Five strategies to transform the oil and gas supply chain
Companies in the oil
and gas supply chain have gone from boom to bust in the past two years. Here
are five strategies oil-field service and equipment companies are exploring to adjust
to the changing environment.
Over the past 24 months, companies in the oil and gas
supply chain have gone from boom to bust. Operators faced with crumbling crude
prices have cut back sharply on supply-chain spending. As a result, oil-field
service and equipment (OFSE) companies are seeing business evaporate. They have
cut costs and, in some cases, changed business models in response. However, in
pursuit of sustainable cost reductions and near- and long-term profitability,
both operators and OFSE companies have begun to work together. Right now, OFSE
companies in particular are exploring five strategies to accommodate this
changed environment: cost cutting, vertical integration, new revenue models,
consolidation, and new equipment and service models.
1. Cost cutting: A diet for the overweight
The cost cutting
required to address falling revenues has come as a shock to an industry that
over the years had grown fat and happy on high prices.
The good times resulted
in multiple years of cost inflation, with expenditure per barrel rising between
5 and 15 percent each year since 2009, depending on the service and the
geography. Offshore fields in particular saw costs rise significantly,
resulting in high break-even levels. In the North Sea, for example, the cost of
extracting a barrel of oil equivalent more than doubled, from just over $8 a
barrel in 2010 to around $17 a barrel just three years later.
On the plus side, all
that fat offers plenty of opportunities to slim down and optimize costs.
Operators are now
rediscovering the spirit of efficiency. For example, independent operators in
US onshore have been able to raise production per well while lowering cost per
barrel by using improved horizontal drilling techniques, and longer wells with
more frac stages, along with super fracking, where drillers pump a lot more
proppant (sand) into their wells. In the North Sea, too, 2015 saw a
long-overdue cost improvement. According to McKinsey’s North Sea operating
benchmark, 2015 lifting costs declined by 20 percent.
Operators focused at
first on tactical initiatives such as project postponements, expenditure cuts,
and staff reductions, and OFSE firms responded by cutting back on their own
service and manufacturing footprint to cope with less activity, lowering their costs
for solutions delivered by 20 to 30 percent. However, now that operators are
taking more strategic steps—including optimizing operations, exploring
supply-chain collaborations, finding new revenue models, and adopting new
technologies—OFSE players are following suit.
2. Vertical integration: One-stop shop
Collaboration is a
particularly effective way to lower costs and simplify contractor management.
Combining equipment, software and engineering, or other combinations of service
offerings can unlock significant value for customers.
Many services and
equipment purchases currently are outsourced to a variety of providers, which
results in complexity and a fragmented supplier base. Multiple OFSE companies
are now bringing these services in-house, with integrated offerings reducing
coordination costs. This can lead to savings of up to 30 percent. For example,
Schlumberger’s SIS division is offering a software backbone based on its Petrel
software platform. This allows an operator to develop a view of the potential
for oil and gas in a reservoir, model the field, plan the wells, and complete
the design.
While companies are
developing integrated offers in-house, many also are partnering or merging with
others to provide a wider range of services. In the subsea sector, Cameron and
Schlumberger formed the OneSubsea alliance in 2013 to offer
reservoir-to-surface services, integrating SLB’s reservoir and well technology
with CAM’s wellhead and surface technology (sensors, controls, software, and
analytics) to create complete drilling and production systems, thereby gaining
annual cost and revenue synergies estimated at $600 million per year.
(Schlumberger acquired Cameron in 2015.)
Another recent and
major convergence was FMC Technology with Technip, announced May 19, 2016,
aimed at redefining the way subsea fields are designed, delivered, and
maintained. This merger allowed the combined companies to offer a complete
suite of subsea equipment: Technip’s Genesis engineering, procurement,
construction, and installation (EPCI) capabilities and its Subsea, Umbilicals,
Risers, Flowlines (SURF) solutions with FMC’s equipment portfolio. The
companies announced significant projected cost savings of $200 million in 2018,
and at least $400 million in 2019 and beyond, which would be achieved through a
combination of supply-chain efficiencies, real estate and infrastructure
optimization, and organizational efficiencies.
3. New revenue models: Sharing financial risks for future
rewards
New revenue models have
emerged across the OFSE sector, including performance-based contracts that
combine equipment and services, and participation in project financing (equity
in exchange for equipment and service). In this way, OFSE companies are able to
give operators more flexibility by reducing their cost base and need for
investment in difficult times. This loads more capital expense on the shoulders
of OFSE providers, but it also can create a more stable income flow.
GE, for example, has
signed a deal with drilling company Diamond Offshore, in which GE would retain
ownership of eight Blow Out Preventers (BOPs), and guarantee their performance
through payments tied to the rig’s activities, and BOP performance. This model
shifts capital expenditure up front, with the service company (in this case GE)
taking on more of the burden.
This model, however,
requires sophisticated financial modeling and intense cooperation—sometimes,
more than companies can achieve. For example, SLB’s deal with E&P company
Ophir to provide services in kind (and, effectively, financing) to the Fortuna
LNG project collapsed in late April 2016. Ophir had sunk $600 million into the
scheme before SLB offered an additional $450 million required to get to first
gas, along with $30 million from Ophir, in exchange for a 40 percent stake.
Ophir said only that the two companies were “unable to complete the transaction
on the terms agreed.”
4. Consolidation: Increasing concentration
M&A activity in the
OFSE industry can be characterized as the consolidation of similar types of
businesses (such as Nabors and C&J oil-field service activities, or
Halliburton and Baker Hughes’ proposed merger, now aborted), as well as
integration along the field life cycle (such as Schlumberger’s acquisition of
Cameron or FMC’s merger with Technip).
McKinsey believes that
there will be much more consolidation across segments of the OFSE sector as oil
prices stabilize. Many companies today are a fraction of their former scale;
they could benefit from the savings in costs provided by a merger with a direct
peer. The drilling sector, in our view, is ripe for consolidation.
5. New equipment and service models: Design to value
Sustained investment in
new technologies is allowing some companies to capture new growth. Today’s low
oil price has created a new passion for efficiency, which highlights new
technologies that can drive efficiencies—albeit at a limited investment cost.
Advanced services—such
as Logging While Drilling, which allows for the generation of well data during
the drilling phase, Rotary Steerable drilling, and smart (offshore)
completions—are being sought by upstream operators. OFSE companies should
consider investing in such capabilities and increasing the use of digital
technologies in general as a way to achieve efficiencies, win business, and
help develop new business and revenue models. The sector has been slow to adopt
digital techniques that are widely in use elsewhere, representing a clear area
of potential opportunity. For example, a lot of investment is being made in
automating the drilling and completions work flow, leading to less people
required and better information from the various processes in the work flow.
Many OFSEs now are
redesigning equipment with more modular designs in order to drive out
inefficiencies. In the past, many products were not designed with cost, or
total cost of ownership (TCO), in mind. Taking a hard-nosed look at design from
a cost standpoint can result in 15 to 30 percent savings. In the absence of
modular design, procurement and manufacturing cannot benefit from economies of
scale. For example, Schlumberger’s new Rig of the Future is a critical enabler
for its vision of an integrated drilling and completion services offering.
Today, there is little
leeway for inefficiencies in the OFSE sector. Although eliminating those
inefficiencies comes with a cost, companies that delay taking their medicine
will suffer for it. For some, survival may require nothing less than shock
therapy.
Going forward, OFSE
companies should ask themselves whether they are well positioned to face a
volatile and uncertain future. To test whether they are pursuing the right
strategies, they should ask themselves a few critical questions, such as the
following:
·
Do you have an operating model that is
resilient to changes in the industry?
·
Do you have the right collaboration models
with customers and other suppliers?
·
Are you able to address the need to reduce
cost for your customers, for example, through standardization?
·
Are you using digital/data and analytics as a
potential game changer?
By Giorgio Bresciani and Marcel Brinkman
http://www.mckinsey.com/Industries/Oil-and-Gas/Our-Insights/Five-strategies-to-transform-the-oil-and-gas-supply-chain?cid=other-eml-alt-mip-mck-oth-1607
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