Why Shell Quit Drilling in the Arctic

After spending $7 billion on a single well ... what?

What's the Real Reason Why Shell Stopped Arctic Drilling?

Royal Dutch Shell's abrupt announcement today that it would cease all offshore drilling in the Arctic is surprising for several reasons. One is the unusual degree of confidence the company expressed as recently as mid-August that it had identified 15 billion barrels of oil beneath the well known as Burger J it's now abandoning. 

What on earth happened?

Mistaken geology

After spending $7 billion over several years to explore a single well this summer, Shell said in a statement that it "found indications of oil and gas … but these are not sufficient to warrant further exploration." This contrasts sharply with Shell officials' statements as recently as July and August that based on 3D and 4D seismic analysis of core samples, its petroleum geologists were "very confident" drillers would find plentiful oil.

The geologists' expectations were the main reason Shell spent all that money on a project that entailed much-higher-than-average operational risks and international environmental condemnation. Giving up has got to hurt at a company that prides itself on scientific and technical prowess. Shell said it would take an unspecified financial charge related to the folding of its Arctic operation, which carries a value of $3 billion on the company's balance sheet.

Intensifying fear about oil prices

In late July, when Ann Pickard, Shell's top executive for the Arctic, explained the economics of drilling in the Chukchi Sea, she readily acknowledged that if oil prices remained below $50 a barrel, the off-shore adventure would be for naught. At $70, Chukchi oil would be "competitive," she told Bloomberg Businessweek, and at $110—a reasonable projection, according to the company's economists—it would be a huge winner. She was talking about prospective prices 15 years from now.

Well, in recent weeks, Shell appears to have lost some of its bravado about where prices will be in 2030—according to a person familiar with the company's thinking. Otherwise, it wouldn't have given up altogether on the Chukchi, where it continues to hold 275 Outer Continental lease blocks. Indeed, Marvin Odum, director of Shell Upstream Americas, said in the written statement that the company "continues to see important exploration potential in the basin, and the area is likely to ultimately be of strategic importance to Alaska and the U.S."

Shell lost confidence it could make a profit any time in the foreseeable future on the oil that's there. Low oil prices have also necessitated a companywide cost-cutting push; shutting down in the Arctic will help Shell trim expenditures, especially next year. (Pickard, who is expected to retire, was not available for an interview, according to a Shell spokesman.)

Regulatory restrictions

The Obama administration took a lot of flak from environmentalists over its decision to allow Shell to move ahead with drilling in the Arctic. Former Vice President Al Gore, for one, called the White House position "insane." In the end, an array of partial restrictions the administration imposed on Shell helped push the company to pull up its drill bit and head south. Wildlife officials concerned about noise-sensitive walruses, for example, vetoed Shell's original plan to drill two wells simultaneously. "That caught us by surprise," Pickard conceded in July.

Shell actually could have turned to the second well this month, but it decided instead to cut its losses. In its statement today, Shell said: "This decision reflects both the Burger J well result, the high costs associated with the project, and the challenging, unpredictable federal regulatory environment in offshore Alaska."

Environmental pressure ... and fear of Clinton

While green groups failed to stop Shell in the courts, they marshaled an extraordinary campaign ranging from "kayaktivists" who impeded Shell vessels as they departed for the Chukchi to incessant lobbying in Washington. 

“We are pleased that Shell has finally come to grips with the reality that drilling in the Arctic makes no sense," Andy Sharpless, chief executive officer of the nonprofit Oceana, said by e-mail. "It’s not economically viable nor is it sensible from an environmental standpoint."

Possibly more significant than the immediate environmental activism is Shell's concern about who will oversee Arctic regulation come January 2017. In August, Hillary Clinton made her first major break with President Obama over the environment, announcing that she opposed Arctic drilling. "Given what we know, it's not worth the risk," Clinton said on Twitter. Despite the candidate's current struggle to shake off primary foe Senator Bernie Sanders, Shell may fear that a Clinton presidency would doom its chancy northern exploration.