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The Deconstruction Of The Seismic Industry
Gary Jones, Senior Advisor to Schlumberger CEO

World markets have recently punished many sectors for creating over-capacity, taking on too much debt, and running businesses without sound economic fundamentals. It reminds me of the old adages – forgotten in the 90s – "Profits are opinions; cash is king" and "Be careful what you measure because that's what you will get."

The media has been replete with examples of wild growth followed by implosion; first in the internet sector, then the energy-trading sector and more recently, in the telecom industry. The seismic industry is, of course, no exception and within the oil and gas service sector represents perhaps the best example of this appalling phenomenon.

A number of recent articles about this seismic boom/bust have included statements from Chip Gill, the President of the International Association of Geophysical Contractors (IAGC.) Gill, of course, did not pull his statistics from thin air, but got them from the core membership of the IAGC, which comprises the major geophysical service companies. Collectively, these statements represent the first public acknowledgement of the industry's failures to generate cash and make a sustainable decent return.

Gill brought two salient facts to light: 1) the cash flow of the seismic industry was negative throughout the 90s, including during a period of big uptake in 3D and the capacity expansion frenzy that ensued in response to the perceived need; and 2) a trend developed to balance sheet the cost of seismic surveys to be sold to multiple customers. The combination of a Wall Street-driven demand for growth, the resulting capital available to those who showed a growth story, and the ease of generating paper profits from balance sheeted survey costs, led to the inevitable result: a crash of seismic proportions.

This crash began in 1999, but has yet to work its way through the system completely, as investors, management, customers, and employees often remain in denial. Wall Street wanted growth in earnings and revenue, and got them in exchange for capital, which fueled the expansion. And while the players were rational in their own decision making, the outcome was a classic case of Prisoner's Dilemma, resulting in substantial industry overcapacity, as Bill French said recently*.

There is one other factor at play in both the buildup and the ongoing deconstruction of the seismic industry. This factor is the massive shift of risk from operators, whether they are major resource holders, supermajors, majors or independents, to the seismic service companies. This shift began in the late 70s – early 80s as the traditional time-based service contracts gave way to turnkey contracting. But starting in the mid-80s, the turnkey contracts, which were written by service companies, gave way to contracts driven by the operators; and if a knowledgeable executive from 30 years ago were to land in a contract discussion today and read one of these documents, I am sure he would say: "You must be out of your mind! We can't sign that!" Essentially, the third-party market returns deteriorated quickly from low double digits, to single, to zero, or less! – and then only if everything came out perfectly.

Murphy continually hovers over the seismic business because we keep him so busy writing new clauses to his long-standing laws. So, essentially the state of affairs today is one of Gambler's Ruin. The only way to win a competitive turnkey tender is to either put on the rose-colored glasses, gulp hard, and take more risk than one should - or worse, agree to the excess risk out of ignorance, incompetence, or desperation. Anybody hear of the "must-win job"? This is another way of saying "big loss coming".

One of the newer tricks of the trade is to convert a proprietary job over held acreage into a "highly prefunded multiclient survey". What this means is the balance sheet will take the cost, sometimes including interest and R&D charges, and the revenues from the operator will be booked as a multiclient sale with usually 25-40% taken as profit, as "we expect to make additional sales".

Tactics like these amount to a very unsophisticated Ponzi scheme that, amazingly, continues to dupe Wall Street. The thinking goes "If we shoot more spec each year than the year before, we can show earnings growth and who cares if it is financed by negative cash flow." These tricks, or just plain old shooting in the wrong zip code with the wrong technology, result in write-downs of the balance sheet, and these have been on the increase, believe me.

So how do we get out of this state of affairs? The investors, management, and employees of the seismic service companies must, of course, take the lead. The market will eliminate some of the weaker players. This has already begun. Far better internal discipline and financial controls are needed, as well as perhaps an industry-wide forum on proper accounting practices overseen by GAAP.

But one other fundamental change is needed if the E&P operators are to have a seismic industry around to serve them: A general all-round change in attitudes - within the service companies, the investors, and the client community. Seismic service companies must practice, and demand, rigorous investment discipline; i.e., ensure a return. Investors need to hold the industry accountable to economic fundamentals. And the oil and gas companies need to actively engage with the IAGC and its individual members to improve contractual terms and restore the risk/reward balance.

If not, then stand by while the industry is fully deconstructed and – we are not crying 'wolf' here – there will be a high price to pay, both in the loss of experience and capability today, and in the rebuilding required tomorrow.

*From "The Oil Company – Geophysical Contractor Relationship", PESA News, February/March 2002

This article is reproduced with permission from the October 2002 edition of Offshore Magazine. Website: http://os.pennnet.com/home.cfm

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Chip Gill, the President of the IAGC.

'Willy And Flipper' On Front Line Of Anti-Seismic Campaign

The international environmental community is engaging in an emotional propaganda campaign, pitting 'Willy and Flipper' against the oil and gas industry as it looks at switching its gaze from blaming the military for allegedly harming cetaceans, to taking aim at the offshore seismic acquisition industry.

That's the view of Chip Gill, the President of the International Association of Geophysical Contractors (IAGC), who said the environmental community in the United States was using the issue to ostensibly protect the whales of the world, but he said it was also being used to help fill their coffers and increase membership. Up until now the US Navy has been targeted because of suspicions that its sonar activities were affecting cetaceans.

"You should see some of the fundraising literature put out by environmental organisations on the navy issue", Gill said. "I get some of this stuff across my e-mail, and it is unbelievable. The reality is absolutely misrepresented and distorted for the purposes of whipping up emotions in their fundraising letters and painting a false picture of what is really going on. I guess it's the reality of the corporate environmental advocacy that is out there now and their need to perpetuate their fundraising machine."

Gill said the focus was moving to the seismic industry following an increasing regulatory regime being imposed on it by government agencies, particularly through the implementation of regulations with vague definitions of harassment, and the concept of 'regulatory creep'. "If you think the navy is a good way to whip up the emotional passion, wait until they come after us", Gill said. "It's coming. I don't view myself, in saying this, as Chicken Little, the sky is falling, I view myself as the Paul Revere of US revolutionary war fame. It doesn't take a whole lot of imagination to picture it refocusing on us."

"It's the oil and gas industry versus Willy and Flipper", Gill said. "We are talking about an emotionally charged issue that we are never going to win. If it's between us and whales and dolphins, we lose. I can tell you for a fact, comments coming in from the environmental community on seismic surveys in the US Rocky Mountains, people were saying, 'These are the same people who are killing the whales.' The environmental community is fanning the flames and people are saying 'don't let these guys shoot seismic surveys in Utah because these are bad guys, because look what they are doing out there to the whales'."

But how did it come to this in the US? Let's go back to the beginning of what is becoming a very emotionally-charged issue.

The increased awareness and interest in whales internationally stems from the virtual international banning of the whaling industry in the 1970s and subsequent attempts to rejuvenate and protect the remaining populations, starting in the mid-1980s. In the United States the protection of marine mammals is administered under two pieces of legislation. The first is the Endangered Species Act (ESA), which requires species to be listed, or proposed to be listed, before they are covered by the Act. The second is the Marine Mammals Protection Act (MMPA) which is specific to marine mammals.

These Acts have had more impact on the oil and gas industry as exploration has moved further offshore. One of the species receiving special attention in the US Gulf of Mexico has been the sperm whale, which is of course a marine mammal but also listed as endangered. The two US agencies charged with overseeing the ESA and MMPA are the Minerals Management Service (MMS) and the National Oceanic and Atmospheric Administration Service (NOAA).

By the late 1990s, concerns were starting to be raised by marine biologists, the environmental community and regulators about the impact that noise generated in the water was allegedly having on marine mammals. In 1999 the MMS commissioned a 'programmatic environmental assessment' for geophysics and geology (G&G) operations to take a fresh look at available new information. The assessment arose because of the increasing number of species, including endangered species, being encountered in deeper waters.
This increased perception of the need to protect whales and other cetaceans has been felt by the international oil and gas industry. Hardest hit within the industry has been the G&G sector, which has had to adjust its operating practices to accommodate increased community sensitivity about real or perceived threats their activities are having on cetaceans. Seismic contractors have been working tirelessly over the past decade to meet increasingly stringent regulations while trying to preserve the economic efficiency of G&G operations.

"Globally, we as an industry have been highly regulated with respect to our operations and their impacts on marine mammals", Gill said. "We avoid the animals in some jurisdictions, which means we have some seasonal limitations in other jurisdictions. We have to do very rigorous visual observation from fixed wing aircraft and chase boats, and if we see animals in the area we have to shut down and move away from them. There are also broader requirements that we assess populations and population movements and things like that."

The G&G operation that has attracted the most criticism has been the use of airguns to acquire seismic data. Environmentalists have said the airguns had the potential to harm cetaceans because of the volume of acoustic energy released in the water. "We have airgun arrays designed specifically to direct the acoustic energy vertically downward", Gill said. "It is our business not to blast the acoustic energy in all directions, but rather to image the subsurface, and we want the acoustic energy to go down."

"We have created airgun arrays that create directivity effects, they actually focus the acoustic energy downward and it attenuates very rapidly as you go away from the vertical. If an animal is positioned 45 degrees away from the vertical direction of the array, they are going to receive a much lower acoustic energy level than one directly below."

Gill said sonar waves were different from seismic because they were transmitted continuously in a different frequency range. "It is typically sourced underwater and directed outwards, as opposed to on the surface and directed downwards, but frequency is the key there", he said. "We emit the vast majority of our acoustic energy at a very low frequency, whereas the navy's sonar is in a higher frequency range. It is well known that very few species of marine mammals even hear in our frequency ranges. We emit at frequency ranges that are not a problem for the vast majority of marine mammals."

But there are a few cetacean species that can pick up the frequencies emitted by seismic, including baleen and large tooth whales. Gill said the issue was more about affecting the behaviour of cetaceans, not concern about whether the animals would be subjected to physical harm. "The questions are, do we drive them off of critical feeding grounds, inhibit their ability to echolocate their prey, disturb their ability to communicate and find a mate, and things of that nature?"

In the US, the MMPA outlaws harassment of marine mammals, and this is where things go fuzzy, with the definition of harassment taking on a life of its own. "Essentially, if a whale is swimming along and you cause it to veer left, you've harassed it", he said. "If you have a seal on the beach, and you're a scuba diver and you come up to the surface in front of the seal, and the seal turns it head to look at you, you have harassed it, under the definition of the statute. The regulators talk about it in these terms, believe me. I've sat for days with them going through this stuff and it's enough to make your hair crawl when you realise how far they can take it."

Another example of harassment Gill gave was if there is a service vessel going along and a school of dolphins deviated from their normal path to go play in the bow waves. Theoretically, that's harassment. "They have moved off of their normal behaviour pattern", he said.

One of the main requirements for conducting seismic acquisition in whale prone areas is the need to be able to visualise the area to make sure no whales are present before work can start. But this is an inexact method, with some cetaceans spending up to 70% of their time underwater. "A safe distance area exclusion zone is defined once operations have commenced", Gill said. "We have to visually monitor the exclusion zone whenever possible to make sure that no animals come into it. Now, there is an assumption built in here by the regulators that because the sound is ongoing, if the animals can hear it and don't like it, they will stay away."

"So if we can't visually monitor the area to make sure it stays clear, we can continue to conduct operations, and that is the theory behind it. That is the reason they have allowed us to do it. That means we don't have to shut down at night or in rain or fog once we've already started. But there remains an issue about just flat starting."

He said operators were allowed to reduce the amount of sound emitted into the water when line changes or other maintenance was carried out. "As long as we keep a minimum level of sound in the water, we are allowed to go back up to the full level without having to visually clear the area", he said.

But one of the problems occurs during turning the large 3D boats that can trail up to 8 km of streamers, which can take several hours. "In our operations we will shut down the sound source for a whole host of reasons, but among them, if we don't need to be putting the sound into the water, why do it? It also gets into maintenance and fuel for the compressors."

"If we have to visually clear and then ramp up again every time we make a line change, and we can't do it at night or when it is raining, it would mean we can't do it 60-70% of the time. That would have a huge negative impact on our operations. As we work with the regulators, we have extended the idea that the animals would stay away if they don't' like the noise. What we have settled on for the moment is to allow us to put a minimal amount of sound in the water continuously when we make those changes, to let those animals know we are there, and then ramp back up but not have to visually clear."

The issue of visual observers has also caused concern within the industry, particularly in regard to the level of experience or qualifications required by regulators under a new NOAA Fisheries-approved training programme to be recognised as being able to carry out observation tasks. At the moment, boat crew members can be used as observers until the NOAA program is established but questions remain about how they will be employed as observers.

"What we don't know yet is, can our existing crew members qualify? Do we have to have dedicated observers that are not part of the crew or can we use crew members and adjust their shifts. We assume they have to be dedicated, but can we dedicate crew members who have been trained to that? In other jurisdictions there have been requirements that marine mammal observers have to be trained marine biologists. These questions still remain."

Another method used to detect the presence of the animals is to monitor their vocalisations by using a technique called passive acoustic monitoring. "The geophysical industry is very good at listening in the water", Gill said. "We know how to do that because we have to listen to the faint reflections of the acoustic energy we originally put in, because it reflects back, that's how we image. But passive acoustic monitoring is only effective to detect the presence of cetaceans that vocalise regularly. There are a lot of species that don't vocalise. If they're not vocalising, you can't know that they are there, so you cannot necessarily rely on passive acoustic monitoring."

Along with the vagueness of the definition of harassment, another phenomenon that is worrying the G&G industry is the phrase 'regulatory creep'. "This didn't exist when we first started all this, it is the result of a new biological opinion from the NOAA Fisheries to MMS saying it had changed its rules to address these harassment issues", Gill said.

"That is most problematic. We've been told quietly that it's coming any day. Assuming that does happen, we open up the whole pandora's box of environmental regulations. We bring the spotlight on this whole thing. The environmental community has been focused on the navy and their sound, but it's just an open invitation to come after the oil and gas industry in its breadbasket, the Gulf of Mexico."

"We've had more and more scrutiny, and the more scrutiny we have, the more problematic it is. There are a number of ways you can approach it, but there is a certain requirement, a suggestion in the statutes, that in the absence of specific knowledge, that the regulators take a precautionary attitude toward the animals."

Gill said the oil and gas industry has been out where the whales are in deep water areas since the early 1980s. "And yet all indications are that these animals have done nothing but thrive during that time", he said. "For the first time, we have the opportunity to bring very precise knowledge to the table about what these animals hear and how they react to our operations, not just geophysical but all E&P operations. In spite of all of that, we are racing to regulate from an abundance of caution."

He said the geophysical industry invested $US 500,000 in 2002 - MMS invested $US 1.4 MM - contributing to cetacean research. IAGC is involved with government and researchers who have developed a data tag, which is a suction device that records what the whales hear, their depth, direction, speed and other data. "These tags stay on for 2 - 12 hours", Gill said. "Once baseline behaviour is established, say one to two dives, we approach the animals with an airgun array actively emitting. The tag records the received level of the whale and exactly what it does in reaction. Once the tag is recovered the data is analysed to determine if there were any behavioural effects."

Also included is a project to track the movements of sperm whales by satellites. "The tag is actually injected into skin and it hangs on, talk about harassing them, and every time they're on the surface and a satellite passes over, it gets the location of the whale.", he said. "We can see if there is a seismic survey going on in a specific area and we know exactly where that boat is acquiring at all times. Then we can see if the whale avoided the boat by 50 km as it came through feeding, or did it pretty much not even change its direction."

Gill said the entire oil and gas industry could become affected by the increasing amount of environmental regulation. "I'm not saying they will shut down production", he said. "But there are things like acoustic telemetry, where the subsea wellheads communicate with the surface through acoustic telemetry, which is basically data transmission through sound waves. I think we are going to see an inventorying of all the noise of E&P operations out in the Gulf before too long. I can't imagine they are not going to do it. Regulatory creep? Hell we're sprinting."