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Page added on August 5, 2015
The Link Between Oil Reserves and Oil Prices
Last December the Energy Information Administration (EIA) released its latest estimate of U.S. Crude Oil and Natural Gas Proved Reserves. Although natural gas reserves rose, the real story was crude oil reserves. The EIA reported that U.S. proved reserves of crude oil and lease condensate had increased for the fifth year in a row, and had exceeded 36 billion barrels for the first time since 1975:
There are two reasons for this increase in proved reserves. The first is that despite >150 years of oil production in the U.S., new fields are still being discovered. In March 2015 the EIA released its update to the Top 100 U.S. Oil and Gas Fields as a supplement to the December report. This was the EIA’s first update on the Top 100 fields since 2009. The most significant addition to the list was the Eagleville field (in the Eagle Ford Shale), which was only discovered in 2009 but is now the top producing oil field in the U.S. In addition to the Eagleville, there were 4 other fields in the Top 100 that were only discovered in 2009. Several others in the Top 100 were discovered in 2007 and 2008.
But the largest additions to reserves weren’t via new discoveries at all. The largest reserves additions have been a result of rising oil prices, and this is a source of frequent misunderstanding on the topic on reserves.
An oil resource describes the total amount of oil in place, most of which typically can’t be technically or economically recovered. For example, it is estimated that the Bakken Shale centered under North Dakota may contain several hundred billion barrels of oil (the resource). However, what is technically and economically recoverable in the Bakken may be less than 10 billion barrels. The portion that is technically AND economically recoverable is the proved reserve. Because of the requirement that the oil be economically recoverable, proved reserves are a function of oil prices and available technology.
Thus, as oil prices rise, oil resources that may have been discovered decades ago can be shifted into the category of proved reserves. Venezuela provides a perfect case study of this phenomenon. Venezuela has an enormous heavy oil resource in the Orinoco region of the country. But this oil is very expensive to extract. In 2003, Venezuela’s proved oil reserves were only 77 billion barrels. At that time Saudi Arabia’s reserves were tops in the world at 263 billion barrels.
After the past decade saw oil prices rise to above $100/barrel, more of Venezuela’s heavy oil resource became economic to produce. Thus, by 2013 Venezuela’s proved reserves were estimated to be tops in the world — 289 billion barrels. Saudi Arabia has now slipped to second with 266 billion barrels.
But that economic argument cuts both ways. Oil and gas resources that became proved reserves as prices rose will be declassified as proved reserves should lower prices render them uneconomical to produce. This is often the reason that companies have to write down proved reserves. It’s not that a company believed there was oil or gas and found out later that there wasn’t (although that of course also happens), it’s generally because a period of depressed prices has rendered those proved reserves to be no longer economical. See the dip in gas reserves in 2012? That was caused by lower prices in 2012, which rebounded somewhat in 2013.
Proved reserves can be further subdivided into proved developed (PD) and proved undeveloped (PUD). PD means the resource can be produced with existing or minimal investment, while PUD may be booked as “proved reserves” if the development plan for those reserves provides for drilling within five years of being booked. If circumstances change and a company (or country) becomes unable to justify the five-year development then it may be required to reduce its reserves estimate.
Oil companies further confuse the issue by reporting to investors reserves numbers that are often many times higher than those that are reported to the US Securities and Exchange Commission (SEC). Some drillers have given potential reserves numbers to investors that are more than 20 times those that are filed with the SEC.
The disparity stems from the fact that, in making presentations to investors, companies aren’t bound by the SEC accounting rules and are protected by the Private Securities Litigation Reform Act of 1995, which provides a “safe harbor” for some forward-looking statements. As a result, what is presented to investors is usually more speculative (e.g., “potential reserves”) than what is reported to the SEC in the annual report on Form 10-K, which provides a comprehensive overview of a company’s business and financial condition with audited financial statements.
Thus, it is important when discussing reserves to distinguish between proved reserves, probable reserves, and the oil resource. With $100/bbl oil some resources will be economic to develop that are uneconomic at $60/bbl oil. So, sometimes reserves go on and back off the books as prices rise and fall, even in cases where the company still owns the rights to the resources and may develop them after prices rise.
Because of the crash in oil prices, it is likely that many companies will have to write down their proved reserves — especially those in the PUD category. Thus, for the first time in several years, many companies — and indeed countries, including the U.S. — are likely to see a big drop in their proved reserves at year-end when they file their annual reports. I will discuss this in more detail in an upcoming article.
R-Squared Energy Blog by Robert Rapier
9 Comments on "The Link Between Oil Reserves and Oil Prices"
shortonoil on Wed, 5th Aug 2015 8:41 pm
Since the EIA never mentions the two variables that control EUR; price and production cost; it is doubtful that their estimates are very reliable. Since they don’t have a clue as to what price is going to be (judging by their historic projections) it is unlikely that they have a clue about reserves.
BC on Wed, 5th Aug 2015 10:35 pm
Reserves are a political metric, like GDP and now the equity market indices: they must be perpetually “managed” to report what the Establishment requires to reinforce “the consensus”, i.e., the necessary beliefs, expectations, and actions required to keep BAU going as long as possible.
shortonoil on Thu, 6th Aug 2015 9:14 am
“Reserves are a political metric, like GDP and now the equity market indices:”
It is beginning to sound more, and more like the old Soviet era economic reports. “Steel production up 145%, food production up 230%, incomes better than last year”. Everything was wonderful, right up to the day it collapsed, and Russians went on a turnip diet .
rockman on Thu, 6th Aug 2015 9:23 am
“Reserves are a political metric”. For some operators…especially the NOC’s. But not for US pubcos. Their reserve calculations are dictated by very specific and strict SEC regulations. Those reserve numbers will decline by US govt mandate.
Nony on Thu, 6th Aug 2015 4:57 pm
EIA makes some statements, not caveated by price, Shorton, but their big projections have a listed price assumption for the scenarios.
Natural gas is interesting because price has dropped while reserves have climbed. The Marcellus is that impressive. LTO is trickier than shale gas and needs more price help. At least so far it does.
I think it would be interesting to see the companies report a “curve” of reserves. IOW, this is the SEC mandated reserves (I think it goes off the average price of the year before). But then also the reserves at much lower and higher prices. I would really be interested in the reserves at futures strip pricing.
Even for the drop we will see in 2015, that is going off of 2014 average which had a much lower close than start, so the average is still higher than recent pricing. 2016 is when they will really get pounded. The opposite happened in 2010 with reserves as price had climbed in 2009.
The 5 year rule and PUD is interesting. Obviously there is some PUD that doesn’t get developed. And some PD that doesn’t get drilled either. But there are long term projects or resources that do get developed that aren’t even in PUD. Traditionally, US reserves accounting has undercounted real reserves. It’s not clear to me if that is still the case overall, but I suspect it is.
shortonoil on Thu, 6th Aug 2015 8:15 pm
“EIA makes some statements, not caveated by price, Shorton, but their big projections have a listed price assumption for the scenarios.”
Over the last thirty years the EIA hasn’t been accurate enough to throw a baseball through a window in a green house. In the 1980’s they were projecting that prices would rise all the way to $25 by now!
If you like really nice time series graphs of prices look at Futilitist post toward the bottom of this page:
http://peakoil.com/forums/the-etp-model-q-a-t70563-180.html
Nony on Thu, 6th Aug 2015 10:05 pm
I didn’t say they were accurate. I said they included price assumptions. Your point was that they didn’t).
For the yearly projections, they have lately included high, low and average price scenarios.
shortonoil on Fri, 7th Aug 2015 7:49 am
“I didn’t say they were accurate. I said they included price assumptions. Your point was that they didn’t).”
“Since the EIA never mentions the two variables that control EUR; price and production cost; it is doubtful that their estimates are very reliable.”
Are you losing it? Since EUR can only be determined by price and production cost (if a thermodynamic method isn’t used) and the EIA uses neither in their estimates, their estimates of EUR reduce to a guess. That is, the EIA has no idea what the world’s EUR is at any point in time.
It was assumed that the reader would understand that the statement above should read, “Since the EIA never mentions the two variables that control EUR in their estimates of EUR; price and production cost; it is doubtful that their estimates are very reliable.”
Didn’t put in in their estimates of EUR because it sounds redundant, and should be unnecessary for a reader with a comprehension level above 6th grade.
Nony on Fri, 7th Aug 2015 8:35 am
What planet are you on? Read the (linked from the head post) EIA discussion of their national reserves estimate. It shows explicitly that price affects reserves estimates.
http://www.eia.gov/naturalgas/crudeoilreserves/
“Proved reserves are estimated volumes of hydrocarbon resources that analysis of geologic and engineering data demonstrates with reasonable certainty1 are recoverable under existing economic and operating conditions. Reserves estimates change from year to year as new discoveries are made, existing fields are more thoroughly appraised, existing reserves are produced, and prices and technologies change.”
“•An increase in natural gas prices used to characterize existing economic conditions contributed to the reported 2013 increase in proved natural gas reserves. For example, the 12-month, first-of-the-month average spot natural gas price at the Henry Hub increased from $2.75 per million Btu (MMbtu) in 2012 to $3.66 per MMBtu in 2013. Proved natural gas reserves had declined between 2011 and 2012 as the gas price declined (e.g., the 12-month, first-of-the-month average spot natural gas price at the Henry Hub decreased from $4.15 per MMBtu in 2011 to $2.75 per MMBtu in 2012).”
“Higher prices typically increase estimates (positive revisions) as operators consider a broader portion of the resource base economically producible, or proved. Lower prices, on the other hand, generally reduce estimates (negative revisions) as the economically producible base diminishes.”
“Because actual prices received by operators depend on their contractual arrangements, location, hydrocarbon quality, and other factors, spot market prices are not necessarily the prices used by operators in their reserve estimates for EIA. They do, however, provide a benchmark or trend indicator. The 12-month, first-day-of-the-month, average West Texas Intermediate (WTI) crude oil spot price for 2013 was $97.28 per barrel, a 2% increase over 2012 (Figure 6).”
“The 12-month, first-day-of-the-month average natural gas spot price at the Louisiana Henry Hub for 2013 was $3.66 per MMBtu, representing a 33% increase over the previous year (Figure 7). Despite the increase, the 2013 average price remains below the average prices observed in the previous years, 2008-11. Natural gas reserves with a low yield of natural gas liquids (prices for which are linked more closely to crude oil), those located in more remote locations lacking necessary infrastructure, or within deeper reservoirs, were at an economic disadvantage in 2013 when compared with those with higher liquids content or lower cost (e.g., shallower) wells.”
“Price Outlook for 2014.The first-day-of-the-month, average spot price of WTI crude oil from January to October 2014 averaged $98.69 per barrel, an increase of 1 percent over the 2013 12-month average. However, in November 2014, the WTI crude oil spot price declined below $80 per barrel and EIA forecasts an average December 2014 WTI crude oil spot price of $78 per barrel. This lowers the estimated 12-month, first-day-of-the month average spot price for WTI in 2014 to $95.31 (a 2% decline compared to 2013). EIA anticipates a commensurately modest decrease from net revisions to crude oil proved reserves in 2014. The average natural gas spot price through November 2014, on the other hand, has increased 25% to $4.58 per MMBtu at the Henry Hub in Louisiana. EIA forecasts an average December 2014 Henry Hub spot price of $4.10 per MMBtu, and this modifies the 2014 estimate slightly to $4.54 per MMBtu. This is a 24% increase in annual average spot price and exceeds the average price in the previous five years. EIA therefore anticipates a more robust increase from net revisions to natural gas proved reserves in 2014.”
“Revisions to reserves occur primarily when operators change their estimates of what they will be able to economically produce from the properties they operate using existing technology and prices.”
[Blablabla…I got sick of cutting and pasting all the proof that you ARE WRONG.]