High costs reap rich rewards.

More natural gas is waiting to be produced in the Gulf of Mexico. But higher prices will be needed to finance deeper, more expensive wells that will require increasingly sophisticated technology, four producers said during a panel discussion at the National Ocean Industries Association's annual meeting.
"It took two and a half years for the industry to respond when gas prices jumped from $2 to $10 per Mcf," said Duane Radtke, president and chief executive officer of Dominion E&P Inc. "We've grown more conservative because we've learned a few things. The industry still responds [to higher gas prices], but with a more measured approach. Seven percent returns just don't make it."

"We're set up in one of the best places the industry has seen for years in prices," said Rod Erskine, president of El Paso Production Co. While demand was not very heavy through 2002's summer and autumn, storage was depleted and inventories fell to their lowest levels in years, he said.

Erskine added, "The Gulf has been worked over well at shallower depths. There are more opportunities when you start hitting 15,000 ft, where only 720 wells are being drilled. Our Deep Shelf program has been very successful. But it will require significant new technology as we drill deeper to meet projected demand."

Producers and their service companies will reach the edge of existing technology as drilling goes deeper, he continued. "We just drilled a well where we simply weren't sure what the bottom bore conditions were," said Mike Bell, Unocal Corp.'s Deepwater USA vice president. "It's impossible to generate investments when you can't state definitively what's down there."

Murphy Exploration and Production Co. committed one third of its 2003 capital budget to the Gulf of Mexico. But the Murphy Oil Corp. division has changed its emphasis from the shallow to the deepwater Gulf because of greater potential there, according to John Higgins, president of Murphy E&P. "We still see a lot of reserve potential in the sub-salt, where we've identified ridge positions similar to the Mississippi Canyon. Unfortunately, seismic technology doesn't let us accurately identify prospects there yet," he said.
Radtke listed five reasons for producers' delayed responses in the Gulf to higher gas prices.

1. Balance sheet integrity. "How we spend the money is more important to investors than simple growth," the Dominion E&P executive said.

2. Fewer producers working in the Gulf. Consolidation has reduced the number of E&P companies there by 25% since 1996, Radtke said. "A lot of smaller companies won't be able to play the game on their own. That will lead to more consolidation," he predicted.

3. Moves to deeper water and deeper wells on the shelf, which have raised the average well's depth 1,000 ft in the past 5 years. "Even though the average gas prices has gone up, it costs more to drill the average Gulf of Mexico well," said Radtke. "Fewer wells are costing more money."

4. A lack of prospects. "Most leases were shallow in 1998. More people are coming back into the Gulf now looking for deeper gas," said Radtke.

5. Increased efficiency as producers try to balance their portfolios. "Not only does technology let us go deeper, but it also tells us not to drill wells we would have attempted earlier," he said.

"Exploration is being driven aggressively by rates of return," Radtke went on. "This is a business. We're here to make money for our shareholders, not just drill wells. The death of the Gulf of Mexico has been exaggerated, however. It's one thing to look at rig counts, and another to look at capital commitments. We're going to continue spending heavily in the Gulf."

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