21 Feb Four key trade offs in landing your digital strategy
As your oil and gas organization sets out its digital roadmap, you will have to make some trade offs around your focus of time, resources and areas of investment. Here’s a few of the key trade offs that have been the subject of my recent conversations with industry leaders.
I’ve framed these trade offs as “either/or” questions to help bring clarity to the considerations involved, but the astute among you will recognize that oil and gas is not that black and white. In many cases, your preference is going to be “both”.
Greenfield or brownfield
This question is framed as “do we place a priority for digital investment in our existing brownfield assets (or targeting our operating cost) or do we aim at our next generation greenfield assets(or targeting our capital costs)”?
BP’s superb statistical reference tells me that the world produced 91.6 million barrels of oil (mmbls) and 274 billion cubic feet (bcf) of natural gas every day in 2015. The vast bulk of that production comes from facilities that were designed and built before the oil price crash that started in June 2014.
Therefore, oil and gas is an inherently brownfield business. Almost all of our production is coming from older production assets that predate the dramatic rise in digital capability, and indeed were not designed for the mobile, wearable, cloud-computing, sensor-ridden, big data, analytics, IT/OT converged drone-fueled world that we can now visualise.
Also, capital spending in the industry has largely dried up – various industry analysts tabulate the capital shortfall as being in the hundreds of billions of dollars over the past 3 years. As a consequence, there are very few, if any, big new and modern oil and gas assets that have been designed and built from the ground up with digital in mind.
In fact, it’s the light tight oil (LTO if you’re in the know, referring to the low viscosity or light petroleum found in low permeability shales and sandstones), which can embrace digital most rapidly, since these plays are relatively low capital, compared to, say, a new oil sands mine. LTO wells deplete quickly enough, and require a constant flow of new capital to keep them productive. Applying digital innovation could work exceptionally well (yes, pun intended) because each new capital iteration presents fresh opportunity for digital experimentation.
Another resource that requires a steady diet of new capital is the oil sands steam wells (referred to as steam assisted gravity drainage or SAGD oil sands wells). Similar to the LTO plays, SAGD wells need to be drilled regularly to maintain production volumes, and therefore provide a useful platform to trial digital improvements.
Unfortunately for all other brownfield players, this does mean that the capital-light LTO plays will have the upper hand in leveraging digital, which will likely serve to lower their costs further. This should keep oil prices trading in a narrow band around $50/bbl. We’ve seen this phenomenon play out in shale gas, where well productivity has climbed by 600% all while keeping gas prices depressed.
Oil and gas companies therefore need to understand their unique mix of capital and operating costs in their business to guide digital spend. Those heavily weighted to brownfield steady state (like oil sands mines, large conventional fields or off shore production assets) will likely orient their plans to achieve incremental improvements to their operating cost structures. Those heavily weighted to greenfield capital spending (like SAGD and shale players), will likely orient their plans to achieve more dramatic reinvention of their capital and operating costs.
G&A or operations
This question is framed as “how much priority should be given to reducing general and administration costs (in areas like HR, finance, IT and supply chain) over efforts to transform operations”. Frankly, the G&A structures for the oil and gas industry have been more or less static for a decade or more. In my view, the prevailing industry business model (functional specialization, asset driven) was set up during the previous big wave of mergers (Exxon and Mobil, BP and Amoco, and Chevron and Texaco). The model has changed only slightly since then, with the adoption of global service centers to house these big G&A costs.
Digital solutions are more mature in the G&A areas, which are common to all industries, and so payback from digital change is probably faster and with lower risk than in operations areas.
Fortunately, there are some big juicy targets in G&A after a decade of relentless regulatory change, proliferation of systems and a recent emphasis on growth in the era of $100 oil. One large global oil and gas company has more than 10% of their headcount in the Finance function.
Of course, focusing on G&A costs can only go so far. Eventually, oil and gas companies will have to orient their efforts to reducing operating costs and growing production. In the meantime, G&A costs should get some attention.
IT or OT?
This question is framed as ”should the emphasis on digital enhancements place more priority on IT or on OT”? Much like how existing oil and gas production assets are brownfield, the same is true for the thousands of legacy information technology (IT) and operating technology (OT) systems installed across the business. Many (all?) of these systems have designs that predate the opportunities presented by digital (low cost computing, unlimited storage, mobility of people and assets, autonomy and robotics, ubiquitous networks). These two domains (IT and OT) have operated as separate computing environments in oil and gas since computers were invented, but today there is pressure to upgrade both domains to take advantage of digital.
In the main, OT systems are the more static of the two domains. OT systems directly control and monitor pressurized and heated units, run 24/7, have very high uptime requirements, stringent safety features, high operating reliability and fail safe needs. These plant systems cannot be changed once they’re switched on, without bringing the plant down, and bringing the plant down has a direct impact on production volumes and revenues. Listen to any investor call, and the CEO will invariably start off with a summary of the quarter’s production.
IT systems are the more liquid. They change more frequently, are constantly being patched to reflect the latest feature set or security profile. But the CEO rarely mentions IT issues in an investor call unless the business has been attacked by hackers.
The problem is that digital solutions for oil and gas increasingly look like they will require IT and OT systems to become more integrated. Take aerial drone technology, available today from a few suppliers. A proven use case is to have drones fly over operating oil and gas wells, and take measurements of vegetation, moisture, damage, emissions and operating state. The guidance to the pilot who prepares the flight plan would come from IT systems containing asset data, maintenance history and well configuration. Actual flight operations is a classic OT system, that might feed data directly to operations about real time well status, but might also feed IT systems to auto generate work instructions and shift planning for well services.
It is becoming increasingly clear to the Chief Operating Officer and the Chief Information Officer that digital advancement has numbered the days of this arbitrary duality.
Oil and gas companies will need to be selective in allocating investment dollars and upgrades in both IT and OT areas, and most likely will need to figure out how to bring IT and OT closer together in a converged business model.
Short term or longer term
This question is framed as “how should digital investments balance short term cash benefits with longer term strategic goals”? With so much uncertainty around oil and gas markets, it’s tricky to decide how much to invest and when. On the one hand, if prices rise, you’d rather have capital at the ready to go for growth. On the other hand, if prices stay flat or decline, you’d rather work on getting operating costs lower.
There will be voices internally who will advocate a do nothing stance while waiting for either commodity prices to turn around, or for clear winners and losers to emerge in the digital technology race.
Doing nothing, however, does not appear to be a sound choice at this time. Prices look very much like they will stay at these low levels for the foreseeable future. More worrisome to me is that the bulk of industry cost savings appear to have come from the supply chain. Most oil and gas companies have squeezed their suppliers hard, but suppliers tell me that they have simply cut their prices while removing a bit of capacity from the market. Should oil prices rise, suppliers prices will rise in tandem. The actual work carried out in the industry has not yet changed for the better.
Oil and gas companies should be investing now in new ways of working, both internally across their businesses, and with their suppliers, to keep costs out in a more sustainable manner. Digital solutions can play a big role towards this outcome through process automation, improved data quality, better collaboration with the supply chain and deeper analytics.
Getting the investment portfolio balanced properly requires a structured investment plan that has these immediate payback items (such as process automation), some foundational investments (data quality improvements), and some deferrals (automated vehicles) until market and technology directions are clearer.