A boom for floating production, storage and offloading units (FPSOs) is gaining momentum, with Germany’s RHB Research Institute warning of capacity shortages and rising charter rates.
RHB sees a strong rebound in the current year, a process that started in Q4 2009, which saw the award of seven contracts, followed by another four in January-February this year.
Further floater orders have since been placed.
“Going forward, we believe the market for FPSOs is on track for a strong rebound, driven mainly by stronger exploration and production (E&P) spending beginning 2H 2010, and an increase in deepwater E&P activities,” says RHB.
High case, the institute sees a shortage of about 25-30 vessels this year and a similar number in 2011, “in the event of stronger-than-expected demand stemming from increased E&P activity in deepwater and ultra-deepwater fields – Brazil, Africa, Malaysia, Vietnam and Gulf of Mexico”.
“Hence, we expect FPSO charter rates to rise significantly over the next two years, driven by strong demand amidst a shortage of supply in the market,” says RHB, adding that the forecast is subject to variables such as the oil price, project slippage, vessel delays and whether or not there is speculative build of new units.
“While sizeable contract awards still appeared to be minimal in Q1 2010, we believe contract flows will pick up more substantially in H2 given the gradual pick-up in energy demand, as well as increased reserve replenishment activities by national oil companies and major E&P players.
“In the longer term, we reiterate our view that the continued shortage of offshore E&P assets (exacerbated by delays in E&P spending) will underpin growth for the support services companies. Hence, we reiterate our overweight stance on the sector.”
On the operating front, RHB indicates a preference among operators for hiring tonnage rather than owning it.
“We believe the decision to lease (versus own) hinges on the nature of the field itself as it makes more economical sense to lease for smaller fields (versus large fields with longer life span).
“We understand that oil majors are moving towards the lease option to avoid putting the asset on to their own balance sheets and also to pass on the risks associated with construction – in particular, delay – to an FPSO owner.
“Nevertheless, for owners of FPSOs, we highlight potential future capital gains arising from the disposal of vessels during the market up-cycle.”
RHB notes that the FPSO market is dominated by vessel operators that charter out vessels to oil majors on a long-term basis – usually more than five years.
“As in the case of offshore support vessels, FPSO operators either acquire or lease the vessel from third-party vessel financiers upon securing a long-term charter contract from oil majors.
“Some of the large and established FPSO players include SBM Offshore (Netherlands), BW Offshore (Norway), Modec (Japan) and Fred Olsen Production ASA (Norway).”
For vessel owners, the primary frustration is the timing of new field projects. When will operators push the button on developments?
“While delays in final investment decisions on major projects have persisted in H1 2010, we believe E&P spending would pick up momentum in H2 2010, given the gradual increase in crude oil price as well as stabilisation of project costs,” says the report.
According to industry sources, 2010 global E&P spending is likely to increase 10-15% year on year compared with a reduction of 15% in 2009.
Predictably, RHB suggests that deepwater projects in provinces such as Brazil and West Africa will drive FPSO demand, rather than new projects in mature areas such as the North Sea and US Gulf of Mexico (which is also saddled by the legacy of the Deepwater Horizon disaster, which took place just before the German research was published).
Analysts at Douglas-Westwood say global deepwater spending will rise by 8% annually over four years, to around $36billion by 2014, as E&P players step up their spending, particularly in South America, sub-Saharan Africa and the Gulf of Mexico.
Infield Systems says that floating production capex is to exceed $85billion over the period 2009 through 2013. This compares with $32billion over the previous five years, with deep and ultra-deepwater projects as the primary focus.
RHB points out that global leader Petrobras, which prefers to own the floaters that work for it, has resorted to tendering for hired tonnage on short-term contracts as the company has such an ambitious deep/ultra-deep development programme.
“We note that the increase in deepwater E&P activities, coupled with the exponential technological developments in subsea production, have encouraged the widespread proliferation of FPSOs as the development and production scheme of choice for fields without the immediate access to production infrastructure,” says RHB.
Putting a bit more detail into supply and demand, the institute expects FPSO charter rates to rise significantly.
“In addition to eight to 10 vessels available for redeployment, we estimate around 12 and six new vessels to be added to the global fleet in 2010-11, respectively.
“We note that the global fleet size – that is, from redeployment plus new deliveries – would be sufficient to meet the ‘base-case’ forecast scenario of around 15-20 new contracts per annum in 2010-11. That is the average FPSO demand over the 10 years since 1999.
“However, we highlight the potential shortages for the ‘high-case’ forecast of around 25-30 vessels per annum in 2010-11, in the event of the stronger-than-expected demand stemming from increased E&P activity in deepwater and ultra-deepwater fields (Brazil, Africa, Malaysia, Vietnam and Gulf of Mexico).
“Hence, we expect vessel charter rates to rise significantly over the next two years, driven by strong demand amidst a shortage of supply in the market.”
As an aside, RHB says there are currently 149 FPSOs in the market with an average age of 8.3 years, as at year end 2009, suggesting low replacement demand for such floaters.
In line with the broad industry trend, the institute sees a contraction in the number of FPSO players. This, in turn, could lead to a reduction in competition.
Citing liquidation of the Norwegian company, FPSOcean, following an announcement by the company in February 2008, RHB points out that the firm had failed to secure a contract for its custom-built FPSO, Deep Producer 1.
“Hence, given the tightness in supply stemming from the industry consolidation, we believe larger FPSO players like SBM Offshore and BW Offshore will likely be the key beneficiaries to the recovery in the FPSO market.”
Even though oil prices have recovered robustly since the wild price gyrations of mid-2008 through 2009, and appear fairly stable, the institute has examined the possible impact of a further downturn in oil prices on the floating production market.
“With investment hurdle rates for deepwater or ultra-deepwater of around $40-55, versus shallow water of $25-35, we believe any drop in crude oil prices could potentially lead to project cancellation or deferment.
“However, the potential backwardation – that is, spot price to rise above longer-dated futures – suggests that oil demand would likely catch up with supply going forward, thus capping downside risk to crude oil price over the medium term.
“With crude oil price hovering around $70-85/barrel for the past 26 weeks since October 18, 2009, we believe the gradual uptrend in 2010 would be driven by expectations of an economic recovery and higher oil consumption in the future despite weak demand and current high inventories.”
Prices have since remained at much the same level.
Of course, healthy oil prices tend to encourage companies to take greater risk than they might otherwise commit to. This includes speculative new-builds of FPSOs.
“We understand that the number of speculative builds tends to rise with the increase in crude oil prices. We recall that speculative builds during the peak oil cycle in early-2008 adversely impacted the charter rates for FPSOs as demand collapsed amid the sharp global economic downturn in early-2009.
“Nevertheless, we note that a new FPSO requires around one-and-a-half years to three years to build – depending on specifications and availability of engines and equipment – and therefore the shortage is unlikely to be alleviated in the short term.
“Longer term, we highlight that demand for FPSOs will remain strong, given growing deepwater E&P activities amidst the gradual increase in crude oil price.”
Like platforms, FPSOs tend to have long gestation periods and are mostly tied to specific oil and gas fields. However, the initial production contract value of FPSOs tends to be negotiated at the initiation of a project, usually at least 18 months ahead of target deliveries.
Hence, FPSO owners and operators are exposed to cost escalations, deviations in functional specifications and other project risks stemming from fluctuation in crude oil price.
According to the institute, one result is that floater owners have revisited the concept of tagging day rates to a band of oil prices in order to mitigate the risk of cost escalation.
Norwegian contracting group Aker Solutions agrees that long-term prospects for the world’s floating production market are good.
The company says there are between 95 and 160 FPSO orders expected in the next five years, citing research by consultant International Maritime Associates (IMA).
That expected demand of 95-150 FPSOs, however, is broadly contingent on oil prices remaining in a range between $50 and $100/bbl per barrel, says Aker Solutions.
Among the many projects on IMA’s latest listing are the following UK developments: Alder, newly discovered Catcher, Freya/Fulla and Greater Stella.
The IMA expects demand for the medium-sized FPSO over the next five years to be between 35 and 40 units, while demand for new and smaller FPSOs will be between 19 and 55 units. This category will be more sensitive to oil-price fluctuations, says IMA.
Aker Solutions has told shareholders that its floating production unit enterprise will continue to target the market for mid-tier FPSOs using effective project execution and operational excellence as part of its business model.
The company is aiming to secure a second contract commitment for an FPSO by the first half of 2011, after winning its first for the Dhirubhai 1 FPSO.
And, as it develops, Aker Solutions unit Aker Floating Production says it will continue to seek organic growth – “until the true value of the company is appreciated by the market” – and then later, it plans to merge to establish a larger vehicle for further growth.
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