Always controversial, yet heretofore needed, the oil and gas industry is at the crossroads of its strategy and purpose. As the stakes of the climate crisis mount for business and society, no industry sector is under more scrutiny over its future license to operate.
The debate over the industry’s future existence resides between polar-opposite opinions: progressive critics that have consigned the oil and gas industry to the dustbin of history, and petroleum executives who believe their business future is inevitable due to society’s continuing need for hydrocarbon products.
The landscape is littered with forecasts and scenarios that encompass both points of view and others in between. Most of these perspectives from the industry and its critics yield little insight due to a failure to sufficiently consider several transformational factors simultaneously at work. Those failures include:
The industry has lost control of its societal narrative. In this context, a narrative is the dominant story that a sector of society (a government agency, an industry) communicates about its value to its principal stakeholders and society in general. Following decades of public opinion research, the oil and gas industry has long recognized that it was unpopular with large segments of the public, but its societal narrative was constructed around its financial stability and rewards, its ability to manage technological complexity and its ability to consistently provide products that met a continuing social need for mobility, economic development and prosperity.
Oil and gas companies simply are no longer an attractive investment.
This narrative is being deconstructed and dismantled by the disruptions emanating from climate change and the crisis of confidence that the public has about its ability to provide for a better future. The inability of senior industry executives to articulate a credible rationale to meet society’s changing expectations has compounded the industry’s dilemma.
Investor confidence is rapidly declining. The trends are both macro and micro. In the United States, for example, the value of energy companies (principally petroleum) on the S&P 500 has declined from 11 percent of the total index a decade ago to less than 3 percent by this summer.
According to Goldman Sachs, the cost of capital for long-term petroleum investments is about 20 percent, whereas renewables’ projects can be funded at a capital cost of 3 to 5 percent. This factor, more than a commitment to mitigating climate change, helps explain why so many financial institutions are withdrawing their support for high-cost, long-term petroleum exploration in the Arctic and other regions.
Large, integrated petroleum companies are forced to shrink their budgets, staffs and assets. ExxonMobil announced Nov. 30 it would write off up to $20 billion of assets in the fourth quarter of this year, reduce capital expenditures to between $16 billion and $19 billion next year from a projected $30 billion to $35 billion, and continue with a workforce reduction of 14,000, or 15 percent. BP, a smaller company, is on a similar trajectory, with proposed asset write-offs of $17.5 billion of its oil and gas holdings and staff reductions of 10,000, or 15 percent of its workforce. Business decisions at Chevron, Royal Dutch/Shell (where several very senior executives responsible for clean energy recently resigned over a dispute on company strategy) and Total follow a similar pathway.
While many of these decisions reflect an accelerated influence of the pandemic upon a reduced demand for oil and gas products, they also attest to longer-term market expectations that the value of petroleum and gas assets is simply worth less.
These factors add up to a daunting conclusion: Oil and gas companies simply are no longer an attractive investment. According to the Boston Consulting Group, no big industry performed worse for shareholders in the second half of the decade than oil and gas.
Market transformations move away from fossil fuels. Oil and gas company executives fully recognize that such transformations are underway but believe they will proceed in a gradual and methodical manner. They are comforted by International Energy Agency statistics that 80 percent of energy consumed last year resulted from coal, gas and oil production.
Offsetting this comfort zone are far more disruptive developments. Goldman Sachs has forecast that, over the next decade, there will be $16 trillion in investments to decarbonize the global economy in renewables, electricity grid infrastructure, carbon capture and storage, and hydrogen.
General Motors’ Nov. 23 announcement that it no longer will support the Trump administration’s effort to bar California from setting its own emissions and fuel efficiency rules aligns it with Ford, Honda and Volkswagen to phase out gasoline and diesel-powered vehicles and trucks. GM plans to convert to an all-electric future with commitments to introduce 30 new global electric vehicles by 2025. Simultaneously, and for the first time, solar and wind comprised most of the world’s new power generation, or about two-thirds of new electricity capacity installation.
Industry adaptation strategy is an extension of the known, and a muddled articulation of the new. An examination of the oil and gas sector’s adaptation thinking reveals three major pathways:
Riders on the storm: This thinking was expressed in August by Chevron’s CEO Mike Wirth in comments to the Texas Oil & Gas Association. The global demand for clean energy "doesn’t mean the end of oil and gas," he exhorted his colleagues. "We’ll find ways to make oil and gas more efficient, more environmentally benign … and it will be a part of the mix." In other words, by tightening its belt, the industry can ride out the current economic challenge of lower prices and depressed demand as it has on many previous occasions while making the incremental technological adjustments needed to stay in business.
Bridges to the future: Advocates of substituting natural gas for coal to generate electricity have enjoyed a good decade. However, the width and length of the oil and gas bridge is shortening due to higher capital costs; reduced pricing power resulting from overproduction and pandemic demand reductions; structural changes in key markets (see above) and emerging public policy decisions (see below).
Another bridge repositions hydrocarbons for chemicals manufacturing, a strategy that is enjoying a boom in the form of petrochemicals investment in China, the Middle East and western companies for converting cheap supplies of both oil and gas into downstream chemical products, especially those that can be converted into plastics and other high-demand products.
A third bridge option is more developmental but is attracting more players and investment capital: hydrogen and its use to decarbonize major markets such as power generation, fertilizer production and transportation. The industry’s experience in industrial gas manufacturing, distribution and storage position it to play a more powerful role in building scale to the hydrogen industry while leveraging much existing infrastructure. The urgency of climate change makes the business case and societal acceptance for hydrogen even more compelling (particularly if it can be manufactured at scale without fossil fuels).
Business model muddle: The most aggressive proponent of moving the industry away from its traditional oil and gas business model is BP’s CEO Bernard Looney. After a short time in the position, he announced in February that the company would shrink its oil and gas production by 40 percent, invest in offshore wind power and solar and battery storage, and consider installing electric vehicle recharging stations at a number of its 7,000 U.S. gasoline stations — all aimed at making BP net-zero for carbon emissions by 2050.
Looney's three-pronged messaging — reimagining energy, reinventing BP and performing while transforming — are aimed at converting BP into the Amazon or Microsoft of energy in which "we are one of the few companies in the world that can actually solve large complex problems."
Absent detailed specifics from Looney, the market’s reaction, and those of many of his industry peers, has been a collective yawn. Is half an oil company better than a whole one for a company that in the 1990s promised to go Beyond Petroleum? As the Financial Times Bryce Elder has noted, "Until it is made clear how BP intends to outrun its past this time, investors may want to sit this one out."
The role of the state has now converged on decarbonizing the world’s leading economies, and thus represents the leading long-term existential threat to the oil and gas industry.
Re-emergence of the 'Entrepreneurial State'
Economist Mariana Mazzucato’s 2013 treatise, "The Entrepreneurial State," took the mythological blinders off both state-sponsored and privately financed capitalism. In examining the post-World War II history of innovation, she concluded, "The entity that takes the boldest risks and achieves the biggest breakthroughs is not the private sector; it is the much-maligned state."
Her examples range from research that led to pharmaceutical products, the algorithm behind Google’s search engine, the principal technological components of Apple’s iPhone and renewable energy technologies. More recently, government funding has been a linchpin of innovation, leading to COVID-19 vaccine development.
The role of the state has converged on decarbonizing the world’s leading economies, and thus represents the leading long-term existential threat to the oil and gas industry. This threat expresses itself in two ways: implementation of policy frameworks that limit the release of greenhouse gas emissions from agriculture, buildings, energy, transportation and a host of economic activities; and investments in alternatives to fossil fuels. The latter set of choices is the more transformative.
One can debate past dawn if the $2 trillion Biden clean energy plan is sufficient to achieve the objectives of the 2015 Paris Climate Accord (or if the U.S. Congress will even enact it); whether the lack of transparency surrounding China’s net-zero 2060 pledge compromises its credibility; and if the European Union’s moonshot 1 trillion euro Green New Deal initiative can be implemented across 27 sovereign nations.
Regardless of differing political interests, ideologies and loopholes, the overriding fact is that the world’s three largest and most influential economic blocs are proceeding in a common direction in a similar time frame using the instruments of state power and financing to obtain a roughly aligned outcome. New national and global narratives and coalitions have emerged to persuade the relevant political actors (policymakers, parliaments, state enterprises, private sector companies) that de-carbonization investments are needed to meet the scale of the climate crisis.
Can the oil and gas industry — either private-sector or state-owned enterprises — adapt and survive within this new collective reality?
The answer is yes — but. It will attempt to delay some regulatory controls on its operations and products; further streamline staff and refocus or write-off assets; develop technologies to improve operating efficiencies and reduce its carbon footprint; contribute to innovations in carbon capture and storage; seek subsidies and other rents; advance hydrogen or other technologies to market scale where it maintains competencies; and continue to advance prosperity in developing nations that lack sufficient knowledge and capital to be in the forefront of a decarbonized world for the next generation, or longer.
Oil and gas are not going to disappear. However, it is unlikely to keep the high dividend checks flowing to shareholders as alternatives to fossil fuels emerge at scale to provide society with different energy solutions. Like the Ottoman Empire, the industry can persevere for an extended period and recede alongside the controversies that currently engulf it.
Disclosure: This columnist previously served as vice president of health and environment at the American Petroleum Institute from 1988 to 1992.