Calendar year end is traditionally a time to pause and reflect on events, while casting an eye forward to what the year ahead may bring.
For those in the oil and gas industry there is much to consider.
We all entered 2015 with a degree of trepidation after the fall of oil price in the second half of 2014 but far fewer people expected to reach 2015 year end at the current price.
To say that there were positive expectations for the oil price by the summer of 2015 would be an overstatement but there was some hope of stabilisation around $50 to $60, which has disappeared recently.
Although most forward curves are still predicting some recovery to these levels by the end of 2016 or 2017, the trajectory of recovery forecast is less steep than even two months ago. Talk of $60 oil by this time next year is now viewed by many as the optimistic rather than the base case prognosis.
The effect of this lower for longer scenario is that even core opex areas such as maintenance, previously regarded as fairly robust, are being materially impacted in this climate of indecision and deferral.
There are, however, varying technical views as to how long some activities can be deferred.
Although 2015 has been dominated by news headlines of sub $50 oil, it is worth noting that in reality much of the year’s production was hedged so the effective price in terms of cash flow to operators has been significantly higher and the full impact of the drop will bite harder in 2016.
In terms of finance to the industry, financial institutions have generally been supportive of their customers but regulatory and capital adequacy concerns will impact the ability and appetite to continue this support and our expectation is that liquidity to the sector will accordingly reduce to add more challenges to the pot.
M&A activity has been very limited in 2015, though we see signs of an uptick in 2016. Buyer and seller expectations on E&P assets are aligning, in part due to pressures on some to divest themselves of assets, while in the service sector similar pressures and the drive for cost reduction should lead in one shape or form to consolidation.
Larger, better-funded groups will use M&A as a defensive measure in the short term, such as diversifying into downstream and industrial sectors, and to develop an upstream growth agenda for the medium term.
Regrettably, the level of distress in the UKCS-centric SME space is likely to increase as order books are extinguished and customers reduce purchasing further and also take work in house.
Notwithstanding this challenging environment, there are also positives for us to consider.
After many years of production decline, the massive investment of recent years has brought some rewards in arresting the downward trend, which at least provides the basis for an ongoing, albeit likely significantly changed industry, in the UKCS in the medium term.
Progress has been made on reducing operating costs with steps taken to date expected to lead to a 22% drop in costs by the end of 2016, according to Oil & Gas UK.
While the jury is still out on the extent to which and how the third phase of the UK industry’s Efficiency Task Force’s agenda – transformational change – will be achieved, phase one (cost reduction) is a reality and phase two (efficiency improvement) is making progress.
These two positives provide hope for the years beyond 2016, but it may be 2017 or 2018 before we are saying “Happy New Year” with much gusto.
Alan Kennedy, is KPMG partner in Aberdeen and UK Head of Oilfield Services