Oil and gas after COVID-19: The day of reckoning or a new age of opportunity? - Webinar series
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Oil and gas after COVID-19: The day of reckoning or a new age of opportunity? Webinar series May 28th, 2020 CONFIDENTIAL AND PROPRIETARY Any use of this material without specific permission of McKinsey & Company is strictly prohibited
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1. Including, current or future customer information, pricing or quantities, marketing strategies or business plans, whether or not related to COVID-19 crisis
McKinsey & Company 1
Your hosts and presenters for this session
Pablo Ordorica Giorgio Bresciani Luciano Di Fiori Raúl Camba
Senior Partner, Mexico Senior Partner, London Partner, Houston Partner, Mexico
Pablo leads the Energy and Basic Giorgio leads McKinsey’s Oil & Gas Luciano leads McKinsey’s Energy Raúl has spent his consulting career
Materials Practice in Latin America. Practice globally, serving clients Insights in the Americas. He has 10+ advising oil and gas companies in
Pablo has 30 years of experience around the world to improve their years of experience serving clients Europe, Latin America, and North
serving public and private sector performance. His work spans across in the North American America. His experience has
clients on topics related to energy a wide range of topics, including unconventionals, global upstream, encompassed dozens of projects
policy, upstream strategy, strategy and corporate finance, oilfield services, and midstream across a wide range of areas,
operations, and organization growth, M&A and alliances, gas and sectors; advising them on a variety including operations, capital
topics—in Mexico, the US, and liquefied natural gas (LNG), of strategy and M&A issues. projects, portfolio management,
across the Americas. operations and capex performance technology and digitalization, and
transformation, organization, and human resources.
digital transformation.
McKinsey & Company 2
Oil and gas after COVID-
19: The day of reckoning
or a new age of
opportunity?
McKinsey & Company 3Out of 9 scenarios, executives in the world and North America see a
higher likelihood for “Muted Scenario” recovery
Scenarios depend on effectiveness of public health response and economic policies
Survey of 2,079 global executives (481 in North America); % of respondents
World / North America %
Rapid and effective B1 15/14% A3 16/12% A4 6/5%
control
of virus spread
Virus
Effective response,
spread
but (regional) virus
B2 11/12% A1 31/39% A2 6/8%
and public
resurgence
health
response
Broad failure of B3 3/1% B4 9/8% B5 2/1%
public health
interventions
Ineffective Partially effective Highly effective
interventions interventions interventions
Knock-on effects and economic policy response
Source: “In the tunnel: Executive expectations about the shape of the coronavirus crisis”; available online at https://www.mckinsey.com/business-functions/strategy-and-corporate-finance/our-insights/in-the- 4
tunnel-executive-expectations-about-the-shape-of-the-coronavirus-crisis; McKinsey survey of global executives, April 2–April 10, 2020, N=2,079In Mexico, the sectors with the highest impact are expected to be
hospitality, entertainment, manufacturing, and retail
Scenarios assume partially effective economic policy interventions
A1, Virus recurrence; slow long-term growth. Muted World Recovery
GDP impact by sector; %YoY in 2020
4.8
2.6
0.7 0.7 0.2
-9.2 -9.7 -9.5
-10.8
-15.6 -15.9 -17.0
-18.8 -19.7 -19.7
-38.5
-39.9
National Health Media Agriculture Legal Electric Oil & Business Corp- Constr- Real Transpor Manuf- Whole- Retail Entertai- Hospit-
services Gas support orate uction estate tation acturing sale nment ality
And
Mining
Source: McKinsey McKinsey & Company 5For the O&G, the COVID crisis has created an unprecedented shock
that will require a fundamental shift in how the industry operates
Details to follow
The current context combines a supply Winning in the new environment will
shock with an unprecedented demand require a change in strategy and
drop and a global humanitarian crisis business model
COVID-19’s impact on the O&G industry’s demand is Responding to this “New Normal” for O&G organizations
unlike anything seen in recent history will require taking bold action during the crisis to
Even with the recent OPEC+ agreements, the secure resilience; and we propose 4 distinctive
implications for supply is profound with a low elements to act upon today:
likelihood for the industry to return to pre-COVID prices Reshape portfolio and reallocate capital
in the near-term Redesign operating model for profitability
As such, significant capex reductions and shut-ins are Ensure supply chain resilience through
likely to continue, and asset economics will play a partnerships
fundamental role in portfolios and investments Create the organization of the future in both talent
and structure
1. Based on A1 - Muted Recovery and A3 - Virus Contained scenarios
McKinsey & Company 6Pre-COVID the industry was underperforming against other
industries; particularly over the last 5 years
Cumulative total return to shareholders Oil & Gas companies1 Total return to shareholders1, 2, 3, 4
Index: Dec 1990 = 100, USD S&P500 CAGR, Percent, USD
Brent2 Dec 1990 – Dec 2005 Dec 2005 – Dec 2019
1,800 Pre-
COVID
Integrated 5 15 4
1,600
2014 oil
price
1,400 drop E&P 6 7 -1
1,200
2008 OFSE 13 -2
1,000 financial
crisis
800 R&M 7 9 6
600 O&G overall 11 2
400
S&P500 12 9
200
0 Brent8 5 1
1995 2000 05 10 15 2020
(1) Not enough sample listed till 1996; (2) ConocoPhillips categorized as Integrated from Dec 1990 – Mar 2012 then as E&P from Apr 2012 – Dec 2019; (3) Marathon Oil Corporation categorized as Integrated from Dec 1990 – May 2011, then as
E&P from Jun 2011 – Dec 2019; (4) Hess categorized as Integrated from Dec 1990 – Dec 2013, then E&P from Jan 2014 – Dec 2019; (5) Equinor categorized as Integrated; (6) Occidental Petroleum and Origin Energy categorized as E&P; (7)
Excludes marketing pure plays; (8) Represents change in ICE Brent price
Source: S&P CapitalIQ, team analysis McKinsey & Company 7Recent decline in oil demand is unprecedented and recovery to pre-
COVID levels is highly unlikely in the next couple of years
Historical Pre-COVID-19 A3 - Virus Contained A1 - Muted Recovery
Change in global oil demand, y-o-y change, Mbd –
McKinsey Energy Insights projections Global liquids1 demand, Mbd
105
100
-7.5
2000 02 04 06 08 10 12 14 16 18 2020 95
-16.7
90
-7.5
85
0
2015 16 17 18 19 20 21 22 23 24 2025
Steepest demand The industry will struggle to recover to 2019 levels
change of a generation
-16.7
Source: IEA World Energy Statistics © OECD/IEA 2020, McKinsey Energy Insights McKinsey & Company 8Long term energy demand growth will be defined by behavioural,
political and commercial trends that are still shaping
Preliminary Increase in O&G demand/ delay Decrease in O&G demand /
in energy transition acceleration of energy transition
Potential effect Two potential extremes are
Potential long-term shifts in demand possible
Behavioral Remote working
shifts (consu-
mers) Staying closer to home Peak oil demand is delayed to 2050 as
governments relax environmental
Online shopping standards for companies and new
technologies fail to emerge in the new
Commercial Scarcity of investment capital for
normal
shifts (business new technologies
and techno- Diversification to new technologies
logy) Peak oil demand might have already
happened in 2019 if changes in behavior
De-globalization of supply chain
combined with structural changes and
Political shifts Postponement of climate agenda regulation results in an accelerated
transition to green energies
(regulators)
Utilizing recovery support for
climate agenda
Self-sufficiency on a country level
Source: McKinsey Global Oil and Gas Practice, 2020 McKinsey & Company 9As we entered 2020 supply levels were already high, prompting the
need for market adjustments
Market balance (supply minus demand) Brent oil price
Global oil market balance, Mbd Brent Crude Price, $/bbl
6.0 90
5.0 80
70
4.0
60
3.0
50
2.0
40
1.0
30
0
20
-1.0 10
-2.0 0
2015 2016 2017 2018 2019 2020
Source: IEA, EIA McKinsey & Company 10Updated May 6, 2020
Going forward, the outlook for the industry will fundamentally
depend on the containment of the virus and OPEC+ compliance
We consider three potential scenarios outcomes
OPEC+ control restored Delayed demand recovery
OPEC+ alignment • Inventory overhang is consumed ~2 • Inventory overhang is consumed 2+
OPEC+ implements agreed cuts in 2020 years years
and manages output as needed to balance • Prices increase to ~$40/bbl by 2020 ad • Prices increase slowly to $60/bbl by
How will OPEC+ the market 2021 onwards $60/bbl by 2022 2025
respond over
the next three
to five years?
Longer oversupply
(2020 – 2025)
OPEC+ non-compliance • Assuming no extended shut-ins, large
Widespread non-compliance in Q2 2020 inventory build-up takes multiple years to
fails the deal, producers go back to Q1 consume
output levels • Prices remain lo $20s with occasional $30s
for the next 3 years
A3 - Virus contained A1 - Muted Recovery
7.5Mbd demand reduction in 16.7Mbd demand reduction in
2020 vs 2019 2020 vs 2019
What is the extent of the impact of COVID-19 on demand?
Source: McKinsey Energy Insights McKinsey & Company 11In all scenarios, it is likely that capex reductions across drilling
activity and FIDs will be significant
North America
Pre-COVID-19 Outlook Pre-COVID-19 outlook Longer Oversupply Delayed Demand Recovery OPEC+ Control Restored
Low prices will add significant pressure Drilling activity in the US will continue to Offshore activity – particularly
on investments; almost $160 B USD decline and reach it’s lowest point in deepwater – will be significantly
could be at risk today 2021-22 impacted
Deepwater development capex spending
Global oil development capex spending, USD North American shale oil rig count Including KSA, UAE, Kuwait and Russia, USD
billion # of rigs billion
800 800 90
700 700 80
600 600 70
60
500 500
50
400 400
40
300 300
30 27%
200 -22% 200 20
100 100 -50%
-48% 10
0 0 0
2019 20 21 22 23 24 2025 2019 20 21 22 23 24 2025 2019 20 21 22 23 24 2025
Up to 2025 it is unlikely that investments in development CAPEX In the most extreme scenario of OPEC+ non-compliance and muted Deepwater spending by 2021 could see a reduction between 25-
return to pre-COVID estimations; which can potentially generate a recovery; rig activity in US could be reduced by +80% by 2021 from 50%; while recovery by 2025 is likely, levels of investment compared
supply shortage post 2025 original estimates to original pre-COVID estimates will be at least 25M USD lower
Can industry deflation create opportunities for lower cost developments?
Source: McKinsey Energy Insights; Rystad, Wood Mackenzie McKinsey & Company 12Under these scenarios, asset economics will play a fundamental role
in investment allocations
Relative profitability of asset classes will be critical to shape portfolio
Global Cost curve of liquids and 2030 breakeven prices (2P)
Full cycle production cost1, USD/bbl
130
120 For MX: ~30% of reserves profitable at $40+ ~70% of reserves profitable at $40-50
110
100
90
80
70 World: ~70% of reserves profitable at $40+
60
50
40
30
20
10
0
25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100 105 110 115
Other liquids2 Liquids production, MMb/d
The majority of Mexico´s reserves may not be profitable at 40 USD/Bl; however, ~ 70% of the world’s reserves are
Players in Mexico will need to push for lower breakeven cost and de-risking of the basin
1. Based on OPEX (excluding SG&A) and Royalties, adjusted for cash flows from non-crude / condensates; excludes Government Profit, Income Ta
2. Includes biofuels, GTLs (Gas-to-liquids), Ctls (coal-to-liquids), MTBE, refinery profits and NGLs – Equilibrium costs shown are conceptual
3. Production cost is capped in 130USD/Bbl For the purpose of the presentation
Source: McKinsey Energy Insights; Rystad, Wood Mackenzie McKinsey & Company 13The challenge of cost reduction is not trivial as the industry has
already pushed strong improvements over the last decade
Goldman Sachs Top Projects cost curve of pre-plateau projects through the years
Breakeven price
2009 2011 2013 2015 2019 2017
$/barrel
140
130
120
110
100
90
80
70
60
50
40
30
20
10
0
Cumulative peak oil production (kboe/d)
1. Identified projects (pre-sanction, under development and production) are evaluated each year and assigned a breakeven price and peak oil production. The
oil cost curve depicts the cumulative peak oil production of identified projects. Kboe/d is thousand barrels of oil equivalent per day.
Source: Goldman Sachs Global Investment Research McKinsey & Company 14For the O&G, the COVID crisis has created an unprecedented shock
that will require a fundamental shift in how the industry operates
Details to follow
The current context combines a supply Winning in the new environment will
shock with an unprecedented demand require a change in strategy and
drop and a global humanitarian crisis business model
COVID-19’s impact on the O&G industry’s demand is Responding to this “New Normal” for O&G organizations
unlike anything seen in recent history will require taking bold action during the crisis to
Even with the recent OPEC+ agreements, the secure resilience; and we propose 4 distinctive
implications for supply is profound with a low elements to act upon today:
likelihood for the industry to return to pre-covid prices in Reshape portfolio and reallocate capital
the near-term Redesign operating model for profitability
As such, significant capex reductions and shut-ins are Ensure supply chain resilience through
likely to continue, and asset economics will play a partnerships
fundamental role in portfolios and investments Create the organization of the future in both talent
and structure
1. Based on A1 - Muted Recovery and A3 - Virus Contained scenarios
McKinsey & Company 15We see 4 key imperatives for O&G organizations in Mexico (1/2)
Reshape portfolio and radically reallocate Unlock a step-change in performance and
capital to the highest-return opportunities cost competitiveness through re-
imagining the operating model
Redefine your asset portfolio strategy (i.e., keep, Identify the full-potential for critical assets and
transform, partner, decommission) across basins – redesign the operating model for profitable resilience
critical to understand relative position of Mexico vs
global portfolios and de-risk investments proactively Redouble your efforts to sustain or even scale-up your
digital and advanced analytics transformations to
Systematically manage for uncertainty and cash (i.e., achieve the next s-curve productivity and cost
dynamic field shut-ins, capex prioritization); double-down efficiency (e.g., remote operations)
on discipline for strategic scenario planning
Explore partnerships with OFSE´s to increase
Proactively scan the M&A market and be ready to take efficiency, acknowledging they may be already at
bold opportunistic moves to develop an advantaged the edge of profitability
long-term portfolio
McKinsey & Company 16We see 4 key imperatives for O&G organizations in Mexico (2/2)
Details to follow
Ensure supply-chain resilience through
Create the Organization of the Future, in
partnerships
both talent and structure
Promote new commercial and collaborative models
Radically flatten hierarchies, reduce bureaucracy, and
with your ecosystem to increase industry
push decision making to the edge—in short, embed
standardization, shared infrastructure/services and
more agile ways of working
new innovation models
Develop an aggressive approach to re-design your
Explore multi-project strategic collaboration and
talent base; business-model transformation will require
Integrated Project Delivery models
the best engineers, but also new talent in digital,
technology and commercial
McKinsey & Company 17Basin level competitiveness will be critical, AMEXHI could play a
role fostering collaboration to strengthen supply chains
OGUK1 case example
Sample guidelines from OGUK for supply chain collaboration
Risk and costs should be borne appropriately, be proportional to the work scope and not be forced on anyone;
In 2019, OGUK opportunity or good performance should benefit everyone, and performance-based contractual rewards should
members have be investigated
developed a new set of
Supply Chain Contractual terms and conditions will seek to use industry standard contracts when appropriate and all parties will
Principles which aim to commit to mutuality of payment terms […]
further improve the
commercial All parties should ensure they have the competence and skill to deliver the work being tendered and will not accept re-
relationships between bidding as a means of driving price down
operators and
contractors and drive
Purchasers shall endeavor to optimize their tendering and audit requirements to ensure that the suppliers resources,
an overall more
time and costs are not unnecessarily impacted or wasted
sustainable supply
chain across the basin
Operators and contractors should discourage the practice of "low ball" bidding - which invariably leads to multiple
contract variations and affects re-negotiation in the early phase of the contract
To support respective labour agreements in place across the workforce, operators should agree clear rate escalation
mechanisms and move away from the practice of fixing labour rates for multiple years
1. The UK O&G Industry Association
Source: OGUK Economic Report 2019 McKinsey & Company 18You can also read
