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Oil and Natural Gas Exploration☆
Oil and Natural Gas Exploration☆ MW Downey, Roxanna Oil Company, Houston, TX, USA ã 2014 Elsevier Inc. All rights reserved.
General Characteristics of Oil and Natural Gas Exploration Fundamental Concepts Guiding Exploration for Oil and Natural Gas Conventional Oil and Gas Accumulations Oil and Gas Retained Within the Petroleum Source Rocks Initiation of Exploration Regional Studies Prospect Definition Prospect Varieties Structural traps Stratigraphic traps Search Techniques for Oil and Natural Gas Geophysical Prospecting Techniques Seismic surveys Gravity and magnetic surveys Surface Geochemical Techniques Geologic Techniques Dowsing Techniques Exploration Drilling Techniques Assessing Risk in Exploration Contractual Risk in Exploration The Results: Evaluating Exploration Effectiveness Reserve Replacement SEC Finding Costs Internal Measures of Finding Costs Financial Measures of Exploration Efficiency The ‘Gold’ Standard: Risk-Discounted Expectation versus Actual Finding and Development Costs Reserve Appreciation Size Distribution of Oil and Gas Fields Summary
Glossary Field A commercially valuable subsurface accumulation of hydrocarbons. Permeability A measure of the transmissibility of fluids in the void space in a rock. Petroleum A naturally occurring mixture of liquid hydrocarbons.
2 2 2 2 2 3 3 3 3 4 4 4 4 4 4 5 5 5 6 7 7 7 7 7 7 7 8 8 9 9
Porosity Percentage of void space in rock volume. Reservoir A rock layer with substantial porosity and permeability. Wildcat An exploration well (supposedly one drilled so far from civilization that the drillers can hear the cries of wildcats).
Exploration for oil and natural gas is a search for buried treasure, on a huge scale, for commercial purposes. Exploration is a business-oriented search for new hydrocarbon assets. Geology is a science; geophysics is a science; exploration is a business. It is not difficult to find traces of oil and natural gas; it is very difficult to find large quantities of hydrocarbons cheaply.
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Change History: June 2014. MW Downey has changed the dollar values for oil and gas in Section ‘General Characteristics of Oil and Natural Gas Exploration,’ page 1, to reflect current values. Section ‘Oil and Gas Retained Within the Petroleum Source Rocks,’ first page, has been added to reflect new types of exploration targets. One reading reference has been added to reflect new knowledge about unconventional oil and gas (Dong and Holditch, 2012).
Reference Module in Earth Systems and Environmental Sciences
http://dx.doi.org/10.1016/B978-0-12-409548-9.09378-7
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General Characteristics of Oil and Natural Gas Exploration A romantic image of exploration is one of hardy drillers risking fortunes on the luck of a wildcat well. The large risks and the financial dangers are still very much a part of modern exploration, but all the tools of modern technology are coupled with the strengths of business analysis to quantify and diminish the risks of exploration. Exploration accomplishments come with high costs and high risks. Some idea of the risk of exploration investments, relative to other investments, may be gained by understanding that banks do not loan money for exploration investments. Hardy investors in exploration oil and gas projects are effectively lenders-of-last-resort, and such investors demand the potential for high returns to balance the exceptional risks. When a company drills a $20 million ‘dry hole,’ a well that fails to find significant oil or gas, there is no salvage value and no optional use for the dry hole: It is a $20 million loss. In a typical year, approximately 10 billion barrels of oil and 70 trillion cubic feet of natural gas are discovered in the world. Assuming a value of $100 per barrel for oil and $10 for 1000 cubic feet of gas, it can be seen that about $2 trillion dollars worth of new assets are discovered each year by oil and gas exploration. The rewards for exploration success can be huge, but costs are high and failure is common. The exploration task is far greater than discovering new subsurface reservoirs of hydrocarbons; it must be that of discovering those hydrocarbons in an economically efficient manner. Successful oil and gas exploration owes as much to efficient business practices as to technical excellence. The first step in exploration is always an innovative idea about where oil or gas might be found. The pioneering geologist Wallace Pratt once said, ‘Oil is first found in the minds of men.’ It is hoped that such ideas arise from fundamental knowledge of the rock layers in the earth, their suitability for generating and retaining oil and gas accumulations, and an analysis of the clues available to suggest that proper conditions are actually present in a particular area. Oil and gas accumulations in the earth are extremely valuable. The discovery of new accumulations (fields) generates great wealth. Oil and gas fields are very difficult to find, and exploration – a systematic search for new oil and gas accumulations – depends on proper use of technology, acquisition of new data, and the deductive analysis of earth clues in a manner reminiscent of a detective.
Fundamental Concepts Guiding Exploration for Oil and Natural Gas Conventional Oil and Gas Accumulations All oil and much natural gas are created by deep burial and heating of organic matter contained within sedimentary rocks. As this organic matter is converted to oil and gas by burial and heating in the earth, much of the generated oil and gas is forced out of the organic-rich sedimentary layers and expelled into open fractures or porous transmissive zones. These fractures and transmissive zones in the earth provide paths for hydrocarbon migration. The oil and gas may be retained and trapped in subsurface reservoirs or may continue to leak upward to the surface of the earth. Such leaks of hydrocarbons to the surface have been forming tar pits, oil lakes, and gas seeps for millions of years. If the migrating hydrocarbons encounter an impervious layer of rock, they will be prevented from escaping to the surface. If the impervious layer roofs a rock layer with porosity, the migrating petroleum may fill the pore space of the reservoir and displace some of the water originally filling the pores of the rock. If the roofing layer and the associated reservoir rock have been folded in a domal shape, the hydrocarbons may fill the container formed by the domed surface. The oil, natural gas, and water in the reservoir strata have distinctly different densities. Gas floats on oil; oil floats on water. In a domal structure, then, the lighter gas will occupy the pore spaces in the uppermost part of the structure and be underlain by the oil, which in turn is underlain by water. The two most fundamental search elements in exploration for conventional oil and gas are (i) a knowledge of the areas where oil and gas have been generated and provided to migration routes and (ii) the location of specific traps that could contain the migrating petroleum.
Oil and Gas Retained Within the Petroleum Source Rocks Past attention has been concentrated on the oil and gas squeezed out of the source rock and provided to underground traps. About the year 2000, industry attention became re-focused on the astounding amounts of oil and gas still held captive within the organic sponge that is the ‘source rock.’ The technologies of horizontal drilling and hydrofracking have been combined to wrest production of enormous quantities of ‘unconventional oil and gas’ from these organic-rich layers which, of course, are found everywhere we have produced conventional oil and gas.
Initiation of Exploration The exploration process can start with a new idea, new information, or a new area becoming available for search. If exploration is initiated because a new international search area becomes available for leasing and drilling, it is quite likely that the new search area will be leased to whomever bids the most for the right to explore. In such new areas, most bidders will have a similar set of
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information obtained from the host country. A fascinating area of operations research derives from the competitive aspects of bidding under uncertainty. An insight into this rich area of decision -making is given by understanding that any winning bidder (the one who bid higher than anyone else) often bids more than the lease is worth. The more bidders, the more likely that the winning bidder has overbid. If 20 companies, with similar knowledge, submit bids for the undrilled area, what is the chance that the winning bidder (who values the undrilled area higher than 19 other knowledgeable bidders) has still managed to bid less than the true value of the lease? This chance ranges between slim and none. In the oil and gas business, this situation of winning the bid . . . (but paying too much), is described by Capen as ‘the winner’s curse.’ When exploration is initiated because of exclusive access to new information, the company with the new information has some remarkable advantages in finding and valuing new exploration projects. This competitive advantage is one of the reasons that large companies spend huge amounts of money in acquiring new data for their exclusive use and advantage. Sometimes, exploration is initiated simply because a team or unique individual has extracted a novel concept, a new interpretation, from generally available data. Such individuals or teams are rare and extraordinarily valuable; they spawn new directions for exploration and give incredible competitive advantages to their employers. Such great oil finders are like master chess players, seeing more deeply, more comprehensively, than others.
Regional Studies Exploration for oil and gas in the earth can be usefully subdivided into two scales of effort: regional evaluation and prospect definition. In the first effort, data are gathered to indicate whether specific regions of the earth are likely to contain hydrocarbons. In the second effort, an attempt is made to decide exactly where to drill to find oil or gas, within the general region that appears favorable for containing subsurface accumulations of hydrocarbons. Regional studies attempt to answer the following questions: Where are the organic-rich layers in the subsurface? What is their richness and character? Where have they been buried to sufficient temperatures in the earth to generate oil and gas? What was the time at which these source rocks were heated and provided petroleum? What traps were available to retain the generated hydrocarbons at the time the hydrocarbons were generated and migrating? Geologists sometimes use the phase ‘petroleum systems analysis’ to describe the type of studies that must be made to determine whether a region should be expected to contain accumulations of hydrocarbons. This concept of the petroleum system, pioneered by Magoon and Dow, recognizes that accumulations of hydrocarbons in the earth require a special combination of unique circumstances before hydrocarbons can be generated and be available at the right time to fill thick porous reservoirs contained within traps. If the hydrocarbons are not available, the reservoirs and traps will be barren. If the porous reservoirs are absent, the traps will only contain hydrocarbons in rocks unsuitable for production. If the traps are not present, the hydrocarbons will move through the porous reservoir and continue to the surface of the earth. All of the necessary parameters must be present simultaneously at the time of generation and accumulation and persist until the present day. One simple test for the presence of a working petroleum system is a documentation of a well in the area that flowed hydrocarbons to the bore -hole. Although this flow of hydrocarbons may be trivial from a commercial standpoint, it is of great significance in indicating that a working petroleum system is likely. From such an observation, the presence of hydrocarbons trapped in a reservoir is demonstrated, not merely guessed at or hoped for. In the final stage of regional studies, the geologist and the geochemist may make a mass balance calculation of the total amount of hydrocarbons expected to have been generated from the petroleum source rocks in an area to compare with the amount and type of hydrocarbons already discovered in an area. If these regional studies are promising, the task of the explorationist can shift to a search for specific ‘prospects’ suitable for drilling and evaluation in the region.
Prospect Definition Prospect Varieties There are two general varieties of conventional hydrocarbon traps: structural and stratigraphic. However, many combinations of these trap types are known.
Structural traps Structural traps involve folds of subsurface rock layers that influence migration of oil and gas. If hydrocarbons are migrating in an uninterrupted porous reservoir, beneath a layer of sealing rock, they may move hundreds of miles laterally and up to the surface, unless collected along the way by a concave fold (anticline) in the earth layers. (In an analogous manner, on the surface of the earth, depressions in the earth’s surface collect the flow of streams to provide the accumulations of water we know as lakes.) Each concave-downward trending fold attracts the hydrocarbons, which are buoyant and floating on the subsurface waters in the reservoirs. As each concave-downward fold is filled to capacity with the migrating hydrocarbons, the excess hydrocarbons may spill from an edge of the confining surface and continue to move upward. Structural traps have two significant attractions to explorers: The structural fold is readily located by various techniques, and the structural fold perturbs the moving hydrocarbons and may act to focus and collect the buoyant hydrocarbons.
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Another common type of structural trap, the fault trap, is found where alternating layers of reservoirs and seals are broken by faults that cause the reservoir layers to become offset against sealing layers on the up-dip side. These fault traps are important containers of hydrocarbons.
Stratigraphic traps Stratigraphic traps occur in great varieties and combinations. A large proportion of the world’s oil and gas is contained in stratigraphic traps. Essentially, a stratigraphic trap results from a lateral change in the subsurface rock strata – for example, where a porous and permeable rock layer gradually becomes nonporous and impermeable in an up-dip direction. Hydrocarbons migrating up-dip in the porous strata will collect at the place where the hydrocarbons are impeded by the seal. Stratigraphic traps are more complex and more difficult to find than structural traps, and they require special understanding of such reservoir characteristics as the lateral extent of the reservoir and its variance laterally and vertically. Whether hydrocarbons are trapped at the up-dip edge of a reservoir depends on the pore throat openings characterizing the up-dip barrier and on the buoyancy properties of the migrating hydrocarbons. The buoyancy pressure of the hydrocarbon column is dependent on the density difference between the hydrocarbon and water and on the height of the hydrocarbon column. If increasingly more hydrocarbons migrate into a stratigraphic trap, increasing the height of the hydrocarbon column and its buoyancy pressure, the hydrocarbons may eventually be forced into the fine pore throats of the up-dip barrier and move through it. As Downey pointed out, it is easy to find conditions in which tiny quantities of hydrocarbons are entrapped because small accumulations lack buoyancy pressure to overcome even minor barriers. It becomes progressively more difficult to trap larger accumulations of hydrocarbons because large columns of hydrocarbons exert large buoyancy forces against the pore throats of the potential up-dip seal. Seal risk becomes more important as larger fields are sought.
Search Techniques for Oil and Natural Gas Geophysical Prospecting Techniques Seismic surveys Prospects (hypothesized accumulations) are most commonly located and described by geophysical techniques. The most useful of these geophysical techniques involves penetrating the rock layers with acoustic waves and recording, at the surface, the reflection of these acoustic waves from subsurface rock interfaces. These seismic surveys require immense compute power and technical sophistication, but the general approach is not unlike the use of sonar to find schools of fish or to depict the form of the sea bottom beneath a boat. Generally, the structural form, strata thicknesses, and the general characteristics of the subsurface rocks can readily be determined from information provided by seismic investigations. In the past, seismic data were obtained by using linear tracks, providing two-dimensional (2D) data; modern seismic work favors collection and analysis of data in three dimensions, giving unrivaled detailed pictures of the subsurface. Of course, the cost to acquire 3D data is much more than that of the 2D data set, and careful analysis must be made to ensure that the value obtained from the 3D data set justifies its costs. In addition, a 3D set may be repeated over time to monitor changes in seismic reflection character. Such 3D data sets are called 4D sets and can be very useful for review of in situ changes in field characteristics. The depletion of hydrocarbons in various segments of a field can be monitored over time and extraction efficiencies maximized. In favorable circumstances, the acoustical data collected from the seismic work may directly indicate whether the subsurface layers contain oil and gas. The discovery of seismic techniques (bright spots) for direct detection of underground oil and gas by M. C. Forrest in the late 1960s revolutionized exploration for conventional hydrocarbon traps.
Gravity and magnetic surveys Gravity surveys provide measurements of variations in the earth’s gravity at a number of locations in a region. These gravity variations represent changes in the density of the rock column under the measuring site and are helpful as a quick, inexpensive way of recognizing the presence of thick sections of sedimentary rock. Gravity surveys are most helpful in regional studies, but in special cases, such as for areas where prospects are created by large, buoyant salt domes, gravity can be very useful to define the distribution and structural attitude of the salt masses, which are less dense than the adjacent rocks. Magnetic surveys are also helpful in regional studies to provide an estimate of depth to magnetic basement. On the prospect scale, magnetic investigations can readily reveal areas of igneous intrusion; the igneous dikes and sills appear as strong magnetic anomalies.
Surface Geochemical Techniques Surface measurements of hydrocarbons are often a useful supplement to other exploration search techniques. The presumption is that tiny leaks of hydrocarbons are occurring above subsurface oil and gas accumulations, and with proper collection and analysis of soils and soil gases these microseeps can be recognized and used to pinpoint the subsurface origin of the leaks. The problem with the proper utilization of surface geochemical techniques is not one of adequate sensitivity but one of differentiating hydrocarbons leaking from buried accumulations from hydrocarbons abundantly generated by plants and living organisms and hydrocarbons provided by surface contamination.
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Geologic Techniques Geological techniques in exploration have changed greatly during the past 50 years. Originally, the geologist searched surface exposures for oil and gas shows and mapped folds of surface rocks. Later, the geologist emphasized subsurface data such as recognition of oil and gas shows from rock cuttings from wells, identified the reservoir characteristics of subsurface layers, and integrated geophysical data with electric well surveys. The modern geologist has added expertise in organic geochemistry, geophysics, petrophysics, and economics. One of the greatest values of a modern petroleum geologist is his or her ability to visualize the subsurface in three dimensions using a knowledge of rock facies, environments of deposition, and sequence stratigraphy so as to reason from negative data (where oil is not) to where oil should be.
Dowsing Techniques Dowsing and other prospecting techniques calling on supernatural powers or divine insights are of absolutely no value. Dowsers say that they can feel emanations from oil and gas fields, underground water currents, and deposits of precious metals. There are many practitioners, devotees, and believers, but there is no science. No such technique has ever been shown to work at levels better than pure chance in any controlled trial. The Randi Institute maintains a $1 million prize to anyone who can demonstrate such remarkable powers in controlled circumstances. It remains uncollected.
Exploration Drilling Techniques Drilling is costly and is generally reserved to test the best of the exploration prospects. Drilling of the exploratory test wells, the wildcats, is typically the most expensive procedure in the exploration cycle. Drilling represents the ultimate test of the oil finders’ hypothesis that the mapped prospect may contain hydrocarbons. Onshore drilling is generally accomplished with a moveable drilling rig. The drilling rig has three basic components: the derrick, which provides height for hoisting the drill pipe as the well is drilled; the powered rotary table, which clasps and turns the drill pipe with its attached drill bit; and the ‘mud’ pumps, which provide power to force the mud through the drill pipe and drill bit. The drilling mud is really a sophisticated mixture of expensive chemicals designed to create a temporary skin for the walls of the newly drilled hole, act as coolant to the drill bit, and to provide adjustable pressure control for restraining any encountered earth pressures. The mud is carefully weighted with additives, such as barium carbonate, so that the weight of the column of mud in the drill pipe is sufficient to hold down any earth pressures encountered and prevent a blowout. The procedure for drilling a hole into the earth involves rotating a dangling hollow drill pipe, which has a perforated bit at the end. As the upper end of the drill pipe is held firmly within the rotary table on the drilling floor, the drill bit on the down-hole end of the drill pipe rotates and grinds on the rocks on the bottom of the hole. Mud is pumped at high pressure down the hollow pipe and out the orifices in the bit at the bottom of the hole. The mud jets out of the orifices in the drill bit and assists in the drilling process. On the return trip up the annulus outside the drill pipe, the mud serves to carry out the rock fragments created by the drilling process. These rock chips are screened from the mud system at the surface, rinsed, and examined by the well-site geologist for rock characteristics and oil shows. The cleansed mud is carefully checked to ensure that its physical and chemical properties are exactly what is required, and then it is re-circulated down the drill pipe. As the drill bit becomes worn, the entire drill pipe must be hoisted from the hole; each 90-ft section of pipe is unscrewed from the upper end of the dangling drill pipe and stacked in the derrick. When the bottom end of the pipe is pulled onto the rig floor, the old bit is removed, a new bit is added, and the 90-ft sections of pipe are sequentially reattached to the upper end of the drill string as the bit is lowered to the bottom to continue drilling. In the colorful language of the oil fields, this long and difficult procedure is called ‘making a trip.’ If the well has been drilling at 15 000 ft below the derrick floor, the round trip involves 332 separate connection activities by the roughnecks, the skilled drilling team. The fundamental mechanics of drilling an oil well are more akin to rotating a weight on a string than pressing on a brace and bit because the miles-long drill pipe has enormous weight but little compressive strength. At specific planned depths, the drill pipe and bit are hoisted out of the hole and long lengths of steel casing are lowered and set in the hole. Cement is pumped down the hollow casing until it flows out the bottom of the casing and up the annulus between the casing and the earth layers. After the cement cures, it bonds the outside of the casing to the bore hole walls. The steel casing can now protect the drilling operation from influxes of fluids or rocks caving from previously penetrated layers of rock. The drill pipe and bit are lowered into the hole again and drilling is recommenced, with the upper portion of the hole ‘cased off’ and protected. This casing procedure may be repeated many times during the drilling of the well, with each set of casing nestling inside the others. Offshore drilling utilizes the same basic drilling procedures as those of onshore drilling but involves a number of special and expensive modifications. Offshore drilling requires a secure place to set the drilling rig as well as space for the staff, equipment, and supplies. In waters shallower than 600 ft, it is common to use a large floating barge, called a jack-up, with long legs on each corner. The jack-up is towed into position with the legs elevated into the air. After the jack-up is positioned over the prospect, the legs are jacked down into the sea bottom, and the barge with the drilling rig is lifted and supported above the water on the legs. After drilling is completed, the legs are jacked up, the barge is let down to float on the sea, and the barge is towed to another location.
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In deep waters (1000–12 000 ft), very large quantities of oil and gas must be discovered by the explorers to pay for the immense costs of drilling. Large deep-water drilling vessels can cost more than $750 million to construct. Ordinary expenses to operate the deep-water drilling program can be readily $1 000 000 a day. Costs to drill wildcat wells in deep water have frequently exceeded $100 million per well. The drilling rig for deep water is installed on a specially designed mobile vessel, providing crew quarters and containing all necessary equipment for months of work. Such drilling vessels may have numerous thrusters for lateral positioning and be capable of automatically adjusting their position to keep the drilling rig directly over the drilling target. The drill bit and drill pipe are lowered thousands of feet to the sea floor, and drilling is commenced toward targets that may be tens of thousands of feet below the sea floor.
Assessing Risk in Exploration The major reason for failure in exploration is misunderstanding risk. Most exploration ventures fail. Proper selection of exploration projects can lessen the average risk in the portfolio. Selection of exploration investments involves an estimation of the exploration costs to determine success, an estimation of the probability of success, and the value of the project, given success. It is generally understood that proper estimation of the probability of success is one of the most important elements in maintaining a highquality portfolio of exploration projects. Probabilities of success for various exploration ventures in a portfolio can range over three orders of magnitude. These estimations of probability of success must be made in a consistent manner, with geologic and mathematical rigor. A number of approaches to estimating probability of success are utilized by various groups. In all cases, the historical wildcat success rates in a particular province should be compiled for comparison to any estimates of future success. Past history does not define future probabilities of success, but historical knowledge acts to constrain wildly optimistic forecasts. The most useful general approach is outlined by Capen and is easy to understand because it mimics a board game with a ‘wheel of chance’ and a spinner. For each prospect risk analysis, the wheel of chance is divided into two segments, whose areas denote the historical probability that a wildcat would or would not expect to encounter an accumulation of hydrocarbons in the region being analyzed. If one-fourth of the wildcats in the region have encountered some sort of accumulation of hydrocarbons, one-fourth of the wheel of chance would be noted as ‘oil and gas,’ and three-fourths of the wheel would be identified as ‘dry hole.’ One time in four, the spinner, representing chance, would land on the quarter circle called oil and gas. Although this example indicates that one wildcat out of four might be expected to find an oil and gas accumulation, remember that most oil and gas accumulations in the earth are very small. Oil and gas accumulations have a nearly log-normal frequency distribution in the earth. As a result, we can divide the quarter circle area of oil and gas with a log scale along the quarter circle circumference, and estimate the differing likelihood that the spinner might alight on the segment (probability) of 500 million barrels versus the segment (probability) of a 10-million barrel or smaller field (Figure 1). Geologic Chance Factor 25%
500⬚ 100 50 ‘MMBOE
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ECONOMIC DRY HOLE
UNECONOMIC
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DRY HOLE
DRY HOLE
Figure 1 ’Wheel of chance’ for assessing probability of success in an exploration drilling venture. After Capen (1992).
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We can determine the minimum size of accumulation that can be commercially developed. If we are interested in making money in oil and gas exploration, we must analyze the probability of finding a field at least as large as the minimum developable size. If our minimum developable field size is 10 million barrels of oil, then we need to determine the probability that our next wildcat will encounter at least 10 million barrels of oil. Using the probability of commercial success, the expected cost of discovery, and the present value worth of the target, we can estimate the risk discounted present value worth of the exploration project. Hidden in all our risk calculations is the supposition that management and staff will provide an unbroken chain of correct implementing decisions.
Contractual Risk in Exploration At the inception of exploration, an agreement must be negotiated that provides for the recovery of costs, taxation, and the share of the production retained by the explorer. These agreements or production contracts typically extend for the life of the production. In all cases outside the United States in which significant exploration finds have been made, the contract has been unilaterally altered in favor of the host country at some time during the life of the contract. Even within the United States, modifications to previous oil and gas contracts with state and federal governments are common. This certainty of some degree of contract abrogation is a fact of life and another risk to be expected and assessed by the oil and gas investor.
The Results: Evaluating Exploration Effectiveness Reserve Replacement Large oil and gas companies can be considered as powerful search engines for the discovery of new assets each year. A large oil company that produces 500 million barrels of oil each year to supply its refinery and marketing system should find at least 500 million barrels of new oil each year or its asset base will diminish and the value of its shares may fall. The ratio of new reserves found to those produced is called the reserve replacement ratio, and it is closely monitored as one indication of the efficiency of the exploration process for individual companies.
SEC Finding Costs Each publicly traded company in the United States is required to provide a yearly report to the Securities and Exchange Commission (SEC) that includes specific data on current-year cost of finding oil and gas. These company reports to the SEC are greatly relied on by analysts but can be very misleading. This is because the SEC finding cost reports mandate a comparison between the amount of oil and gas volumes ‘booked’ each year by each company compared to the amount of money that each company spent in the current year on exploration. The problem for the unwary analyst is that the volumes booked in the current year may have been found many years ago with past exploration expenditures; the exploration expenditures of the current year may have found volumes that will not be booked as producible reserves until several years in the future. The oft-quoted SEC exploration finding cost, dollars spent on exploration in the current year divided by volumes booked in the current year, is an unreliable and often meaningless number. Exploration efficiency is extremely important to know and very difficult to decipher from such published information.
Internal Measures of Finding Costs The internal finding costs of a company are determined by comparing each year’s exploration expenditures to the volumes thought to have been discovered during the same year. These internal exploration finding costs, properly created and regularly monitored, are a very useful monitor of exploration efficiency.
Financial Measures of Exploration Efficiency The perfect method for evaluating exploration efficiency might seem to be a simple comparison of the money spent each year on exploration versus the present value worth of the petroleum assets discovered each year. An indication of the problems with this method is suggested if we rephrase the financial measure more precisely and state, ‘a comparison of the money spent each year on exploration versus an estimate of the present value worth of petroleum assets discovered.’ Much of the apparent rigor of the financial measure disappears when it is realized that the financial measure depends on guesses as to oil and gas prices many years in the future, which are multiplied by guesses as to the amount and timing of the future production.
The ‘Gold’ Standard: Risk-Discounted Expectation versus Actual The best technique for monitoring exploration efficiency (the gold standard) is a cumulative comparison of the risk-discounted volume expectation of each wildcat versus the actual volume outcome. Exploration efficiency can be easily monitored by a cumulative plot of barrels predicted to be found (and barrels actually found) recorded against the wildcat well sequence. This
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Expected Versus Actual Exploration Volume 1400 Expected
Reserves MMBOE
1200 1000 800 600 400
Actual 200 0 1
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3 4 5 Exploratory Wells in Sequence
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Figure 2 Volumes predicted to be discovered versus volumes actually discovered; unsuccessful exploration portfolio.
Expected Versus Actual Exploration Volume 250 Expected
Reserves MMOBE
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Actual 150
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Figure 3 Volumes predicted to be discovered versus volumes actually discovered; improved portfolio.
graph provides two cumulative curves: the volumes expected to have been found and the volumes actually found. Such a plot also illustrates the need for an adequate number of wildcat chances to obtain success. Over any significant period of time, the sum of the predicted volumes must match the actual outcomes. This gold standard is a rigorous test that compares what the exploration team promised it was going to find versus actual outcome over time (Figures 2 and 3).
Finding and Development Costs One of the most useful measures of the performance of an oil company over a long period is given by the company’s average costs to find and produce oil and gas fields on a per barrel basis. Companies with low finding and development costs have a considerable advantage in the marketplace. Prices received by the producer for its oil and gas may increase or decrease, but companies that are able to deliver oil and gas at low finding and development costs are always the strongest. Current finding and development costs represent the outcomes of decisions and actions made many months, perhaps many years, earlier. Low finding and development costs reflect well on the company and, to a lesser degree, on the current management.
Reserve Appreciation A final caution in evaluating exploration efficiency is more subtle to understand and more powerful in its effect: What volumes are actually being discovered by current exploration? Numerous ‘hindcasting’ studies of exploration have demonstrated that the oil
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volumes thought to have been found by exploration continue to increase with time and field production, until the ultimate production from oil fields is seen to dwarf the early, ultraconservative estimates made at the time the fields were discovered. How great is this underestimation of exploration discoveries as a fraction of ultimate oil recovery? On an overall basis, the early reserve estimations appear to more than triple after long-term production gives a revised picture of ultimate oil reserves. (Techniques for determining natural gas volumes are far more accurate and early exploration estimates appear to understate ultimate gas reserves by only 15–20%). Why is this understatement of new reserves so prevalent? Two explanations may suffice: one economic and one technical. At the time of first development of a newly discovered field, huge sums of money must be invested before there is any production or payback. A 100-million barrel oil field may require $200–800 million for drilling wells and providing facilities for production. Estimates of field size, made at this early time for the purpose of justifying development costs, must be very conservative because company management must guarantee sufficient reserves to cover the projected development expenses. Such early estimates should properly be considered as being 95% certain of at least the volumes, rather than expectation volumes. Second, once the wells are drilled, the field facilities are in place, and costs recovered, incremental volumes become available from secondary, higher cost hydrocarbon-bearing horizons, whose volumes often dwarf those of the originally productive horizons. The ultimate effect of this general understatement of discovery volumes is to underestimate the value of the assets discovered each year by exploration.
Size Distribution of Oil and Gas Fields In any sufficiently large area where oil and gas fields occur, the size of the individual oil and gas fields will be found to conform to a near log-normal size distribution. In lay terms, this means that there will be very few large fields, a substantial number of medium fields, and a great number of very small fields. This remarkably consistent outcome is a result of some subtle mathematics. Each oil field depends on the simultaneous occurrence of a number of parameters, such as the amount of hydrocarbon charge available, suitable reservoirs to contain the hydrocarbons, a trap configuration to hold the hydrocarbons, a seal to confine the hydrocarbons, and sufficient permeability to allow the hydrocarbons to flow to the surface at commercial rates. The log-normal field size distribution, ubiquitous in nature, is understandable as a result of multiplication of the probability distributions describing the critical parameters.
Summary Finding traces of oil and gas is not difficult; making money finding oil and gas is very difficult. Exploration is the business of efficiently finding oil and gas so that the new discoveries can be developed and produced. Successful exploration requires a fundamental knowledge of how oil and gas are generated and how they migrate and accumulate. A number of search techniques are available to explorers and the proper use of these technologies is the responsibility of the technical staff in the oil companies. In addition, oil and gas exploration must be conducted in a cost-efficient manner so that the exploration product, the field discoveries, will be highly profitable and will properly reward the oil company for its assumption of large financial risk.
Further Reading Attanasi ED and Root DH (1994) The enigma of oil and gas field growth. American Association of Petroleum Geology Bulletin 78: 321–333. Capen EC (1992) Dealing with exploration uncertainty: Business of petroleum geology. AAPG treatise of petroleum geology Tulsa, OK: American Association of Petroleum Geologists. Dong Z, Holditch SA, et al. (2012) Global unconventional gas resource assessment. SPE Economics & Management 4: 222–234. Downey MW (1984) Evaluating seals for petroleum accumulations. American Association of Petroleum Geology Bulletin 68(11): 1752–1763. Forrest MC (2000) “Bright” ideas still needed persistence. American Association of Petroleum Geologists Explorer 4–12. Magoon LB and Dow WG (1994) The petroleum system: From source to trap. Tulsa, OK: American Association of Petroleum Geologists AAPG Memoir 60.
General Characteristics of Oil and Natural Gas Exploration Fundamental Concepts Guiding Exploration for Oil and Natural Gas Conventional Oil and Gas Accumulations Oil and Gas Retained Within the Petroleum Source Rocks Initiation of Exploration Regional Studies Prospect Definition Prospect Varieties Structural traps Stratigraphic traps Search Techniques for Oil and Natural Gas Geophysical Prospecting Techniques Seismic surveys Gravity and magnetic surveys Surface Geochemical Techniques Geologic Techniques Dowsing Techniques Exploration Drilling Techniques Assessing Risk in Exploration Contractual Risk in Exploration The Results: Evaluating Exploration Effectiveness Reserve Replacement SEC Finding Costs Internal Measures of Finding Costs Financial Measures of Exploration Efficiency The ‘Gold’ Standard: Risk-Discounted Expectation versus Actual Finding and Development Costs Reserve Appreciation Size Distribution of Oil and Gas Fields Summary
Glossary Field A commercially valuable subsurface accumulation of hydrocarbons. Permeability A measure of the transmissibility of fluids in the void space in a rock. Petroleum A naturally occurring mixture of liquid hydrocarbons.
2 2 2 2 2 3 3 3 3 4 4 4 4 4 4 5 5 5 6 7 7 7 7 7 7 7 8 8 9 9
Porosity Percentage of void space in rock volume. Reservoir A rock layer with substantial porosity and permeability. Wildcat An exploration well (supposedly one drilled so far from civilization that the drillers can hear the cries of wildcats).
Exploration for oil and natural gas is a search for buried treasure, on a huge scale, for commercial purposes. Exploration is a business-oriented search for new hydrocarbon assets. Geology is a science; geophysics is a science; exploration is a business. It is not difficult to find traces of oil and natural gas; it is very difficult to find large quantities of hydrocarbons cheaply.
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Change History: June 2014. MW Downey has changed the dollar values for oil and gas in Section ‘General Characteristics of Oil and Natural Gas Exploration,’ page 1, to reflect current values. Section ‘Oil and Gas Retained Within the Petroleum Source Rocks,’ first page, has been added to reflect new types of exploration targets. One reading reference has been added to reflect new knowledge about unconventional oil and gas (Dong and Holditch, 2012).
Reference Module in Earth Systems and Environmental Sciences
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General Characteristics of Oil and Natural Gas Exploration A romantic image of exploration is one of hardy drillers risking fortunes on the luck of a wildcat well. The large risks and the financial dangers are still very much a part of modern exploration, but all the tools of modern technology are coupled with the strengths of business analysis to quantify and diminish the risks of exploration. Exploration accomplishments come with high costs and high risks. Some idea of the risk of exploration investments, relative to other investments, may be gained by understanding that banks do not loan money for exploration investments. Hardy investors in exploration oil and gas projects are effectively lenders-of-last-resort, and such investors demand the potential for high returns to balance the exceptional risks. When a company drills a $20 million ‘dry hole,’ a well that fails to find significant oil or gas, there is no salvage value and no optional use for the dry hole: It is a $20 million loss. In a typical year, approximately 10 billion barrels of oil and 70 trillion cubic feet of natural gas are discovered in the world. Assuming a value of $100 per barrel for oil and $10 for 1000 cubic feet of gas, it can be seen that about $2 trillion dollars worth of new assets are discovered each year by oil and gas exploration. The rewards for exploration success can be huge, but costs are high and failure is common. The exploration task is far greater than discovering new subsurface reservoirs of hydrocarbons; it must be that of discovering those hydrocarbons in an economically efficient manner. Successful oil and gas exploration owes as much to efficient business practices as to technical excellence. The first step in exploration is always an innovative idea about where oil or gas might be found. The pioneering geologist Wallace Pratt once said, ‘Oil is first found in the minds of men.’ It is hoped that such ideas arise from fundamental knowledge of the rock layers in the earth, their suitability for generating and retaining oil and gas accumulations, and an analysis of the clues available to suggest that proper conditions are actually present in a particular area. Oil and gas accumulations in the earth are extremely valuable. The discovery of new accumulations (fields) generates great wealth. Oil and gas fields are very difficult to find, and exploration – a systematic search for new oil and gas accumulations – depends on proper use of technology, acquisition of new data, and the deductive analysis of earth clues in a manner reminiscent of a detective.
Fundamental Concepts Guiding Exploration for Oil and Natural Gas Conventional Oil and Gas Accumulations All oil and much natural gas are created by deep burial and heating of organic matter contained within sedimentary rocks. As this organic matter is converted to oil and gas by burial and heating in the earth, much of the generated oil and gas is forced out of the organic-rich sedimentary layers and expelled into open fractures or porous transmissive zones. These fractures and transmissive zones in the earth provide paths for hydrocarbon migration. The oil and gas may be retained and trapped in subsurface reservoirs or may continue to leak upward to the surface of the earth. Such leaks of hydrocarbons to the surface have been forming tar pits, oil lakes, and gas seeps for millions of years. If the migrating hydrocarbons encounter an impervious layer of rock, they will be prevented from escaping to the surface. If the impervious layer roofs a rock layer with porosity, the migrating petroleum may fill the pore space of the reservoir and displace some of the water originally filling the pores of the rock. If the roofing layer and the associated reservoir rock have been folded in a domal shape, the hydrocarbons may fill the container formed by the domed surface. The oil, natural gas, and water in the reservoir strata have distinctly different densities. Gas floats on oil; oil floats on water. In a domal structure, then, the lighter gas will occupy the pore spaces in the uppermost part of the structure and be underlain by the oil, which in turn is underlain by water. The two most fundamental search elements in exploration for conventional oil and gas are (i) a knowledge of the areas where oil and gas have been generated and provided to migration routes and (ii) the location of specific traps that could contain the migrating petroleum.
Oil and Gas Retained Within the Petroleum Source Rocks Past attention has been concentrated on the oil and gas squeezed out of the source rock and provided to underground traps. About the year 2000, industry attention became re-focused on the astounding amounts of oil and gas still held captive within the organic sponge that is the ‘source rock.’ The technologies of horizontal drilling and hydrofracking have been combined to wrest production of enormous quantities of ‘unconventional oil and gas’ from these organic-rich layers which, of course, are found everywhere we have produced conventional oil and gas.
Initiation of Exploration The exploration process can start with a new idea, new information, or a new area becoming available for search. If exploration is initiated because a new international search area becomes available for leasing and drilling, it is quite likely that the new search area will be leased to whomever bids the most for the right to explore. In such new areas, most bidders will have a similar set of
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information obtained from the host country. A fascinating area of operations research derives from the competitive aspects of bidding under uncertainty. An insight into this rich area of decision -making is given by understanding that any winning bidder (the one who bid higher than anyone else) often bids more than the lease is worth. The more bidders, the more likely that the winning bidder has overbid. If 20 companies, with similar knowledge, submit bids for the undrilled area, what is the chance that the winning bidder (who values the undrilled area higher than 19 other knowledgeable bidders) has still managed to bid less than the true value of the lease? This chance ranges between slim and none. In the oil and gas business, this situation of winning the bid . . . (but paying too much), is described by Capen as ‘the winner’s curse.’ When exploration is initiated because of exclusive access to new information, the company with the new information has some remarkable advantages in finding and valuing new exploration projects. This competitive advantage is one of the reasons that large companies spend huge amounts of money in acquiring new data for their exclusive use and advantage. Sometimes, exploration is initiated simply because a team or unique individual has extracted a novel concept, a new interpretation, from generally available data. Such individuals or teams are rare and extraordinarily valuable; they spawn new directions for exploration and give incredible competitive advantages to their employers. Such great oil finders are like master chess players, seeing more deeply, more comprehensively, than others.
Regional Studies Exploration for oil and gas in the earth can be usefully subdivided into two scales of effort: regional evaluation and prospect definition. In the first effort, data are gathered to indicate whether specific regions of the earth are likely to contain hydrocarbons. In the second effort, an attempt is made to decide exactly where to drill to find oil or gas, within the general region that appears favorable for containing subsurface accumulations of hydrocarbons. Regional studies attempt to answer the following questions: Where are the organic-rich layers in the subsurface? What is their richness and character? Where have they been buried to sufficient temperatures in the earth to generate oil and gas? What was the time at which these source rocks were heated and provided petroleum? What traps were available to retain the generated hydrocarbons at the time the hydrocarbons were generated and migrating? Geologists sometimes use the phase ‘petroleum systems analysis’ to describe the type of studies that must be made to determine whether a region should be expected to contain accumulations of hydrocarbons. This concept of the petroleum system, pioneered by Magoon and Dow, recognizes that accumulations of hydrocarbons in the earth require a special combination of unique circumstances before hydrocarbons can be generated and be available at the right time to fill thick porous reservoirs contained within traps. If the hydrocarbons are not available, the reservoirs and traps will be barren. If the porous reservoirs are absent, the traps will only contain hydrocarbons in rocks unsuitable for production. If the traps are not present, the hydrocarbons will move through the porous reservoir and continue to the surface of the earth. All of the necessary parameters must be present simultaneously at the time of generation and accumulation and persist until the present day. One simple test for the presence of a working petroleum system is a documentation of a well in the area that flowed hydrocarbons to the bore -hole. Although this flow of hydrocarbons may be trivial from a commercial standpoint, it is of great significance in indicating that a working petroleum system is likely. From such an observation, the presence of hydrocarbons trapped in a reservoir is demonstrated, not merely guessed at or hoped for. In the final stage of regional studies, the geologist and the geochemist may make a mass balance calculation of the total amount of hydrocarbons expected to have been generated from the petroleum source rocks in an area to compare with the amount and type of hydrocarbons already discovered in an area. If these regional studies are promising, the task of the explorationist can shift to a search for specific ‘prospects’ suitable for drilling and evaluation in the region.
Prospect Definition Prospect Varieties There are two general varieties of conventional hydrocarbon traps: structural and stratigraphic. However, many combinations of these trap types are known.
Structural traps Structural traps involve folds of subsurface rock layers that influence migration of oil and gas. If hydrocarbons are migrating in an uninterrupted porous reservoir, beneath a layer of sealing rock, they may move hundreds of miles laterally and up to the surface, unless collected along the way by a concave fold (anticline) in the earth layers. (In an analogous manner, on the surface of the earth, depressions in the earth’s surface collect the flow of streams to provide the accumulations of water we know as lakes.) Each concave-downward trending fold attracts the hydrocarbons, which are buoyant and floating on the subsurface waters in the reservoirs. As each concave-downward fold is filled to capacity with the migrating hydrocarbons, the excess hydrocarbons may spill from an edge of the confining surface and continue to move upward. Structural traps have two significant attractions to explorers: The structural fold is readily located by various techniques, and the structural fold perturbs the moving hydrocarbons and may act to focus and collect the buoyant hydrocarbons.
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Another common type of structural trap, the fault trap, is found where alternating layers of reservoirs and seals are broken by faults that cause the reservoir layers to become offset against sealing layers on the up-dip side. These fault traps are important containers of hydrocarbons.
Stratigraphic traps Stratigraphic traps occur in great varieties and combinations. A large proportion of the world’s oil and gas is contained in stratigraphic traps. Essentially, a stratigraphic trap results from a lateral change in the subsurface rock strata – for example, where a porous and permeable rock layer gradually becomes nonporous and impermeable in an up-dip direction. Hydrocarbons migrating up-dip in the porous strata will collect at the place where the hydrocarbons are impeded by the seal. Stratigraphic traps are more complex and more difficult to find than structural traps, and they require special understanding of such reservoir characteristics as the lateral extent of the reservoir and its variance laterally and vertically. Whether hydrocarbons are trapped at the up-dip edge of a reservoir depends on the pore throat openings characterizing the up-dip barrier and on the buoyancy properties of the migrating hydrocarbons. The buoyancy pressure of the hydrocarbon column is dependent on the density difference between the hydrocarbon and water and on the height of the hydrocarbon column. If increasingly more hydrocarbons migrate into a stratigraphic trap, increasing the height of the hydrocarbon column and its buoyancy pressure, the hydrocarbons may eventually be forced into the fine pore throats of the up-dip barrier and move through it. As Downey pointed out, it is easy to find conditions in which tiny quantities of hydrocarbons are entrapped because small accumulations lack buoyancy pressure to overcome even minor barriers. It becomes progressively more difficult to trap larger accumulations of hydrocarbons because large columns of hydrocarbons exert large buoyancy forces against the pore throats of the potential up-dip seal. Seal risk becomes more important as larger fields are sought.
Search Techniques for Oil and Natural Gas Geophysical Prospecting Techniques Seismic surveys Prospects (hypothesized accumulations) are most commonly located and described by geophysical techniques. The most useful of these geophysical techniques involves penetrating the rock layers with acoustic waves and recording, at the surface, the reflection of these acoustic waves from subsurface rock interfaces. These seismic surveys require immense compute power and technical sophistication, but the general approach is not unlike the use of sonar to find schools of fish or to depict the form of the sea bottom beneath a boat. Generally, the structural form, strata thicknesses, and the general characteristics of the subsurface rocks can readily be determined from information provided by seismic investigations. In the past, seismic data were obtained by using linear tracks, providing two-dimensional (2D) data; modern seismic work favors collection and analysis of data in three dimensions, giving unrivaled detailed pictures of the subsurface. Of course, the cost to acquire 3D data is much more than that of the 2D data set, and careful analysis must be made to ensure that the value obtained from the 3D data set justifies its costs. In addition, a 3D set may be repeated over time to monitor changes in seismic reflection character. Such 3D data sets are called 4D sets and can be very useful for review of in situ changes in field characteristics. The depletion of hydrocarbons in various segments of a field can be monitored over time and extraction efficiencies maximized. In favorable circumstances, the acoustical data collected from the seismic work may directly indicate whether the subsurface layers contain oil and gas. The discovery of seismic techniques (bright spots) for direct detection of underground oil and gas by M. C. Forrest in the late 1960s revolutionized exploration for conventional hydrocarbon traps.
Gravity and magnetic surveys Gravity surveys provide measurements of variations in the earth’s gravity at a number of locations in a region. These gravity variations represent changes in the density of the rock column under the measuring site and are helpful as a quick, inexpensive way of recognizing the presence of thick sections of sedimentary rock. Gravity surveys are most helpful in regional studies, but in special cases, such as for areas where prospects are created by large, buoyant salt domes, gravity can be very useful to define the distribution and structural attitude of the salt masses, which are less dense than the adjacent rocks. Magnetic surveys are also helpful in regional studies to provide an estimate of depth to magnetic basement. On the prospect scale, magnetic investigations can readily reveal areas of igneous intrusion; the igneous dikes and sills appear as strong magnetic anomalies.
Surface Geochemical Techniques Surface measurements of hydrocarbons are often a useful supplement to other exploration search techniques. The presumption is that tiny leaks of hydrocarbons are occurring above subsurface oil and gas accumulations, and with proper collection and analysis of soils and soil gases these microseeps can be recognized and used to pinpoint the subsurface origin of the leaks. The problem with the proper utilization of surface geochemical techniques is not one of adequate sensitivity but one of differentiating hydrocarbons leaking from buried accumulations from hydrocarbons abundantly generated by plants and living organisms and hydrocarbons provided by surface contamination.
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Geologic Techniques Geological techniques in exploration have changed greatly during the past 50 years. Originally, the geologist searched surface exposures for oil and gas shows and mapped folds of surface rocks. Later, the geologist emphasized subsurface data such as recognition of oil and gas shows from rock cuttings from wells, identified the reservoir characteristics of subsurface layers, and integrated geophysical data with electric well surveys. The modern geologist has added expertise in organic geochemistry, geophysics, petrophysics, and economics. One of the greatest values of a modern petroleum geologist is his or her ability to visualize the subsurface in three dimensions using a knowledge of rock facies, environments of deposition, and sequence stratigraphy so as to reason from negative data (where oil is not) to where oil should be.
Dowsing Techniques Dowsing and other prospecting techniques calling on supernatural powers or divine insights are of absolutely no value. Dowsers say that they can feel emanations from oil and gas fields, underground water currents, and deposits of precious metals. There are many practitioners, devotees, and believers, but there is no science. No such technique has ever been shown to work at levels better than pure chance in any controlled trial. The Randi Institute maintains a $1 million prize to anyone who can demonstrate such remarkable powers in controlled circumstances. It remains uncollected.
Exploration Drilling Techniques Drilling is costly and is generally reserved to test the best of the exploration prospects. Drilling of the exploratory test wells, the wildcats, is typically the most expensive procedure in the exploration cycle. Drilling represents the ultimate test of the oil finders’ hypothesis that the mapped prospect may contain hydrocarbons. Onshore drilling is generally accomplished with a moveable drilling rig. The drilling rig has three basic components: the derrick, which provides height for hoisting the drill pipe as the well is drilled; the powered rotary table, which clasps and turns the drill pipe with its attached drill bit; and the ‘mud’ pumps, which provide power to force the mud through the drill pipe and drill bit. The drilling mud is really a sophisticated mixture of expensive chemicals designed to create a temporary skin for the walls of the newly drilled hole, act as coolant to the drill bit, and to provide adjustable pressure control for restraining any encountered earth pressures. The mud is carefully weighted with additives, such as barium carbonate, so that the weight of the column of mud in the drill pipe is sufficient to hold down any earth pressures encountered and prevent a blowout. The procedure for drilling a hole into the earth involves rotating a dangling hollow drill pipe, which has a perforated bit at the end. As the upper end of the drill pipe is held firmly within the rotary table on the drilling floor, the drill bit on the down-hole end of the drill pipe rotates and grinds on the rocks on the bottom of the hole. Mud is pumped at high pressure down the hollow pipe and out the orifices in the bit at the bottom of the hole. The mud jets out of the orifices in the drill bit and assists in the drilling process. On the return trip up the annulus outside the drill pipe, the mud serves to carry out the rock fragments created by the drilling process. These rock chips are screened from the mud system at the surface, rinsed, and examined by the well-site geologist for rock characteristics and oil shows. The cleansed mud is carefully checked to ensure that its physical and chemical properties are exactly what is required, and then it is re-circulated down the drill pipe. As the drill bit becomes worn, the entire drill pipe must be hoisted from the hole; each 90-ft section of pipe is unscrewed from the upper end of the dangling drill pipe and stacked in the derrick. When the bottom end of the pipe is pulled onto the rig floor, the old bit is removed, a new bit is added, and the 90-ft sections of pipe are sequentially reattached to the upper end of the drill string as the bit is lowered to the bottom to continue drilling. In the colorful language of the oil fields, this long and difficult procedure is called ‘making a trip.’ If the well has been drilling at 15 000 ft below the derrick floor, the round trip involves 332 separate connection activities by the roughnecks, the skilled drilling team. The fundamental mechanics of drilling an oil well are more akin to rotating a weight on a string than pressing on a brace and bit because the miles-long drill pipe has enormous weight but little compressive strength. At specific planned depths, the drill pipe and bit are hoisted out of the hole and long lengths of steel casing are lowered and set in the hole. Cement is pumped down the hollow casing until it flows out the bottom of the casing and up the annulus between the casing and the earth layers. After the cement cures, it bonds the outside of the casing to the bore hole walls. The steel casing can now protect the drilling operation from influxes of fluids or rocks caving from previously penetrated layers of rock. The drill pipe and bit are lowered into the hole again and drilling is recommenced, with the upper portion of the hole ‘cased off’ and protected. This casing procedure may be repeated many times during the drilling of the well, with each set of casing nestling inside the others. Offshore drilling utilizes the same basic drilling procedures as those of onshore drilling but involves a number of special and expensive modifications. Offshore drilling requires a secure place to set the drilling rig as well as space for the staff, equipment, and supplies. In waters shallower than 600 ft, it is common to use a large floating barge, called a jack-up, with long legs on each corner. The jack-up is towed into position with the legs elevated into the air. After the jack-up is positioned over the prospect, the legs are jacked down into the sea bottom, and the barge with the drilling rig is lifted and supported above the water on the legs. After drilling is completed, the legs are jacked up, the barge is let down to float on the sea, and the barge is towed to another location.
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In deep waters (1000–12 000 ft), very large quantities of oil and gas must be discovered by the explorers to pay for the immense costs of drilling. Large deep-water drilling vessels can cost more than $750 million to construct. Ordinary expenses to operate the deep-water drilling program can be readily $1 000 000 a day. Costs to drill wildcat wells in deep water have frequently exceeded $100 million per well. The drilling rig for deep water is installed on a specially designed mobile vessel, providing crew quarters and containing all necessary equipment for months of work. Such drilling vessels may have numerous thrusters for lateral positioning and be capable of automatically adjusting their position to keep the drilling rig directly over the drilling target. The drill bit and drill pipe are lowered thousands of feet to the sea floor, and drilling is commenced toward targets that may be tens of thousands of feet below the sea floor.
Assessing Risk in Exploration The major reason for failure in exploration is misunderstanding risk. Most exploration ventures fail. Proper selection of exploration projects can lessen the average risk in the portfolio. Selection of exploration investments involves an estimation of the exploration costs to determine success, an estimation of the probability of success, and the value of the project, given success. It is generally understood that proper estimation of the probability of success is one of the most important elements in maintaining a highquality portfolio of exploration projects. Probabilities of success for various exploration ventures in a portfolio can range over three orders of magnitude. These estimations of probability of success must be made in a consistent manner, with geologic and mathematical rigor. A number of approaches to estimating probability of success are utilized by various groups. In all cases, the historical wildcat success rates in a particular province should be compiled for comparison to any estimates of future success. Past history does not define future probabilities of success, but historical knowledge acts to constrain wildly optimistic forecasts. The most useful general approach is outlined by Capen and is easy to understand because it mimics a board game with a ‘wheel of chance’ and a spinner. For each prospect risk analysis, the wheel of chance is divided into two segments, whose areas denote the historical probability that a wildcat would or would not expect to encounter an accumulation of hydrocarbons in the region being analyzed. If one-fourth of the wildcats in the region have encountered some sort of accumulation of hydrocarbons, one-fourth of the wheel of chance would be noted as ‘oil and gas,’ and three-fourths of the wheel would be identified as ‘dry hole.’ One time in four, the spinner, representing chance, would land on the quarter circle called oil and gas. Although this example indicates that one wildcat out of four might be expected to find an oil and gas accumulation, remember that most oil and gas accumulations in the earth are very small. Oil and gas accumulations have a nearly log-normal frequency distribution in the earth. As a result, we can divide the quarter circle area of oil and gas with a log scale along the quarter circle circumference, and estimate the differing likelihood that the spinner might alight on the segment (probability) of 500 million barrels versus the segment (probability) of a 10-million barrel or smaller field (Figure 1). Geologic Chance Factor 25%
500⬚ 100 50 ‘MMBOE
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ECONOMIC DRY HOLE
UNECONOMIC
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OU
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Figure 1 ’Wheel of chance’ for assessing probability of success in an exploration drilling venture. After Capen (1992).
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We can determine the minimum size of accumulation that can be commercially developed. If we are interested in making money in oil and gas exploration, we must analyze the probability of finding a field at least as large as the minimum developable size. If our minimum developable field size is 10 million barrels of oil, then we need to determine the probability that our next wildcat will encounter at least 10 million barrels of oil. Using the probability of commercial success, the expected cost of discovery, and the present value worth of the target, we can estimate the risk discounted present value worth of the exploration project. Hidden in all our risk calculations is the supposition that management and staff will provide an unbroken chain of correct implementing decisions.
Contractual Risk in Exploration At the inception of exploration, an agreement must be negotiated that provides for the recovery of costs, taxation, and the share of the production retained by the explorer. These agreements or production contracts typically extend for the life of the production. In all cases outside the United States in which significant exploration finds have been made, the contract has been unilaterally altered in favor of the host country at some time during the life of the contract. Even within the United States, modifications to previous oil and gas contracts with state and federal governments are common. This certainty of some degree of contract abrogation is a fact of life and another risk to be expected and assessed by the oil and gas investor.
The Results: Evaluating Exploration Effectiveness Reserve Replacement Large oil and gas companies can be considered as powerful search engines for the discovery of new assets each year. A large oil company that produces 500 million barrels of oil each year to supply its refinery and marketing system should find at least 500 million barrels of new oil each year or its asset base will diminish and the value of its shares may fall. The ratio of new reserves found to those produced is called the reserve replacement ratio, and it is closely monitored as one indication of the efficiency of the exploration process for individual companies.
SEC Finding Costs Each publicly traded company in the United States is required to provide a yearly report to the Securities and Exchange Commission (SEC) that includes specific data on current-year cost of finding oil and gas. These company reports to the SEC are greatly relied on by analysts but can be very misleading. This is because the SEC finding cost reports mandate a comparison between the amount of oil and gas volumes ‘booked’ each year by each company compared to the amount of money that each company spent in the current year on exploration. The problem for the unwary analyst is that the volumes booked in the current year may have been found many years ago with past exploration expenditures; the exploration expenditures of the current year may have found volumes that will not be booked as producible reserves until several years in the future. The oft-quoted SEC exploration finding cost, dollars spent on exploration in the current year divided by volumes booked in the current year, is an unreliable and often meaningless number. Exploration efficiency is extremely important to know and very difficult to decipher from such published information.
Internal Measures of Finding Costs The internal finding costs of a company are determined by comparing each year’s exploration expenditures to the volumes thought to have been discovered during the same year. These internal exploration finding costs, properly created and regularly monitored, are a very useful monitor of exploration efficiency.
Financial Measures of Exploration Efficiency The perfect method for evaluating exploration efficiency might seem to be a simple comparison of the money spent each year on exploration versus the present value worth of the petroleum assets discovered each year. An indication of the problems with this method is suggested if we rephrase the financial measure more precisely and state, ‘a comparison of the money spent each year on exploration versus an estimate of the present value worth of petroleum assets discovered.’ Much of the apparent rigor of the financial measure disappears when it is realized that the financial measure depends on guesses as to oil and gas prices many years in the future, which are multiplied by guesses as to the amount and timing of the future production.
The ‘Gold’ Standard: Risk-Discounted Expectation versus Actual The best technique for monitoring exploration efficiency (the gold standard) is a cumulative comparison of the risk-discounted volume expectation of each wildcat versus the actual volume outcome. Exploration efficiency can be easily monitored by a cumulative plot of barrels predicted to be found (and barrels actually found) recorded against the wildcat well sequence. This
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Expected Versus Actual Exploration Volume 1400 Expected
Reserves MMBOE
1200 1000 800 600 400
Actual 200 0 1
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Figure 2 Volumes predicted to be discovered versus volumes actually discovered; unsuccessful exploration portfolio.
Expected Versus Actual Exploration Volume 250 Expected
Reserves MMOBE
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Actual 150
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Figure 3 Volumes predicted to be discovered versus volumes actually discovered; improved portfolio.
graph provides two cumulative curves: the volumes expected to have been found and the volumes actually found. Such a plot also illustrates the need for an adequate number of wildcat chances to obtain success. Over any significant period of time, the sum of the predicted volumes must match the actual outcomes. This gold standard is a rigorous test that compares what the exploration team promised it was going to find versus actual outcome over time (Figures 2 and 3).
Finding and Development Costs One of the most useful measures of the performance of an oil company over a long period is given by the company’s average costs to find and produce oil and gas fields on a per barrel basis. Companies with low finding and development costs have a considerable advantage in the marketplace. Prices received by the producer for its oil and gas may increase or decrease, but companies that are able to deliver oil and gas at low finding and development costs are always the strongest. Current finding and development costs represent the outcomes of decisions and actions made many months, perhaps many years, earlier. Low finding and development costs reflect well on the company and, to a lesser degree, on the current management.
Reserve Appreciation A final caution in evaluating exploration efficiency is more subtle to understand and more powerful in its effect: What volumes are actually being discovered by current exploration? Numerous ‘hindcasting’ studies of exploration have demonstrated that the oil
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volumes thought to have been found by exploration continue to increase with time and field production, until the ultimate production from oil fields is seen to dwarf the early, ultraconservative estimates made at the time the fields were discovered. How great is this underestimation of exploration discoveries as a fraction of ultimate oil recovery? On an overall basis, the early reserve estimations appear to more than triple after long-term production gives a revised picture of ultimate oil reserves. (Techniques for determining natural gas volumes are far more accurate and early exploration estimates appear to understate ultimate gas reserves by only 15–20%). Why is this understatement of new reserves so prevalent? Two explanations may suffice: one economic and one technical. At the time of first development of a newly discovered field, huge sums of money must be invested before there is any production or payback. A 100-million barrel oil field may require $200–800 million for drilling wells and providing facilities for production. Estimates of field size, made at this early time for the purpose of justifying development costs, must be very conservative because company management must guarantee sufficient reserves to cover the projected development expenses. Such early estimates should properly be considered as being 95% certain of at least the volumes, rather than expectation volumes. Second, once the wells are drilled, the field facilities are in place, and costs recovered, incremental volumes become available from secondary, higher cost hydrocarbon-bearing horizons, whose volumes often dwarf those of the originally productive horizons. The ultimate effect of this general understatement of discovery volumes is to underestimate the value of the assets discovered each year by exploration.
Size Distribution of Oil and Gas Fields In any sufficiently large area where oil and gas fields occur, the size of the individual oil and gas fields will be found to conform to a near log-normal size distribution. In lay terms, this means that there will be very few large fields, a substantial number of medium fields, and a great number of very small fields. This remarkably consistent outcome is a result of some subtle mathematics. Each oil field depends on the simultaneous occurrence of a number of parameters, such as the amount of hydrocarbon charge available, suitable reservoirs to contain the hydrocarbons, a trap configuration to hold the hydrocarbons, a seal to confine the hydrocarbons, and sufficient permeability to allow the hydrocarbons to flow to the surface at commercial rates. The log-normal field size distribution, ubiquitous in nature, is understandable as a result of multiplication of the probability distributions describing the critical parameters.
Summary Finding traces of oil and gas is not difficult; making money finding oil and gas is very difficult. Exploration is the business of efficiently finding oil and gas so that the new discoveries can be developed and produced. Successful exploration requires a fundamental knowledge of how oil and gas are generated and how they migrate and accumulate. A number of search techniques are available to explorers and the proper use of these technologies is the responsibility of the technical staff in the oil companies. In addition, oil and gas exploration must be conducted in a cost-efficient manner so that the exploration product, the field discoveries, will be highly profitable and will properly reward the oil company for its assumption of large financial risk.
Further Reading Attanasi ED and Root DH (1994) The enigma of oil and gas field growth. American Association of Petroleum Geology Bulletin 78: 321–333. Capen EC (1992) Dealing with exploration uncertainty: Business of petroleum geology. AAPG treatise of petroleum geology Tulsa, OK: American Association of Petroleum Geologists. Dong Z, Holditch SA, et al. (2012) Global unconventional gas resource assessment. SPE Economics & Management 4: 222–234. Downey MW (1984) Evaluating seals for petroleum accumulations. American Association of Petroleum Geology Bulletin 68(11): 1752–1763. Forrest MC (2000) “Bright” ideas still needed persistence. American Association of Petroleum Geologists Explorer 4–12. Magoon LB and Dow WG (1994) The petroleum system: From source to trap. Tulsa, OK: American Association of Petroleum Geologists AAPG Memoir 60.