This Upstream Oil and Gas module includes the following sections:
Introduction to Upstream
Most oil and gas companies’ business structures are segmented and organized according to business segment, assets, or function.
The upstream oil and gas segment is also known as the exploration and production (E&P) sector because it encompasses activities related to searching for, recovering and producing crude oil and natural gas.
The upstream segment is all about wells: where to locate them; how deep and how far to drill them; and how to design, construct, operate and manage them to deliver the greatest possible return on investment with the lightest, safest and smallest operational footprint.
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The exploration sector involves obtaining a lease and permission to drill from the owners of onshore or offshore acreage thought to contain oil or gas, and conducting necessary geological and geophysical (G&G) surveys required to explore for (and hopefully find) economic accumulations of oil or gas.
There is always uncertainty in the geological and geophysical survey results. The only way to be sure that a prospect is favorable is to drill an exploratory well. Drilling is physically creating the “borehole” in the ground that will eventually become an oil or gas well. This work is done by rig contractors and service companies in the Oilfield Services business sector.
- Efficiently recovering the oil and gas in a producing filed using,
- Primary and secondary recovery methods,
- Tertiary, or enhanced oil recovery (EOR), also referred to as improved oil recovery (IOR), and
- Plug and abandonment, which marks the end of the productive life of a well. That event can occur anywhere from a few years after the well is drilled to five or six decades later.
Upstream Business Characteristics
The upstream industry is arguably the most complex of all the oil and gas business sectors. As illustrated in the diagram, it is highly capital-intensive, highly risky, and highly regulated. Upstream investments are high-risk, given that results of every well drilled are unpredictable. Additional risk arises from safety and environmental issues.
Outside the US, the upstream industry is also impacted by the prevailing host country political environment and regulations, including:
- Political instability (war, civil unrest, or other international conflicts)
- Laws and regulations (environmental, social programs)
- Price controls and tax regimes
- Expropriation or forced divestiture of property
- Respect for contracts.
Upstream is also subject to global forces of supply and demand, economic growth and recessions, and crude production quotas.
Additionally, seasonal weather patterns and disruption due to severe weather events when working in exposed locations can affect production.
Technology drives all aspects of the upstream industry, adding to its capital-intensive nature.
Large global independents are often publicly traded on their home country stock exchange and include such companies as EnCana, Woodside and others in the list. The largest US publicly traded independent E&P companies include Anadarko, Apache and Devon.
Independents are known for their ability to make decisions and move quicker than other industry participants described below. They are also considered early adopters of the more innovative drilling and production technologies.
Majors – IOCs
These companies have the prominent and advertised brands that you are familiar with.
National Oil Companies (NOCs) are those industry participants that are owned and managed by governments around the world. Most of the remaining oil & gas reserves in the world are owned by NOCs – making it a challenge for Majors and Independents to sustain their operations and grow.
The Oilfield Services sector of the Upstream segment consists of companies that build the infrastructure and provide the specialized equipment, services and skills needed for exploring, drilling, testing, producing, maintaining and reclaiming crude oil and natural gas wells.
Oilfield Services is a multi-billion dollar global industry. Numerous companies in this sector are among the world’s largest. Others are smaller, regional, or independent businesses that have also developed cutting-edge technologies.
As mentioned in the History of Oil module, Mitchell Energy, founded by George Mitchell, was an aggressive E&P company that pioneered new techniques in horizontal drilling and hydraulic fracturing.
The perfection of these new drilling methods in the 1990s enabled the boom in US shale oil and gas production boom currently underway. Mitchell Energy was eventually acquired by Devon Energy, another large independent.
Oilfield services and supply companies do not typically produce oil and gas or own the assets that contain them.
However, the oil and gas companies could not develop or operate fields profitably without the Oilfield Service companies’ contributions.
At a typical drilling well site, there could be 25-30 different oilfield service companies handling the mechanical, technical and analytic operations needed to successfully complete a well.
Oilfield Service Business Characteristics
As the chart indicates, several factors characterize the Oilfield Services sector.
It is intensely competitive with numerous global participants, and the negotiating power is squarely in the hands of the oil and gas companies who control the budgets for well services and field equipment.
Other characteristics of this segment include:
- It is highly cyclical and affected by outside forces such as commodity price fluctuations and shifts in political sentiment.
- It is technology-, capital-, and labor-intensive.
- Companies find it increasingly difficult to attract skilled workers – as represented by the wage inflation experienced new shale producing areas of West Texas and North Dakota.
- The work is difficult and often dangerous, with stringent safety regulations
The US Philadelphia Stock Exchange Oil Service Sector index (symbol: OSX) tracks public companies in this sector.
The Oilfield Services industry provides the following support to Majors, Independents, and National Oil Companies (NOC’s):
Exploration services involve use of seismic methods to evaluate where and how to prove a drilling prospect, high-speed computers and advanced, 3D, visual interpretation theaters.
Drilling services include well design, drilling rig operation and process, and related technologies. Other services include formation evaluation, logging, and measurement while drilling (MWD).
Well completion involves bringing the production on line with advanced downhole equipment applications, downhole monitoring and automated well control equipment.
Production services involve application of various physical and chemical processes to increase the amount of oil or gas that can be extracted from a field, and removing contaminates to get ready for sale.
Offshore construction contractors provide design and construction of platforms, drilling rigs and sub-surface well completion equipment.
Now that you have an understanding of the major players in oil & gas and what they do, let us explain the business, technical and commercial drivers to successfully bring these commodities to customers.
Oil Reserves – Formation and Importance
The vast amounts of crude oil and natural gas trapped underground are referred to as reserves.
Proven reserves are the estimated quantities which geological and engineering data demonstrate can be recovered in future years from known reservoirs, assuming existing economic, technical and operating conditions.
Proven reserves have a more than 90 percent probability of recovery, while probable reserves have greater than 50 percent probability of recovery.
Reserve definitions can differ depending on whether an engineering estimate is used, as set by two industry bodies:
- The Society of Petroleum Engineers (SPE)
- The American Association of Petroleum Geologists (AAPG).
Engineering estimates are the summation of production forecasts based on a series of quantitative tools that use well data and production histories to estimate remaining oil or gas in place.
Other definitions related to public company reporting of reserves are set by the Securities and Exchange Commission (SEC). Rules in place since 2010 allow proven and probable reserves to be stated in annual reports.
Prior to this update, only proven reserves could be reported. This move brought the US rules in line with international standards.
Oil and gas are also termed hydrocarbons because they are chemically made up of Carbon and Hydrogen atoms.
Oil and gas are not found in easy-to-access underground pools or puddles but, instead, are trapped in various rock formations and geological structures in quantities that can range from minute to massive.
Natural gas is sometimes mixed with oil but often found in separate reservoirs.
Shown on the Underground Reservoir Characteristics diagram above are four key types of geological formations needed to have oil and gas reserves in place:
- Source rock – where the oil or gas was formed
- Reservoir – where oil or gas reside, having migrated through microscopic structures in the surrounding rock
- A Seal – which is impermeable and stops the migration of the oil and gas
- A Trap – which is the combination of the reservoirs and seals
Oil and gas companies and their oilfield services providers construct wells to find the reservoirs and traps to produce the hydrocarbons to the surface. Once produced they can then be processed, transported, and refined into gasoline, fuel oil and raw materials for thousands of other products.
Light vs. Heavy
There are hundreds of different grades of crude oil that come out of the ground. Most commonly, the crude will be described as light or heavy and sweet or sour.
Examples include Light Louisiana Sweet (LLS), West Texas Intermediate (WTI), and Petrozuata Heavy.
Light crude oils produce a higher percentage of gasoline and diesel in the refining process. Additionally, since sulfur and other impurities must be removed from the crude oil prior to refining, sour crudes have a higher cost of processing.
Therefore, Light and Sweet crude oils sell at a premium in global markets to Heavy and Sour grades.
Next Module – What is Midstream?
As its name implies, the midstream segment encompasses facilities and processes that sit between the upstream and downstream segments. Activities can include processing, storage and transportation of crude oil and natural gas.
In most cases, oil and gas reserves are not located in the same geographic location as refining assets and major consumption regions.
Transportation is a big part of midstream activities and can include using pipelines, trucking fleets, tanker ships, and rail cars.
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