Fall in crude prices and reduced demand from end-user markets during the COVID-19 pandemic has significantly impacted the oil and gas industry, forcing companies to postpone investments and stall existing projects until the situation improves.
The pandemic has resulted in a historic plunge in oil and gas prices, way below projections of many oil-based entities and budgets of national governments. Consequences, therefore, emerge for revenues, debt financing, development and production.
The oil and gas industry has also experienced its third price collapse in 12 years. After the first two shocks, the industry rebounded, and business continued as usual. Today, with prices touching 30-year lows, and accelerating societal pressure, executives sense that change is inevitable. Hence, the COVID-19 crisis is accelerating what was already shaping up to be one of the industry’s most transformative moments.
On its current course and speed, the industry could now be entering an era defined by intense competition, technology-led rapid supply response, flat to declining demand, investor scepticism, and increasing public and government pressure regarding impact on climate and the environment.
However, under most scenarios, oil and gas will remain a multi-trillion-dollar market for decades. Considering its role in supplying affordable energy, it is too important to fail. The fundamental question thus remains; how can value be created in the next normal?
To change the current model, the industry will need to dig deep and tap its proud history of bold structural moves, innovation, and safe and profitable operations in the toughest conditions. The successful ones will be those that use this crisis to confidently reposition their portfolios and transform their operating models. Companies that don’t will restructure or inevitably shrivel.
Upstream Oil and Gas Operations
Upstream Oil and Gas operations or production refers to companies who identify, extract, or produce raw materials. These companies also identify deposits, drill wells, and recover raw materials from underground.
Upstream Oil and Gas companies are often called exploration and production companies. This sector also includes related services such as rig operations, feasibility studies, machinery rental, and extraction of chemical supply. The Upstream part of the industry is able to locate and estimate reserves before any of the actual drilling activity starts.
Examples of large companies that focus on upstream operations include the China National Offshore Oil Corporation and Schlumberger (SLB). There are also many large upstream operators that are major diversified oil and gas firms like Exxon-Mobil (XOM).
Impact of Covid-19 on upstream operations
All companies are rightly acting to protect employees’ health and safety, and to preserve cash in particular, by cutting or deferring discretionary capital as well as operating expenditures and, in many cases, distributions to shareholders.
The upstream sector is witnessing a reduction in production, drilling suspension, and stalling of projects in the short-term. These actions will, however, not be enough for financially stretched players and is likely to create an opportunity for a profound reset in many segments of the industry.
A broad restructuring of several upstream basins will likely occur, reinforced by the opportunity created by balance-sheet weaknesses, particularly in high-cost mature basins like the US onshore. In the long-term, upstream companies are expected to restructure their business and focus on cleaner options such as gas, light oil, and renewables.
This could see the US onshore industry for instance, which currently has more than 100 sizable companies, consolidate very significantly, with only large at-scale companies and smaller, truly nimble, and innovative players surviving.
Broad-based consolidation could be led by “basin masters” expected to cut down unit costs by exploiting synergies. It is estimated that economies of skill and scale, coupled with new ways of working could further reduce costs by up to $10/bbl. in the shale patch alone improving its supply resilience.
TAKING ADVANTAGE OF A NEW AGE OF OPPORTUNITY
Some companies whose business models or asset bases are already distinctive can thrive in the next normal. But for most companies, a change in strategy is imperative. By mixing and matching the following practices, depending on their circumstances, companies can reduce costs, enhance development opportunities, and reduce the carbon intensity of assets in each strategic group. Implementing the following practices could improve the development of brownfield assets, considerably extending their useful life.
Learn from others
It is instructive to seek inspiration from other industries that experienced sector-wide change, and how the leaders within these industries emerged as value creators. The common thread in how these leaders achieved success includes large reallocation of capital informed by a deep understanding of market trends and future value pools, the value of focused scale, and a willingness to fundamentally challenge and transform existing operating models and basis for competition.
Inertia is a powerful force which causes activities to go on and on with no systemic contemplation of their value. This results in a waste of time and money, diverting resources from areas where they could be put to better use.
The better approach, being adopted by some operators now is to use simple time-based programs with clear deadlines to dictate the work. Two factors required for successful rationalization are Zero-based planning and High-quality data.
Zero-based planning involves scrutinizing every planned activity in the field and prioritizing them methodically, based on added-value potential whiles High-quality data encompasses establishing live-streaming data capabilities to evaluate asset conditions. This allows for more targeted and efficient interventions.
Make bold M&A moves
The fallout from the pandemic could potentially trigger another age of Mergers and Acquisitions (M&A) in the oil and gas industry. Mergers can bring economies of scale and scope, as well as more efficiently allocate spend across a larger, consolidated portfolio of shale assets, as opposed to the patchwork more common in the oil patch today.
The need for companies to rebalance their portfolios, create scale efficiencies and improve capital access should encourage companies to pursue M&A. For optimized results, these companies will need to focus their investment strategy squarely on scale and synergies.
In these disruptive and volatile times, the industry should focus on acquisitions that will add synergies, can be captured immediately and create sustained value. Any deals that do close in the face of these torrid times are almost certainly going to be led by strategic buyers, especially for upstream assets.
Winners will emerge with advantaged portfolios that will be resilient to longer-term trends. They should settle for nothing less than the absolutely best positioned assets in upstream, refining, marketing, and petrochemicals.
As operators buy and sell assets, they may end up with an ineffectual kind of decentralization as time goes on, with different processes and overlapping services which can get expensive.
Evaluating and deciding where activities should be executed (offshore/onshore) and what activities can be shared centrally can enhance operational efficiency. There are good examples of companies that have moved toward centralizing onshore support for the offshore workforce. The best are characterized by real-time collaboration with frontline workers, who are able to communicate what is going on and identify emerging issues.
Upstream Oil and Gas companies can establish the right capabilities in the onshore central team to improve technical capabilities. This can involve rotating equipment maintenance skills and make sure to include subject-matter experts (SMEs) in technical areas.
Also, Digital enablement should be considered by providing effective and real-time collaboration between offshore and onshore teams, with the onshore team providing technical expertise and support.
Consider Multi-Skilled Employees
Functional organization models comprising of various isolated teams have contributed to offshore inefficiencies therefore increasing the maintenance workload even of routine activities and decreasing the attention given to more critical tasks.
Multi-skilled employees can ensure operations are conducted with a reduced number of employees which can be vital with the advent of the pandemic. For example, production technicians can be trained to perform first-line maintenance tasks whiles managers are trained to oversee a broader range of activities.
Transition to Agile
Onshore structures are usually organized traditionally, with a number of disconnected teams and numerous layers of hierarchy. There is often not enough focus on integrating to create value or accountability for end-to-end-delivery. This results in longer-than-necessary lead times, lower quality of output, and limited sharing of best practices.
Installing “agile” teams, that is, groups that can quickly reconfigure strategy, structure, processes, people, and technology can increase organizational efficiency and decrease reaction time. The core principle of agility is to transform traditional teams into cross-functional squads, each with a specific business focus and a value-creating mission.
The Covid-19 pandemic has changed upstream gas and oil operations fundamentals and the rules of the next normal are still being discovered. It is uncertain when the current quagmire impacting oil and gas operators will pass or if prices will rebound to the pre-crisis levels in the medium term.
What is assured, however, is that only innovative operators with superior operating models, resilient portfolios and innovations will come out this crisis ready to handle the instability and to sustain future growth. The time for visionary thinking and bold action is now.