DATE: September 16, 2012 TO: Patricia Bennett, Supervising Principal FROM: Connor Sims, Associate SUBJECT: Oil Drilling & Gas Extraction Industry in the US Analysis (21111) This report presents information regarding the industry, the primary operator of oil and gas field properties. The industry fuels its key buyers, the Natural Gas Distribution (22121) and the Petroleum Refining (32411) industries, with crude oil and natural gas. The industry continuously battles a shortage of available oil. In addition, many major oil fields have been in use for decades, slowly waning.
Currently, the industry grosses among the most profitable in the US despite these and similar obstacles. The benefits of investing here potentially outweigh concerning risks. Because of the esteemed value of the industry’s products, consistent demand for its products, and its positive near-future outlook, diversification into this industry may produce rewarding profitability in the short-term. High Product Value Crude Oil Prices The key economic driver for the Oil Drilling & Gas Extraction Industry, crude oil prices, determines much of its profitability according to supply and demand.
Price trends in West Texas Intermediate, a grade of crude oil used as a benchmark in oil pricing, display the growth of its value in the past 3 years and past decade. An average barrel of crude oil grew from $26. 18 in 2002 to $61. 95 in 2009, $79. 48 in 2010, and $94. 87 in 2011 (Airlines, 2012). JP Morgan analysts project average annual prices above $99 in upcoming years (Sethuraman, 2012). Such upward growth points to lucrative profits. Natural Gas Outlook Natural gas production accounts for 41. 6% of industry revenue in 2012. Prices n natural gas reached a 10-year low in April this year, but have erupted by more than 70% since (Hargreaves, 2012). Natural gas has seen an abundantly large output due to recent discoveries of natural gas in the Appalachian Basin; this large supply has kept prices relatively low recently, leaving opportunity for even higher profitability in future years. Consistent Demand Fueling US Industries The Oil Drilling & Gas Extraction Industry is the sole supply industry for its two demand industries, Petroleum Refining and Natural Gas Distribution (Hersch).
The US internally consumes 19,150,000 barrels of oil per day, doubling the world’s second largest consumer, China (Index, 2012). IBIS World describes the industry’s demand industries as “mature,” assuring the stable demand for our industry’s products (Hersch). Rising Exports, Foreign Buyers Current international relations appear conducive to this industry’s profitability. In 2011, for the first time since 1949, the US exported more refined oil than it imported (Winters, 2012); this evidences the success between the supply industry and its demand industries detailed above.
Additionally, oil exports to China will surge as it industrializes quickly. China’s exponentially growing demand leads to worldwide price increases (Hersch). Any increases, particularly increase this substantial, raise the WTI average price per barrel, increasing profitability. Positive Current Standing Favorable Market Concentration The four largest firms in the industry comprise of approximately 30. 0% of total revenue (Hersch, 2012). Market share concentration is low, allowing firms of any size to portion the industry’s $345. 9 billion revenue this year.
The competitive aspect of entering this industry would not be a difficult obstacle to overcome. Profit Margin The Oil Drilling and Gas Extraction Industry reels in a significantly larger margin in comparison to related industries. 46% of all industry revenue goes to profit, higher than the average for the entire mining sector, 39. 2% (Hersch, 2012). In 2008, the industry returned the 7th highest profit margin among US industries (Hargreaves). Profit margins have increased in the past 5 years as result of rising crude oil prices. Risks and Concerns Barriers of Entry
Most major oil and gas producers integrate services beyond drilling and extracting; many dualize as refining or distribution firms, circumventing demand industries en route to more direct profitability. New firms lacking this versatility may find an obstacle upon entry to the industry (Hersch, 2012). Additionally, firms in this industry must specialize in exploration and discovery for oil and gas resources. Firms may struggle finding initial success in this role due to the limited nature of resources. Long-term Resource Depletion ‘Peak oil’ refers to the prime of any field’s production, after which goes into terminal decline.
Most major US oil fields are beyond peak oil. The largest US oil field, Prudhoe Bay, has been depleting since 1979 (Prudhoe, 2012). The US Energy Information Administration indicates much production, particularly in the Alaskan North Slope, depends on world oil prices (Energy, 2012). Geophysicists and politicians debate over specifications regarding overall US peak oil, arguing the year in which US peak oil occurred. International Comparison In addition to the US peak oil situation, the US Oil Drilling and Gas Extraction Industry faces heavy foreign market competition.
In 2011, the US ranked 3rd in oil production, behind Saudi Arabia and Russia (Energy, 2012). Saudi Arabia’s OPEC governor expects Saudi output to rise steadily beyond 2030 with a 1. 5 million barrel per day spare production capacity then (Energy, 2012). Russia holds the world’s largest natural gas reserves, and its fuel exports have steadily increased since each year since 1999 (Energy, 2012). Conclusion Despite entry risks and threats of limited resources, evidence supports the likelihood of success for us to diversify into the industry under certain stipulations.
A new firm will implicitly face the challenge of exploring for land not already claimed by another firm. Additionally, alternative methods of energy will irrefutably have to replace oil drilling and gas extraction within an uncertain future; the remaining supply simply cannot match the demand forever. Two central obstacles hesitate immediate diversification: a barrier of entry and a negative long-term outlook. However, we must decide whether the benefits outweigh the concerns. World prices of oil and gas and China’s growing demand directly affect profitability.
Because evidence above shows substantial progress in both of these drivers with a very positive short-term outlook, diversification must be considered. If presence in the industry can be established quickly and will remain only until profitability falls, I recommend diversification.
Airlines For America (2012). Annual Crude Oil and Jet Fuel Prices. http://www. airlines. org/Pages/Annual-Crude-Oil-and- Jet-Fuel-Prices. aspx.. Retrieved September 16, 2012. Energy Information Administration (2012).
Project Alaska North Slope oil production at risk beyond 2025 if oil prices drop sharply. Today In Energy. http://www. ia. gov/todayinenergy/detail. cfm? id=7970
Retrieved September 16, 2012. Prudhoe Bay Fact Sheet (2012). British Petroleum. www. bp. com/assets/bp… us… /A03_prudhoe_bay_fact_sheet. pdf
Retrieved September 16, 2012. Hargreaves, Steve (2012). Natural gas prices surge 70%. CNN Money. http://money. cnn. com/2012/07/24/investing/natural-gas- – prices/index. htm.
Retrieved September 16, 2012. Hersch, Laura. (2012). IBIS World Industry Report 21111. Oil Drilling & Extraction In the US.
Retrieved September 16, 2012 from IBIS World Database. How the US Uses Oil (2012). Alternative Energy.
Retrieved September 16, 2012. ttp://alternativeenergy. procon. org/view. resource. php? resourceID=001797 Index Mundi (2012). http://www. indexmundi. com/g/r. aspx? c=us&v=91.
Retrieved September 16, 2012. Sethuraman, Nathan (2012). Poll: Increasing numbers see oil below $100 in 2013, 2014. Reuters. http://www. reuters. com/article/2012/06/27/us-oil-poll- idUSBRE85Q14720120627.
Retrieved September 16, 2012. Winter, Michael (2012). U. S. Exported more gasoline than imported last year. USA Today. http://content. usatoday. com/communities/ondeadline/post/2012/0 2/us-exported-more-gasoline-than-imported-last-year/1#. UFav7BhGhgI