A synonym is a word you use when you can't spell the word you first thought of.
Burt Bacharach
US Songwriter, 1918+
Apparently, economic hysteresis can be defined as the delayed recovery of a system beyond equilibrium! What does that mean? Well, let’s start with a simple model.
You know how quick oil companies are to put up petrol prices when the oil price rises (“Ah, we have to buy our products on the global stage”, they say!) and how slow they are to bring them down again when the oil price drops (“Ah, this a complex issue and the global price is not the only factor”, they say!) – that’s a simple example of hysteresis! The same goes for the price of gas too, I guess, at least in the UK.
Well, economic hysteresis applies inside the oil patch as well. As oil and/or gas prices rise, there is a supply/demand squeeze on oil field services and prices rise, typically lagging the commodity price rise by up to 12 months; equally, as oil and/or gas prices drop, the oil field services market slackens and prices drop, typically lagging the commodity price by up to 12 months or so. ’12 months’ is just my guess at an average: in some cases, service prices have been fixed in long term contracts – two or three years ahead in the case of some drilling rigs – and the lags will then be much longer.
The point is that we are now in a period where oil and gas prices have dropped dramatically but oil field service prices have not yet fully followed them down the ski-slope. What this means is that integrated oil & gas companies are feeling the squeeze on cash flow and are figuring out how to continue paying dividends consistent with their investors’ expectations – avoiding dropping them seems to be the key, not too many folk seem to be expecting a rise!
Under this short-term pressure to maintain cash flows and not drop dividends, companies forget that not so long ago they were making out like bandits as oil & gas prices rose and instead react to the immediate past and pull the ‘easy’ levers by:
> Cutting staff – see for example “Shell CEO Says Job Cuts Imminent to Reduce Costs” at http://www.rigzone.com/news/article.asp?a_id=75653 – I guess that’s where I’d identify hysteria!
> Cutting exploration & appraisal
> Re-negotiating every oil field service contract
> Slowing/deferring development expenditure
> Postponing projects that look uneconomic at ‘today’s’ prices.
Schlumberger’s CEO Andrew Gould has recently shown a couple of pictures which show some of the consequences of this reaction, manifested in a plummeting US rig count and cancelled projects.
[http://media.corporate-ir.net/media_files/irol/97/97513/Gould_Howard_Weil_0309.pdf ]
For oil field service companies, there’s no doubt that the ‘golden months’ of 2006 to early 2008, when - in my humble opinion – they exploited an out-of-kilter supply/demand balance to charge over-the-top prices, are gone. The question is – what do they do now?
Well, let me begin by telling you about my experiences in trying to organise the most recent OilVoice Forum on the Digital Oil Field that took place on April 22nd. In our Forum, the format is that up to half a dozen oil field service companies present to an audience of circa 150 oil & gas professionals who attend (and get lunch!) for free: the presentations are video-ed and streamed through the OilVoice Forum web-site (www.oilvoiceforum.com/open). As this is advertising/marketing, the companies pay to present.
In approaching a dozen or more companies about presenting at the April 22nd Forum, there were two distinct, quite contrasting, reactions. The first – accompanied either by total silence or the sound of teeth being sucked – was along the lines “Don’t you know there’s a recession on? We’re cutting back and we can’t possibly afford to pay! More than my jobsworth!” The second was along the lines of “Yes, we need to advertise to maintain/increase our market share. Count us in!”
OK, this is a pretty black and white conclusion to draw from this micro-story but I think it reveals two end members of oil field service companies’ responses to current times. And let me make an even bigger jump – the ‘smart’ companies will make theirs’ an ‘and’ response: they will find a way to cut costs and go after market share. The ‘others’ will just cut costs.
There will be many oil field service companies that won’t survive the next 18 months. In my humble opinion, the ‘smart’ ones give themselves a better chance! You can see who these might be by consulting the agendas for our first three OilVoice Forums at www.oilvoiceforum.com/open . If dialogue on this topic takes off, I may unwittingly reveal the names of some of the ‘others’!!
Back to the oil & gas companies – what are they going to do next?
Well, perhaps a lesson to be learned from recent history is that trying to forecast oil or gas prices two or three years ahead, or even two or three months ahead, is a futile exercise: actually, it’s a lesson that’s been learned before but it’s one of those that lapses rapidly in the memory with the passage of time. It could be that pressure on supply will re-start the escalation of prices to the oxygen-starved heights of $150/barrel; it could be that weakening global demand will keep prices down at current levels. My own view is that I hope prices settle in the range $60-80/barrel and think that sensible companies will figure out how to run their businesses at $50-60/barrel.
Let’s for a moment assume that this is so – that companies need to figure out how to run their business at $50-60/barrel. The relevant levers seem to be:
> Reducing the amount spent on exploration & appraisal
> Re-negotiating every oil field service contract
and
> Transforming the economics of development projects and currently producing fields.
Just the other day, the Times http://business.timesonline.co.uk/tol/business/columnists/article6188538.ece
picked up this theme in an article entitled “Danger of having BP contractors over a barrel” – now remind me, who is it that’s charging the high prices!! A more serious analysis would perhaps have contemplated where project economics might be transformed: well, let me offer a couple of suggestions:
Firstly, drilling and completions: secondly, production operations:
Let’s start with the first: hands up any oil & gas professional who doesn’t know that drilling and completions often takes up getting on for half of any capital budget whether it’s an annual exploration programme, a field development project or a brownfield re-development. In the aforementioned Times article, mention was made of BP’s annual $20bn capital programme – I guess a third or so of this will be for drilling and completions This is quite typical and thus there are large prizes to be gained if the combination of “Know How”, technology application and working closely with the contracting industry can deliver 10%, 20% or even 30% performance improvements. This is a big issue in itself and one that I will return to in a future article.
This time I want to focus on Production Operations where I believe that a major contribution will be made by the so-called Digital Oil Field technologies which involve using sophisticated data acquisition, processing, control and visualisation techniques to monitor and manage fields using real time information. These technologies offer enormous potential for operators to:
> ‘shape’ production profiles, with individual wells starting-up faster and achieving field-wide optimisation,
> identify unexploited reserves, improving recovery factors,
> cut both Capex (less wells) and Operating Costs, and
> remove staff from unsafe environments.
The Gulf of Mexico and the North Sea seem to be at the ‘leading edge’ of the implementation of this technology, and I should mention that Norwegian fields exhibit some especially progressive developments. The leading companies and therefore those most likely to benefit from improved business performance over the medium to long term appear to me to be BP, StatoilHydro and perhaps Shell.
What’s interesting is that whilst these three companies are re-shaping their processes, workflows, standards and procurement practices to support collaboration, integration and optimisation via digital oil field projects, there are many, many more organisations that are not. There seem to be a couple of issues here:
First of all, many companies – and in particular their management and commercial teams who are the ultimate guardians of upwards information flow and decision making – seem to regard Microsoft Office as the cutting edge of the digital revolution. This produces considerable, and important, resistance to change but equally importantly it means that organisations are completely unequipped to cope with the massive flow of real time information – a veritable Niagara Falls! - which results from adopting digital oil field technologies on even a limited set of assets.
Secondly, functional ‘silos’ still abound in the oil & gas industry, especially on the engineering side. Neat evidence of this is available by looking at the Products and Services listed on Schlumberger’s home page (www.slb.com) or digging slightly deeper, into the Technical Papers that are on offer there; a similar impression can be gained from Weatherford’s Products tab on its home page (www.weatherford.com ). I hasten to add, I’m not criticising SLB or WFT here – my point is that they are or have been simply responding to the way most of their customers think; Schlumberger’s recent reorganisation announcement (http://www.rigzone.com/news/article.asp?a_id=75685 ) suggests that they are about to pursue greater integration around reservoir technologies.
The current ‘perfect storm’ of low oil prices, reducing demand and the credit ‘crunch’ is going to take some weathering. In my opinion, the oil & gas companies that are going to be successful will be so on the basis of really hard work on real assets - cutting costs, improving recovery factors, optimising production on existing fields and soon to be developed discoveries – not dealing in aspirations and promises. Transformations enabled by Digital Oil Fields will help to separate the “winners” from the “losers”.
What does all this mean for service companies? Well, in the short term, they are going to feel pressure on revenues from the aforementioned exploration expenditure reductions and downward pressures on costs. If they understood, and could support oil & gas companies in delivering, the integrated and collaborative technologies of digital oil fields, there would be medium to long term opportunities for them.
It was with all this in mind that we decided on the Digital Oil Field as the theme for the third OilVoice Forum on the morning of 22nd April, once again at the Geological Society in London. We were lucky enough to secure a lead-off talk from BP - as previously mentioned, one of the leading lights in the application of these new ideas - and David Latin gave a very clear account of the ‘how to’, the production benefits and the operating cost reductions of BP's Field of the Future® Program. He was followed by extremely insightful presentations from PGS, Facilium and Welltec.
You can view all the agenda for the day and all the presentations at OilvoiceForum.com
Author:
David Bamford
04 May 2009 15:49