Beating volatility in exploration and production
July 26, 2019
July 26, 2019
It’s a challenging time for exploration and production (E&P) operators in the oil and gas industry. Crude supplies are plentiful. But demand growth is uncertain. Oil prices are low and volatile. And shareholder returns have taken a hit.
Understandably, investors have grown skittish. They’re turning their backs on long-cycle assets that once delivered accretive returns―demanding greater exposure to assets with lower risks, more predictable returns and limited downside potential. In response, E&P companies have shifted more of their portfolios to short-cycle holdings. But, as many of them are now learning, this strategy has significant limitations.
E&P companies’ return on invested capital is now hovering at about 2-3% with no improvement in sight.
Returns on short-cycle investments usually start flowing in a matter of months. But payback times for deepwater projects are decreasing, thereby chipping away at unconventional assets’ advantage. Additionally, new shale acreage is hard to find and costs associated with developing short-cycle assets are quite high.
The bottom line? While diversifying portfolio holdings to include more short-cycle assets made sense from a risk-mitigation perspective, it hasn’t had much effect on the industry’s US$500 billion in annual capex spending. This puts E&P companies in a bind. If they don’t get their portfolios in order and generate better returns over time, investors will not be inclined to make the investments the industry needs to maintain operations over the next 25 years.
E&P companies need asset portfolios that enable the production of energy from the best asset class in a given moment. These portfolios must be highly flexible, since retaining asset optionality will be critical as these companies navigate the ongoing disruption in the industry. Moving forward, the best asset management approaches will be characterized by two things:
This combination of veracity and velocity enables E&P companies to shape a dynamic portfolio management strategy that not only boosts ROIC, but also retains the optionality and agility needed to jump in as opportunities arise.
A combination of veracity and velocity enables E&P companies to shape a dynamic portfolio management strategy that not only boosts ROIC, but also retains the optionality and agility the ongoing disruption in the industry calls for. Winning companies will:
Forward-thinking E&P companies will extend their risk/return analyses to development and production. This means adopting a new mindset, a data-driven asset allocation strategy and a risk/reward culture that covers the entire E&P lifecycle.
Pulling the right risk/reward levers across exploration, development and production will require new analytical capabilities—along with intuition and creative thinking.
Winning E&P companies will monitor the economic impact of their decisions, rapidly reallocating capital, making nimble portfolio decisions and re-prioritizing technology investments as needed.
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