Guest blog by S. A. Shelley: OWOE bloggers and other industry analysts often discuss technical and economic aspects about energy, such as oil demand or cost of renewables. But not enough attention has been focused on the changes in business thinking that has reduced engineering capability in Houston since the oil downturn in 2014.
Technical Capability Loss
Houston was arguably the engineering technology leader for deepwater projects for at least 20 years prior to 2014. Unfortunately, since the last oil downturn, the broad deepwater engineering technical capability that was concentrated in Houston has essentially evaporated in the wake of layoffs of engineering personnel and the often contrived consolidations of contractors, service providers or equipment merchants. Much of these reckless consolidations have been the result of financial and accounting consultants advising firms how to survive based upon historical norms and immediate accounting needs, while rarely considering long term vision, planning or capability. Regrettably, the loss in technical knowledge has been staggering and almost completely misunderstood by too many.
To an accounting or financial consultant an engineer is an engineer, and too often engineers of varying capability are thought of as interchangeable. Nothing can be further from reality. Engineering, misjudged by many, is just as much an art as medicine in which years of experience build a knowledge that cannot (yet) simply be transferred into code or quickly to a new hire. Boomer engineers are happy to mentor newbie engineers when given the opportunity, but therein lies one of the problems as the big producers and engineering houses have been too quick to show the door to the boomers to cut costs. It bodes not well for future deepwater projects, and recent projects are already showing this to be true. But before I expand on this, let me explain a bit about some of the changes in business thinking in Houston since 2014.
The Kananaskis Konference
In June of 2015, a super-major invited three other major producers to meet and discuss deep water project executions: I call this the Kananaskis Konference (because alliteration is awesome and also because some of these meetings were held in Kalgary, Kanada). The objective of the Konference was to share knowledge about how to develop deepwater projects more quickly and cost effectively. To understand these objectives requires a bit of history.
Super-major producers have historically been very much involved in deepwater projects from specifying and managing engineering design to overseeing installation vessel operations and the like. Super-major technical personnel understood the need for, and benefit of, starting with a good concept design with well-defined objectives and inputs, and then progressing the project with diligent weight control procedures, careful risk identification and risk mitigation strategies and competent structural engineering solutions. Super-majors were able to push deepwater technology from 300m in the 1990s to 3,000m by 2014. During the 1990s and early 2000s, it took the super-majors years of investment in technology development in order to produce specifications and procedures to make deepwater oil and gas developments feasible and safe (mostly). Over time, many of these specifications and procedures were adopted in some form by industry organizations and the industry as a whole now benefits from that knowledge.
In contrast, the smaller majors who followed were much more likely to limit their involvement to specifying larger scopes and then turning detailed engineering and operations to contractors. The smaller majors tended to follow the super-major funded deepwater technology, not develop it and this appears to have worked well for these majors. Other consequential differences were in the time from discovery to production. A super-major needed at least 10 years or more from discovery to production, while the majors more often achieved production within 6 years of discovery.
At the Kananaskis Konference then, five key points that make projects more cost effective for the majors as compared to the super-major were identified:
- All majors tended to choose the lowest cost option to develop a field
- No new technology – new technology is avoided: Use known, proven technology.
- Appraisal and Development
- Quick from discovery to production with no lengthy (costly) appraisal program
- Replication is a key
- Engineering and Standards
- Majors use contractor specs vs more conservative company-prepared specs
- Owner engineer teams are small and work with the contractors
- Use contractors’ subcontractors for inspection
- Mesh into the contractors’ organizations
- Use a few, select fabricators and suppliers
- Procurement managed by the contractor
- Site teams are small: 6 for a Spar hull overseas; 12 for a topsides in Gulf of Mexico
- Contracting Strategy
- Very consistently use the same 6 or so big contractors
- Personal relationships with contractor owners / key executives is a big trust factor (but curbs the ability to punish contractors for bad outcomes)
- Know the work and the client
All this can be boiled down into a few key strategies: focus on low cost, put your trust in the contractor, and develop relationships for the long term. Unfortunately, this can lead to cartel-like behavior with a handful of firms essentially controlling the industry.
After the Kananaskis Konference
Since the Kananaskis Konference, two of the three majors have completely withdrawn from any future deepwater offshore ventures and have in fact sold off or shut-down existing deepwater assets. So much for long term thinking. The super-major itself, has adopted a lowest cost contracting strategy with overseas suppliers because, “It’s so cheap over there that if there are any problems we can pay for fixes and rework and still save money…” In effect the super-major has gone from careful, well planned and coordinated deepwater developments to overcoming errors with cheap labor and bulk materials. We’re already seeing how such a strategy is working out with the Shell Prelude Floating LNG (FLNG) project, a poster child of poor decisions and poor project management (Forbes, BoilingCold).
Returning to the engineering contracting side, there still are some very, very good, large and small engineering firms in Houston to whom one should have no problem tossing a few billion dollars in financing or towards projects. Unfortunately, there are also a few lingering contractors who shouldn’t be doing anything more complicated than a water slide into a local community pool.
Consider a very recent large deepwater floating system being engineered by a partnership between a legacy reputation firm (that since 2014 laid off over 80% of its technology workforce) and the engineering arm of a major offshore fabrication contractor (that had virtually no experience with floating systems). Within half a year of engineering, the partnership completely lost control of weight, responded by adopting some very unorthodox structural solutions, and mishandled some major risks. In effect, 20 years of technology development led by super-majors was thrown out in 1/2 a year (well done!).
This should concern everyone in Houston:
- The producers, because if they cannot get good engineering in Houston, they will eventually need to look to overseas contractors;
- The producers (again), because they have put almost complete trust in the contractors, and their project personnel are often too inexperienced or too understaffed to recognize or catch technical blunders, putting project outcomes in jeopardy;
- The other Engineering Contractors, because bad engineering in Houston drags down everyone’s reputation.
This is What Cartels Do
A cartel protects the weakest and in the long run, everyone will work to the lower standard. Consequently, as with all cartels, after a while the end product will be expensive, inferior and dangerous (EconomicsOnline, experts123 ). Cartels cause price stagnation, reduce productivity, stifle innovation and degrade work quality (MinneapolisFed).
Thus if the cartel assumes that there are only 6 competent engineering contractors in Houston, then producers run the risk of quality and capability drift. Instead of verifying competence on each project, the cartel assumes competence and misjudges or ignores competence drift along with the ever growing risks associated therewith. The danger exists now in technology and competencies regressing industry-wide in Houston. This cartel group thinking will also manifest itself in Houston’s inability to shift and find ways to profit from newer energy technologies. “Hope” and “That’s how we’ve always done it” are not winning strategies in the face of change and even less likely to stop future asset write-downs.
To Err is Human; To Really Mess Up an Industry Requires an Ivy League MBA
With no apologies to the graduates of the Ivy League business schools: You’re mostly a bunch of schemers with short term vision who don’t understand what you manage, only how to manipulate data for short term gain. Stop that. With the wave of tight oil bankruptcies, the evidence is coming to light. Why should grandma’s pension or investment fund or any private equity ever again invest in tight oil if the history of shenanigans proves to be systemic?
Two of the engineers say executives explicitly told them to inflate reserves. Others say the requests were implied, with only engineers who produced aggressive estimates landing promotions (Bloomberg).
Houston, You Can Solve This
If Houston is serious about reclaiming and then retaining its status as the premier global offshore engineering and energy hub, it needs to bravely cut the deadwood, nourish the innovators and maintain consistent and continual quality and competency checks. If it can’t do that, then Houston may soon find itself marginalized in a changing offshore energy market.
The decline in engineering competence in Houston is not just a Houston problem; it is a global problem across many industries employing engineers that are managed by financiers who put business objectives ahead of technology outcomes. One only needs to look at recent events at Boeing – “This airplane is designed by clowns,” who in turn are “supervised by monkeys”…. (Bloomberg and Bloomberg ), large mega-projects such as the Ottawa LRT or defense contracts to see how wide-spread and frequent project failures and extreme cost overruns are.
The problem is that everyone in society pays for these blunders and it is going to get worse until both big companies and big governments stop believing in cartels and relying upon high level personal relationships: Put some checks and balances in place before writing more cheques. For Houston, errors are paid for by everyone a few cents per gallon at the pumps.
Vive l’Alberta Libre!
P.S. OWOE has a cadre of very experienced boomers who will be happy to consult on solutions to fixing this mess.
P.P.S. OWOE thanks its many industry sources and reminds everyone that OWOE will protect source anonymity all the way to the Supreme Court and even while in gaol.