Delivering Long-Term Value in E&P
Exploration and production (E&P) has become a margin business, with relentless pressure on unit cost performance and global competition for capital. While the industry response to the downturn has been impressive, past initiatives such as reductions in headcount and supplier rates are unlikely to cut it in the long term. To survive in this new economic reality, companies will have to do more to potentially reduce unit operating costs (UOC) by another 30%.
While oil and gas consumption is forecast to grow by 25% between 2015 and 2035, the growth rate has halved, with a further drag from decreasing energy intensity.* Significant US unconventional capacity continues to be brought on stream at unit costs far lower than those achieved pre-2014, while new renewable energy capacity is being added at pace, with spectacular improvements in cost efficiency. These are long-term pressures that are likely to carry on squeezing E&P firms, despite recent oil price increases.
As operators consider how to achieve further reductions in UOC, here are five sources of long-term value that every leadership team should be tackling in earnest.
Zero-based asset costs. The pursuit of engineering excellence has driven cost and complexity into processes, activities, and equipment. Meanwhile, as portfolios have shifted through acquisitions and divestments, differences in breakeven UOC have become more visible and, in many cases, these costs are no longer sustainable, especially with the lower oil price of recent years.
There is an opportunity to reduce waste by differentiating processes and standards, tailoring them to the economic needs of individual assets or asset classes. Leading players recognize that they need to go much further than differentiated maintenance strategies, looking in detail at individual activities and standards across the business.
By adopting an approach that starts with a “zero base” and adds back only those activities that truly drive value for an individual asset, operators can significantly reduce costs. One major reviewed in detail the process for assigning resources and costs to individual projects across field development and drilling projects and reduced costs by 25% across assets.
Value-based prioritization. Since the downturn, organizations are having to do “more with less,” with some having reduced headcount by up to 30 to 50%. Gold-plated engineering solutions and low-impact maintenance interventions are no longer feasible in the new economic reality. Yet in many organizations, day-to-day prioritization decisions still rely on traditional engineering-led methods or simplistic “rules of thumb.”
Downstream operators have long-established prioritization processes that use common corporate risk matrices to assess work scopes based on relative benefit-cost ratios. By quantifying benefit using “value of risk mitigated” rather than “value at risk,” operators can drive a far greater commercial focus into prioritization decisions. During KPMG’s recent work with one North Sea client, a review identified that 75% of discretionary work scopes approved in an annual budgeting plan had benefit-cost ratios of less than one, including one safety item costing in excess of $6 million yet with a risk reduction value of less than $1 million. The opportunity exists to apply this commercial thinking across the organization, e.g., well work, back office service levels, or discretionary initiatives.
Machines make decisions. High-profile developments in technology present an opportunity to realize substantial value from optimizing outcomes in high-stakes, day-to-day operational decisions, e.g., equipment reliability or production optimization. This technology represents an opportunity to move from reactive monitoring to predictive decision making, putting these decisions into the hands of those with access to the right data—not necessarily those closest to the asset or those with the greatest experience.
Yet “big data” approaches that invest millions of dollars in data lakes risk wasting money consolidating datasets that in many cases are incomplete or poor quality, with limited understanding of how to drive value from the data. Instead, companies should start by understanding performance trade-offs, then working back through the levers available, the people making the decisions, and the decision support architecture before identifying the data requirements and investing in addressing any shortfalls.
Agile supply chains. More than 50% of E&P labor and spend is through third parties, therefore representing a key source of potential value. Yet traditional behaviors have focused on playing a zero-sum game, with each side benefitting from the other’s expense at different points in the oil price cycle.
There is little scope for further rate reductions, and a new optimism in the industry sees capacity tightening and rates rising again—risking losing hard-won gains. Further value therefore must come from working together to drive out inefficiencies. This necessitates much greater agility and collaboration. In short, thinking like a manufacturing business, where the manufacturer and Tier 1 and Tier 2 suppliers work together seamlessly to adjust practices to maximize value for all parties, forming action teams to work collaboratively to eradicate inefficiencies.
Intelligent process automation. Support function costs are often relatively small yet can be challenging to reduce. Simple process automation technology, using bots, has delivered significant productivity improvements in other sectors such as financial services and the pharmaceutical industry. It represents a largely untapped opportunity for E&P to reduce the costs of repetitive, transactional processes by up to 30%.
Using a “center of excellence” model, capability can be developed in-house, reducing the need for expensive third-party providers and enabling rapid building of scale. This approach has been successfully demonstrated in US unconventionals, where operators have achieved returns on investment of 3:1 in year one and radically reduced error rates in such processes.
Start Small, Fail Fast, Scale Fast
The scale of these opportunities suggests that something on the order of 30% reduction in UOC is possible and will require high focus in the following areas:
- Driving a far more commercial mindset into day-to-day decision making across the organization
- Looking outside E&P for best practices, and opening minds to different ways of working from other sectors
- A very different approach to releasing the value potential from new technologies
Many organizations are placing their hopes in continuous improvement programs. While these clearly have a role to play in driving cultural change, they are unlikely to go far enough and are unlikely to deliver the cross-functional ways of working needed to unlock this value.
A better approach would be to focus on a small number of step change opportunities that can be delivered individually, minimizing disruption to the organization. These will complement and act as accelerators, to super-charge existing programs. However, they will require management attention, dedicated resources and a far greater willingness to experiment—a more entrepreneurial approach, best characterized as “start small, fail fast, scale fast.”
*BP Energy Outlook, 2017.
Delivering Long-Term Value in E&P
James Albert, Associate Director, KPMG
01 March 2018
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