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Admission of troubles at Sakhalin-2 fuels fears Shell might miss targets

Financial Times: Admission of troubles at Sakhalin-2 fuels fears Shell might miss targets

“In a conference call with analysts and journalists, Shell executives said they had received an interim report that put the overall cost of the project at $20bn (£11.4bn) – about double the original estimate. They also said the project would not start deliveries of the super-cooled natural gas until summer 2008, at least eight months later than planned.”: “The news revived fears that Shell would be unable to meet its targets to produce an average of 3.8m-4m barrels of oil equivalent a day by 2009.”

Friday 14 July 2005

By Thomas Catan

Published: July 15 2005

Perched on a remote island off the east coast of Russia, Sakhalin-2 has long been cited as the sort of difficult and large-scale project that would help Royal Dutch/Shell turn round its flagging oil and gas production.

The liquefied natural gas project was seen as a bright spot for the world’s number-three oil company after a humbling year in which it had to slash its reserves of oil and gas five times.

Yesterday, however, the company confirmed rumours that its flagship project was running behind schedule and was badly over-budget.

In a conference call with analysts and journalists, Shell executives said they had received an interim report that put the overall cost of the project at $20bn (£11.4bn) – about double the original estimate. They also said the project would not start deliveries of the super-cooled natural gas until summer 2008, at least eight months later than planned.

The news revived fears that Shell would be unable to meet its targets to produce an average of 3.8m-4m barrels of oil equivalent a day by 2009.

“These problems further exacerbate the potential production shortfalls that Shell is facing,” said Stewart Johnston, vice-president at CRA International, the management consultancy.

However, Shell remained “reasonably confident” it would still meet its production target, as well as its goal to replace 100 per cent of its oil and gas reserves in the period between 2004 and 2008. The company did not say how much its 2008 production would be affected by Sakhalin-2’s delay.

Sakhalin-2 was always an expensive and difficult project, being built in a remote and inaccessible area that is frozen for much of the year. Now, analysts say it will be harder for the project to break-even.

It could also erode the credibility of the company in the eyes of the governments that own oil and gas resources – to which Shell desperately needs access. During last year’s reserve downgrades scandal and subsequent boardroom purge, the company told governments that its problems would not affect delivery of leading projects.

Now, some analysts think there could be questions about Shell’s technical and managerial abilities as well. “It’s a credibility issue,” said Frank Harris, vice-president of LNG at Wood Mackenzie. “There was a perception that they are an extremely safe pair of hands. And suddenly they appear to be fallible.”

The company is already setting up a special “project management academy” to improve the way it handles large projects.

Sakhalin-2 is one of Shell’s three “elephant projects” involving multi-billion dollar expenditures, which the company is focusing on to rebuild its oil and gas production. Jeroen van der Veer, the chief executive, has said he wants Shell to have 10 such projects on the go at any one time.

However, mammoth projects such as Sakhalin-2 are being hit by a wide range of price increases as oil companies scramble to build new infrastructure to meet rising energy demand.

Peter Voser, Shell’s chief financial officer, yesterday spoke of the “general cost pressures facing our industry as we move to develop more complex projects in frontier regions”, coupled with rising costs of engineering contractors, raw materials and drilling.

“We do not see these pressures decreasing in the near- to mid-term, given the current environment in the energy sector,” he said.

( Posted here by John Donovan of http://royaldutchshellplc.com/ )

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