WA Annual Resources Overview - Oil and Gas presentation by Hitoshi Okawa

It's a pleasure for INPEX to be invited to address the Cedars Direct Annual Resource Overview. I'm pleased to be here today. I've been based in Perth for 14 of the 17 years, and during that time I really enjoyed meeting and working with the Noongar people. I take this opportunity to acknowledge them as the traditional owners of the land and waters of the Swan Coastal Plain and pay my respect to their elders past and present. So, if you indulge me, I'd like to take a moment to say a few words about INPEX and its participation in the Ichthys project across 25 countries. INPEX is Japan's largest oil and gas exploration and production company. We have been a proud member of the Australasian Petroleum Production and Exploration Association since 1986. Our latest energy project, Ichthys, is a jewel in our corporate crown, and it's being managed from our operating head office on St Georges Terrace. It represents the largest ever overseas investment by a single Japanese company. What may come as a surprise to some of you is that Perth is now the biggest office in the globe for INPEX, ahead of our headquarters in Tokyo. But I'm here to speak to you today about the outlook for the oil and gas sector and to offer some insight into what the future may hold. A disclaimer: I should note that the views expressed today are my own and do not necessarily represent INPEX Corporation. It is very difficult to get endorsement from the Tokyo office. The oil and gas sector is facing challenging times. At this moment, we are experiencing a cyclical downturn in price that may be with us for some time. After four years of relatively stable, albeit high prices, the oil market crashed by over 60 percent from its June 2014 high of over 115 US dollars per barrel to around 40 US dollars per barrel in August. This, of course, has profound implications for the energy industry. I'll discuss some of these implications shortly, but before I do, I'd like to take a moment to discuss the diverse factors that have pushed oil prices down so rapidly. The simplest answer to why the price of oil has dropped so sharply over the past year comes down to the economics of supply and demand. On the supply side, the latest BP Statistical Review of World Energy reveals a global oversupply. The shale revolution in the United States has seen American oil production nearly double over the past six years, making the US the world's largest oil producer and a net exporter. This, in turn, has displaced imported oil from historic suppliers. These producers have been forced to compete in other markets. Saudi Arabia, traditionally playing the role of swing producer, together with its OPEC partners, has maintained production levels in spite of the price drop in an effort to protect market share. On the gas side, an oversupply of LNG is being driven by US production. LNG cargoes that would historically find market in the US have been forced elsewhere. Five US LNG projects under construction represent capacity of 73 million tonnes per annum, which is 13 percent of today's market. On the demand side, the global economy remains sluggish. In the EU, primary energy consumption has fallen in absolute terms by 7.6 percent over the past five years and just last month dropped to its lowest level since the mid-1990s. The economy of the world's largest crude oil importer, China, is also slowing. Energy imports fell by 4 percent in the second quarter of this year compared to the same quarter last year. Absolute growth in global primary energy consumption was the lowest since 2001, with the exception of during the global financial crisis. So, what does this low price environment mean for the oil and gas sector? For starters, we have seen a bearish reaction from the industry. Investment in new projects is down significantly. Wood Mackenzie estimates that 46 major projects have been deferred globally in response to the price drop. So far this year, only five major oil and gas projects globally have taken a final investment decision: two in Norway and one each in the Gulf of Mexico, UK, and Egypt. Expensive and complex projects are the first to be deferred. Job reductions make front-page news. Budgets are being stretched and the industry mantra is doing more with less. Exploration activity is also down sharply. The challenging environment is forcing companies to examine how they do business. From now on, driving operational efficiency and resetting the cost base have become top priorities for the industry. Virtually all major players have been actively negotiating cost reductions with contractors and suppliers. In spite of the 30 percent devaluation of the Aussie dollar against the US dollar over the past year, Australia remains a high-cost environment in relative terms. Improvement in productivity is required if Australia is to remain competitive in the oil and gas sector. Industrial relations reform is also critical. The reform is urgent and needed in Australia's energy policy. The energy vision for Australia should be developed through a bipartisan process involving extensive consultation with industry, community, and government stakeholders. We must move to a policy-making process that is not vulnerable to election cycles. It must also be free from protectionism. For example, the growing trend by state governments to impose or consider moratoriums on hydraulic fracturing is both unwise and worrying. Reliability and predictability in policy are essential to promoting investment in the oil and gas sector. In addition to the cost of development, another key factor in determining the viability of new energy projects is the outlook for energy demand. Project proponents need to be confident in the market's ability to absorb new capacity. Wood Mackenzie predicts world primary energy consumption will more than double over the next 35 years, from 238 million tonnes in 2014 to 450 million tonnes. Much of this growth is expected to come from new markets, with China likely the largest growth market for energy, followed by India. We also expect to see strong demand from Southeast Asia and the Middle East. Australia is well placed geographically to serve these emerging markets, while Japan will remain the world's single largest importer. Japanese demand is expected to grow only marginally, to approximately 94.5 million tonnes by 2030. Today, energy accounts for 46 percent of Japanese power generation. The demand outlook announced by the Japanese government in July 2015 projects that this will fall to 26 percent by 2070. This focus is based on nuclear power supplying 22 percent of energy to the country. So, what does this mean? The oil and gas industry is in a downturn; there is no doubt about that. But it's a cyclic business, and so we can expect prices to rebound. But when the fundamentals materialize, when it occurs and by how much is, of course, highly subjective. There seems to be some consensus that oil and gas prices are likely to be somewhat higher in 2016 than they are today. So far in 2015, the average price has hovered around 40 to 50 US dollars per barrel, and we assume an average price per barrel of 65 US dollars in 2016, increasing to 70 dollars in 2017. I wish to close today's discussion by identifying a few opportunities. For starters, the lower oil price is forcing companies to rethink the business model and to make more disciplined business decisions. Fit-for-50 is a model we hear occasionally and describes the drive by oil companies to ensure the business is profitable at a 50-dollar oil price. Companies that drive costs out of the business and rationalize the portfolio will be well positioned in the long term. The current environment is also ripe for merger and acquisition. We've seen some movement in this space already, as you know. While it may seem counterintuitive, an argument can be made that now is an excellent time to explore. Seismic survey and drilling costs are down dramatically, and the market window appears to be opening given the scarcity of projects in the pipeline. Collaboration opportunities abound. Last year, Santos Vice President John Anderson was quoted in the media talking about 'Big C corporation,' meaning collaboration that goes beyond reaping operational efficiencies like sharing helicopters and supply vessels. For example, the Big C corporation John identified potentially includes companies aggregating gas and processing through facilities operated by others—a model that has worked well elsewhere in the world. I fully agree with John's statement. To survive in this very tough business environment will require us to shed fat and to restructure our organizations so that they are leaner and meaner. At INPEX, we are ready to embrace the challenges ahead of us. Thank you very much.