THE WALL STREET JOURNAL: Oil Companies Try To Squeeze the Last Drop: “Shell's total capital budget for exploration and production this year is about $10 billion.” (ShellNews.net)

Spending on Quick-Hit Projects

In Texas Could Be a First Step;

Going for 'Every Barrel We Can'

By JEFFREY BALL

Staff Reporter of THE WALL STREET JOURNAL

October 15, 2004; Page C1

DENVER CITY, Texas -- The black-gold rush is back on in West Texas.

With oil prices surging, crude producers in the Permian Basin, the U.S.'s oil heartland, are scrambling to squeeze more oil out of their wells.

The Permian has been drilled since the 1920s, and output has been declining for three decades. Now, the biggest local producer, Occidental Petroleum Corp., is increasing by about 50% the amount it will spend this year on quick-hit projects designed to boost production from this massive oil patch, which extends into southeast New Mexico.

"We're focused on trying to produce every barrel we can," says Thomas Menges, president of Permian operations at Occidental, of Los Angeles. One example: Occidental is doing more "frac" jobs -- shooting pressurized sand down a well to fracture the surrounding rock, allowing the oil to flow more freely into the well.

With the recent surge in oil prices continuing unabated -- they rose again yesterday, closing at $54.76 a barrel on the New York Mercantile Exchange -- producers here are betting that money spent now will produce high-priced oil soon. "We look for a pretty quick payout -- six months to a year," Mr. Menges says.

The increased activity may be an early sign, some observers say, of an emerging uptick in petroleum-industry spending on finding and developing oil, both in the U.S. and abroad. But so far, the industry is concentrating on grabbing more of the low-hanging fruit: low-risk efforts to boost production from areas where the industry knows there is plenty of oil.

What remains to be seen is whether the industry will take the next step, significantly ratcheting up its spending on finding large, new stashes of oil. But even the marginal increase in activity that is under way marks a shift after several years in which spending on new oil supplies has failed to keep pace with increases in the amount of cash oil companies were raking in. The industry has largely concentrated on pleasing Wall Street, both by hoarding its profits to increase its return on capital and by ratcheting up its dividend payouts and share buybacks.

To be sure, the increases in short-term spending remain small, compared with the recent surges in cash flow. At Occidental, the $10 million increase this year in spending on short-term production from Permian wells amounts to less than 2% of the company's total annual spending in the basin.

Drilling the Permian: Oil producer Art Custer and consultant John Bell, in hardhat, at a new well near Odessa, Texas.

The scramble to juice production in places such as the Permian also isn't significant enough to increase the world's oil supply sharply and reduce prices, at least not anytime soon. The really big global oil projects typically require lead times of several years -- and, increasingly, negotiations with governments in politically dicey places such as Russia and Angola. Much like the supertankers that transport its product, the oil industry can't switch course on a dime.

Still, there are signs the industry is making a course correction. James Crandall, an analyst at Lehman Brothers in New York, estimates the companies he tracks will post an about 11% increase in spending on oil and gas exploration and production in 2004, to about $161 billion, which would be nearly triple the 4% increase Lehman predicted in December 2003. Within the U.S., Mr. Crandall estimates that such spending this year will rise more than 10%; Lehman had predicted flat U.S. spending in December.

Last month, at the same time that Royal Dutch/Shell Group raised its internal projection for the price of oil, the company said it will spend about $900 million this year on new projects to boost its oil and gas production in the short term. Of that sum, about $700 million will come from its capital budget and about $200 million from its operating budget. Shell's total capital budget for exploration and production this year is about $10 billion.

In the past, Shell shut down certain wells in heavily producing areas to reduce operating costs. The theory: With fewer straws sucking liquid out of the same geological cup, each straw that remained would get a bigger stream. But today, with oil commanding top dollar, "maybe running both of them at 1,000 barrels a day makes more sense than running one at 1,500," says Simon Henry, Shell 's chief financial officer for exploration and production.

About half of Shell 's increase in short-term spending will go to the North Sea and the U.S. The rest will be spent in other high-producing areas such as Nigeria, Malaysia, Brunei and Oman.

Thomas Menges, president of Occidental Petroleum's Permian unit, beside a "frac" job at a well in Denver City, Texas.

Frederick Leuffer, an oil analyst at Bear Stearns Cos. in New York, sees Shell 's announcement as a harbinger of a broader trend. He expects more such announcements in the next few months, as other big oil companies finish budgeting for the coming year.

Big oil companies can't continue pouring profits into dividend increases forever, Mr. Leuffer says. "The cash flow is so plentiful that just about everyone's balance sheet has been strengthened," he says. "What will you do with the dough? Everyone will do more exploration."

U.S. oil drilling also could get a further boost from a tax break on domestic oil-and-gas production that was approved by Congress this week. Oil-industry officials say the break would make production in the U.S. more cost-competitive with production abroad.

Meanwhile, there are other signs the industry is positioning itself to boost output. The daily rates that oil companies pay for deepwater offshore-drilling services have shot up in recent months. Last week, BHP Billiton Ltd., the Australian mining and oil company, said it would pay about $215,000 a day for the services of a deepwater drilling rig in the Gulf of Mexico operated by GlobalSantaFe Corp., Houston. A few months ago, such rigs were renting for about $180,000 a day.

Back in Texas, drilling in the Permian Basin continues to heat up. Although he was wary of investing too much as oil prices crept up this spring, Art Custer, a partner in a small oil-production firm in Midland, in the heart of the Permian, finally heeded calls from his investors to drill another well this summer. Mr. Custer's company operates about 40 wells, about half of which are "strippers," meaning they produce fewer than 10 barrels a day. "I held out long enough, till the price got up," he says.

Write to Jeffrey Ball at jeffrey.ball@wsj.com