COLUMN-BP acknowledges U.S. shale is different: Kemp

Wed Mar 5, 2014 8:59am EST

By John Kemp

LONDON, March 5 (Reuters) - Asking petroleum engineers and managers used to working offshore and on complex engineering megaprojects, the equivalent of building Ferraris, to start developing shale plays, the equivalent of building VW Golfs, was never going to work.

BP's decision to form a separate business to manage its onshore oil and gas assets in the U.S. Lower 48 states acknowledges shale production is more like a manufacturing process than traditional petroleum exploration.

Shifting onshore assets into a separate business unit could pave the way for an eventual sale if their financial performance does not improve, as the Financial Times explains ("BP creates new U.S. onshore oil and gas business" March 4).

The company's chief executive insisted the assets would "remain a critical part of BP's portfolio" though he admitted the reorganisation "creates optionality for us".

But focusing too much on the possibility of an eventual sale mischaracterises what the company is trying to achieve.

Production of oil and gas from shale formations is conceptually quite different from exploration and production from conventional oil fields.

The output is the same but the process and capabilities needed are not the same.

SHALE IS DIFFERENT

In the rest of the world, and even in offshore areas of the of the United States, BP has to negotiate for production rights with a single mineral owner, usually the government.

But onshore in the Lower 48 states BP must strike agreements with a plethora of private landowners.

Offshore, BP is hunting through large volumes of rock for a small number of very large oil and gas accumulations, and needs to a carefully target a small number of wells so that each will yield enormous quantities of petroleum.

In onshore shale plays, the oil and gas are much more widely distributed, and the aim is to identify the most productive areas and saturate them with tightly spaced wells.

Offshore wells are expensive to drill and present tough engineering challenges.

Onshore wells are simpler and cheaper, but with so many needed and each one yielding less oil, it becomes essential to control costs tightly.

Developing an offshore oil field is an engineering challenge similar to designing and building a high-performance sports car.

Developing a shale play, in contrast, is more like a manufacturing process in which automation, standardisation and exceptional cost control are critical to success.

BP's exploration and production business can identify accumulations and sink wells 20,000 feet below the seabed with stunning precision.

But running a successful shale operation requires the skills and mindset of a Henry Ford.

DISTINCTIVE CULTURES

BP has now recognised the problem. The company's press statement referred to the "unique characteristics" of U.S. onshore production.

It repeatedly emphasises the need to run the onshore business very differently. It will have a separate management team, at a separate location with "separate governance, processes and systems designed to address the unique competitive and operating environment in the U.S. Lower 48 onshore".

The focus throughout the announcement is on the need to operate differently from the rest of the world and even offshore.

The engineering, financial and environmental risks in the rest of the business are an order of magnitude higher than U.S. onshore oil and gas production. Consequently, they need strict, hierarchical control mechanisms by engineers and managers.

By contrast, the focus onshore is on the need to be nimbler, more innovative and operate with far less cost, with faster decision-making and shorter project cycle times.

By insisting that the unit report separate financials from 2015, BP will be able to hold it accountable more easily.

BP has belatedly recognised there is not a good cultural fit between shale buccaneers and the petroleum engineers and MBAs in the rest of the organisation.

Interestingly, ExxonMobil seems to have known this from the start, and maintained its XTO shale unit as a separate business with a separate headquarters after buying it in 2010.

Managing shale development separately will not solve all the problems besetting BP and the other latecomers to the U.S. shale revolution.

It cannot alter the fact BP, like the others, appears to have overpaid for assets at the height of the boom or that gas prices may never reach the levels assumed when the deals were done.

But it is an intelligent way to reorganise the business and recognise, however late in the day, that shale plays really are very different and require culturally distinct organisations to develop them successfully.

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