Posted on 04/15/2014 1:21:10 PM PDT by thackney
This opinion piece presents the opinions of the author. It does not necessarily reflect the views of Rigzone.
As the major oil companies struggle with how best to boost their profitability in an era of rising oilfield costs, business models are being adjusted. The changes are a reflection of managements’ attempts to change the culture of their organizations. The most popular theme is to split a company’s business into separate units with different investment and operational characterizations. For example, a popular way to split an integrated oil company is to put the most capital-intensive businesses – refining, petrochemicals, transportation and marketing – all in one basket, while the exploration and development business sits in another. That approach was popularized a few years ago by Marathon Oil (MRO-NYSE) and ConocoPhillips (COP-NYSE). The strategy was recently criticized by Archie Dunham, former CEO of Conoco at the time of its merger with Phillips Petroleum. His reasoning for disagreeing with this structure was that the capital-intensive businesses generated large cash flows that helped fund the capital needs of the E&P business.
Lately, a new business model is being promoted. That model involves splitting off the shale resource portion of a company’s E&P operations into a separate unit in an attempt to mimic the structure, and presumably the operations, and hopefully the profitability, of an independent oil and gas company. The thinking behind this move is that the philosophy driving successful shale exploiters is quite different from that needed to exploit conventional oil and gas plays. For the major international integrated oil companies, this rationale may prove successful. What it takes to be successful in hunting for and developing elephant-type fields in deepwater and remote regions of the world is considerably different from success in the domestic shale basins where the emphasis is on finding the optimal drilling and completion techniques and then repeating them over and over and over again with a goal of driving costs down. The strategy is the equivalent of buying bespoke goods versus mass produced items.
The two major oil companies who have recently embraced this new business model include Royal Dutch Shell (RDS.A-NYSE) and BP Ltd. (BP-NYSE). It remains to be seen how long it takes for each company to establish these new business units. In the back of the minds of many observers is the question of whether these moves are initial steps toward completely severing ties, i.e., selling or spinning off the entities. Our question with this business model structure is whether a corporate culture can be redesigned to achieve a different goal?
Exxon Mobil Corp. (XOM-NYSE) attempted a culture shift when it purchased XTO Energy a few years ago. At the time the deal was announced, observers questioned how ExxonMobil would be able to retain the key XTO managers who were used to a high degree of freedom to experiment, which is often found in smaller, independent oil and gas companies, as opposed to the monolithic and highly structured enterprise of its new parent. ExxonMobil’s approach was to retain XTO’s offices and management and to move ExxonMobil’s shale staff in. So far this shale investment has yet to financially pay off as envisioned by ExxonMobil’s management. Fortunately, the company has avoided the embarrassment of having to write down the value of its shale investment despite continued low natural gas prices and CEO Rex Tillerson’s lament in 2012 that the company was “losing its shirt” in shale gas. The fact ExxonMobil has not taken an asset impairment charge as many of its peers have caused the Securities and Exchange Commission (SEC) to question the company about how it was able to avoid that fate.
According to a Wall Street Journal blog in early February, the company responded to the SEC inquiry stating that placing a value on wells that pump oil and gas for decades requires considering many factors, including future events. For example, the company has had approved a liquefied natural gas (LNG) export terminal that once in operation could lift the value of its domestic natural gas resources above the current price and, importantly, future prices as suggested by quotations in the futures market. Whether that reflects true conviction or significant leverage over the company’s auditors is difficult to know.
Another way in which producers are addressing their reduced profitability is to attack their cost structures. Royal Dutch Shell says it plans to begin using cheaper Chinese oilfield equipment in order to lower operating costs. This would be a significant cultural adjustment as oil company purchasing departments are mandated to find the lowest cost equipment as long as it meets industry and company specifications. If the company has not been using Chinese equipment, the question is why?
This Chinese equipment strategy reminds us of Shell’s “Drilling in the Nineties” program designed to cut E&P costs. The approach was that oilfield service companies needed to bundle all its drilling and completion offerings into a single package and then price the entire package cheaply. The problem was that Shell’s drilling engineers, responsible for the success of wells and fields, wanted to make sure they could get the best equipment and services to ensure their success. If the service company that won the contract only had, for example, the number three ranked drilling fluids needed, the Shell engineer would arrange to purchase the number one product from a different service provider.
We will never forget a discussion we witnessed dealing with Shell’s program that occurred at an early 1990s annual meeting of the International Association of Contract Drillers (IADC). At the end of the back and forth among the drillers about the pros and cons of Shell’s program, one elderly gentleman, the president of a long-time West Texas contract driller, stood up and said, he didn’t understand what all the fuss was about since this approach had been going on for decades – it was called turnkey drilling! Everyone laughed and as if a light bulb went on, the discussion ended. Drilling in the Nineties eventually disappeared only to be replaced by “Best in Class” in which the producer or driller selected the best vendor in each supply category.
The battle over price versus quality of drilling and completion equipment and services has always gone on and the winner depends on the relative tightness of the market. The tighter the market, the better it is for service companies. Likewise, the looser the market, the better it is for producers. The common thread of all the various drilling and service contracting initiatives tried in the industry was how they fostered consolidation within the oilfield service industry. That may be the same outcome this time, too.
Who makes more money from the sale of a gallon of gas?
The Government(s) or the Oil producers?
Same with any capital gain on a risk venture.
You make money and the feds are standing there with their hands out or in your pockets for their cut after all the work and risk is done.
You lose money and you got no friends and no money. Oh sure, you get to use the losses as a deduction if you ever do make money but no on the same basis as a tax credit.
Government.
Integrated Oil companies pay way more in Taxes than they get to keep in profits.
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