Professional services organisation, PricewaterhouseCoopers (PwC), published their latest report, 'A Sea Change - The future of the North Sea Oil & Gas', which seeks to define the state of the North Sea Oil and Gas industry and, through the contribution of some 30+ anonymous 'senior industry stakeholders', give some guidance on how the industry could change to secure a turnaround in fortunes within a 24-month window of opportunity. Whilst full of positive sentiment, I can't help but worry that fundamentally, the North Sea Oil and Gas industry is averse to change.
The strongest element of the report is the urgent need for disruptive thinking within an industry that has always cyclically repeated the past and now, in a lower for longer environment, expects and needs different results. It shouldn't take Einstein to see the insanity of that as a strategy.
In theory, three of the most innovative or potentially most impactful ideas mooted are: consortium funding; nationalisation of the supply infrastructure; and standardisation of technologies. However, in heeding lessons from other large scale industries that have been forced into significant change, these are sometimes not without their problems when it comes to practical implementation.
The exit of many forms or scale of traditional funding from the industry has crippled exploration and development activities. Consortium funding, where those Operators (or Service companies) with deeper pockets club together to finance projects of mutual benefit could well go some way to replacing some of the more risk-averse sources that have withdrawn their support in recent times, scared off by unworkable reserves or performance covenant based lending. The worry is that whilst this may reduce the capital injection required, lenders will still take funding decisions or guarantees based on the weakest link in any partnership. Recovering after the 2008 financial crash, lending institutions of all sizes, despite having billions made available to inject back into the market, were more interested in rebuilding their own balance sheets before providing much-needed market stimulation. Perhaps, in the North Sea, those with the deepest pockets could provide more assurity than others, but then with shareholder pressure, Operators and Service companies may take the same approach in addressing their own needs first.
One of the biggest threats to the sustainability of supply in the North Sea is the integrity and long-term viability of the supply structure. Much of the efficiency savings achieved in the last decades that have driven the North Sea production cost to be amongst the most competitive in the world stem from collaborative use of the offshore pipeline and tie-back infrastructure. As fields face decommissioning or reduced investment in integrity, this advantage may literally erode. So, the industry suggests passing the maintenance of the infrastructure onto the Government. However, as an option, this has a familiar ring.
The nationalised National Rail inherited a poorly maintained infrastructure from the private Rail Track group of companies. Several catastrophic failures, mismanagement and massive losses led to this re-nationalisation where the bulk of the ongoing cost for the upkeep falls to the tax payer. A similar deal with the UK people, who perhaps would not hold the same fondness for bailing out the oil and gas industry, may struggle to find far-reaching support.
A key collaborative initiative that will only work if there is true commitment to co-operate from both Operators and Suppliers is standardisation. Macondo and other milestones have necessarily driven the performance standards demanded of oilfield equipment and operations higher and higher. However, raising the bar to a level where all equipment must meet the same stringent specifications whatever the working conditions is an expensive gold-plated option that led to spiralling industry costs in recent times. Likewise, the pursuit of competitive advantage by technology developers has baked in over-complexity and a lack of interoperability that similarly impacts on costs. Lessons can be learned from the automotive industry that introduced cross-manufacturer standardisation and many other technology and supply chain collaborations that greatly contributed to reduced manufacturing costs.
An industry averse to change
Change management experts identify several common traits in individuals and organisational cultures that lead to the lack of success or failure of change programmes. I believe that industries as a whole, including the Oil and Gas industry, can also be affected by these same factors leading to less than practical success when compared to the vision or goals such as this one.
Fear of the unknown
The precipitous decline of the oil price came as a surprise to most. However, like a blind-sided boxer left reeling from a stunning left hook, the industry has taken too long to gather its wits and come back fighting.
As an industry, Oil and Gas displays an astonishing lack of flexibility in its interpretation of and reaction to the information it has to hand. Just like the proverbial oil tanker, even with all the signs of oversupply, spiralling costs and reduced global demand, the industry failed to read the signs and change direction. And now, almost two years later, we are still lamenting how the industry should change rather than celebrating how it has changed.
Greater emphasis needs to be placed on reading the signs of the cycle and not adding too much complexity on what is still essentially a supply and demand driven market.
Much hope is placed on the UK Government's fiscal mechanisms to create a more favourable market environment. Whilst the PwC report cites praise for some of the changes that have been made, they make little difference currently in a market without revenue. UK Energy Secretary, Amber Rudd, on a trip to open the new Total Shetland gas plant, made no apologies for her lack of a visit to Aberdeen fully a year after taking up the appointment that oversees the UK's energy policies - including North Sea Oil and Gas. That is clearly not something that inspires trust within the industry that the Westminster government has a clear plan. One could argue that they do not even have a vested interest in the industry with the tax take moving into negative figures for the first time in 2015-16, falling from over £2 billion the previous year and down from £10 billion contribution just five years ago.
Loss of control
The perception that change will take away control has a crippling effect. The often quoted story of the howling dog not moving from the nail it is sitting on because the pain is not yet bad enough, exemplifies how the fear of what is on the other side of change outweighs the imperative for action. But surely, the industry has endured a deep enough pain that even the most thick-skinned or stubborn cannot ignore.
The longer the industry waits to make significant changes the less chance they will be made. As the oil price appears to stabilise around $50, the industry is already showing signs of drawing its breath in preparation to releasing a collective sigh of relief. However, $50 as the new bottom is tenuous and there is still a long way to go before significant spending returns. There will be many more companies and individuals who do not retain their positions to see the benefits of a market recovery.
PwC's report suggests a 24-month window of opportunity. I would ask why more was not done a year ago when the window was open even wider.
Predisposition toward change
Finally, a person's attitude to change plays a large part in how actively they engage with it. We all know and understand that the Oil and Gas industry operates on a cycle of boom and bust. If so, then as an industry why change at all? Let's just wait for the next upcycle to swing by.
Even if there is sufficient oil under the North Sea for another 20+ years, there is the clear and present danger that without decisive change, the UK's ability to extract it profitably will be severely damaged. Lack of investment in exploration and production, the supply infrastructure or retaining the skilled workforce within the North Sea basin will all impact negatively and, again, drive costs up and competitiveness down.
It is likely that seeking salvation from outside the industry at a Government level will not bear much fruit. Instead, change should be led from the inside out. Our industry leaders, therefore, bring the greatest chance of change within the Oil and Gas industry.
Organisations that want to have a long-term future in the North Sea, need to embed change within their organisations from the top down. Executive teams need to consider change at the forefront of their strategy and decision making, ensuring that it is a core competency of management and a key skill throughout the organisation.
Through championing change, great leaders create an environment that nurtures the most innovative and creative thinking from their people. Openness, transparency and availability of information for improved decision-making build the integrity and trust needed to drive difficult changes throughout the workforce and the whole industry. Developing a wider sense of trust will also bring greater collaboration between industry players.
By David Wilson from Refining Business
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Supply chains are currently in crisis. They have been for a long time now, ever since the start of the Covid-19 pandemic reshaped the way the world works. Stressed shipping networks and operational blockages – coupled with China’s insistence on a Covid-zero policy – means that cargo tanker rates are at an all-time high and that there just aren’t enough of them. McDonalds and KFCs in Asia are running out of French fries to sell, not because there aren’t enough potatoes in Idaho, but because there aren’t enough ships to deliver them to Japan or to Singapore from Los Angeles. The war in Ukraine has placed a particular emphasis on food supply chains by disrupting global wheat and sunflower oil supply chains and kicking off distressingly high levels of food price inflation across North Africa, the Middle East and Asia. It was against this backdrop that Indonesia announced a complete ban on palm oil exports. That nuclear option shocked the markets, set off a potential new supply chain crisis and has particular implications on future of crude oil pricing and biofuels in Asia.
A brief recap. Like most of Asia, Indonesia has been grappling with food price inflation as consequence of Covid-19. Like most of Asia, Indonesia has been attempting to control this through a combination of shielding its most vulnerable citizens through continued subsidies while attempting to optimise supply chains. Like most of Asia, Indonesia hasn’t been to control the market at all, because uncoordinated attempts across a wide spectrum of countries to achieve a similar level of individual protectionism is self-defeating.
Cooking oil is a major product of sensitive importance in Indonesia, and one that it is self-sufficient in as a result of its status as the world’s largest palm oil producer. So large is Indonesia in that regard that its excess palm oil production has been directed to increasingly higher biodiesel mandates, with a B40 mandate – diesel containing 40% of palm material – originally schedule for full implementation this year. But as palm oil prices started rising to all-time highs at the beginning of January, cooking oil started becoming scarcer in Indonesia. The government blamed hoarding and – wary of the Ramadan period and domestic unrest – implemented a Domestic Market Obligation on palm oil refineries, directing them to devote 20% of projected exports for domestic use. Increasingly stricter terms for the DMO continued over February and March, only for an abrupt U-turn in mid-March that removed the DMO completely. But as the war in Ukraine drove prices even further, Indonesia shocked the market by announcing an total ban on palm oil exports in late April. Chaotically, the ban was first clarified to be palm olein only (straight refining cooking oil), but then flip-flopped into a total ban of crude palm oil as well. Markets went haywire, prices jumped to historical highs and Indonesia’s trading partners reacted with alarm.
Joko Widodo has said that the ban will be indefinite until domestic cooking oil prices ‘moderate’. With the global situation as it is, ‘moderate’ is unlikely to be achieved until the end of 2022 at least, if ‘moderate’ is taken to be the previous level of palm oil prices – roughly half of current pricing. Logistically, Indonesia cannot hold out on the ban for more than two months. Only a third of Indonesia’s monthly palm oil production is consumed domestically; the rest is exported. An indefinite ban means that not only fill storage tanks up beyond capacity and estates forced to let fruit rot, but Indonesia will be missing out on crucial revenue from its crude palm oil export tax. Which is used to fund its biodiesel subsidies.
And that’s where the implications on oil come in. Indonesia’s ham-fisted attempt at protectionism has dire implications on biofuels policies in Asia. Palm oil prices within Indonesia might sink as long as surplus volumes can’t make it beyond the borders, but international palm oil prices will remain high as consuming countries pivot to producers like Malaysia, Thailand, Papua New Guinea, West Africa and Latin America. That in turn, threatens the biodiesel mandates in Thailand and Malaysia. The Thai government has already expressed concern over palm-led food price inflation and associated pressure on its (subsidised) biodiesel programme, launching efforts to mitigate the worst effects. Malaysia – which has a more direct approach to subsidised fuels – is also feeling the pinch. Thailand’s move to B10 and Malaysia’s move to B20 is now in jeopardy; in fact, Thailand has regressed its national mandate from B7 to B5. And the reason is that the differential between the bio- and the diesel portion of the biodiesel is now so disparate that subsidy regimes break down. It would be far cheaper – for the government, the tax-payers and consumers – to use straight diesel instead of biodiesel, as evidenced by Thailand’s reversal in mandates.
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Part of this situation is due to market dynamics. Part of it is due to geopolitical effects. But part of it is also due to Indonesia’s knee-jerk reaction. Supply disruption at the level of a blanket ban is always seismic and kicks off a chain of unintended consequences; see the OPEC oil shocks of the 70s. Indonesia’s palm oil export ban is almost at that level. ‘Indefinite’ is a vague term and offers no consolation to markets looking for direction. Damage will be done, even if the ban lasts a month. But the longer it lasts – Indonesian general elections are due in February 2024 – the more serious the consequences could be. And the more the oil and refining industry in Asia will have to think about their preconceived notions of the future of oil in the region.
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