Upstream E&P – Navigating complex landscapes in the energy sector

The Energy sector today is an incredibly complex landscape for executives and their leadership teams to navigate. It is increasingly challenging for them to know which way to go or where to turn.

Crude market volatility and low prices continue as a result of the double impact of drop in demand caused by the COVID-19 pandemic and over supply thanks to an ongoing geopolitical global wrangle for market dominance. Any meaningful economic recovery in oil price is still a long way off and is evermore fickle to predict.

The impact of the pandemic along with mild winters in the northern hemisphere has also led to an unprecedented fall in demand for natural gas. The International Energy Agency has predicted the crash in demand for natural gas will be the greatest ever recorded.¹ 

Arguably however, the biggest existential threat and crisis facing the oil industry now is climate change. Well before the pandemic struck, the drive for energy transition was moving further and further up the agenda – thrust into the public conscious by street protests, demonstrations, political debate and government policy change. Long before anyone had ever heard of COVID-19, we were witnessing increasing pressure on governments and investors to reduce investment in oil.

Today, there are many people who think the oil industry is about to change forever thanks to the combination of climate change and the pandemic. We have seen this recently in updated policies published by European companies Shell² and BP³ for example. With their net-zero commitments, these organisations appear to have demonstrated very clear intentions that in the long run, they will be producing less fossil fuels.

However impactful and painful this may be on existing business in terms of change in strategy, headcount, allocation of capital and investor sentiment, it is arguably more feasible for super-majors to make this policy shift than it is for much smaller organisations.

It is also worth noting that it is not realistic to predict that demand for oil, and especially gas is going to disappear quickly anytime soon or completely at all. Oil and gas will continue to be crucial commodities and will be needed to co-exist alongside renewable forms of energy for decades to come. Cheap natural gas may actually challenge many renewables projects and investments.

How then should today’s E&P companies react to & navigate the complex landscape of the Energy sector?

Taking time now to make improvements & address change

Whilst some of the toughest days of the pandemic lockdown and crisis management appear behind us, it is not too late to begin addressing long needed improvements and change in team structures, roles and responsibilities. Is the leadership team sufficiently experienced, robust, and prepared to tackle a potentially challenging and different market? Is it ready to innovate, adapt and overcome? Will it be prepared to grab hold and embrace new opportunities in the Energy sector?

Embrace lean models & ways of working

With many working from home and not travelling, most have experienced how much more efficient we can be, saving time and money. When we finally return to a new normality, it is expected that many of these behaviours will stick. Video calls are widely talked about as reducing the need for travel and meetings in a post-pandemic world. Embracing technology and AI extends to many other aspects of how we work and run our businesses, such as outsourcing certain support functions and employing virtual finance services.

ESG & thinking about investors

Investors in oil & gas have not had a good run in the past few years and it now transpires that they might have been better off putting their money into cleaner energies. Some now will be thinking about moving out of fossil fuels and into renewables. There are still a great deal many, however who believe in oil & gas and its importance within a well-balanced energy mix and transition plan.

Nevertheless, across the board, investors are paying much more attention to ESG (Environmental, Social & Governance) as a measurement of sustainability and societal impact of their investment in a portfolio company. The term ESG was first coined in 2005⁴. Now could be a very good time to think about this.

Redefining strategies

Redefining the strategy of a smaller company will be more challenging than it will be in a larger company for reasons such as operating models, expertise, revenue streams and allocation of funding. The question of feasibility must be addressed however, in a changing market that may soon become unrecognisable to the status quo. Innovation and inventiveness will drive how we do things differently.

Quality information drives good decision making

No company addressing change right now will be able to do this without accessing quality information that drives good and accurate decision making. How readily available, reliable and timely are KPIs, management accounts, financial statements and business & economic models? How effective and well used are existing ERM systems? Now is a very good time to review and update this.

Preparing for transactions & transitions

In these challenging market conditions, there will inevitably be asset and corporate risks to evaluate and very tough decisions to make. Consequentially, for companies in more fortunate positions with a longer term view, there will be opportunities to pursue. Typically, in volatile market conditions like we are experiencing now, seller and buyer expectations can differ considerably. This does not mean that either party should not begin to prepare themselves by investing time now in ground work for potential transactions and transitions.

AAB  supports the Energy sector with its suite of services ranging from outsourced and virtual finance, JV and contract audit, statutory audit, and tax advisory, to payroll and corporate benefits advice, and transaction and transition support.

Other areas of support where the firm is experiencing higher demand include supply chain review projects, and financial and economic modelling using their specialist proprietary solution.

To discuss anything further, please contact Alasdair Green, Partner and Head of Energy, or your usual AAB contact

References

1 Gas 2020, IEA Fuel Report June 2020: https://www.iea.org/reports/gas-2020

2 Shell statement, April 2020: www.shell.com/netzeroambition

3 BP press release, February 2020: https://www.bp.com/en/global/corporate/news-and-insights/press-releases/bernard-looney-announces-new-ambition-for-bp.html

4 The Remarkable Rise Of ESG, Forbes, July 2018: https://www.forbes.com/sites/georgkell/2018/07/11/the-remarkable-rise-of-esg/#7de68a191695