How will oil and gas companies solve the energy trilemma?
Notice that the price of petrol has fallen over the last month? This is directly related to the coronavirus outbreak, which has led to fewer people travelling, and subsequently less demand for petrol, diesel and aviation fuel which are all derived from oil. This in turn impacts the oil price.
We’ve seen the cost per barrel fall from nearly $70 at the start of the year for Brent to the low $50s. It’s currently hovering around $55 a barrel, nudging a few dollars either way depending on the latest news of the virus’s spread.
Over the same period, oil exports from Libya have collapsed to a near standstill due to a series of blockades by opponents of the country’s government. To put this in context, Libya has lost more than $1 billion in exports from the blockades. Traditionally, we would have expected such a loss in available supply to send oil prices rising amid global panic, but it didn’t register at all on the price scale.
The reason? The world has enough oil right now. In fact, we may have enough oil full stop.
Not too long ago, economists, analysts and forecasters would spend a lot of time debating a concept called “peak oil”. Basically, that was the point when the world would be extracting the maximum amount of oil possible, after which production would start to decline. The premise was based on the notion that as oil demand continued to rise, supply wouldn’t be able to keep up. We’d run out. In the late 20th century, that seemed to make absolute sense. The need for oil could only go one way because how else would we power our world, right?
The Stone Age didn’t end because we ran out of stone. It ended because we developed something else.
But, at the start of this century the development of the fracking industry in the US alongside directional drilling, which allowed horizontal wells to unlock miles and miles of narrow seams of oil-bearing shale rock, cut the fears of finite supply in one stroke. Simultaneously, the development and adoption of renewable energy is growing rapidly – faster than any other energy source.
And while price shocks up to very recently have been focused on oil supply, it is demand that is now in the driving seat. That’s why oil traders have taken little interest in what’s happening to Libyan supplies and instead devoted their attention more on the impact on demand of the coronavirus. Today “peak oil” is more about peak demand than peak supply.
This doesn’t mean that oil is done. Far from it. Across the board forecasts suggest year on year demand for oil will continue to rise for the next decade or so, then plateau at between 80 to 130 million barrels per day. BP has suggested that trillions of dollars of investment will still be required over the next 20 years to keep our world going, with China and India the growth leaders.
But there’s no denying that oil’s domination of global energy will reduce in the long term. The Stone Age didn’t end because we ran out of stone. It ended because we developed something else.
In the oil industry, we’ve become used to commodity price boom-and-bust cycles approximately every six to eight years. However, with forecasts suggesting prices will stick within the $60-$70 per barrel to the middle of this decade, and predictions that growth to 2040 will be gradual then level out, have we reached the end of the rollercoaster ride that has typified the industry so far? Will the next leg of this new road be less undulating, missing out on the spectacular views of $100-plus oil, but also avoiding the disasters of sub $30?
If so, this creates a problem for many companies.
Cost reductions in the difficult financial climate of the past five years have kept many businesses afloat; so much so that margins are now incredibly tight in most sectors from subsea to drilling. It’s therefore important for them to consider three things:
- They can stick to their existing business models, seek to make further efficiencies through improved processes and new technology adoption and hope margins will grow again.
- They can expand into new geographic markets.
- They can expand into new sector markets such as renewables or decommissioning.
The three options represent a trilemma for the oil and gas industry, from Big Oil right down to the smallest service providers.
The time is right for companies to review their proposition, including how they communicate their new story. Does what they say about themselves now fit the direction they want to take?
Difficult decisions with lasting implications will have to be made as companies wrestle with how to solve the energy trilemma.