M A N A G E M E N T
A HOTBED FOR STRATEGY IDEAS
Paul Menghini, SPE, and Roy Stang, SPE, Conoco Inc.
SUMMARY 3. External analysis. Assessing the overall business setting and
The rapidly changing business environment of the 1990’s forced the the competition.
oil and gas industry to develop new corporate and regional strate- 4. Analysis roll-up. Fitting the pieces of business analysis into a
gies to remain competitive. To support strategy development, much cohesive picture.
attention has been given to such analytical tools as decision and risk
analysis and probabilistic modeling. Often overlooked, however, is GETTING STARTED
that a solid foundation of information and a thorough understand- The first step in the business-analysis process is to assemble the
ing of the underlying business environment are required for these study team. Collectively, the team should have the following attrib-
tools to be effective. The business-analysis process provides this utes: knowledge of key business segments, multidisciplinary skills,
understanding and serves as a “hotbed” for new strategic ideas. This regional and global perspective, diversity of information processing
paper presents several business-analysis tools that enhance aware- and planning styles, mix of asset and nonasset team members, and
ness of the business environment and provide the foundation of autonomy from day-to-day asset responsibilities. Building a team
information necessary for sound strategic modeling. Examples from with these qualities facilitates an objective perspective of the entire
a recent study show how tools, such as influence diagrams, value- business and helps create an environment where challenging and
chain analysis, benchmarking, competitor analysis, scenario devel- varying ideas can be expressed.
opment, and strength and weakness analysis, are used.
Briefings and Influence Diagram. To begin working together as a
INTRODUCTION team, a common level of knowledge and understanding must be
During the early 1990’s, the energy industry underwent tremen- achieved. This is necessary because experts in a discipline or busi-
dous change to improve its financial performance. Most of this ness segment seldom have a complete understanding of the entire
change took the form of corporate and portfolio restructuring, business. Once gained, the shared knowledge facilitates break-
streamlining to eliminate inefficient operations. This effort was through insights. Effective ways to develop common understand-
highly effective in improving the industry’s bottom line. However, ing are through concise business-segment briefings and creation of
because most of the industry went through this same process, per- an influence diagram. Briefings presented by team members or
formance standards were, for the most part, raised uniformly and business-segment experts (such as contract administrators and tax
individual companies gained no competitive advantage. Many accountants) convey general business knowledge and historical
believe new strategies that differentiate a company from the rest of perspective.
the pack need to be developed to gain the advantage.1,2 Fig. 1 illus- Construction of an influence diagram3 systematically breaks
trates a typical strategy-development process. Business analysis is down and helps structure the complexity of the business. Key deci-
an essential step in this process because it provides a solid founda- sions, uncertainties, and their relationship are modeled. Fig. 3, the
tion of information and serves as a hotbed of new strategic ideas. San Juan basin influence diagram for conventional gas production,
In a gardener’s hotbed, growth is nurtured by planting seeds in an shows elements of production capability, opportunities, cost, and
environment that has the right ingredients: sunlight, heat, mois- revenue. Creating the influence diagram serves two important pur-
ture, and nutrient-rich soil. Likewise, business analysis provides poses. First, it serves as an “ice breaker” for the newly formed team,
the right ingredients for idea growth: a multidisciplinary team, an providing a nonconfrontational environment in which members
understanding of the business, and an in-depth look at both inter- can become acquainted with personality and communication
nal and external business environments. styles. Second, it serves as an orientation by broadening the busi-
This paper outlines some industry tools and techniques used to ness view of each member.
perform business analysis and gives examples from a recent region-
al strategy study performed for the San Juan basin of northwest INTERNAL ANALYSIS
New Mexico. The purpose of these examples is not to describe the Internal business analysis is aimed at assessing the strengths, weak-
strategies developed but to show how the business-analysis tech- nesses, and capabilities of business segments through a process of
niques were useful in generating ideas. analyzing elements that drive profitability: portfolio makeup, rev-
Fig. 2 shows that business analysis has four components. enue, costs, royalties, taxes, and competitive position. Benchmarking
1. Getting started. Forming and grounding a study team. and value-chain analysis are tools the strategy study team uses to
2. Internal analysis. Building an understanding of a portfolio and measure near-term performance and gauge long-term potential.
its competitive position.
Benchmarking. Benchmarking, a widespread practice outside the
petroleum industry, has been embraced as a tool to gauge compet-
Copyright 1998 Society of Petroleum Engineers
itive strength. Analytical measures, or metrics, are derived to com-
Original SPE manuscript received 5 October 1997. Paper (SPE 38778) originally presented at pare the relative performance of companies. Benchmarking studies
the 1997 SPE Annual Technical Conference and Exhibition held in San Antonio, Texas, 5–8
October. This paper has not been peer reviewed. typically are conducted by industry consultants because of com-
54 FEBRUARY 1998 •
Fig. 2—Components of business analysis.
ity, Company B’s conventional costs are significantly higher than
those of comparable operations and in the lower performance
quartile for that asset type. Moreover, if Company B relied solely on
Fig. 1—Business analysis is part of a strategy process. regional metrics, it would not know where to focus efforts to
improve operating costs.
petitive concerns and antitrust issues. These blind studies are com- Further subdivision of company-operated data again demon-
monly organized to measure cost of operations and investments on strates how a regional study can be misleading. Individual com-
a unit basis. Because of expense and the need for a representative pany operating practices were believed to be the key driver to
number of participants, most benchmarking studies have been low-cost operations, but analysis shows that a wide range of per-
national or regional studies that cover diverse portfolios. formance levels exist within the portfolio (Fig. 6). A number of
Internal analysis of operations in the San Juan basin began by factors, such as development opportunity, location, multizone
evaluating a regional benchmarking study. As the strategy team completions, dual completions, and well density, contribute to
worked through study metrics, inconsistencies in operating-cost this variation.
data became apparent. The team suspected that the regional study In summary, benchmarking provides valuable insights but must
of the San Juan basin was too conglomerated to characterize prop- be used with caution. While regional results can provide a very-
erties within the basin adequately. Because the study was blind, high-level indication of competitive position and strength, they can
obtaining more data or additional detail on the input values from be misleading and cause erroneous conclusions. Greater accuracy
the study consultant was not possible. To acquire the needed can be achieved by subdividing regional portfolios into smaller,
information, the team created an in-house benchmarking study more comparable asset groups. Partner-operated-property data are
using lease-operating statements from company- and partner- useful but require more work to analyze and use correctly.
Fig. 4 represents metric data that would result from a conglom- Value-Chain Analysis. The value-chain-analysis tool helps
erated regional look, and Fig. 5 represents data where asset types identify where value is created, the linkage between segments,
are distinguished. The conglomerated regional metric indicates and the potential benefits of integration. The tool has processes
increasing cost of operations from Company A, the lowest, to and methodologies to break down margins in detail within spe-
Company D, the highest. However, when split between coalbed cific business segments.4 The strategy study team used this tool
methane (CBM) and conventional gas production operations, the to assess the financial margin in each business segment from
relative positions for Companies B, C, and D change. Relying on E&P through gas marketing (Fig. 7). The team only took a high-
regional data, Company B would have drawn erroneous conclu- level look, but this was sufficient to gain a perspective on the
sions about its performance as a lower-cost operator. In the San segment margins. Information of this nature helped the team set
Juan region, metrics are heavily influenced by the percentage of realistic expectations of the potential contribution of the busi-
CBM and conventional gas production in the portfolio. Company ness segments. For example, the analysis revealed that emphasis
B’s low regional metric is the result of a large amount of CBM pro- on marketing efforts alone would not lead to dramatic growth in
duction, which costs less to produce than conventional gas. In real- the region.
Fig. 3—Influence diagram—conventional production; Capex= Fig. 4—Benchmarking: comparison of gross regional production
capital expenditure and Opex=operating expenditure. data; BOE=barrels of oil equivalent.
56 FEBRUARY 1998 •
Fig. 5—Benchmarking: comparison of production data split by Fig. 6—Benchmarking: comparison of portfolio operating costs
reservoir type. by asset type.
EXTERNAL ANALYSIS plays in the basin revealed that most are very mature. Although
External analysis, the macro view of the business environment, exploration potential still exists in the mature plays, a realistic
completes the picture beyond the company’s own portfolio and is expectation would be that future discoveries would be relatively
used to gain insight into the future direction and opportunities in small. However, a few plays remain relatively untested, offering
the basin. The following elements must be considered. greater probability for substantial discoveries.
1. Chronology of events and production history of the basin. In assessing the remaining potential of the basin, considering
2. Remaining reserves potential in the basin. the impact of emerging technology is very important. For exam-
3. Technology development. ple, recent breakthroughs in horizontal drilling and three-dimen-
4. Basin infrastructure: gathering, treating, and processing busi- sional seismic imaging have dramatically rejuvenated many
nesses. mature U.S. basins. While quantifying this impact is difficult, one
5. Gas market supply and demand. can at least qualitatively identify areas where new technology
6. Competitors. could transform assets from marginal to robust opportunities. In
7. Government policy and regulations. the San Juan basin, CBM fracture technology and enhanced recov-
8. Industry attractiveness. ery methods are two examples of technology applications that the
Production History, Reserves, and Technology. An industry
database was used to construct the basin production history and Infrastructure. References for basin infrastructure data were limit-
reserves picture. Remaining basin potential was estimated inter- ed. Most of this information came from internal knowledge of the
nally and validated by use of such resources as the U.S. basin’s system capacity, percent utilization, age, efficiency, and
Geological Survey resource assessment.5 Study of the basin remaining life. Data from company-owned gathering and process-
reserves and production history gave a number of insights. The ing businesses contributed heavily to this effort. By combining the
study showed that the CBM play is a recent phenomenon com- knowledge of the gas-production history, potential, and infrastruc-
pared with conventional production (Fig. 8). CBM production, ture capacity, the study team could forecast future infrastructure
spurred by discovery of a high-rate-production fairway and the needs. This allowed the team to explore various potential out-
incentive of a federal tax credit, jumped from 0.4 Bcf/D in 1990 comes, such as whether further expansion of the infrastructure
to 2.2 Bcf/D in 1995, more than doubling the total production would be required or whether declining production would lead to
output of the basin. The influence of this production buildup was consolidation of gathering systems, treating, and processing plants.
far-reaching, impacting infrastructure, basin gas supply, and gas
prices. Strategic considerations need to take into account how Gas Markets. To evaluate the impact of gas markets on the San
long CBM production will continue to climb. A review of the Juan basin, it was necessary to understand the broader North
Fig. 8—San Juan basin gas production, conventional and
Fig. 7—Value chain. coalbed methane.
• FEBRUARY 1998 57
companies exists in the public domain in the form of annual
reports and press releases, most of this information is not specific
to a geographic region, such as the San Juan basin. Therefore, it
was necessary to use team-member knowledge of competitors to
backfill gaps in the data. A survey questionnaire (Fig. 10) was
condensed from published sources6 to help facilitate discussion.
Surprisingly, the survey information gathered from a broad group
of asset-team members gave a fairly complete picture of the key
competitors. Beyond merely compiling the factual production
data, the competitor analysis provided insight into potential part-
ners and acquisition targets as well as competitor response to
Government Policy and Regulation. Similar to competitor
Fig. 9—Nymex/San Juan gas price history (constant 1997 U.S. analysis, government policy and regulation issues were dis-
cussed with internal resources and industry consultants. Key
areas of concern were electricity deregulation, emission controls,
American supply-and-demand picture because events outside the gathering-system regulation, and government support of new
basin have a profound impact on the demand for San Juan gas. pipeline construction.
Market-supply-and-demand analysis outlooks are readily available
through numerous consulting services. Looking at the past revealed Industry Attractiveness. A further step in the external analysis
the cyclic “boom-and-bust” pattern of prices (Fig. 9) and allowed was to assess attractiveness of each industry segment to help
correlation of major price fluctuations to changes in supply and determine where to focus investment. The five forces model7 was
demand. By considering future changes in supply-and-demand used to evaluate the attractiveness of E&P, gas-gathering, gas-
conditions, a price-forecast range could be developed. The market treating, and gas-processing business segments in terms of threats
analysis also helped the team evaluate a number of investment of new entrants, industry competitors, threat of substitutes, bar-
opportunities, including a pipeline proposal to increase capacity gaining power of suppliers, and bargaining power of buyers. Fig.
out of the basin. 11 shows a sample of the industry-attractiveness evaluation for
the E&P business segment. The model indicates that the business
Competitors. Competitor data were generated from a mix of pub- is moderately unattractive, typical of a commodity business with
lic and internal information. Although a wealth of information on few barriers to entry and stiff competition. While an unattractive
58 FEBRUARY 1998 •
Fig. 10—Competitor analysis survey questionnaire (adapted from Ref. 6).
rating does not necessarily indicate that the business should be sis by combining historical data, current competitiveness, and
exited, it does indicate that investments are unlikely to yield future outlook.
returns that are better than the cost of capital unless a niche
opportunity or competitive advantage can be found. The signifi- Political, Economic, Sociological, and Technology (PEST)
cant value of the industry-attractiveness assessment is that it Analysis. A PEST analysis assesses events that could affect the
forces the study team to think about aspects of the business that business. The fundamental goal of this tool is to envision possi-
are normally ignored (e.g., barriers to entry, threat of substitutes, ble events or outcomes that may occur in the respective PEST cat-
and impact of buyers and suppliers). egories. Brainstorming extreme outcomes develops a broad range
of possibilities that could cause significant change. Events and
ANALYSIS ROLL-UP possible actions are then graded or ranked in a matrix of impact
The final group of tools synthesizes prior analyses and adds a new vs. the likelihood of occurrence. Those elements with a high
dimension to the thinking process by consolidating learning, devel- probability of both occurrence and impact merit further study
oping broader perspectives, and assessing the driving forces of and consideration when developing and assessing the viability of
change. Two of the tools are forward looking, focusing on external strategic alternatives. Fig. 12 is an abbreviated San Juan basin
events or occurrences. The third tool concludes the business analy- PEST analysis. When compared with many non-U.S. operations,
Fig. 11—Five forces model—San Juan basin E&P business seg-
ment (adapted from Ref. 6). Fig. 12—San Juan basin PEST matrix.
• FEBRUARY 1998 59
Fig. 13—Scenario development—CBM.
We thank Conoco Inc. for permission to publish this paper and all
the onshore U.S. oil industry is viewed as a stable environment. the individuals who supported its preparation and review.
However, the analysis shows that several possible political or
sociological events have both a high probability of occurrence REFERENCES
and impact. The CBM tax credit is a vivid example of a past polit- 1. Steinhubl, A.M.J.: “Capturing the Potential for Breakout Performance,”
ical action with far-reaching effect on San Juan basin gas supply, JPT (April 1996) 337.
demand, and prices. 2. Porter, M.E.: “What is Strategy?,” Harvard Business Review (November–
December 1996) 61.
3. Celmen, R.T.: “Structuring Decisions,” Making Hard Decisions—An
Scenario Development. Scenario development carries the idea-gen-
Introduction to Decision Analysis, Duxbury Press, Wadsworth Publishing
eration element one step further. This tool is used to stimulate think- Co., Belmont, California (1991) Chap. 3, 34–64.
ing on possible future states of the business or industry. The exercise 4. Porter, M.E.: “The Value Chain and Competitive Advantage,” Com-
begins with identification of two key uncertainties and creation of petitive Advantage, Free Press, New York City (1985) Chap. 2, 33–61.
four future scenario quadrants. A description of the business envi- 5. “1995 National Assessment of United States Oil and Gas Resources,”
ronment is built for each quadrant by considering the extreme out- Digital Data Series, D.L. Gautier et al. (eds.), U.S. Geological Survey,
comes of the two uncertainties. Thinking in terms of radical depar- Washington, DC (1996) 30, 35, and 36.
ture from the status quo is encouraged to ensure consideration of a 6. Porter, Michael E.: “A Framework for Competitor Analysis,” Competitive
broad spectrum of outcomes. Fig. 13 shows a scenario development Strategy, Free Press, New York City (1980) Chap. 3, 47–73.
for San Juan basin CBM. Uncertainties modeled are tax credit and 7. Porter, Michael E.: “The Structure Analysis of Industries,”
Competitive Strategy, Free Press, New York City (1980) Chap. 1,
level of production. Once the scenarios are built, strategies can be
developed that take into account the key events that could influence
moves toward a given scenario and the internal actions or decisions
that could be made to ensure business profitability for a given out- SI METRIC CONVERSION FACTORS
come. Monitoring key early-warning indicators over time reveals the bbl ↔ 1.589 873 E−01 =m3
direction in which the business environment is moving. Btu ↔ 1.055 056 E+00 =kJ
ft3 ↔ 2.831 685 E−02 =m3
Strengths, Weaknesses, Opportunities, and Threats, (SWOT).
SWOT focuses on the underlying soundness of the existing business Paul Menghini, a staff engi-
and identifies the external forces acting against it. Strengths and neer in Conoco’s Mid-
weaknesses address how well-positioned a company is to deal with Continent Business Unit in
the external environment by identifying both those elements that Midland, Texas, is the facili-
give strength and competitive advantage to the business and those ties engineer for the West
that are the most vulnerable. External environmental and competitor Panhandle (Texas) gas field.
influences are represented in opportunities and threats categories. He has been with Conoco
Fig. 14 is a condensed version of the SWOT developed by the San since 1975 in U.S. and non-U.S. assignments that include
Juan basin strategy study team. As the final or summary tool, SWOT strategy studies, benchmarking, portfolio management,
is the link to the next phase of strategy development. Successful and production engineering and supervision. Menghini
strategies leverage strengths and opportunities and minimize conse- holds a BS degree in civil engineering and an MS degree in
quences of threats posed by the external business environment. industrial management, both from the U. of Wyoming. He
served as Director of the Oklahoma City Section during
CONCLUSIONS 1991–92. Roy Stang is a staff engineer in the Strategy and
Properly done, business analysis provides a comprehensive frame Portfolio Management Group in Conoco’s Mid-Continent
of the issues faced in a strategy study. Benefits of business analysis Business Unit in Midland, where he coordinates asset strat-
are an accurate assessment of past performance and a solid basis for egy studies. He has 17 years’ experience in U.S. and non-
future projections; a common level of understanding within the U.S. engineering and business-development assignments.
organization of opportunities and threats; and creative ideas and Stang holds a BS degree in chemical engineering from the
insights beyond traditional opportunities. U. of Pittsburgh.
60 FEBRUARY 1998 •