center, said she hasn't heard any reports of a slowdown yet, and as of the end of last week, the center was advertising for 167 job openings in the oil and gas industry in Richland County.

Production in Montana has been slowly declining anyway because all the big finds in the past couple of years have been in North Dakota.

Scott Rickard, the director of the Center for Applied Economic Research at Montana State University Billings, said Montana oil production for the first eight months of 2008 was down more than 10 percent from the same period last year, dropping to 20.3 million barrels from 23.4 million. In addition, he said, permits for wells fell from 1,053 in 2006 to 625 this year.

As for the contention made during the summer that the break-even point for the oil industry in Montana was somewhere around $80 a barrel, Rickard said it was possible to make money on existing wells, but "developing new plays may not be financially worth the effort." Also, he said, "Some low-producing marginal wells may be capped if they are no longer worth the effort, at least in the short run." At the end of last week, the futures market for oil had the November 2009 price for a barrel of oil pegged at $65. Youlden said his gut feeling is that the price will be higher than that by next November, "but nothing would surprise me." Oil is the "most volatile commodity I know of," he said, and as recent events have shown, trying to predict what will happen to oil prices is nearly impossible.

"The wisest thing I can say right now is, I don't know," he said.

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(c) 2008, Billings Gazette, Mont.

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