Set in motion by the global financial markets collapse, oil and gas markets have suffered a huge setback since July of 2008, with commodity prices dropping 66% in just four months. Energy demand is falling in all sectors of the global economy, caused by falling economic activity. As of November 15th, Equity markets in the US and Europe have fallen approximately 40% YTD. The lack of credit availability, and the seizing of credit markets, has had an immediate impact on economic activity in all sectors, at all levels. Toyota announced a 56% reduction in auto sales in the current quarter, the worst decline in 18 years. On November 6th, The European Central Bank cut interest rates for the second time in less than a month as the region's economy suffers its worst slump in 15 years. The rate of decline in economic activity is one of the steepest seen since the 1973-74 recession. These are signals of the beginning of a deeper and longer recession than we have seen in the last 35 years. These turbulent times require fast and immediate reaction. Business agility is required to survive and thrive.
Supply and demand balance points are now unknown, causing the recent unprecedented price volatility. The Organization of Petroleum Exporting Countries (OPEC) in October announced that its members will trim crude output by 1.5 million barrels a day from Nov. 1 in an attempt to stem falling oil prices. It is rumored that an additional cut will be suggested at OPEC’s December meeting. The effectiveness of this action has not been felt yet and OPEC has not been effective in policing cutbacks among its members in declining markets. Therefore, producers are re-evaluating current CAPEX in pipeline vs. reference prices used to justify them. With global demand unknown, investments decisions for new supply must be re-evaluated.
Oil field services companies will work off backlog, but they need to be better able to match order intake with resources. Hiring slowdowns need careful management. Prices could rise again by the time the current backlog impacts capacity.
As energy company stock prices drop, we expect to see an uptick in mergers and acquisitions of companies with strong and proven reserve positions in politically stable host countries. The risk / reward balance is tilting towards the purchase of whole companies to replace reserves produced. The last three years of rising commodity prices have vastly improved the balance sheets of the major oil companies, and they are now in a position to use that capital for “once in a generation” buying opportunities.
The following sections review actions being undertaken and the informational needs they generate.
Upstream Exploration & Production
First and foremost is the need to re-examine the exploration and exploitation projects in the current capital expenditure portfolio. This requires the ability to quickly rescore the internal rates of return while resetting underlying hydrocarbon reference pricing and assumptions on development costs. Projects already underway will be analyzed to see the impact of delaying or mothballing the project versus accepting the penalties incurred. Similarly, potential new projects will also be reviewed and re-evaluated. These are critical steps in slowing the outflow of capital until commodity markets improve.
Risk re-evaluations and improved risk controls are required with new risk management scenarios considered. Such evaluations call for improved modeling capabilities for evolving business environments to increase the speed at which companies can test business models against new scenarios.
A specific example would be the modeling of production sharing agreements. The impact of sudden price spikes in a production sharing agreement may enable a quick return of investment but trigger a reduction in the proportion of production allocated to the company operating the concession. This shackles the operator to the risks of maintaining the operations of the project for a relatively low share of the overall production and reserves. Modeling these scenarios with the recent experience of ultra high volatility will provide insights into the business model modifications that are going to be required.
Optimization of production curves will be required to ensure that every well and reservoir is being optimized for maximum recovery. During the past year, when prices were much higher, some companies were optimizing on production rate to take advantage of the unusual market conditions. Now producers need to revert to maximizing the total recovery over the long term, even if it means slowing current production. Optimization on this scale will require more use of real time surveillance data integrated with data from other disciplines such as geology and petrophysics.
Downstream Refining and Marketing
The need for higher levels of business agility in downstream refining has never been stronger. Refining margins suffered during the run-up in crude prices as margins were compressed by higher input costs. Higher prices also reduced volumes sold as consumers changed the way they traditionally used gasoline. Advances are needed in forecasting, production operations, maintenance, logistics and Health Safety and Environmental (HSE) compliance.
The reduction in fuel consumption due to high prices is forging a new requirement for higher accuracy in forecasting product demand. The impact of improper demand forecasting is higher costs from the disposal of excess product on the wholesale market reducing margins. The inclusion of more current and more predicative information is needed. Greater use of real-time data from third party sources can help in development of a more accurate product demand forecast in specific regions. Aspentech, the leading provider of linear programming models for production planning and optimization, has recently upgraded their flagship product, known as PIMS, to operate on Microsoft’s High Performance Cluster server, dramatically reducing the run time for complex models from days and hours to minutes, increasing the opportunity to use more sophisticated analysis in every day refining decisions, improving results. Improvements in forecasting enables highly targeted production, operating at the optimum supply / demand balance point.
Making data visible across the refinery and filtering relevant role-based data into actionable business intelligence improves the productivity of every worker, including mobile workers. Predictive tools can improve equipment uptime availability which drives down costs. The key is the simplicity with which such solutions can be implemented and integrated into their backbone enterprise systems.
Asset optimization and asset integrity is another area targeted for cost improvement. With the cost of telemetry continuing to drop, more refinery equipment can be cost effectively monitored in real-time. The struggle then is to deal with the tsunami of data that results and filtering that data into information that can be transformed into action. The way forward here is Automated workflow management, which is integral to improving several key activities in the refinery, from shift change handovers to suggesting improvements for optimizing processing unit operating parameters. Complex workflows requiring the use of several screens on SAP can be reduced to a single form that feeds and updates underlying ERP systems improving the efficiency of all users.
We need to do a better job in managing major capital projects, such as refinery turnarounds, when whole units are shut down for major periodic maintenance. These projects require new tools, such as real-time status reporting, to optimize equipment shutdown and acceleration of the deployment of leased equipment compressing schedule times whenever possible. The combination of unified communications capabilities (including seamless integration with mobile devices) combined with Project Portfolio Server can help identify opportunities to reduce down-time by compressing turnaround activities, possibly saving millions of dollars.
Continuous improvement in health, safety and environmental procedures is important in any economic state. RFID tagging brings a host of capabilities important to HSE procedures. These capabilities can provide improved operator lead asset integrity /maintenance programs to geospatial presence awareness for vastly improved startup and shutdown safety. Microsoft standards-based RFID infrastructure provides plug-and-play device compliance, automation and business process transformation.
Supply and Trading
Supply, distribution and trading are complex supply chains. To optimize these systems requires the ability to synthesize internal conditions with external market drivers. In these troubled times the volatility of markets has increased exponentially and the ability to react faster than the competition can make the difference between profit and loss. The ability to model trading opportunities in an easy to use canvas like Excel, yet manage the parameters of such opportunistic activity with enterprise risk controls is now available via excel server. No longer are uncontrolled spreadsheets a risk. Updates of risk models can be instantly made available to the trading organization sharing best practices and improving risk management compliance.
Risk management in the supply and trading area is accomplished by measuring each net inventory position, and subjecting each position to possible price fluctuations based on probability of their occurrence, (both up and down), and measuring the possible loss exposure from maintaining such positions over a specific time horizon. Such a measure is called Value At Risk ( “VaR”). Ideally, positions are managed to be fairly neutral, unless a specific trading exposure is allowed. The recent volatility of all markets has put increased emphasis on this technique. The VaR model has usually been run overnight to measure daily risk exposure. Now there is a desire to run this model more often, but users are constrained because many compute environments cannot run these models quickly enough. Our high performance computing platform running on Windows Compute Cluster Server is ideally suited for this task. Models can be run in a fraction of the time, allowing greater insight on the risk of evolving stock positions, and allowing mitigating action to be taken within the trading day.
With Microsoft tools modeling of blending opportunities can be quickly vetted, and instantly turned into work flows, increasing the agility of the organization to react to fast moving changes in the business environment. It is not enough to be able to spot a trading opportunity; one has to be agile enough to capture the opportunity through superior execution. Microsoft is the platform enabling this operational excellence.
Corporate Services/ Mergers & Acquisitions
Knowledge capture and best practice dissemination remains a major challenge to the entire industry with the impending loss of a significant share of the most experienced people. According to the Society of Petroleum Engineers, 50% of their existing global membership of some 67,000 professionals will retire in the next ten years. There is not enough time or talent available to replace the capability of this generation of professionals in this time frame. The need to capture the institutional knowledge of this retiring generation remains a high priority for most large companies. This imperative will not be impacted by a relatively short term price dislocation. Microsoft has the platform to capture knowledge, publish best practices, and transform these best practices into flexible workflows to guide the next generation of oil & gas professionals. This capability will not only enable knowledge to be transferred, but will make it widely available in expert systems who can promote consistent high quality decision making.
Extraordinary times can also create opportunity. Many companies used the last 4 years of rising commodity prices as opportunities to reduce debts and bolster their balance sheets. For companies with strong balance sheets, now is a time of great opportunity to buy reserves on Wall Street through acquisitions of whole companies. Many companies with significant oil & gas reserves in politically stable countries have reserves valued at or below current replacement cost and are attractive to companies struggling to replaces existing production with new discoveries.
The ability to quickly integrate an acquisition into the enterprise, which can save millions of dollars, is an additional agility factor required in these troubled times. technology can enable the faster integration of an acquired company’s assets with overlapping assets within the enterprise. Using web based systems, and service oriented architecture, a virtual consolidation of the underlying enterprise systems can be quickly achieved at the presentation layer, pulling data from the different legacy systems in one unifying view. This virtual consolidation enables the quick integration of overlapping assets with consistent work processes, resulting in faster realization of economies of scale and elimination of redundancies, and gives the acquisition integration teams more time to thoughtfully achieve harmonization of the legacy business systems. This agility results in a higher return on investment and an improved operating performance.
Oil Field Services
We have seen increasing consolidation in the oil field services companies. As with production companies, the last four years have seen profits levels for oil field services (OFS) firms increase exponentially. New relationships are being forged with national oil companies, allowing faster organic growth. Growth here will continue, but the impact of the global economic slowdown will surely be felt. Cutbacks in the capital budgets of major oil companies on the order of magnitude of 10-20 % or more are anticipated. Many majors have already announced cutbacks. Pricing pressures will again be introduced by the production companies as competition for work to fill newly created capacity surfaces.
Downward pricing pressures will require a new attention to costs. This price cost push dynamic will require new levels of innovation to stay competitive. New, more effective technologies will deliver the business outcomes desired, with more efficiency and accuracy. New systems and capabilities are required to track innovative ideas through a robust vetting process, ensuring that the most promising and profitable come to market. Ideation is a competitive advantage to those who can develop it as an enterprise capability.
Service delivery and customer relationship management are also key capabilities to ensure customer satisfaction and repeat business. In times like these, services companies are doubling down on their efforts to build strong relationships with fewer but stronger customers. Management of customer intelligence and opportunity requirements gathering, through product or service delivery, billing, and collection, are all opportunities to differentiate providers from the competition. Much of this process involves the integration of information from both structured systems and unstructured documents.
Increasing the focus on working capital management, credit and collection is also required in today’s fragile financial environment. Credit, even for good customers, may be suddenly cut off because their underlying financial institutions are troubled, creating an unexpected liquidity crisis.Customer relationship management (CRM) systems can help improve intelligence gathering on customer financial condition and provides a platform for improving order execution and service delivery. Additionally, A robust reference architecture for integration of work order management (including field data capture) with revenue billing systems reduce cost and working capital in both inventory and receivables by increasing inventory turnover and reducing days sales outstanding.
What to do now?
Netting it all out, the last 3 years were grow-grow-grow, drill-drill-drill. in our haste to grow we drove up costs, and let our processes get sloppy. A new era of austerity is upon us, But as as the new Chief of Staff for President Obama said, “Rule one: Never allow a crisis to go to waste,” “They are opportunities to do big things.” We can take this time to dramtically improve our business capabilites, and sharpen our skills. When the economy recovers, we will be that much stronger.
This is my first post- they will be more brief in the future, but I would like to get your feedback on this information. Was it useful? Do you agree? Any other perspectives?
Regards
Mike Sternesky
Mike Sternesky | Energy Solutions Manager | Microsoft Corporation |wk 832.252.4389 | mb 281.734.8850 | msternes@microsoft.com
