Navigating the Crude Cycle The Upside of Capex Postponement Five actions to help achieve success with major projects in energy
Executive summary Sustained low prices have prompted energy companies to retrench and defer capital projects. Business leaders are now taking a hard look to find opportunities to cut operating expenses while maintaining current production, at least in the short term. Leading energy companies and project managers can take advantage of the industry slowdown to rethink approaches for improving capital project delivery. Five critical strategies, Accenture believes, can help companies transform their organizations without major disruption, enabling them to emerge stronger, more cost-efficient, and better able to deliver value to stakeholders well into the future. The consequences of price volatility At price levels of US$40 $60, many capital projects are not nearly as feasible as when prices were at least US$80. The sustained price drop (apparent in Figure 1) has prompted companies to scale back and recast budgets. Across-the-board cutbacks in the long term, however, may be hasty and unwise. Instead, companies should utilize the slowdown as an opportunity to reprioritize spending. By leveraging technologies that fundamentally impact the base cost of construction and operating costs, Accenture believes companies could potentially benefit greatly by putting in place better project delivery and operational processes, thereby emerging stronger and more cost-efficient in the long run. Figure 1. Trend in crude oil prices from July 2014 to August 2015 120 120 100 WTI Price (USD/bbl) WTI Price (USD/bbl) 80 60 40 20 0 0 Source: EIA. July 2014 August 2015 2
The bonus: A more disciplined approach to capital projects could make marginally viable projects more attractive and economically viable projects more likely of delivering long-term returns. Deploy five critical actions In the past five years, high oil prices and efforts to double production drove companies to focus on growth, often at the expense of disciplined project delivery. Megaprojects across the globe have faced many development problems: engineering rushed to meet tight timelines; contractors and subcontractors in the drivers seat; owners with little real-time visibility into critical project information; and organizations lacking the time and resources to support the rapidly growing portfolio of projects. The consequences consist of massive cost overruns and below-capacity production. To capture greater value in the short term and lay a strong foundation for improved delivery of capital projects, Accenture recommends project owners adopt five critical actions to take advantage of the slowdown and transform their organizations: 1. Hire strategically, and with the appropriate long-term incentives, to build core and strategic capabilities and skills internally aligned with current and future business growth. 2. Review the role that third parties could play in improving project delivery by fundamentally challenging the traditional operating models for capital projects. 3. Rethink contracting strategies as power shifts back to owners from engineering, procurement and construction companies (EPCs) and engineering, procurement and construction management companies (EPCMs). 4. Develop and deploy (both internally and to third parties) a cross-project set of tools and processes to improve visibility, standardize information and decrease cost. 5. Implement a continuous process of project review. 3
1. Hire strategically for improved project leadership Because owners have relied heavily on third parties in recent years, internal capabilities have weakened. Thorough analysis of internal capabilities and leadership is the starting point to identify requirements of the talent required to successfully deliver a large portfolio of complex projects. An objective review should cover project management, controls, analytics, governance, sourcing and procurement and technology solution-as-a-service. Results of the assessment will reveal gaps. Accenture suggests hiring to fill needs at the strategic management levels, followed by a consideration of the appropriate support model (e.g., internal, contractors or managed as a service). 2. Build an operating model that helps third parties add value Striving to build the appropriate organization, owners should identify effective ways to retain the best talent, including structuring attractive packages with value-based incentives. An easy place to start is with strategic new hires. All professionals managing projects should be guided not just to meet timelines but also to help contribute to operating success. Technology has fundamentally changed the ways people collaborate on major projects. Recent advances, for example, have enabled a shift from traditional operating models to cloud-based models that incorporate remote operating centers, real-time tracking of materials and field mobility. Why not challenge the traditional EPCM models as well, by using the slowdown to develop a high-performance organization for capital project delivery? EPCs and EPCMs have well-known areas of expertise, and most project owners need to continue engaging these firms. Data management, however, is not one of their traditional strengths. Most project owners could benefit by bringing in a third party whose experience is in data. For example, the poor quality of data around an asset, once operational, is a common woe and results in unplanned downtime. The cause of weak information frequently originates during design and construction, with data being handed over as incorrect, incomplete, in an unusable format or, in some cases, not at all. Technology exists to make sharing of information and collaboration between project partners a seamless process. An improved operating model could help project owners balance in-house management capabilities with highly qualified partners to deliver a complex portfolio of projects. Developing a new model could fundamentally reduce the price of project delivery and also improve outcomes. For that to happen, however, governance must be a priority. Many project owners have, or are developing, stronger capabilities to manage multiple partners to deliver greater value. 4
3. Rethink contracting strategies As mentioned earlier, high prices and strong demand resulted in owners being crucially dependent on third parties. EPCs and EPCMs secured lucrative contracts, received bonuses tied not to results but to project milestones, and relied on their own tools and processes. In the current environment, however, budget cuts and project delays would likely drive these firms to sharpen their competitive edge to win the reduced volume of work. Consequently, owners have an opportunity to adopt a more strategic approach to contracting. Such an approach must go beyond mere contract cost advantages and focus on contracting practices with long-term benefits. Megaprojects need tighter controls and incentives aligned to performance. Now is also the time to consider fixed-price contracts that encourage a partnership among entities, thereby fostering an environment where solution contingency is exposed to multiple parties, and builds in expectations of high-quality, safe and on-budget delivery. Accenture recommends owners look at existing contracts and investigate the ability to realign structures and incentives for long-term gain. Stronger partnerships could be beneficial in the long run, particularly when formed with EPC contractors with a presence in low-cost locations (India being one example) and with contractors who have demonstrated a consistent record of delivering high-quality services. 5
4. Standardize tools and processes Accenture experience indicates that inadequate controls and governance are important reasons for capital-project shortcomings and failures. Over the past decade, projects have moved ahead speedily, giving owners little opportunity to pause and roll out standard tools, methodologies and processes across their portfolios or to specify that contractors use the same systems. While some companies are beginning to acknowledge the problem and others are setting up teams to initiate internal alignment, few have managed to acquire a common platform or managed to deploy improved solutions to suppliers. Project owners need to reexamine their suite of project management, governance, and controls processes and tools. When processes and tools are strong, Accenture recommends rolling these out consistently across the portfolio before the pace of projects increases. Where there are gaps or areas of opportunity, Accenture advises choosing new or field-tested processes and tools that can be deployed to all major projects, often speedily with current technologies. Additionally, as the balance of power shifts, owners should mandate contractors integrate with their processes and governance models. Alignment within the project environment improves visibility, enabling stronger controls for cost, schedule and quality. Standardization across projects allows talent to move across projects, develop deeper capabilities, and focus on project outcomes without the constant distraction of applying a new tool or process. 5. Implement a continuous review process Another well-acknowledged driver of project failure is the speed at which projects move at the front end to meet a deadline. Rushing to address targets at any cost results in hasty planning before the final investment decision (FID) and hurried engineering. The consequences are frequently incomplete drawings, assumptions about labor and material costs that are detached from market reality, inadequate planning for unforeseen events and overly optimistic estimations of benefits. Additionally, initial cost estimates for projects are often higher than what owners and key stakeholders are ready to accept. Early scope reduction, however, tends to return later, leading to higher costs and compromised quality that can reduce production post commissioning. Figure 2. A typical capital project cost curve Peer reviews, including value-improvement practices before the FID, help but frequently are not conducted diligently. In addition, little evidence exists to suggest firms undertake a regular cadence review after the FID to identify additional improvement opportunities. These areas may consist of detailed engineering, reduced material, equipment and labor costs, procurement of shorter lead time materials, project controls and reporting, and construction productivity. Ability to Influence Cost Cumulative Project Cost 100% Higher 0% Lower Source: Accenture. 6
Accenture recommends a three-pronged approach to project reviews, starting with pre-fid (planning and initial design), when the ability to influence cost is the highest and the capital/ operating expense outlay is minimal (see Figure 2). For objectivity, the pre-fid review and the following two stages should be conducted by an independent third party. The second stage is post-fid, when the large majority of project spend occurs (well over US$2 million a day for megaprojects). The final phase is after an asset is up and running. Here is a more detailed look at a three-phased review process: Pre-FID. To identify risks and opportunities for cost reduction, the third party (or multiple third parties) must have experience in a diverse range of areas: engineering, financing, project management/controls, capabilities and tools, procurement and contracting strategies for materials and services, incentive structures, and key performance indicators. Accenture suggests that, in addition to a traditional value improvement analysis and developing a strong plan to realize greater value, major opportunities for cost saving lie in procurement of services and materials (ranging from 5 percent to 10 percent of overall costs). Post-FID. Accenture suggests implementing a continuing review process throughout the project lifecycle to identify opportunities, correct course, improve delivery and decrease cost. For instance, a review of the quality and completeness of drawings during construction could offer a way to recover cost and schedule due to decreased rework (estimated at 10 percent). Production. Measuring ramp-up, uptime, and periodic production provides opportunity to quantify project design to actual performance, post-startup. Additionally, with construction and commissioning complete, budgeted versus actual spend can be measured. Combining the two metric categories provides opportunity to evaluate overall and employee/contractor performance. A poststartup review provides insight into potential improvements for future projects; however, such an exercise requires a thorough, candid review process. Building the foundation for high-performance project delivery Even in the best of times, delivery of capital projects is a challenge. With commodity prices likely to remain volatile and depressed in the near future, project economics and approval will continue to be an exercise in measured risk-taking. Taking these five actions could help project owners build a stronger foundation relying on the right mix of people, processes, tools and information for more successful project delivery. Companies that focus on becoming more disciplined now will not only be able to stretch their current capital expenditure budgets, but they are also likely to emerge better positioned to deliver higher project returns and sustainable shareholder value well into the future. 7
Authors Sarah Burns is a senior manager with Accenture Strategy in the Resources Operating Group. She has nearly 15 years of experience in developing and executing strategies to improve growth, return on investment, and valuation for energy, retail, consumer products, and healthcare companies. Sarah can be contacted at sarah.m.burns@accenture.com. Mark Berkley is a senior consultant with Accenture Strategy. He has worked in the design, engineering and commissioning of power and chemical plants, as well as in the oil and gas and mining and metals industries. Mark can be contacted at mark.berkley@accenture.com. Elfije Lemaitre is a senior manager experienced in enterprise transformation for oil and gas clients. She has 11 years of experience in developing and executing transformation programs to make structural changes for large-scale cost takeout, rapid growth and sustainable operations. Elfije can be contacted at elfije.lemaitre@accenture.com. Contributors Amy M. Callahan, Managing Director, Accenture Capital Project Services David X. Taylor, Managing Director, Accenture Strategy About Accenture Accenture is a global management consulting, technology services and outsourcing company, with more than 358,000 people serving clients in more than 120 countries. Combining unparalleled experience, comprehensive capabilities across all industries and business functions, and extensive research on the world s most successful companies, Accenture collaborates with clients to help them become high-performance businesses and governments. The company generated net revenues of US$31.0 billion for the fiscal year ended August 31, 2015. Its home page is www.accenture.com. Copyright 2015 Accenture All rights reserved. Accenture, its logo, and High Performance Delivered are trademarks of Accenture. This document is produced by consultants at Accenture as general guidance. It is not intended to provide specific advice on your circumstances. If you require advice or further details on any matters referred to, please contact your Accenture representative. This document makes descriptive reference to trademarks that may be owned by others. The use of such trademarks herein is not an assertion of ownership of such trademarks by Accenture and is not intended to represent or imply the existence of an association between Accenture and the lawful owners of such trademarks.