The End of Easy
The Age of Oil is far from over, but the Age of Easy Oil is drawing to a close. The exploitation of new oil and gas sources, made economically viable by rising demand, involves elaborate technical processes and the logistical challenges of supplying some truly remote locations.
To operate as efficiently as possible, many energy companies already outsource supply chain services such as shipping, warehousing, and procurement coordination.
How much is the energy business changing? In May, the U.S. Department of Energy approved the construction of a second terminal to export the country's natural gas. The next month, Abu Dhabi announced that it was speeding up steps it is taking to reduce its economic dependence on fossil fuels. And beneath these two disparate data points lies a global shift in the energy business that is driven less by international politics than by new technology.
When the media cover innovation in the energy business, the news usually involves renewable energy sources - think kite-generated wind power or inexpensive, easy-to-install solar panels. These innovations are significant, since they will drive down the cost of sustainable power. So far, however, the technologies that have allowed the U.S. to produce more energy - and played a significant role in driving down global energy prices from their 2008 high - are those that have made it practical to access new sources of oil and natural gas.
Consider shale gas, the direct cause of rising U.S. exports, as well as Abu Dhabi's shift in strategy. It now accounts for more than one-fifth of U.S. natural gas production, up from 1% in 2000. Although natural gas was first extracted from shale formations in 1821, it didn't become an economical energy source until the hydraulic fracturing ("fracking") process was refined in the late 1990s. Hydraulic fracturing and horizontal drilling are also fueling an oil boom in North Dakota that has given the state the lowest unemployment in the U.S. And seismic imaging is allowing energy companies to drill for deep water oil - deposits under more than 1,500 meters of ocean - off the coasts of Brazil and East Africa.
Together, these innovations represent what the energy expert Daniel Yergin calls a "great bubbling of innovation," stimulated by the long-term rise in oil prices as well as the growing demand for energy. Two decades ago, none of these technologies would have been practical, because the prices of oil and gas were too low to justify their cost. Innovation has also been spurred by demand, since energy consumption is expected to rise by about 50% over the next 25 years, mostly due to increasing prosperity in China and the rest of the developing world. Over the long term, renewable energy will play an increasingly important role in helping to meet the world's energy needs, and a variety of efficiency gains could cut energy use in Europe. But most analysts believe that any decline in fossil fuel use there will be offset by non-OECD countries. The Age of Oil will not be over any time soon.
What is ending might be thought of as the Age of Easy Oil. Due to an apparent drop-off at some Middle East oil fields, some experts estimate that oil production from traditional wells is now declining by 5% a year. There is still plenty of oil left in the world. But many of the new sources of oil and natural gas in China and East Africa, as well as the U.S., are either harder to get to or harder to work. "All the easy oil and gas in the world has pretty much been found," an ExxonMobil spokesperson told the New York Times in Angola, which is becoming an energy power thanks to deep-water wells. "Now comes the harder work in finding and producing oil from more challenging environments and work areas."
Fields of dreams
The one thing new sources have in common is complexity. In some cases, that applies to the work itself, such as extracting gas and oil from shale. In others, it has more to do with the location, whether that is western China, East African countries like Mozambique, or the Lula oil field, which lies 250 kilometers off the coast of Brazil. This complexity makes safety and environmental concerns more significant - and oil price volatility makes cost management a priority as well. Given their stratospheric fixed costs, many of these new projects need to run efficiently in order to make a profit.
To operate as efficiently as possible, many energy companies already outsource supply chain services such as shipping, warehousing, and procurement coordination. And as projects get more complex, third party logistics (3PL) companies are moving up the value chain, running maintenance, repair, and operations (MRO), and even helping to plan projects. Employed properly, 3PL companies can not only reduce operating costs but also help design projects and ensure compliance with relevant environmental and safety regulations. The energy business already spends almost a quarter of a trillion dollars a year on logistics, and MRO spending alone is expected to grow by 6% a year over the next half-decade, according to Oliver Wyman.
To understand the growing demand for logistics services in the energy sector, consider the complexity of extracting natural gas from shale. This involves hydraulic fracturing, which requires expensive equipment, a variety of chemicals, and considerable volumes of water. Projects in remote locations are not easy to supply, those closer to populated areas involve extra environmental concerns, and few companies have experience running such projects, or navigating the relevant regulations. Safely disposing of water used in the hydraulic fracturing process presents its own challenge. So does coordinating, supervising, and ensuring the regulatory compliance of all the contractors involved.
Logistics for these projects involves more than delivering the right equipment at the right time. They involve keeping assets visible, often with a control tower that offers a bird's-eye view of an entire supply chain, and making sure that all contractors can update it when needed. "It's about getting there safely and being able to run a supply chain that can support every eventuality in a remote place," says Steve Harley, President, DHL Energy Sector.
Although shale projects in the U.S. and Canada have received the most attention, partly because they were among the first to be exploited effectively, other countries have just as much promise. China has more shale gas reserves than the U.S. and Canada combined, according to the U.S. Energy Information Administration, and China is eager to reduce reliance on oil and coal. But the most promising finds are in western China, where it will be challenging to find the water needed for hydraulic fracturing, as well as the relevant expertise - most of which is now in North America.
"There's very large amounts of water, sand, and other materials that have to be transported in order to make this kind of project work, so there are strong implications for a supply chain," says Harley. For projects like these, many 3PLs offer consulting and other services, and DHL's energy business includes its own innovation team. "We see an increasing amount of testing, preparation, and design before mobilizations because these mobilizations are becoming very expensive. It's not just about logistics, it's about the investment in testing the equipment that's going to be used in places where it has never been used before."
Another area that is seeing an energy boom is East Africa. Tanzania and Mozambique have enough natural gas reserves to become the third-largest source, and oil has been found in Uganda and Kenya. The continent's energy business is more established than some people realize: Africa already supplies China with 30% of its oil. But projects in East Africa present their own challenges - from infrastructure to political instability and, since some are offshore, even high seas piracy.
Some of the infrastructure needed to unlock the potential of East Africa's energy business may already exist - in the Middle East. The energy business has a history there, so some countries already have the warehouse technology and relevant expertise, and many of them also provide the security and legal structure the energy business needs. In 2010, DHL set up a major regional hub in Dubai, where the proximity of the port to the airport makes it inexpensive to coordinate shipping. "Dubai is a place with very strong logistics capabilities," Harley says. "It has the expertise, the technology, and the physical facilities."
Under the sea
In terms of logistics, no location is more remote than the ocean. And although offshore oil drilling has a long history, energy companies are now extracting more oil farther out to sea, and in deeper water. Brazil's Lula oil field (formerly the Tupi oil field) is 250 kilometers off the coast, under 2,000 meters of ocean and another 5,000 meters of rock. The basic supply-chain problem is obvious: it's not exactly easy to go back to the warehouse for an extra wrench. But solving it raises a series of other questions.
"Brazil is seeing the complications of putting multiple platforms very far out to sea," Harley says. "How do you supply them? Do you set up offshore warehouses - tankers used as storage units for spare parts and equipment? Do you invest in marine transportation? Helicopters become increasingly expensive, so deep water brings a whole new series of challenges to running supply chains."
The stakes are high: the Lula field will change the energy business in the Western hemisphere. The Age of Easy Oil is ending, but the future of the energy business will bring opportunities along with challenges.