Oil and gas exploration companies are facing down a half-dozen simultaneous, overlapping threats to their financial success, according to two recent stories in the Rigzone industry newsletter.
“Five major forces that have traditionally acted independently will converge over the next decade, threatening a largely unprepared target,” the publication reported last week, citing a recent analysis by consultants at Deloitte. The sixth challenge—the industry’s long-standing tendency to run over budget on major megaprojects—could soon produce US$111 billion in cost overruns, according to an assessment by Rystad Energy.
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In the first of the two reports, based on a review of 1,350 exploration and development companies worldwide, Deloitte sees five “dpwnstream disruptors” placing a damper on profits and setting the stage for the stronger remaining fossil companies to buy up the more marginal ones. Those trends include: more renewable feedstocks for petroleum products and chemicals; use of end products like unrecyclable plastic waste as fuel that replaces newly-extracted oil and gas; self-initiated sustainability efforts driven by investors and other stakeholders; tougher global competition; and changes to established processes driven largely by “proactive green mandates” and peaking oil demand.
Andrew Slaughter, executive director of Deloitte’s energy, resources and industrials group, said a recent run of strong financial results for exploration and development companies “has masked a broad set of emerging risks” that many of them either haven’t noticed or aren’t admitting to. “It is striking that while risk exposure has turned negative, a large number of companies are not sufficiently updating their recognition of their deteriorating risk profile—either for their firm, their sector, or for downstream in general,” he said. “Could this leave them ill-prepared as these risks strengthen? Quite possibly.”
Slaughter warned that the “looming convergence of downstream disruptors will be ongoing rather than a one-time event,” Rigzone adds. “That disruption will resemble a market with a rate of change faster than what the downstream has witnessed in recent decades,” and will favour larger fossils with deeper pockets and more diverse product lines.
In spite of that volatility, Rystad expects annual approvals of new offshore oil projects to hit US$100 billion per year over the next for years, double the annual average for 2015-2018—the period that included the first three years after the Paris Agreement was negotiated. But when final investment decisions are rushed, a lack of sound planning could increase project costs by up to 20%, leading to the $111-billion cumulative figure for potential cost overruns.
“Recent well-publicized cost overruns are a wake-up call and signal the vital importance of proper project planning and implementation,” Rigzone notes. “For example, the cost estimate for Shell’s huge Prelude FLNG project was $11 billion back in 2011.” But “unforeseen mega-engineering and fabrication challenges” drove the cost up to $15 billion, an increase of more than 36%. “The scale of this cost overrun caused the major to cancel its order for another three FLNG units worth around $4.6 billion” (overruns not included).
