In February 2015 we published our viewpoint, Opportunities in adversity, following on from the 60% collapse in the oil price that had occurred since July 2014. At the time, there was no clear consensus about what shape the price recovery would take. In the past, the price has sometimes rebounded quickly, for example after the 2008-9 collapse, but at other times has stayed depressed for a prolonged period, such as after 1986.
We believe that this second scenario, of the oil price staying Lower for longer, is the most likely at present given the current and anticipated future supply glut in the market. Here we take a critical look at what this means for the sector and focus on two key imperatives to success in a prolonged low oil price environment:
(1) Developing a business strategy truly driven by a company’s capabilities
(2) ‘Right-sizing’ the cost base to sustainably deliver the chosen strategy
Hello I am Richard Spilsbury and I am joined by Milos Bartosek and Andrew Clarke.
We are here to talk briefly about some of the factors affecting the roller coaster ride in the Oil & Gas industry. In particular what are the economic effects of the lower oil price and then moving quickly into what are companies doing about that?
So Milos, give an economic view.
Milos: thank you Richard. What we see is that the market as clearly oversupplied. On the supply side, I would pick 3 key points to make:
• First, is that the OPEC countries are sticking – and actually exceeding their production target.
• The US Shell oil which was thought not to be economical at the current oil price is actually much more resilient than anyone expected, despite some of the recent drops.
• And lastly, with the current approval from the Congress of the nuclear deal with Iran, we can expect much more of a cheap supply coming from Iran going forward. On the demand side I would highlight one point and that is we got accustomed to our older growth from emerging markets and especially China to balance the oil market.
With the current slowdown in the Chinese economy this is not going to be the case going forward as much as we were used to. So when we looked with Andrew at how the companies have responded so far, we actually found that a lot of the companies relied on their physical hedging or financial hedging in order to see where the market is going. As these run out and all market looks set for much lower, for longer oil price they will need to respond, so, yes, XXXX discuss how they can respond.
Richard: absolutely and certainly from my client base, the E&P companies have had their revenue chopped by half – and now, sort of, straight down to the bottom line – so Andrew, this XXXX in the strategies that some of the companies are taking.
Andrew: in desperate times, and some of our clients are in desperate times, the temptation is to be very tactical about their actions. Cutting costs without too much thought about the longer term. We are talking to clients about capability driven strategy where they can identify those capabilities which differentiate them in the market and allow them to choose their way to play. Looking ahead, if we, if the scenario plays out as we think it will, there will be fewer E&P companies around and it’s likely to be the ones that have a clear strategy, good assets, well managed that are there at the end of the day.
Richard: yes, and that is already happening we are starting to see assets being able to sale, companies struggling, indeed some of the companies have gone into administration. So, what are they doing on the cost side to try and help this?
Andrew: well, if you follow the strategy argument we have just outlined there comes a moment when you have to get into action and actually marry the cost base of the company to the revenue likelihood or the revenue outturn. So we are talking to clients about a zero based approach where companies try and identify those costs – those activities which are differentiating and drive the capabilities they need to differentiate – those which are more qualifying that you need but you don’t need them in abundance and those which you don’t really need any more as you change direction and this should enable managers to cut with a bit more confidence and make sure that the enterprise is fit for the growth that will presumably come when there is a bit of an uptake in the market later.
Richard: yes, and let’s hope there is. But I think it’s clear though that companies need to be ready for the downturn to keep going and then hope for an XXX but when it happens it is a bonus.
Richard: Thank you Andrew, thank you Milos, and thank you for watching – we hope you found this useful, please download our report on the website which has further detail and contact details to get in touch.