OPPORTUNITIES IN ADVERSITY STRATEGIES FOR A LOWER OIL PRICE - OCTOBER 2015 - PWC
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October 2015 Opportunities in Adversity Strategies for a Lower Oil Price
Contents Opportunities in Adversity 1 Market developments and oil price outlook 2 Industry response to date 5 What next? – Adjusting to the current climate 9 Capability-driven strategy 11 Right-sizing the cost base 13 Conclusion 16
Opportunities in Adversity
At the time, there was no clear anticipated future supply glut in the
In February 2015 we published consensus about what shape the price market. In this paper we take a critical
our viewpoint, Opportunities in recovery would take. In the past, the look at what this means for the sector
Adversity, following on from the price has sometimes rebounded and focus on two key imperatives to
60% collapse in the oil price that quickly, for example after the 2008-09 success in a prolonged low oil price
had occurred since July 2014. collapse, but at other times has stayed environment:
depressed for a prolonged period, such • Developing a business strategy truly
as after 1986. We believe that this driven by a company’s capabilities.
second scenario, of the oil price staying
• ‘Right-sizing’ the cost base to
lower for longer, is the most likely at
sustainably deliver the chosen
present given the current and
strategy.
1 | PwC
Market developments and oil
price outlook
Gas prices have followed the trajectory Supply factors
Over the past six months, the oil of the oil price, albeit with a lag in the
case of LNG and to some extent OPEC’s decision to maintain production
market has been on a
European markets. However, the at 30m bbl/day has not curbed
rollercoaster ride. By May 2015,
proportionately less severe drop has production elsewhere, with US shale-oil
the oil price had recovered by
been partly due to the more fragmented production proving far more resilient
almost 50% from its lowest point
and regionalised nature of the market than OPEC had expected. While the US
in January, but this turned out to
and longer-term contracts for LNG and rig count has more than halved in the
be a ‘false dawn’ for those hoping
natural gas in Europe. Nevertheless, the past 12 months, oil output from seven key
for a quick recovery. In August it
gas market as a whole, and LNG in US regions was up 10% year-on-year in
dipped towards the $40 mark
particular, continues to be oversupplied August 2015. The picture is similar for US
and, at the time of writing,
and prices are likely to remain weak. natural gas production. Such results have
remains below $50.
been achieved with deeper, more
The same is true of the oil market where productive wells that go further
factors such as the so far relatively horizontally, while fracking equipment
resilient shale oil production, the and products have also decreased in cost.
medium term potential for increased
cheap supply from Iran and the
slowdown in China and other emerging
markets suggest that the price is likely
to stay ‘lower for longer’ – even if
remaining highly volatile.
Figure 1: August 2015 Oil production (million bbl/day), rig count and
productivity change (%) August 2014 – August 2015 by key US region
0.073m
1.980m
1.223m 0.070m
1.545m 0.417m 87
64
48 40 43 0.058m
36
8%
(27) (29)
(54) (58) (56)
(63)
(81)
Permian Eagle ford Bakken Niobrara Utica Marcellus Haynesville
region region region region region region region
Oil production per rig Rig count
Source: Strategy& analysis, EIA drilling productivity report September 2015
Opportunities in Adversity: Strategies for a Lower Oil Price | 2
With renewed pressure on the oil price, As the world’s second largest oil
the resilience of US production will importer after the US, and the main
continue to be challenged – not least driver of non-OECD oil consumption
because many independent shale oil growth2, China is crucial. As early as
producers have weakening balance this year, Chinese annual economic
sheets and debt overhang. growth is expected to moderate below
Nevertheless, non-completed shale 7% due to slowing capital investment
wells have also risen in number and can and a gradual shift from energy heavy
act as natural storage. This, together industries. The growth could eventually
with shorter exploration-to-production fall below 4% by 20203, with obvious
times, allows far quicker responses to implications for oil demand. The EIA
market developments than expects China’s oil consumption to grow
conventional oil producers can manage. around 300,000 bbl/day in 2015 and
2016; 100,000 bbl/day lower than in
Other non-OPEC production has been 2014 and far below the 2009 – 2011
similarly resilient, with Russia producing average of 800,000 bbl/day.
above Saudi Arabia’s output of 10.6m
bbl/day in July and August 2015 to make China’s dependence on energy imports
up for the revenue shortfall from the and its slowdown also negatively
lower price. Furthermore, around impact commodity-exporting emerging
600,000 – 800,000 bbl/day could be markets such as Russia, Brazil,
released onto the market in short Indonesia, South Africa and the Gulf
lead-time throughout 2016/17 in countries.
response to an uplift of sanctions on Iran.
The two big questions regarding Iran
are:
• How quickly can Iran increase its
production by up to 1.2m bbl/day to Figure 2: US Oil production by key region January 2015 – est. October 2015
realise its production capacity
target of 5m bbl/day given the need
bbls/d
for foreign investment in
6,000,000 (0.1%) (0.7%) (1.2%)
infrastructure? (1.4%) (1.5%) (1.5%)
• How will fellow OPEC countries 5,500,000
respond as new Iranian supply will 5,000,000
exert additional downward price
4,500,000
pressure?
4,000,000
Demand
3,500,000
The scale of the actual and anticipated
3,000,000
supply growth has not been mirrored
by demand. The US Energy Information 2,500,000
Administration (EIA) recently
2,000,000
downgraded its forecast for growth in
global oil demand in 2016 by 0.2m bbl/ 1,500,000
day to 1.3m bbl/day1. This was largely Jan -15 Feb -15 Mar -15 Apr -15 May -15 Jun -15 Jul -15 Aug -15 Sep -15e Oct -15e
due to continued ‘signs of weakness’ in
China and other Asian economies. Haynesville Region Utica Region Marcellus Region Niobrara Region
Bakken Region Eagle Ford Region Permian Region
Source: Strategy& analysis, EIA
1
http://www.eia.gov/forecasts/steo/report/global_oil.cfm
2
2015 BP Statistical Review
3
Based on long-term growth projections in PwC’s latest ‘World in 2050 report (February 2015) here: http://www.pwc.com/gx/en/issues/the-economy/the-world-in-2050.jhtml
3 | PwCAs a result, we can clearly see why the
outlook for both supply and demand Figure 3: ICE Crude Brent Futures November 2015 – December 2022 (USD)
has led analysts to conclude that a low
oil price will recover to $60, rather than 79.5
80
$80, over the medium term – as evident 18/03/2015
75 18/09/2015
from the futures market. (15.9)
70
However, the future price trajectory 65 63.7
61.0
remains uncertain due to, on the
60
demand side, financial market
55 (13.5)
adjustments following an eventual
50 47.5
tightening of US monetary policy,
slowing growth of emerging markets 45
and the Eurozone debt crisis and, on 40
the supply side, the ongoing unrest in 01/01/2015 01/01/2016 01/01/2017 01/01/2018 01/01/2019 01/01/2020 01/01/2021 01/01/2022 01/01/2023
the Middle East.
Source: Thomson Reuters Datastream – data as of 18/09/2015
Growing anticipation of an important
deal on climate change at the UN
meeting in Paris in December this year
provides an additional source of
uncertainty. Oil majors – Shell/BG, BP,
Total, Eni, Repsol and Statoil – called
for a cross-border carbon pricing
system earlier this year, but a range of
other policy responses are possible.
In summary, the ‘false dawn’ for oil
prices was short-lived and the industry
must recognise the very real prospect of
a ‘lower for longer’ scenario and adjust
accordingly.
Opportunities in Adversity: Strategies for a Lower Oil Price | 4Industry response to date
Hedging The development of financial
Oil and gas markets are instruments, such as energy futures
Oil majors, which operate across the and options, has also enabled smaller
inherently cyclical. Hedging
entire value chain, can hedge against players without operations across the
physically or financially, cutting
some of the fall in upstream revenues value chain to hedge a portion of their
costs and raising new finances
with increased margins in refining and production. EIA data illustrates the
are popular ways to ‘smooth’
downstream retail business. The increased number of sold short options
cash-flows through periods of
performance of US-based refineries is as the oil price started to fall in 2014
volatility. We look at each in turn.
a particularly good example of this. (figure 5) and the impact of hedging
Furthermore, companies with trading strategies to smooth revenue of a
arms, such as BP and Shell, can find sample of oil producers (figure 6). The
further advantages in market Bloomberg Intelligence North America
volatility. Exploration and Production Index
found that payments from hedges
accounted for at least 15% of Q1 2015
revenue for nearly half the 62 US oil
players they follow4.
Figure 4: U
S Nymex WTI crude futures and options position by producers,
merchants, processors and end users (Three month moving average)
March 2008 – August 2015
500
400
300
200
100
0
(100)
(200)
(300)
(400)
(500)
Jun-08
Jun-09
Jun-10
Jun-11
Jun-12
Jun-13
Jun-14
Jun-15
Dec-08
Dec-09
Dec-10
Dec-11
Dec-12
Dec-13
Dec-14
Mar-08
Mar-09
Mar-10
Mar-11
Mar-12
Mar-13
Mar-14
Mar-15
Sep-08
Sep-09
Sep-10
Sep-11
Sep-12
Sep-13
Sep-14
Producers/ Producers/ Producers/
Merchants long Merchants short Merchants net
Source: Strategy& analysis, Thomson Reuters Datastream, Commodity Futures Trading Committee
http://www.bloomberg.com/news/articles/2015-07-01/shale-driller-losing-their-insurance-against-price-drops
4
Selling (short) – protecting against future drop, buying (long) – expecting the price will rise.
5 | PwCSuch strategies have
bought time, but each
hedging position has its
maturity. As the oil price
has continued to weaken,
most oil companies have
resisted hedging their
2016 production: only
Figure 5: Hedging effects for 32 selected U.S. oil producers
around 20% of high-yield
companies – and under
Reported hedging effects for 32 selected U.S. oil producers 5% of high-grade US
billion dollars companies – have done so5.
12
revenue before hedging
10
revenue after hedging
losses from hedging
8
additional revenue from
hedging as oil prices
6
begin to decline
4
2
0
Q1 2014 Q2 2014 Q3 2014 Q4 2014
Source: EIA
Bank of America Merrill Lynch research – http://www.ft.com/cms/s/0/637f8f92-28d2-11e5-8613-e7aedbb7bdb7.html#axzz3jpUG4C32
5
Opportunities in Adversity: Strategies for a Lower Oil Price | 6Gas companies have not been immune
to lay-offs. Royal Dutch Shell announced
6,500 job-cuts in July 2015, a figure
including temporary contractors as well
as full-time employees.
Financing
Debt issuance for O&G companies in Q1
2015 was the highest recorded since at
least 2009. We looked at debt issuance
since the oil price started to decline in
July 2014 by 66 integrated and E&P
focused O&G companies with a
combined market capitalisation of over
$1.6 trillion. Our sample alone has
raised $150bn of debt between August
2014 and July 2015 – almost two thirds
of it since February 2015, and more
debt has been placed on the market at
the time of writing this piece.
Cost-cutting The expected price deflation of rented In some cases, oil majors with good
assets, such as rigs and equipment from credit ratings used new debt to
Faced with declining revenues and Oil Fields Services (OFS) companies, maintain their capital expenditure,
uncertainty about the future market has strengthened the case for deferring. dividend payments and gather ‘dry
direction, IOCs have so far Oil majors have negotiated 10% – 30% powder’ for potential acquisitions –
concentrated on predictable, tactical reductions in OFS fees, with OFS such as Royal Dutch Shell raising over
efforts to reduce costs, rather than players generally compelled to accept $10bn between February and July 2015
strategic changes. Most E&P in order to retain relationships. This and bidding for BG Group. According to
companies, with a few notable continues the well-established ‘win– Dealogic $321.2bn worth of deals in the
exceptions, have focused on ‘low lose’ relationship between most E&P sector have been spent so far this year
hanging fruit’ across three main companies and OFS suppliers. When surpassing the second-highest year
baskets – planned CAPEX, contractors the oil price is strong and demand for 2010 by almost £100bn8 The US has
and workforce size and remuneration. services and equipment is dominated the deal flow, accounting for
These interventions reduce a business’s correspondingly high, fees rise very almost half of the total value with
scale and scope, but do not steeply. But when the price drops, OFS midstream restructurings such as
fundamentally alter ways of working or customers quickly demand substantial Endbridge, Williams Partners and
the underlying cost structure. cost reductions. Each of these shifts is Regency Energy deals worth over
The capital intensity of exploration pure power play based on supply and $60bn alone.
means future CAPEX projects are demand, with no change to scope or
quality involved. Loose monetary policy across advanced
almost always one of the first costs to economies also means that debt offers
be reviewed. Compared to 2014, IOC The size of the CAPEX scale-back and very competitive rates of financing
cut their global E&P CAPEX by over OFS rate deflation has led to OFS compared with previous ow oil price
25% in 20156. Estimates suggest that up companies making significant lay-offs, periods. This has incentivised companies
to $200bn worth of long-term capital in addition to their O&G counterparts. to refinance their maturing debt with
projects have been deferred or Schlumberger, for example, has laid off Exxon (AAA) and Shell (AA-) issuing
cancelled7. These projects have largely 15% of its workforce, amounting to bonds of 30-year maturity and Petrobras
relied on a higher oil break-even point, 20,000 people, and estimates suggest (BBB-) going for 100-year bonds.
and lie towards the right of the supply more than 120,000 OFS workers have
cost curve. Oil sands in Canada and lost their jobs in total. Whilst OFS have
deep-water projects have been the been hit the hardest, Integrated Oil and
biggest targets for this reduction.
6
JP Morgan Global E&P Capex Spend Survey September 2015
7
WoodMac report (Pre-FID) – http://www.woodmac.com/analysis/prefid-deferrals
8
http://www.ft.com/fastft/389371/post-389371
7 | PwCIn other cases, especially deeper into
Figure 6: O&G debt issuance (USD bn) per credit rating of parent issuer
‘junk’ territory, issuance has been limited.
Rising yields indicate growing concern
40.0
that more companies will struggle to
35.0 service their debt – especially in the US,
where shale-oil exploration has mainly
30.0
been financed by high-yield debt. EIA
25.0 suggests that for some US onshore oil
producers servicing their debt has
20.0
reached as high as 80% of their
15.0 operating income9.
10.0
5.0
0.0
AAA AA AA- A A- BBB+ BBB BBB- BB+ BB BB- B+ B B- CCC+ SD -
Aug 14-Jan 15 Feb 15-Jul 15
Source: Strategy& analysis, S&P Capital IQ
So, unless it is used for structural reform
Figure 7: Option adjusted spread for US high-yield energy fixed income
and/or portfolio change, financing –
index– data as of 18/09/2015
much like hedging – is a temporary
solution in the current market that few
1,100 65
can afford.
60
1,000
55
900
50
Bps
800
$
45
700
40
600
35
500 30
Jan '15 Feb '15 Mar '15 Apr '15 May '15 Jun '15 Jul '15 Aug '15 Sep '15
BoAML HY energy index OAS spread WTI crude price [RHS]
Source: Strategy& analysis, Bank of America Merrill Lynch, Thomson Reuters Datastream
9
http://www.eia.gov/todayinenergy/detail.cfm?id=22992
Opportunities in Adversity: Strategies for a Lower Oil Price | 8What next?
Adjusting to the current climate
Given the structure of the supply cost
Executives such as Bob Dudley of curve, the prospect of the current
BP10 have articulated the belief environment continuing calls for a
that oil prices are likely to be major rethink of how companies in the
lower for longer and the futures sector do business. In our prior
market has the price averaging viewpoint, Opportunities in Adversity,
below $60 over the medium term we encouraged companies to look at a
to 2020. range of topics to help them weather
the storm and even take advantage of
emerging opportunities.
Figure 8: Global liquids supply cost curve 2020
Ultra Deepwater
US$/bbl
Extra Heavy Oil
90
Oil Sands
80
70
60
Deepwater
Onshore
NAM
Shale
Onshore
Current Brent
Russia
RoW
50
spot price
40 Offshore
Shelf
30
20
Onshore Middle East
10
2020
0 Production
0 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100 million boe/d
Source: Rystad Energy
10
http://www.bp.com/en/global/corporate/press/bp-magazine/conversations/interview-with-bob-dudley.html
9 | PwCFigure 9: Against a backdrop of falling oil prices, O&G companies will have a number of issues to address
• R
educe capex spend and spend on ion Acc • Improve cash flow*
uct ess
OFS suppliers and contractors red to • Improve working capital
st c
• Supply chain optimisation • Reduce/restructure debt*
ap
Co
• Supplier stability
ita
• Leverage technology
l
• Explore outsourcing/back office
S t r a te g y r e v i e
rationalisation
• Review headcount
io n
ti m f o li o
• Capital projects optimisation
is a t
• Safety and culture review
op or t
w
P
Pe o ple
• Market reassessment
• R e-assess long term strategy
• Divest non core assets
• Coherence with capabilities
• Acquire complimentary assets
• Joint Venture/contract reviews
‘on cheap’
(including disputes)
• Tax optimisation
• Decommissioning • Retain core talent • Asset impairment/swaps
• Stakeholder management • Recruit new talent
• Behaviours and Culture review
Note: * Includes tax elements
Source: Strategy& research
In the current climate we believe O&G companies must urgently address
two topics:
Renewing business strategy that is
truly driven by a company’s
capabilities.
Right-sizing the cost base to
1 sustainably deliver the chosen strategy
in a ‘lower for longer’ environment.
2
Opportunities in Adversity: Strategies for a Lower Oil Price | 10Capability-driven strategy
Three interlocking elements make up a Only a coherent company – one that
A company’s ‘right to win’ in any capabilities-driven strategy. pursues a clear strategic direction,
market depends not just on • Way to Play: how you choose to face builds a system of differentiating
external market positioning or the market and create value for your capabilities consistent with that
internal capabilities but on a customers. direction and deploys those capabilities
coherent strategy that aligns on behalf of the resource holder – can
them at every level. • Capabilities System: why you
reliably and sustainably outpace
choose your way to play and what
competitors.
allows you to deliver it. This system
consists of three to six distinctive As shown by our previous research
capabilities that set your company (‘Sail, not rail’ from January 2015)11,
apart from its rivals. Each capability O&G companies can specialise in
is ensured through the right various different capabilities. However,
combination of processes, tools, not every company gets it right.
knowledge, skills, and organisation.
• Product and Service Fit: based on
your way to play and capabilities,
which elements in your portfolio
will grow... and which should go?
Capability area Description Example
Occidental
E&P value chain Capabilities with respect to a particular part of the E&P value chain Enhanced oil recovery
Lundin
Core region Capabilities with respect to operating in a particular geographic area Norwegian North Sea
Tullow oil
Play types Capabilities regarding exploration in particular geological play types Rift basins, stratigraphic
traps
Statoil
Technology Capabilities in application of a particular specific technology Harsh environments
EOG
Operational Capabilities to combine various technologies and operating practices U.S. shale plays
BG
Product Capabilities relating primarily to one particular product Gas value chain
Wintershall
Partnerships Capabilities in establishing and leveraging partnerships Gazprom partnership
BP
Political situation Capabilities to operate under particular political circumstances Russia
Apache
Commercial situation Capabilities to secure assets in particular commercial situations Bilateral negotiations
11
Strategy& ‘Sail not Rail’ http://www.strategyand.pwc.com/global/home/what-we-think/reports-white-papers/article-display/sail-not-rail
11 | PwCIt is often difficult to distinguish example of a major seeking to improve Balance sheet strength and strong
between smaller E&P players; many exploration success by learning best existing capabilities mean large
deploy the same capability set and team practice from its smaller and companies are best placed to consider a
with similar contractors but in different independent counterpart. Another capability-led strategy. Yet, ironically,
locations. Few have organised the example might be Occidental, which they are the slowest and most difficult
company around their chosen way to has eschewed risky exploration and to shift from existing ways of working.
deliver value and built the capabilities focused on levering technology to It often takes a new CEO or a
to do that; too often companies move bolster production from existing fields. commodity price shock to spur
from exploration, into development, It’s therefore vital to critically examine: significant changes. But once the right
then projects and operations on an (a) the capabilities needed to make the capability-led strategy is established,
opportunistic basis before retrenching options work, such that a differentiated companies can take a fresh perspective
sharply when problems arise and and credible position emerges; (b) the on their portfolio to determine which
expose them as overextended. value that can be extracted from assets to keep and grow. Timing the
each option. disposal of other assets is vital to the
Smaller O&G companies need to emergence of a coherent company.
establish their own defining ‘way to Large companies typically have excess
play’. Why should businesses partner capabilities and lack clarity about However, it should be recognised that
with them? Are they exploration which to develop and – crucially – some players have reconfigured
specialists in a certain geology or which not to develop. Instead, they set themselves to better focus on core
region, development specialists that strategy in very broad terms (e.g. ‘more capabilities. The demerger of
make finds commercially viable or are upstream’) and pursue a large list of ConocoPhillips into an independent
they expert at extracting more oil and possible investments in all upstream player (ConocoPhillips) and a
extending the life of assets and departments. Decisions tend to be separate downstream entity (Phillips
reservoirs? Their final identity may based on risk appetite, expected 66) and a similar decision by Murphy
differ from what they expect and more returns and capital availability, rather Oil Corporation show IOCs exploring
than one option may be feasible. There than a capability-led strategy with a radical ways to focus on core
are, however, several examples in the chosen way to play. Differentiation competencies and release value.
market that illustrate how some smaller between some major companies comes
players have differentiated themselves down to their current asset portfolio
based on a core of coherent and distinct and subtleties in culture and the CEO’s
capabilities. Shell’s joint venture with public image.
Tullow, established in 2012, was a good
Figure 10: Define the boundaries of your portfolio
Above
Par
Divest
Financial potential
Align and grow
Grow and expand
selectively
Grow or
acquire
products and
services that
leverage your
distinctive
capabilities
Leverage coherence or
Manage to divest/discontinue
divest
Below
Par
Low High
Coherence with capabilities system
Opportunities in Adversity: Strategies for a Lower Oil Price | 12Right-sizing the cost base
While some companies have attacked forgings. Some smaller independents
In Opportunities in Adversity we costs in spectacular fashion, few are also consolidating contracts with
stressed the need to scrutinise executives have used the downturn to multiple helicopter providers into one
costs in a targeted and step back from day-to-day business and contract with one provider.
sustainable way, addressing address their structural cost base. Interestingly, the EPC segment is
un-differentiated and non-core striving for more transformational cost
spend while avoiding the More often than not, companies settle reductions. Aker Solutions, McDermott
excessive lay-offs that followed for intermittent top-down and Technip are all seeking efficiency
the 1999/2000 downturn and interventions, such as across-the-board gains by assessing factors such as
sowed the seeds of the ‘big crew percentage spending cuts, deferral of internal organisation and processes.
change’. investments, snap reorganisations or
layoffs. These approaches typically Nevertheless, these are more the
yield short-term results, but the benefits exceptions than the rule in the sector.
are difficult to sustain and the actions One proven framework for structural
stress the organisation. Furthermore, change is zero-based cost management.
significant increases in expenditure are Adopting zero-based cost management
often required soon afterwards — could help other companies replace the
replacing aging equipment, building up cycle of up and down cost spikes with a
depleted inventories, launching new long-term strategic approach to
products and services to differentiate, minimising costs, as illustrated below.
recruiting workers to staff expansions
and rehiring ex-employees as expensive Most managers are reasonably familiar
contractors. The company is then back with the concept in theory, but few
where it started—needing to slash costs. understand how it can be successfully
and comprehensively implemented.
That said, there are some O&G Zero-based cost management involves
companies tackling cost reduction in a a fundamental re-examination of the
more strategic and sustainable manner. activities and associated costs
While the industry is notorious for its necessary to achieve specific business
lack of standardisation, Statoil, for outcomes. A zero-based assessment can
example, is making efforts in the North target costs in a department, a group of
Sea to set common specifications with projects or across organisational units.
other companies for subsea steel There are four steps to a successful
zero-based approach.
13 | PwCFigure 11: The zero-based holistic approach
Undertake a Capability Driven 1 Zero-Base the Activities
2 Target areas
Strategy exercise… • What activities can we: Departments
• Who are we? –– Not live without?
• How do we play? –– Stop?
Projects
• What are the key capabilities we need to –– Simplify or aggregate?
differentiate and be successful?
–– Redefine demand for?
• What part of the portfolio should we grow Enterprise
and what part dispose to drive coherence?
Embed the change
4 Assess the Outcomes
3
• How often should the • Are the revised activities
exercise be performed? aligned with the vision?
• What governance structures • Are the cost cuts sufficient
are required? to meet the targets?
• How should the results be • If required, what further
communicated? action can be taken?
Step 1 Step 2 3: ‘What activities can we
simplify, improve or
Calls for rapid evaluation of the Requires a thorough examination of the
aggregate?’
industry, market and company position, cost base in terms of activities the
followed by a detailed capability-driven company must maintain. To determine Just because an activity is necessary
strategy exercise. This should set the which activities need most attention, doesn’t mean it is performed efficiently.
parameters for the examination of costs business managers should answer four Processes can become excessively
– what level of unit cost reduction is basic questions: complicated over time as more
required for the business to survive and stakeholders are drawn into decision-
thrive? Which key capabilities 1: ‘ What activities can we not making, while, similar activities can be
differentiate the company and demand live without?’ duplicated across functions.
investment and which can be cut or
Even the leanest organisation must The digital revolution can play a
disposed of?
perform certain activities to ‘keep the powerful part in rectifying this with its
lights on’ and minimum standards are transformational impact on the supply
mandated for safety and legal chain and the notion of the Digital
compliance. Other activities involve Oilfield as it applies to upstream
implicit choices about what to do above operations.
and beyond the basics – so this
distinction must now be made explicit. 4: ‘Where can we redefine
Remember that additional ‘new’ demand for activities?’
activities may arise from the vision
Even if an activity is delivered
articulated in step 1.
efficiently, costs can spiral without
2: ‘What activities can we stop?’ careful management. Companies
frequently struggle to understand why
Certain discretionary activities often their overall cost competitiveness is
remain well-funded year after year poor when benchmarking individual
because that’s how it’s always been processes tells them unit process costs
done. Activities that once made sense are low.
might fail to stand up if companies ask:
‘Why do we still do that?’
Opportunities in Adversity: Strategies for a Lower Oil Price | 14Step 3 Gives managers the opportunity to step back and consider whether the emerging picture fits with the company vision articulated in step 1 and is likely to achieve the necessary cost reductions. Any gap between aspiration and proposal can be resolved by looking again at the zero-based activity set to identify potential further action. Step 4 Embed the Change – the prior steps all rely on good implementation and sustainability is key for zero-basing. Lack of future planning is a common pitfall, so it is crucial to address these questions: • Should the exercise be performed every budget cycle? • What governance structures need to be put in place? • How should the results of zero- basing be discussed within the organisation? • How much change can the organisation handle? 15 | PwC
Conclusion
In our view many O&G But the weight of economic A ‘lower for longer’ scenario
companies have so far avoided analysis suggests a ‘lower for clearly poses very many
the structural reforms required longer’ scenario is the new challenges. But we suggest it
to survive and thrive in a ‘$50 reality – and the effects of also highlights an important
oil’ future, relying instead on product hedges and refinancing opportunity to make
financial risk management and are coming to an end. O&G improvements in strategy and
cuts to capex, headcount and companies must urgently efficiency. Many O&G companies
their supply base. Few, if any, address business fundamentals are at a crossroads with a chance
O&G majors have worked to ensure strategy is well- to make lasting changes for the
pro-actively with the supply defined, key capabilities are better. Players that adapt,
base to weather the storm, seek clearly identified and survive and prosper while the oil
ways to reduce both their costs underlying cost structure is price is low will emerge with a
or enter long-term commercial right-sized for the new sustainable business model that
relationships. environment. could reap rich rewards in more
favourable times.
Contacts
Alison Baker Dr Andrew Clark Milos Bartosek
UK Head of Oil & Gas Oil & Gas partner, Strategy& Senior Associate, Oil & Gas
+44 (0)20 7804 3314 +44 (0)20 7393 3418 +44 (0)20 7213 4301
alison.baker@uk.pwc.com a.clark@strategyand.pwc.com milos.bartosek@strategyand.uk.pwc.com
Opportunities in Adversity: Strategies for a Lower Oil Price | 16This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is given as to the accuracy or completeness of the information contained in this publication, and, to the extent permitted by law, PricewaterhouseCoopers LLP, its members, employees and agents do not accept or assume any liability, responsibility or duty of care for any consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it. © 2015 PricewaterhouseCoopers LLP. All rights reserved. In this document, “PwC” refers to the UK member firm, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. 150928-165714-LH-OS
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