5.2 Oil company strategies from 1970 to the present

Since 1970, the world oil and gas industry has been three-and-a-half decades. The most notable change transformed by a series of massive shifts in the has been the widening international diversity of economic, political and technological environment. the leading companies. The newcomers to the Adapting to these external forces has involved ranks of the major oil and gas companies were major changes in the strategies of the oil and gas primarily state-owned companies that were based companies. The impact of these changes is either in major producing countries indicated by a comparison of the leading (Pemex of Mexico, Statoil of , PDVSA of companies in the industry in 1970 and in 2004 Venezuela, Gazprom of Russia) or in major (Table 1). In 1970, the industry was dominated by consumer countries (China Petroleum & Chemical the Seven Sisters,1 the leading US and and PetroChina of China, SK Corporation of European-based petroleum companies that South Korea, Indian Oil of India). Indeed, our list pioneered the development of the industry for most grossly understates the importance of the national of the Twentieth century. Five of the sisters were oil companies from several oil producing American: (then, Standard Oil New Jersey), countries because they do not publish financial , Chevron (then, Standard Oil California), accounts. On the basis of their estimated revenues, , and Gulf Oil; the remaining two were Saudi Aramco and National Iranian Oil European: Royal Dutch/Shell Group, the Corporation would certainly be included in our Anglo-Dutch joint venture, and British Petroleum top-20 for 2004. (BP). US dominance of the ranks of the leading oil companies also extended beyond the Seven Sisters; twelve of the twenty largest oil companies were US 5.2.1 Driving forces domiciled. It is notable that all of the non-US of industry change companies (except Royal Dutch/Shell Group, PetroFina, and Nippon Oil) were either wholly or Political factors partly publicly owned. All the leading companies The most important factor causing change in in 1970 were vertically integrated and had an the structure of the industry and the strategies of international spread of activities. The exception the oil and gas companies has been the changing was Nippon Oil whose main activities were international political environment. The end of the downstream and within Japan. 1960s and beginning of the 1970s saw growing By 2004, the Seven Sisters had been reduced recognition by the oil producing countries of the to four: ExxonMobil, Royal Dutch/Shell Group, economic and political power that their ownership BP and Chevron Texaco. These four had been of oil reserves conferred. Although the joined by Total (which had merged with Elf Organization of Petroleum Exporting Countries Aquitaine and PetroFina) and ConocoPhillips to create a leading group of six ‘supermajors’. But, 1 The term Seven Sisters was coined by Enrico Mattei despite the continued dominance of a small group the founder of the Italian energy company, Eni, and was of integrated, western-based majors, the top-20 list popularized by Anthony Sampson in his book The Seven of 2004 had changed greatly over the preceding Sisters (1975).

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Table 1. The world’s top-20 oil and gas companies ranked by sales (1970 and 2004)

Sales Sales Company Company in 2004 (109 $) in 1970 (109 $) BP (UK) 285.1 Exxon (US) 16.6

Royal Dutch/Shell Group Royal Dutch/Shell Group 265.2 10.8 (Netherlands/UK) (Netherlands/UK)

ExxonMobil (US) 264.0 Mobil (US) 7.3

ChevronTexaco (US) 142.9 Texaco (US) 6.3

Total () 131.6 Gulf Oil (US) 5.4

ConocoPhillips (US) 118.7 Chevron (US) 4.2

Eni (Italy) 79.3 British Petroleum (UK) 4.1

Pemex (Mexico) 70.0 Amoco (US) 3.7

Valero Energy (US) 54.6 Atlantic Richfield (US) 2.7

Statoil (Norway) 50.1 Phillips Petroleum (US) 2.3

China Petroleum & Chemical (China) 49.8 Sun Oil (US) 1.9

Repsol-YPF (Spain) 48.0 Eni (Italy) 1.8

Marathon Oil (US) 45.1 Unocal (US) 1.8

PDVSA (Venezuela) 42.6* Elf Aquitaine (France) 1.5 PetroChina (China) 36.7 PetroFina () 1.3

SK Corp (South Korea) 33.8 Continental Oil (US) 1.3

Petrobras (Brazil) 33.1 Getty Oil (US) 1.2

Nippon Oil (Japan) 30.4 Nippon Oil (Japan) 1.0

Gazprom (Russia) 28.9 Total** (France) 0.9 Indian Oil (India) 26.1 Petrobras (Brazil) 0.9

* Estimated. ** Total was then called Compagnie Française des Pétroles. Sources: Company annual reports; «Fortune» and «Forbes», 1970 and 2004.

(OPEC) was founded in 1960, it was the the producer countries to appropriate a larger share renegotiations of oil concessions by Libya in 1970 of the value of their hydrocarbon resources was and Iran in 1971, followed by the Arab-Israeli war simply a manifestation of political assertiveness of 1973, that put in place the conditions for and economic development goals of the developing OPEC’s escalation of oil prices in 1973-1974. world and the non-aligned countries. New oil The power and assertiveness of the oil producing countries in the developed world producing countries were also evident in a more (notably, Norway and the UK) were just as keen to aggressive approach to the international oil majors. maximize so that they could exploit their reserves From the 1960s onwards (earlier in the case of for the maximum benefit of their nations. Iran), many of the producer countries nationalized Auctioning of exploration and production licenses, the oil and gas subsidiaries and joint ventures participation agreements, and new petroleum taxes within their boundaries, thereby creating national were not limited to the politically-aggressive oil and gas companies responsible for exploiting OPEC countries. Some of the most ambitious and the countries’ hydrocarbon assets and making deals far-reaching attempts by producer countries to with western oil companies (Table 2). The desire of appropriate the returns to petroleum resources were

302 ENCYCLOPAEDIA OF HYDROCARBONS OIL COMPANY STRATEGIES FROM 1970 TO THE PRESENT

Table 2. The establishment of national oil companies by OPEC countries (Tetreault, 1985)

Country Company Date established

Algeria SONATRACH 1963 Ecuador CEPE 1972 Gabon PetroGab 1979 Indonesia Pertamina 1971 Iran National Iranian Oil Corp. 1951 Iraq Iraqi National Oil Corp. 1964 Kuwait Kuwait Petroleum Corp. 1976 Libya NOC 1968-1970 Nigeria Nigerian National Petroleum Corp. 1977 Qatar QGPC 1974

Saudi Arabia* Petromin 1962 United Arab Emirates ADNOC 1971 Venezuela PDVSA 1975

* In 1974 the Saudi government acquired majority ownership of Aramco which, in 1988, became Saudi Aramco.

established by the Norwegian and British closeness of their relationships (four of them were governments in relation to North Sea oil. former members of the Standard Oil Trust) However, the new-found power of OPEC did little encouraged ‘conscious parallelism’ in their to ensure price stability. A central issue of the period competitive behaviour. After 1970, the Seven 1970-2005 was the increased volatility of the price of Sisters lost their dominant position within the crude oil. If the first oil shock was the result of the industry; during 1973-1987, their share of world power of OPEC, the second oil shock, which followed crude oil production fell from 29.3% to 7.1%, and the Iranian revolution of 1979, demonstrated the their share of world refinery capacity fell from power of world markets to respond to shifts in world 25.5% to 17.0% (Verleger, 1991). This decline was supply. Since the early 1980s, crude hit lows of $8 a a result of two key factors. First, the nationalization barrel in 1986 and $10 in 1998, and highs of $31 in of a large part of the majors’ oil assets after 1972. 1990 (following the invasion of Kuwait) and $60 in Second, the expansion of smaller players including 2005 (Verleger, 1991). state-owned oil producers (some formed from the The second political force for change was the nationalized oil assets of the majors), and collapse of communism and the wave of liberalization domestically-based oil companies (e.g. Elf which opened many major oil and gas producing Aquitaine, Nippon Oil, Neste, and Repsol) which countries to inward investment, which led to the grew internationally. The result was a decrease in privatization of many previously state-owned oil and both the economic and political power of the oil gas companies, and encouraged globalization by majors. many domestically-focused energy companies. Competitive pressures were exacerbated by the emergence of excess capacity. The two oil shocks Competition depressed demand for oil products by encouraging The increasingly competitive structure of the energy conservation and the substitution of oil industry was apparent from the declining alternative energy sources for oil. The oil intensity position of the major oil companies over the of the US economy2 halved over the period 1970 to period. Until the early 1970s, the world oil industry was dominated by a small group of major, integrated oil companies, the above-mentioned 2 Measured in Btu (British thermal unit) per Seven Sisters. The smallness of this group and the constant-price dollar of GNP.

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1990. On the supply side, the world crude oil provided the secure outlets for the companies’ supply capacity increased due to expanded risky E&P investments). Most intermediate steps exploration efforts and new exploration and were also managed internally: the companies production techniques. Excess refining capacity provided most of their own engineering and was exacerbated by refinery investment by many oilfield services, and were some of the world’s oil producing countries. The result was excess largest shipowners. All of the majors had capacity throughout the industry’s value chain. established important petrochemical businesses. Economies of scale, together with vertical Technology integration and international expansion, meant that The physical challenges of offshore the oil majors were some of the world’s largest exploration and production (E&P) and industrial corporations. In 1970, seven out of the transporting natural gas to consumer countries; the twenty biggest US companies (ranked by sales) economic incentives for utilizing heavy crudes were oil companies, a higher representation than and converting heavier into lighter distillates; and any other industry. Indeed, during the 1970s, the the technological opportunities made available by oil majors achieved their maximum size in terms of advances in science and information technology numbers of employees. From the end of the 1970s, resulted in unprecedented innovation in petroleum the majors began to shrink in terms of numbers technology. The complexity and costs of the new employed (Table 3). technologies have had many implications, such as A key feature of the companies’ organization the outsourcing of many technical activities by was their high degree of centralization, unusual for major oil and gas companies. By the beginning of companies of their size and diversity of products the Twenty-first century, some of the most and activities. All the companies possessed important players in the industry were the divisionalized structures, typically based upon a engineering and oilfield service companies, such combination of geographical, functional activity, as Schlumberger, Halliburton, Baker Hughes, and and product grouping. Yet, compared to other Kerr McGee. industrial corporations, they had been slow to The investment costs of major projects adopt multidivisional structures (Chandler, 1962) increased massively. Developing a major oil or gas and continued to retain an unusual proportion of field, or building a pipeline, refinery, or a major decision making at headquarters level. natural gas liquefaction complex each involved Centralization reflected the highly multi-billion dollar investment expenditures. interdependent activities of the oil companies. The Inevitably, joint ventures and other forms of conventional multidivisional form with its collaboration became more important. separation of strategic and operational decision making was not feasible for the oil majors because of the close interrelationships, both vertically 5.2.2 The oil and gas majors: between their main businesses (exploration, the traditional model production, refining, and distribution/marketing), and horizontally between their various final By 1970, the world’s leading oil companies had products. Although most companies adopted a achieved a configuration of strategy, structure and regional divisionalization, geographically, management systems that, for most of them, was decentralization was limited by the need to the culmination of more than half a century of coordinate the flows of crude oil from the producer development. In terms of strategy, the crucial countries to downstream activities in the consumer features of the majors were their immense size, countries. These coordination needs resulted in the vertical integration, and global spread. Despite the oil majors developing highly sophisticated, different origins of the companies – Exxon (as administratively-planned economic systems. Standard Oil) had its origins in refining, Shell Rather than operational management being began in transportation and trading, while Royal decentralized to the divisions, corporate Dutch, Texaco, and BP began in E&P – the headquarters were responsible not just for strategic companies’ strategies had converged around a decision making and resource allocation, but also common business model. All were integrated operational planning. vertically from initial exploration right through to The administrative planning model, which the retailing of refined products. The central logic characterized the oil majors, emphasized here was to limit risk by maximizing management’s role in optimizing coordination self-sufficiency (thus, downstream activities within an essentially closed system. High levels of

304 ENCYCLOPAEDIA OF HYDROCARBONS OIL COMPANY STRATEGIES FROM 1970 TO THE PRESENT

Table 3. Employment among the oil companies in different years (numbers of employees)

1970 1980 1985 1990 2000 2004

Exxon 143,000 176,615 146,000 104,000 106,000* 85,800*

Mobil 75,600 81,500 71,100 67,300 – –

Royal Dutch/Shell Group 158,000 161,000 142,000 137,000 128,000 114,500

BP 105,000 118,200 129,450 116,750 112,150** 102,900**

Amoco 47,551 56,401 48,545 54,524 – –

Atlantic Richfield (Arco) 31,300 53,400 31,300 27,300 – –

Eni 76,000 128,000 129,000 82,700 80,178 70,948

Texaco 73,734 66,745 54,481 39,199 19,011 –

Chevron 44,610 40,218 60,845 54,208 36,490 67,569***

* ExxonMobil. ** Including Amoco and Arco. *** ChevronTexaco. Source: Company annual reports; «Fortune Global 500», 1970-2004.

vertical integration insulated each oil company opportunism and an entrepreneurial drive for profit from the volatility and uncertainty of intermediate but, at the same time, would permit planning and markets. This insulation from market uncertainty investing for long-term development. echoed the central theme of J.K. Galbraith’s New industrial state (1968). Where capital investments are large and long-lived, big competitive integrated 5.2.3 Diversification corporations wielding substantial market power and the quest for reserves provide insulation against the risks of competition (1974-1984) and fickle markets. The management of such organizations is technocratic, requiring forecasting, The first oil shock of 1973-1974 undermined the planning and coordination, supported by administrative planning model of the oil majors in sophisticated information systems and scientific two ways. First, they lost traditional control of the decision making. markets for oil to a new player, OPEC. Second, The problem for the oil companies, and for they lost a major part of their hydrocarbon reserves Galbraith’s theory, was that the companies were as a result of nationalization by producer unable to suppress and control the market forces governments. Their responses to the new which their administrative systems were intended conditions were, first, to maintain their vertically- to supplant. As a result of increased competition, integrated structures by seeking reserves in new increased market volatility, and major economic locations, and second, to seek new sources of and political shocks, the structure and management growth through diversification (Grant and Cibin, systems of the oil companies were subject to 1996). increasing strain. Accelerating external change rendered centralized decision making increasingly The quest for oil inefficient; the hierarchical systems faced The new status of the oil majors as buyers of information overload, and organizational reaction oil increased their determination to restore vertical times were too slow to meet the requirements for balance. During the latter half of the 1970s, dynamic efficiency in fast-moving external upstream investment grew substantially, especially environments. in the politically-secure oil fields of the North Sea The result was a quest for structures and and Alaska’s North Slope. Exploration was systems which would be capable of responding expanded in both mature oil producing regions and quickly to external change, would foster extended to frontier regions – primarily the Irish

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Sea, South China Sea, Gulf of Mexico, the offshore meant near stagnant demand for oil and oil areas of West Africa and Australasia. Table 4 shows products, and the emergence of excess capacity at the growth in upstream investment after the oil most stages in the companies’ value chains. shocks of 1973-1974 and 1979-1980. Greater Nevertheless, the oil majors remained committed upstream investment was partly responsible for the to growth and, fuelled by strong cash flows from companies’ convergence towards a more similar higher oil prices, turned to diversification as the spread of international activities. Expanding North major source of growth. American investment was a strategic priority for In 1970, the companies were almost wholly the two European oil companies, while the most specialized in oil, gas, and petrochemicals. By strongly US-focused companies, notably Amoco 1984, broadly similar patterns of diversification and Atlantic Richfield, increasingly sought oil had taken them into alternative energy sources overseas. (primarily coal, but also solar power, nuclear Yet, despite increased exploration and large energy, and non-conventional hydrocarbons such discoveries in the North Sea, Alaska, and as tar sands and oil shales) and minerals such as elsewhere, the pre-1973 situation was irretrievable. non-ferrous metals, phosphates, sulphur, and By 1975, the international oil and gas majors cement. Other areas of diversification were supplied less than one half of their total oil primarily a consequence of the desire to exploit requirements from their own reserves, the internally-developed technologies and remainder had to be purchased from the management capabilities, e.g. BP and Amoco newly-powerful national production companies. animal feed businesses, Shell’s detergents business, Exxon and Texaco in electricity Diversification generation. Amoco, Atlantic Richfield, BP, Exxon, Sharply higher oil prices and the sluggish Shell, and Texaco formed venture capital global economy of the late 1970s and early 1980s subsidiaries with the purpose of bringing to

Table 4. Average annual capital expenditures on oil and gas businesses by selected companies, 1970-2004 (106 $)

1970-1973 1974-1978 1979-1982 1983-1986 1987-1990 1991-1994 1995-1999 2000-2004

Exxon* upstream 981 3,040 6,371 6,955 4,870 6,322 8,016 10,005 downstream 897 1,114 1,365 1,264 1,438 1,660 2,664 2,508 Mobil * upstream 426 863 2,106 1,548 1,208 1,214 – – downstream 557 502 832 811 726 1,104 – – Shell upstream 470 1,477 4,507 4,052 3,215 4,677 6,377 8,516 downstream 1,083 1,006 2,296 1,541 2,486 2,551 2,614 3,108

BP** upstream 306 780 3,387 2,974 2,401 3,620 4,998 10,118 downstream 430 422 696 961 886 937 1,421 4,830 Amoco** upstream 595 1,206 2,258 2,567 2,390 2,956 – – downstream 242 289 563 542 451 548 – – Arco** upstream 232 678 2,210 2,877 1,559 2,380 – – downstream 267 591 433 286 556 545 – – Chevron*** upstream 302 889 2,560 2,712 1,805 1,663 3,386 6,505 downstream 413 678 1,132 803 731 662 908 1,180 Texaco*** upstream 673 927 1,560 1,467 1,295 1,544 2,318 – downstream 433 416 567 826 604 588 864 – Eni upstream 332 981 2,104 2,150 2,531 2,431 2,992 4,808 downstream 145 246 368 260 628 501 544 596

* Combined data for ExxonMobil after 1995. ** Combined data for BP, Amoco and Arco after 1995. *** Combined data for Chevron and Texaco after 1999. Source: Company financial accounts.

306 ENCYCLOPAEDIA OF HYDROCARBONS OIL COMPANY STRATEGIES FROM 1970 TO THE PRESENT

market internally-developed technologies and • “The Company gives the highest priority to acquiring small, technology-based, new improving financial results and the return on its companies. Several companies diversified more stockholders’ investment” (Chevron, 1989). widely: Exxon and BP into information The quest for improved returns to shareholders technology, Mobil into retailing (Montgomery provided the unifying theme behind the strategic Ward) and packaging. Table 5 shows the and organizational changes of 1985-1994. A clear diversification of several leading oil and gas indication of the reorientation of corporate goals majors. from growth to shareholder value creation was the introduction of share repurchases designed to increase earnings per share by reducing the number 5.2.4 Internal restructuring of outstanding shares. As in other aspects of for efficiency and restructuring, Exxon was the leader. Between 1984 flexibility (1985-1994) and 1986 alone, Exxon spent $6 billion on share repurchases. All the other majors introduced Changing corporate goals similar initiatives; instead of excess cash flowing During the 1980s, the major oil and gas into diversification, the companies gave it back to companies came under increasing pressure. After their shareholders. reaching a peak in 1981, oil prices followed a sharp downward trend and industry profits From diversification to focus declined in tandem (Al-Chalabi, 1991). The most prominent aspect of strategic change Between 1985 and 1994, almost all the during the mid and late 1980s was widespread majors announced significant restructuring divestment of ‘non-core’ businesses. By 1990, the initiatives which involved extensive asset leading oil companies had almost entirely divested divestments, employment reductions, and the diversifications of the earlier period. First to go reformulation of their business strategies. A key were the almost entirely unsuccessful, unrelated trigger was the precipitous decline in oil prices diversifications such as Exxon’s Office Systems in 1986 when increased production by Saudi venture, Mobil’s foray into general retailing, BP’s Arabia resulted in oil prices falling below $9 a dalliance with software and telecommunications, barrel. The result was a fundamental questioning even Eni (by far the most diversified of the leading by the oil majors of their strategies and oil and gas majors) began to shed some of its organizational structures. diversified businesses. At the root of these restructuring initiatives was Then came divestment of most of the major the companies’ affirmation of profitability and diversifications into related sectors. In particular, shareholder return as their primary goals. During all the majors sold off their metal mining the 1970s, statements of corporate goals had subsidiaries. By the beginning of the 1990s, only placed emphasis on growth and operational goals Shell had a major metals’ mining business (it such as replacing reserves, expanding divested Billiton in 1993). By 1994, the only one geographically, and improving efficiency and of the majors with substantial interests outside of technological progress. During the 1980s, these energy and chemicals was Elf Aquitaine with its goals became subsidiary to profit and return to ‘health and beauty’ business (pharmaceuticals and shareholders. The following statements were cosmetics). Some companies went even further typical: with their determination to ‘refocus on core • “Our primary goal is to improve both the businesses’ (both Arco and Texaco divested major short-term and the long-term value of your parts of their chemical businesses, raising the investment” (Mobil, 1987). question of whether the technical linkages between • “Our aim over recent years has been, and petroleum refining and petrochemicals were remains, to achieve the maximum return from sufficient to justify the majors’ continued our assets” (BP, 1988). involvement in chemicals). • “We are acutely aware that you expect to The companies also redefined their scope in receive a fully competitive return on your relation to their geographical spread of activities. investment […] and that’s what we intend to Downstream, all the companies narrowed their deliver. Our standard […] is to become not only geographical spread. By 1990, not one of the one of the most admired companies in the companies was marketing in all 50 states of the industry, but also one of the most valuable to US, and most had refocused their European stockholders” (Texaco, 1989). operations, withdrawing from countries where their

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Table 5. Diversification by Shell, Exxon, Mobil and BP (1974-1984)

ROYAL DUTCH/SHELL GROUP

1974 NV Billiton, metal and minerals exploration and production company, acquired 1975 Additional investments in gas-cooled nuclear reactors 1976 Seaway coal acquired for $ 123 million Coal gasification plant built in Germany Scallop Coal established in New York to trade coal 1977 Crows Nest Industries (coal producer) acquired 1979 Forestry investments in New Zealand and Chile

EXXON

1975 Exxon Nuclear International formed 1977 Exxon Minerals USA and Exxon Minerals International formed 1979 Reliance Electric Co. acquired for $ 1.2 billion 1980 Exxon Office Systems and Exxon Information Systems formed 1981 US$ 2.5 billion electricity generation project in Hong Kong started 16% of American Solar King (solar energy) acquired 1984 Coal production begins at Cerrejon, Columbia

MOBIL

1974 Acquires Marcor for $ 883 million – parent of Montgomery Ward (retailing) and Container Corp. 1975 Invests in coal mining and real estate 1977 Mt. Olive and Staunton Coal Company acquired for $ 47.5million 1978 W.F. Hall Printing acquired for $ 50.5 million Electro-Phos Corporation (phosphorous refining) and Rexene Styrenics acquired. Real estate investments in Hong Kong. 1980 Acquisition of companies producing plastics, phosphorous, and fertilizers. Alternative energy investments include methanol (New Zealand), oil shale plant (Utah), uranium processing plant (US), and coal-to-liquids plant (Kentucky) 1982 Mobil Diversified Businesses established to operate non-petroleum, non-chemical businesses 1983 Begins coal projects in Australia and Indonesia. Acquires Baggies plastic bag company from Colgate-Palmolive 1984 Acquires can coating business from DuPont

BRITISH PETROLEUM

1976 Forms BP Nutrition Ltd (proteins & animal feed) Forms Sonarmarine Ltd (underwater surveying) 1977 Acquires 50% of Clutha Development (Australian coal mining) 1978 Acquires R. McBride Ltd (engineering & construction) Acquires Bakelite Xylonite Ltd (plastics) from Union Carbide 1979 Acquires 25% of Ruhrgas (gas refining & distribution in Germany) 1980 Acquires Selection Trust Ltd (global metals mining) 1981 Acquires Systems Control Inc. (computer systems) Acquires Kennecott Corp. for US$ 1,77 million (by Sohio) Acquires Verdugt NV (specialty chemicals) Establishes BP Detergents International Acquires 49% of Brascan Resoursos (tin) Acquires 49% of Olympic Dam project (metals mining in Australia) Takes 49% in Mercury Communications (telecom) 1983 Acquires NANTA (Spanish animal feed company) 1984 Acquires NORIA/UFAC (French animal feed company). Establishes BP Energy Management (energy management systems)

Source: Company annual reports.

308 ENCYCLOPAEDIA OF HYDROCARBONS OIL COMPANY STRATEGIES FROM 1970 TO THE PRESENT

market share was below 10%. A similar trend The quest for efficiency occurred upstream. During the late 1980s and early Reorientation of strategies around shareholder 1990s, most of the companies reduced the number value goals also meant increased emphasis on cost of countries where they conducted exploration and efficiency. Exxon was the most explicit in production in order to achieve better economies in expressing its intention to become the “most the use of infrastructure and knowledge. efficient competitor in each of our businesses, in Chevron’s description of its approach to oil and gas, in chemicals, and in every other refocusing is typical: “[We] have taken a critical activity” (Exxon, 1983). look at our asset deployment to determine how Traditionally, efficiency was associated with each of our businesses fits into the corporation’s static efficiency, i.e. the exploitation of scale strategic plans. As a result, we have pulled out of economies in refineries, ships, distribution several geographic areas and businesses in order to networks, and other indivisible capital items, concentrate our resources where we have a together with operational planning of product competitive advantage. And the process continues. flows to optimize refinery scheduling and We are now disposing of our agricultural minimize inventories and transport costs. Under chemicals, fertilizer and certain minerals unstable market conditions, dynamic efficiency businesses. Almost $400 million of marginal US became increasingly important, i.e. adjusting producing properties have been sold, and we plan capacity to demand, adjusting the mix of inputs to continue selling such properties in 1991” and outputs to changing price differentials, and (Chevron, 1990). generally minimizing costs through maximizing Among all the companies, strategy was flexibility and responsiveness. Cost reduction increasingly driven by rigorous financial analysis measures included: of return on capital and impact on shareholder • Capacity adjustment through closure of wealth. BP described its flexible approach to refineries, storage capacity, and retail filling portfolio management active asset management. stations, and the sale and scrapping of oil Former Chief Executive Officer (CEO), Peter tankers (Table 6). Walters, described the approach as follows: “We • Reducing overhead costs, especially cuts in seek to ensure that our operations satisfy the middle management and headquarters criteria of selective excellence: that is being among activities. At several companies, reductions in the very best; and critical mass, which means corporate-level employees were achieved. At being of sufficient size to compete strongly in the BP, more than 2,500 head office employees market [...] Within our strategic criteria, we were cut from 3,000 to 380 (in addition, a continually review all of BP’s activities – further 700 in corporate services were relocated hydrocarbon based or otherwise. If certain away from head office). In all, 1,150 corporate operations are worth more for particular reasons to level jobs were eliminated. At Exxon, others than to ourselves, or if they no longer fulfill headquarters staff was reduced from 1,500 to our requirements and show little prospect of doing 300. These economies were often accompanied so, we are prepared to withdraw from or sell them. with relocation of companies’ head offices: Active asset management is convenient business Exxon moved from New York to Dallas, ; shorthand for this strategy”. (BP, 1988). Mobil from New York to Fairfax, Virginia; BP BP’s sale of its minerals business illustrated the moved twice within London, while Shell sold new line of thinking: “These major developments off more than half of its London Shell Centre. will both enhance and protect the value of your • Developing and deploying cost-reducing company by helping BP to re-focus increasingly on technology. Despite increased parsimony in its central or ‘core’ businesses [...] Why are we capital investment, there was a substantial making this divestment, when BP Minerals is increase in expenditure on the development and generating good profits? [...] Having acquired, acquisition of new technologies that could nurtured and developed the minerals business over lower capital costs and increase operational several years, we projected forward the increase in efficiency. Computer-aided seismic analysis commodity prices. Against these projections, we and reservoir modelling, light-weight drilling are receiving from RTZ a net value which, we platforms, new drilling techniques (including consider, is a very positive reflection of future horizontal and directional drilling), and earnings. Not only are we getting a good price, we enhanced oil recovery techniques, substantially are raising money for better opportunities in other reduced reserve replacement costs during the businesses” (BP, 1988). 1980s and early 1990s.

VOLUME IV / HYDROCARBONS: ECONOMICS, POLICIES AND LEGISLATION 309 KEY ACTORS IN THE HYDROCARBONS INDUSTRY AND COMPANY STRATEGIES

Table 6. Capacity reduction by the oil companies during the 1980s (Cibin and Grant, 1996)

Change in operable Change in deadweight Change in no. refining capacity* tonnage of tanker fleet* of retail outlets*

Exxon (1982-1987) Ϫ28% Ϫ58% Ϫ24%

Royal Dutch/Shell Group (1981-1986) Ϫ33% Ϫ54%** Ϫ16%

BP (1982-1986) Ϫ27% Ϫ63% Ϫ18%

Mobil (1986-1988) ϩ1% Ϫ18% Ϫ30%

Texaco (1986-1989) Ϫ36% Ϫ12% Ϫ65%***

Chevron (1986-1989) Ϫ33% Ϫ28% Ϫ28%

Amoco (1986-1990) Ϫ5% Ϫ21% Ϫ19%

Arco (1985-1987) Ϫ63% ϩ13% Ϫ55%

* The data show changes in capacity from the start of the first mentioned year to the end of the last mentioned year. ** Change in number of vessels. *** North America only.

• Increasing flexibility and responsiveness was leadership in gasoline, and differentiation also a source of cost advantage. Flexibility through offering a wide range of products and involved technical improvement to refineries fast-food catering at its service stations. and outsourcing many activities and functions. • Exxon relied upon its massive financial and engineering strengths. Aligning business strategy with resources • Eni utilized its expertise at relationship and capabilities management in complex political situations to Increased competitive pressure, together with a negotiate deals with North African countries, stronger focus on profitability, encouraged a major the Soviet Union and the post-Soviet states, and reorientation of the basis of company strategy. to build on its natural gas expertise to create a Rather than imitating one another’s strategic vertically-integrated natural gas major. initiatives, the emphasis of strategy shifted towards • BP, with its long history of discovering the pursuit of competitive advantage which, ‘elephants’ (very large oilfields), focused on inevitably, meant the exploitation of differences in exploring for major new fields in frontier endowments of resources and capabilities. regions and also being a ‘strategic innovator’, Exploitation of distinctive resources and i.e a first mover in identifying and initiating capabilities included the following: major strategic shifts in the oil industry. • Mobil combined its strong marketing orientation and its traditional technical strengths in lubricants to develop its worldwide 5.2.5 Changes in organizational lubricants business. In its petrochemical structure business, Mobil exploited its marketing and product management capabilities to integrate Changes in strategy were accompanied by changes into fabricated plastic products. in organizational structure. The principal changes • While most of the majors were selling off their in organizational structure and management mature US fields, Texaco’s strengths in systems over the period included the following: enhanced recovery techniques encouraged it to Changes in divisional structure. Changes in focus upon their exploitation. divisional structures were of two types: first, the • Arco utilized its two key strengths of low-cost companies moved increasingly from a Alaskan oil and strong marketing orientation to geographically-based to a sector-based divisional increase its market share on the West Coast of structure; second, they reduced the number of the US by a retail strategy oriented around price divisions reporting directly to headquarters. By

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1991, the predominant organizational form was a serviced Texaco’s internal needs, but it also corporate headquarters with three principal engaged in substantial third party trading and by operating divisions: upstream, downstream, and 1988, it was purchasing 9% of all US produced chemicals. However, there was significant crude oil. variation within our sample: Exxon maintained a The new logic was articulated by BP: “A geographical structure with Exxon USA, distinct significant feature of the oil industry in recent from Exxon International and Imperial Oil of years has been the trend towards deintegration, or Canada; Texaco’s structure was also partly separation of upstream crude production from geographical; while the Royal Dutch/Shell Group downstream refining and marketing. Each part of (which comprised over 200 national subsidiaries) the oil business then stands on its own, so allowing was uniquely decentralized. its performance to be measured against the value of The tendency for the companies to reorganize its products in the international market. One into fewer divisions was a result of the divestment consequence of this has been the development of diversified activities between 1985 and 1990, within the industry of a much clearer picture of the the transfer of many service and coordination true costs and profitability of the downstream oil functions from the corporate headquarters to the operations” (BP, 1983). divisional level, and the desire to reduce Changes in management systems. New strategy administrative overheads wherever possible. The and structures also involved changes in the systems shift from a geographically-defined divisional with which companies were managed. In structure towards a divisional structure defined particular: around groups of products is consistent with the • The leading majors dismantled their trends observed for other diversified, multinational centralized, forecast-driven systems of companies (Stopford and Wells, 1972). corporate planning in favour of less-formalized Vertical de-integration. The traditionally and more performance-oriented approaches to centralized structures of the companies were a strategy making that was increasingly focused consequence of vertical integration: so long as oil upon the business divisions. These changes production, transportation, refining, and involved the dismantling or downsizing of distribution needed to be coordinated, headquarters corporate planning departments and the retained an important role in operational planning. transfer of strategy-making responsibilities to With the development of efficient markets for oil line managers. and oil products, and increased volatility within • Decentralization. Less vertical integration these markets, the transactions costs of permitted greater decentralization of decision intermediate markets fell, while the costs of making. Decentralization involved devolution internal transfer rose. Shell was the first company of decision making from corporate to divisional to free its refineries from the requirement to levels and from divisions to individual business purchase oil from within the group. Between 1984 units. The objectives were to speed up decision and 1988, all the sample members granted making, to encourage entrepreneurship and operational autonomy to their upstream and initiative, and to reduce costs. downstream divisions, placing internal transactions • Delayering. Decentralization of decision on to an arms-length basis. Upstream divisions making typically involves the stripping out of were encouraged to sell oil to whichever customers layers of authority. At Texaco, the number of offered the best prices, while downstream divisions layers of hierarchy between the CEO (Chief were encouraged to buy oil from the lowest cost Executive Officer) and first-line supervisors sources. was reduced from 14 in 1987 to 6 or 7 in 1990. By the mid-1980s, the oil majors were The CEO reported: “A dynamic new company emerging as major players on the spot and futures is emerging from Texaco’s restructuring. In the markets for crude and refined products. All the office and in the field, Texaco people are being sample members established oil trading divisions, challenged to perform, to be creative, to whose function was to serve the transactions needs become entrepreneurs in the true sense of the of the production and manufacturing divisions, and word. And they are responding. Working in a even to trade for profit in the oil markets. Of the decentralized company, talented and motivated total crude purchased by Shell International people on the front lines of Texaco’s businesses Trading Group in 1994, 65% was from outside the are taking the calculated and informed risks Shell group and 45% of sales were to third parties. that lead to better profitability” (Texaco, 1988). Texaco Trading and Transportation not only At Amoco, decentralization was more radical:

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the company’s main divisions (upstream, primarily to build critical mass in existing markets, downstream, chemicals) were broken up into 17 to expand geographical scope, and to acquire separate businesses, each of which reported hydrocarbon reserves. Significant acquisitions directly to the corporate headquarters. included: a) Chevron’s purchase of Gulf Oil • Financial control and performance (1984); b) Texaco’s purchase of Getty Oil (1984); management. All the companies placed greater c) BP and Royal Dutch/Shell Group’s purchase of emphasis on budgetary control and short and the outstanding shares of their US affiliates Sohio medium-term performance targets. The new (1987) and Shell Oil (1984), respectively; d) BP’s emphasis reflected the increased priority given acquisition of Lear Petroleum and Britoil in 1988 to profitability and financial accountability of and Burmah Oil in 1989; e) Amoco’s purchase of each division and business unit. The new Dome Petroleum (1987). emphasis was reinforced through increased use of profit bonuses and stock options to The creation of the ‘supermajors’ incentivize senior managers. Thus, Texaco During the mid-1990s, excess capacity and identified itself as an “entrepreneurial depressed profit margins were creating pressures operation with bottom-line accountability”. Its for mergers at the downstream level. In October newly decentralized structure meant monitoring 1996, Shell, Texaco, and Star Enterprise (a joint each division on a monthly basis with “the venture between Texaco and Saudi Aramco) bottom line reviewed at the end of each year”. announced the merger of their downstream One analyst commented: “Texaco employees businesses within the US to create America’s are being encouraged to change the largest refining and marketing company. Similar bureaucratic mindset, typical of large oil pressures were apparent in Europe where BP and companies, and take risks as an entrepreneur Mobil merged their downstream businesses into a would” (Texaco [...], 1989). Increased financial single joint venture. accountability also meant increased pressure on However, the critical event that triggered managers to meet demanding profit targets. As mergers and acquisitions on a much larger scale Exxon Chemical’s President, Eugene was BP’s merger with Amoco (which was quickly McBarayer, observed: “I feel my neck is in the followed by its acquisition of Arco, one of the noose. If I don’t deliver, they’ll get someone smallest of the international majors). BP’s actions else in here who will”.3 sent a shock wave throughout the industry. The outcome was a series of mergers and acquisitions that represented the most rapid period of 5.2.6 Consolidation: the wave consolidation that the oil and gas industry had of mergers (1995-2002) experienced since the growth of Standard Oil during the 1980s. Mergers and acquisitions pre-1998 The most significant of the new wave of Mergers and acquisitions had long been a mergers was Exxon and Mobil’s announcement of central feature of the corporate strategies of the a merger agreement towards the end of 1998. This leading oil and gas majors. Several of the leading was the biggest merger in history and created the majors had been created through mergers: Mobil world’s biggest industrial corporation. It was a was created from the merger of Standard Oil of clear indication to the other leading oil and gas New York (Socony) with the Vacuum Oil companies that the mergers were moving into two Company; Atlantic Richfield was formed from the divisions: the ‘supermajors’ represented by merger of Richfield Oil Corporation and Atlantic ExxonMobil, BP-Amoco-Arco, and Royal Refining Company; Eni was created from the Dutch/Shell Group, and the others (Table 7). merger of Agip, Snam and several other Italian energy companies; Royal Dutch/Shell Group was a The benefits of size joint-venture between Royal Dutch Petroleum and While stock markets rewarded these mergers Shell. and acquisitions with higher valuation ratios, the During the late 1970s and 1980s, the majors extent of real economic benefits was unclear. The used acquisitions as a means of diversifying into a primary motivation appeared to be the desire for number of new industry sectors. From the mid 1980s, acquisitions were mainly horizontal, i.e., the acquisition targets were mainly other oil and gas 3 For further discussion of restructuring by the majors, companies where the motives for acquisition were see R. Cibin and R.M. Grant, 1996.

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Table 7. Major mergers and acquisitions in the oil and gas industry, 1998-2002 (only includes acquisitions of companies with revenues exceeding $ 1 billion)

Leading oil Revenues in Leading oil Revenues in 1995 Date merged 2002 and gas companies, 1995 (109 $) and gas companies, 2002 (109 $)

Exxon 123.92 ExxonMobil Corp. 182.47 Mobil 75.37 1999

Royal Dutch/Shell Group 109.87 Royal Dutch/Shell Group 179.43 Enterprise Oil 1.18 2002

British Petroleum 56.00 BP Amoco 178.72 Amoco 28.34 1998 Arco 15.82 2000

Chevron 31.32 ChevronTexaco 92.04 Texaco 35.55 2001

Total 27.70 Total 96.94 PetroFina n.a. 1999 Elf Aquitaine n.a. 2000 Conoco 14.70 ConocoPhillips 58.38 Philips Petroleum 13.37 2002 Tosco n.a. 2001

Eni 35.92 Eni 46.33

Repsol 20.96 Repsol-YPF 34.50 YPF 4.97 1999

Source: Company annual reports.

growth, particularly when low oil prices were industry. It will be their substantial size that will reducing revenues.4 give them: Once the merger wave began, it was • The necessary financial strength to carry out sustained by companies’ fear of being relegated large projects. to ‘second division’ status within the industry. • The command of leading-edge technologies The positive stock market reaction to the and management skills. mergers was surprising, given that many studies • Adequate negotiating power with governments. across other industries show that only a small • The indispensable resilience and flexibility to minority of mergers achieve measurable gains, changing environments. such as higher productivity, profits or share • The patience and long-term vision to develop prices, over the long term. The answer lies in the major projects that will require major advances enormous capital costs and risks inherent in the in technology or market development” exploration and production of oil. Moreover (Desmarest, 2002). only well-capitalized firms that are big enough Desmarest offered the following as examples of to afford the time, money and risk required to the increasing size of project being undertaken by play in this poker game can hope to thrive. As a Total: a) the $2.5 billion Elgin-Franklin field in result of the stakes being so high, finding that the North Sea; b) the $4.3 billion Sincor project ‘elephant’ of an oilfield has become the in Venezuela for converting extra-heavy crude industry’s obsession. into low-sulphur synthetic crude; c) the $2.6 The arguments in favour of size were billion Girassol oilfield project in 1,350 metres of articulated by Thierry Desmarest, chairman of water off Angola; d) the $2 billion development Total and architect of the mergers with PetroFina of the South Pars gas field in Iran. and Elf Aquitaine. He argued that: “In the future, Desmarest also referred to the ability to spread the very large, major oil and gas companies will be the best positioned to successfully meet the necessary demands which will be made on our 4 In December 1998, crude prices fell below 10 $/bbl.

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Table 8. The world’s biggest listed oil and gas companies, 2004 (ranked by stock market value, $109)

Market Company Country Sales Profits Assets capitalization

Exxon Mobil US 263.99 25.33 195.26 405.25 BP UK 285.06 15.73 191.11 231.88 Royal Dutch/Shell Group Netherlands/UK 265.19 18.54 193.83 221.49 Total France 131.64 8.84 98.69 151.13 ChevronTexaco US 142.90 13.33 93.21 131.52 PetroChina China 36.70 8.41 64.23 111.03 Eni Italy 79.31 9.89 82.25 104.71 ConocoPhillips US 118.72 8.13 92.86 76.54 Gazprom Russia 28.88 5.84 90.29 69.90 Petrobras Brazil 33.11 6.15 46.43 48.38 China Petroleum & Chemical China 49.75 2.61 48.16 44.97 Schlumberger Netherlands 11.61 1.22 16.04 44.42 Statoil Group Norway 50.06 4.11 40.91 39.44 Repsol-YPF Spain 48.00 2.54 46.68 33.32 EnCana Canada 10.93 2.52 24.11 30.75 Surgutneftegas Oil Russia 7.67 0.66 18.32 29.76 Lukoil Holding Russia 23.14 3.87 26.46 28.52 Oil & Natural Gas India 9.78 2.16 19.18 27.86 BG Group UK 7.83 1.74 16.49 27.80 Occidental Petroleum US 11.51 2.57 21.39 27.74 CNOOC Hong Kong/China 4.96 1.40 8.88 23.83 Devon Energy US 9.19 2.19 29.74 22.65 Apache US 5.33 1.67 15.50 20.59 Halliburton US 20.47 0.98 15.80 19.41 Burlington Resources US 5.62 1.53 15.74 19.25

Source: «Fortune», 2004; Hoovers.com.

risks through undertaking multiple large projects in innovation, and sharing of best practices. The different regions of the world. Thus, in Liquefied increased size and risk associated with major Natural Gas (LNG), Total had invested in five upstream projects is indicated by Shell’s experience plants located in Indonesia, Nigeria, Qatar, and with its massive Sakhalin-2 offshore gas project off Abu Dhabi. Another benefit of size is the greater the coast of Siberia. By 2005, the estimated cost of opportunities for learning that arise from pursuing the project had risen to $20 billion, a cost over-run multiple projects. The more projects of a similar of $10 billion (Shell [...], 2005). type that a company undertakes (e.g. deep sea In general, however, evidence of significant drilling in North Sea, Gulf of Mexico, and offshore economies of scale associated with being a West Africa), the greater the scope for learning, ‘supermajor’ rather than a ‘major’ is hard to find.

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Downstream, there are substantial cost and market respectively. Table 8 ranks the biggest stock market power advantages associated with market share in listed companies. However, it is important to individual national and regional markets, but few recognize that some of the world’s biggest and most scale economies at the global level. Upstream, size important oil and gas companies are state-owned increases bargaining power and allows for the production companies. Many of these do not publish spreading of risk, but the main scale economies comprehensive accounts; however, their importance relate mainly to the utilization of infrastructure is evident from operational data. Table 9 shows the which is specific to particular regions and world’s biggest oil and gas companies in terms of hydrocarbon basins. reserves; the majority are state-owned National Oil Companies (NOCs). Despite the fact that ExxonMobil, Shell, and BP are among the world’s 5.2.7 Current directions biggest corporations, in terms of reserves (and also in strategy crude oil production), they are overshadowed by the leading NOCs: ExxonMobil’s reserves are about The oil and gas companies in 2005 one-tenth of those of the National Iranian Oil Tables 8 and 9 show the leading players in the Company and smaller than those of Pemex, the world oil and gas sector in 2004 and 2003, Mexican national oil company.

Table 9. The world’s top-20 oil and gas companies ranked by reserves, 2003

Company Country State ownership (%) Reserves ($ 109/bbl) Saudi Aramco Saudi Arabia 100 249

NIOC Iran 100 126

INOC Iraq 100 115

KPC Kuwait 100 99

PDVSA Venezuela 100 78

Adnoc United Arab Emirates 100 55

Libya NOC Libya 100 23

NNPC Nigeria 100 21

Pemex Mexico 100 16

Lukoil Russia 8 16

Gazprom Russia 73 14

ExxonMobil US 0 13

Yukos Russia * 12

PetroChina China 90 11

Qatar Petroleum Qatar 100 11

Sonatrach Algeria 100 11

BP UK 0 10

Petrobras Brazil 32 10

ChevronTexaco US 0 9

Total France 0 7

*Yukos was taken into government control during 2005. Source: «Petroleum Intelligence Weekly», 2003.

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The presence of two very different types of providing technology and oilfield services, enterprises in the oil and gas sector results in what especially drilling, to oil and gas companies. The Economist describes as a “fundamental Downstream specialists (refiners and distributors) perversity” of the oil business: “Oil is the only tend to be smaller and geographically focused. industry in which the best and largest assets (in this Other new players on the international scene case, oil and gas reserves) are not in the hands of are the downstream gas companies. Despite the the most efficient and best-capitalized firms (the bankruptcy of the ill-fated Enron, a number of western majors), but of national oil companies. other gas marketing and distribution companies Two-thirds of the world’s oil reserves are found in (notably, British Gas, Gaz de France and Eon) have the Persian Gulf, where foreign firms are mostly backward integrated into E&P and also expanded unwelcome. Exxon may hold the highest stock internationally. Fig. 1 shows the principal strategic valuation among listed firms, but it is dwarfed by groups of different types of company in the oil and Saudi Arabia’s unlisted Aramco, whose oil reserves gas industry in terms of their positioning with are 20 times larger, and off-limits to foreigners”. regard to vertical scope and geographical scope. As we shall see, this asymmetry is central to the Thus, while the supermajors have activities that go strategic predicament facing the oil and gas majors. from exploration through to retailing and span the As Table 8 shows, the international majors and globe, other companies operate in just a few the NOCs are not the only significant players in the vertical activities and are concentrated primarily in world petroleum industry. A key feature of the a single country. industry’s evolution since the days of domination by the Seven Sisters has been an increasing Corporate performance diversity in the types of companies in the industry. One of the most notable features of the oil and Independent upstream companies such as Apache, gas industry has been its strong financial Devon Energy and Burlington Resources have performance. During the period 2002-2004, the gained an increasingly important role. Many of industry has been particularly profitable, with most these independents have been pioneers in of the majors earning a return on equity that discovering and developing oil and gas reserves in has been more than double their cost of equity frontier regions. Vertical specialization is also (Table 10). evident in other stages of the value chain. The recent profitability of the oil companies Schlumberger and Halliburton specialize in has, of course, been the result of high prices for oil

integrated supermajors (e.g. Exxon, Shell, BP, Chevron, majors Total, ConocoPhillips) (e.g. Eni, Repsol, Petrobras)

national petroleum companies (e.g. Gazprom, refining and Saudi Aramco, PDVSA, marketing Pemex, companies

vertical scope Kuwait Petroleum) (e.g. SK, Reliance, Cepsa, Nippon Oil) international upstream companies (e.g. Burlington, Apache, downstream gas companies EnCana) service companies (e.g. BG, Gaz de France, (e.g. Schlumberger, E.ON AG) Halliburton) specialized

national geographical scope global

Fig. 1. Strategic groups within the world petroleum industry.

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and gas. However, if we view the industry’s of the oil and gas majors have remained much the financial performance over the past 20 years, we same over the past two decades and have been find that profitability (whether measured as return common to all the leading companies. In on equity, return on capital employed, or return on particular, the primary driving force behind sales) has been significantly above the average for corporate strategy (the quest for hydrocarbon other industry sectors. It is a tribute to the reserves) remains the same. companies’ strategies that since the mid-1980s, However, while the primary strategic goal profits for most of the companies have remained remains the same, the way it is pursued has positive even during periods of depressed oil prices changed. The growing importance of gas, (e.g. the late 1990s). This points to the relationships with producer countries and their effectiveness of restructuring, downsizing, and new NOCs, the changing basis for competitive technologies in cutting costs and refocusing the advantage, the growing role of technology and companies around their most profitable business other forms of knowledge have each influenced the activities. companies’ strategic thinking. Let us address some The primary source of profitability has been of the main trends in the strategies of the exploration and production (high oil prices during petroleum majors. 2003-2005 have further boosted the high returns traditionally associated with upstream activities). The quest for reserves By contrast, downstream has been unprofitable for Rising oil prices since 2000 have revived the most of the past three decades (the result of excess age-old fear of exhaustion of the world’s petroleum capacity and fierce price competition among reserves. In 2004, the IEA (International Energy commodity products). During 2000-2005, the Agency) estimated that the world will need to economics of the downstream sector have been spend $3 trillion over the next 25 years in order to transformed: a worldwide shortage of refining meet expected global oil demand. Almost one-half capacity has boosted refining margins, whereas of new production would come from existing retailing specialist service stations are increasingly reserves, the remainder from enhanced recovery, being transformed into convenience stores offering from new discoveries and from non-conventional a diversified range of goods and services. sources. For the majors, their crucial challenge is that much of their production comes from large Current strategies fields in North America (notably, Alaska and the The oil and gas sector is one of the few Gulf of Mexico) and the North Sea. These industries where the major products supplied by remnants of the first great wave of non-OPEC the industry have remained virtually unchanged exploration are now in decline. over many decades. The emphasis of competition, As a result, the majors are pursuing other therefore, is on accessing sources of oil and gas non-OPEC sources of oil such as West Africa, the and achieving efficiency in extraction, transport, Caspian, Russia, and the deep waters off Brazil. processing and distribution. The strategic priorities Their biggest hopes, however, are pinned on

Table 10. Financial performance of the international oil and gas majors (2002-2004)

Sales ($ 109) Net income ($ 109) Return Company on equity 2004 2003 2002 2004 2003 2002 (average, %) BP 285.1 ExxonMobil 270.8 213.2 182.5 25.33 21.51 11.46 21.1 Royal Dutch/Shell 268.7 201.7 179.4 18.18 12.61 9.58 18.0 Total 152.6 131.6 107.7 11.96 9.07 6.25 23.4 ChevronTexaco 148.0 112.9 92.0 13.33 7.23 1.13 17.7 ConocoPhillips 121.7 99.5 58.4 8.13 4.74 Ϫ0.30 10.9 Eni 74.2 64.7 50.3 9.05 7.74 5.49 21.7

Source: Company annual reports.

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Russia, which opened up to private investment in construction of gas-fired power plants between oil under Boris El’tsin and saw a surge in 1990 and 2002. investment and production. However, exploiting The challenge for the oil majors has been these sources of oil is difficult, either because of bringing their gas reserves to market. Gas is much the technical challenges involved, or because the more difficult to transport than oil; it must either countries concerned have become less welcoming be transported by pipeline or liquefied, and the of Western investment. For example, the Russian capital costs of exploiting gas fields that are distant government has banned majority foreign from major markets are immense. Between 2000 participation in many new natural-resource and 2005, a number of major gas pipeline projects concessions. have been initiated: Eni’s Bluestream and Other oil producing countries, both OPEC and Greenstream pipelines bringing gas from Russia non-OPEC, have also become less accessible to the and Libya; the 3,300 km Nabucco pipeline that Western majors. After international liberalization will bring gas from the Caspian to central Europe; during the 1980s and 1990s, countries in Latin and the 5,000 km Alaskan pipeline project. Huge America and the Middle East have placed investments in gas liquification plants have been increasing restrictions on foreign energy made in Qatar, Nigeria, Indonesia and several other companies. We seem to be observing a period of countries. Because gas is less transportable than renewed ‘resource nationalism’ by producer oil, international markets for gas have not countries. developed to the same extent that they have for Another dimension of resource nationalism is a crude oil. The implication is that vertical growing international role of NOCs. During the integration strategies have been very different for 1980s, Saudi Aramco, Kuwait Petroleum, and oil and gas. PDVSA established downstream operations in the and Europe. During recent years, the Vertical integration strategies oil and gas companies of Russia, India and China As already noted in the Section 5.2.5, a crucial have become prominent international players. With feature of the strategies of the petroleum majors the help of oil-service companies such as during the 1980s and 1990s was a dismantling of Halliburton and Schlumberger, the NOCs have the vertical integrated structures that had been access to modern technologies and are less central features of the traditional model of the interested in partnerships with the Western majors. international oil major. There were two aspects of Increasingly, NOCs are competing with the oil and vertical de-integration. First, the companies gas majors for concessions overseas. The takeover increasingly dissolved close operational linkages battle between Chevron and CNOOC for control of between their vertically-related businesses. Second, Unocal during 2005 illustrated this trend. the companies became increasingly selective over the vertical stages in which they participated. Thus, Strategies towards the development most firms outsourced oilfield services, marine of the natural gas sector transportation, information technology, and several Another big growth area for the majors is sold off their chemicals businesses. Nevertheless, natural gas. For most of Twentieth century, gas had all the majors maintained their presence in been regarded as worthless and was flared rather exploration, production, refining, and marketing than exploited. “Find gas once and you’re forgiven; (even if the emphasis was increasingly on the find it twice and you’re fired”, industry wisdom upstream businesses and little attempt was made to once dictated. From the 1980s onwards, gas ensure close upstream-downstream coordination). became increasingly important to the petroleum The loose-linked vertical integration in oil was majors. In 1982, gas consumption (in oil equivalent inadequate to manage the majors’ gas businesses. terms) amounted to 15.8% of oil consumption, by Effective exploitation of their upstream gas 1992 the figure was 56.9%, while in 2002, gas reserves required investment in transport, storage, consumption had reached 74% that of oil. Gas’s liquification, distribution and marketing. Increased advantages lay both in cost (historically, at least involvement in downstream activities was 30% cheaper than oil), its environmental facilitated by the liberalization of wholesale and friendliness, and its availability. If the Twentieth retail gas markets during the 1990s. Shell, Exxon, century was the ‘age of oil’, the Twenty-first Mobil, and Total were especially prominent in century has been declared the ‘era of gas’ by some forging vertically-integrated gas strategies, though observers. The most rapid source of consumption none of them achieved the same degree of forward growth has been the rapid expansion in the integration in gas as Eni, which was unique among

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the majors to the extent that it had be founded upon based knowledge management are at the human gas rather than oil. interface. The amounts of data generated and the The logic of vertical integration in natural gas sophistication of software for analyzing it outstrip took the majors beyond gas. By 2005, all the the human capacity to process it. Attempts to majors were significant players in electricity by-pass the human interface using artificial generation. For example, at the end of 2004, intelligence (‘intelligent drills’, ‘smart oilfields’) ExxonMobil owned a generating capacity of have proved disappointing. Hence, the key thrust of 3,700 MW and had almost $2 billion invested in its current developments is improving the connections power activities. For Shell too, power generation between people and information through improved and marketing had been a growth business, though portal design, better search engines, greater in April 2005, Shell announced the sale of its standardization, taxonomy redesign and improved Intergen power generation joint venture with information quality. Bechtel to a private equity group. Attempts to improve the sharing and utilization of experiential, ‘tacit’ knowledge have been even Technology and knowledge management more important than information management. The quest for reserves has taken the Communities of practice, informal groups of petroleum majors to the Arctic and the depths of employees doing similar jobs or engaged in similar the ocean. It has encouraged the companies to activities that share their know-how and assist in develop enhanced recovery techniques in order problem solving have all been particularly useful. to extend the lives of mature fields. It has More generally, the majors reported considerable resulted in the production of synthetic crudes savings in costs and time from measures that from sulphur-heavy petroleum, from coal, and facilitated individuals’ knowledge sharing. from tar sands and oil shale. Gas-to-liquids Encouraging sharing and utilization of technologies are being deployed to produce knowledge may require significant changes in the gasoline from natural gas. way in which companies are organized and The result has been increased dependence by managed. Under chairman John Browne, BP has the companies upon technology. However, the gone further than any other oil and gas company in remarkable improvements in efficiency and in the establishing organizational learning as a central capabilities of the oil and gas majors are not theme of its corporate strategy: “Learning is at the simply due to the application of scientific heart of a company’s ability to adapt to a rapidly knowledge whose origins are in the research changing environment. It is the key to being able laboratory. The enhanced technical and operational both to identify opportunities that others might not capabilities of the companies are the result of see and to exploit those opportunities rapidly and greater attention, not just to scientific knowledge, fully. This means that in order to generate but to knowledge more generally. extraordinary value for shareholders, a company By 2005, all the leading Western oil and gas has to learn better than its competitors and apply companies had adopted some form of knowledge that knowledge throughout its businesses faster and management programme. The companies’ more widely than they do. The way we see it, enthusiasm for knowledge management resulted anyone in the organization who is not directly from a recognition that oil and gas was a accountable for making a profit should be involved knowledge-based business and that competitive in creating and distributing knowledge that the advantage depended upon a company’s ability to company can use to make a profit” (Browne and exploit knowledge more effectively than its Prokesh, 1997). competitors. Some of the most striking advances in Key elements of BP’s creation of a learning knowledge management were in information organization were: technology. Web-based technology, distributed • Virtual teams: collaborative knowledge sharing computing, and internet/intranet connections have between employees with similar interests across transformed collaboration and decision making in the company. the industry, especially in upstream. The oil service • Peer assist: meetings and workshops where companies (notably, Schlumberger and employees not directly involved in a project are Halliburton) have been in the vanguard of applying brought together to review progress, solve advanced database management systems, problems, and recommend further areas of interactive software, and advanced modelling investigation. systems to E&P activities (drilling, in particular). • After action reviews: a process adopted from However, the greatest challenges of technology- the US army involving discussion and review of

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project successes and failures with a view to Schlumberger particularly, have taken the lead. drawing conclusions about future projects. Over the past ten years, the majors have reduced their research and development spending as a percentage of sales. Shell’s research and 5.2.8 Adapting to an uncertain development fell from $701 million in 1998 to future $553 million in 2004. This represents a decline in research and development spending as a proportion The evidence of the past is that the oil and gas of sales from 0.58% to 0.21%. Hence, one of the majors make the most rapid and effective changes key risks facing the majors is that they are when they are under pressure, in particular, when bypassed; the natural combination of their bottom lines are hit by falling energy prices. complementary resources and capabilities is the One of the dangers of the present era of high prices NOCs with their vast hydrocarbon reserves and the and wide margins is that it provides little incentive oil-service companies with their technical for change. expertise. It seems likely that, in order to gain Yet, the majors face tremendous uncertainties access to petroleum reserves in the producer about their future roles. Whatever the future course countries, the majors will increasingly have to of oil prices, the fundamental reality is that the create partnerships with NOCs and commit to companies are dependent for their livelihood on comprehensive, integrated development schemes finding new petroleum reserves. Given the combining transport, processing, petrochemicals difficulties of replacing non-OPEC reserves, it is and power. inevitable that the OPEC countries will account for a growing share of world production. In these countries, the presence of NOCs limits the access of the Western majors to petroleum reserves. Even References in some of the major non-OPEC producers, Russia in particular, the trend is towards protectionism and Al-Chalabi F.J. (1991) The world oil price collapse of 1986, the creation of ‘national champions’ such as in: Kohl W.L. (edited by) After the world oil price collapse. OPEC, the United States, and the world oil market, Gazprom. China and India, whose importance is Baltimore (MD), Johns Hopkins University Press. that they potentially represent the world’s two BP (British Petroleum) (1983) Annual report and accounts, biggest energy consumers, also appear to favour London, BP. the development of home-grown energy BP (British Petroleum) (1988) Annual report and accounts, companies. London, BP. One avenue for the Western majors to pursue is Browne J., Prokesh S. (1997) Unleashing the power of to concentrate increasingly upon natural gas organizational learning. An interview with British because it is capital and technology-intensive, Petroleum’s John Browne, «Harvard Business Review», September. giving them an advantage over the NOCs. The kind Chandler D.A. Jr. (1962) Strategy and structures: chapters of large, complex project where the Western in the history of the industrial enterprise, Cambridge (MA), majors can offer the necessary financial, MIT Press. technological and geopolitical resources and Chevron (1989) Annual report, San Francisco (CA), Chevron. capabilities is exemplified by the Shell-led Chevron (1990) Annual report, San Francisco (CA), Chevron. Sakhalin-2 project. This involves developing a Cibin R., Grant R.M. (1996) Restructuring among the world’s major sub-sea Russian gas field, liquefying the gas, leading oil companies, 1980-1992, «British Journal of then shipping the LNG to both Japan and China. Management», 7, 283-307. Desmarest T. LNG will also be shipped to California via a new (2002) Size is key to profitability, «Petroleum Review», March, 12-14. LNG regasification terminal in Mexico. Exxon (1983) Annual report, New York, Exxon. Following a similar rationale, another approach «Forbes» (1970; 2004). would be for the majors to redefine their «Fortune» (1970; 2004). relationship with the NOCs, i.e. increasingly acting «Fortune Global 500» (1970-2004). as partners where their primary role is providing Galbraith J.K. (1968) The new industrial state, New York, technical and commercial expertise and offering New American Library. access to Western markets. However, one problem Grant M., Cibin R. (1996) Strategy, structure and market is that the oil and gas majors have increasingly turbulence: the international oil majors, 1970-1991, outsourced technology, especially upstream. As a «Scandinavian Journal of Management», 12, 165-188. result, the technological leaders in exploration and Mobil (1987) Annual report, New York, Mobil oil corporation. production, and the oil-service companies, «Petroleum Intelligence Weekly» (2003).

320 ENCYCLOPAEDIA OF HYDROCARBONS OIL COMPANY STRATEGIES FROM 1970 TO THE PRESENT

Sampson A. (1975), The seven sisters: the great oil companies Texaco alters exploration and production (1989), «Wall Street and the world they made, New York, Viking. Journal», 8 March, B3. Shell admits impact of Sakhalin-2 overruns (2005), «Financial Verleger P.K. (1991) Structural change in the 1980s, in: Kohl Times», 15 July, 1. W.L. (edited by) After the oil price collapse. OPEC, the Stopford J.M., Wells L.T. (1972) Managing the multinational United States and the world oil market, Baltimore (MD), enterprise: organization of the firm and ownership of the Johns Hopkins University Press. subsidiaries, London, Longman. Tetreault M.A. (1985) Revolution in the world petroleum market, Westport (CT), Quorum. Robert Grant Texaco (1988) Annual report, White Plains (NY), Texaco. Georgetown University Texaco (1989) Annual report, White Plains (NY), Texaco. Washington, D.C., USA

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