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Succeeding in a changed market

Published by , Senior Editor
Hydrocarbon Engineering,

The global COVID-19 pandemic caught the oil and gas industry unprepared for a completely changed landscape. Long after countries tentatively emerge from quarantine, constantly on the lookout for another surge in COVID-19 cases, the oil and gas industry will face the twin specters: sudden travel interruptions (and longer-term demand decline caused by an economic downturn) and a rise in telecommuting (and the accelerating shift to greener energy sources).

To adjust, oil and gas companies will have to transform radically. Those that succeed will shape the industry’s future; those that fail will become consolidation targets. Even among companies ultimately acquired, there is an important benefit to getting as far down the path of transformation as possible. The further they progress, the higher their valuations will be.

How do oil and gas companies make such a rapid and substantive shift? A successful response to the fundamental market changes seen in the COVID-19 crisis can be divided into three phases. Those phases build on each other chronologically and overlap.

Phase one: readjust to preserve cash

In phase one, downstream oil and gas companies will need to preserve cash until the market improves. They should exercise the full set of cash-management levers, including reducing inventory positions, lengthening suppliers’ payment terms, reducing receivables terms, deferring capital expenditures, and halting equity disbursements. Many companies have already embarked on several of those efforts. But such actions are just a start. A successful transformation requires a significantly deeper commitment to change.

Phase two: reimagine to drive performance improvement

In phase two, downstream oil and gas companies will need to take several actions to achieve success:

Rightsize general and administrative (G&A) functions

First, they must reduce G&A costs, e.g. by using industry benchmarks that account for the possibility of continued depressed demand for gasoline, diesel, and jet fuel. Such benchmarks could include measuring the ratio of G&A costs to revenue. Given the fact that industry players have spent a decade positioning themselves for a growth market, the authors see the potential for a 20 to 30% reduction in G&A costs from pre-2020 levels.

Launch operations improvements

Firms should unlock the full slate of management opportunities in operations and expenditures. McKinsey & Co.’s experience indicates that the average refinery stands to boost its margins by up to US$1.50/bbl. To achieve that, companies must take decisive action in several key areas:

Repair and maintenance

Spend less on maintenance by adjusting the way equipment is operated and managed. That could include measuring the contributions that certain pieces of equipment make to the overall profitability, safety, and environmental footprint of an organisation. To illuminate the best course of action, ask questions such as: ‘How would the failure of our hydrogen-system compressor affect processing capacity, emissions, and repair budget?’

Operating choices

Update the way decisions are made. As refineries begin to work under new operating conditions, maintenance routines for specific pieces of equipment should be adjusted to ensure correct cost-to-performance trade-offs. Options include taking a critical look at how often spares are switched and when new thresholds for vibration or process conditions are established.

Staffing levels

Reduce technical-support ratios, such as the number of engineers per operating unit, or total engineering spend. There are several ways to do that: focus on the highest-value activities, review when and how to use third-party contractors, cross-train employees so that they can perform multiple tasks, and reconsider overtime practices.

Product quality

Create value through precision. Limit how often a product exceeds its minimum-quality requirements by improving product-demand forecasting, blending processes, or using in-line-measurement tools. Players with optimised operations planning spend less on the components that make up their finished products, from gasoline to asphalt.

Operations planning

Continually improve modelling to understand how each raw material affects operations. That allows refiners to make better selections and to optimise how plants are operated.

Reconsider supply chain and procurement


Protect crude- and product-transportation relationships, including pipeline-shipping history and third-party tank positions. Find ways to capture long-term value when infrastructure is choking on crude and products. Initiatives could include guaranteeing favourable logistics and creating value through joint ventures and partnerships.


Streamline the supply chain to reduce costs while ensuring the solvency of critical suppliers. That could include consolidating vendors, renegotiating prices based on volume, understanding ‘should cost’ analysis, establishing long-term supply contracts, and re-evaluating the total cost of ownership of equipment.

Optimise trading capabilities

Companies should adjust crude- and product-trading strategies to account for changing market dynamics. Reductions in North American shale production or long-term reductions in jet-fuel demand would change the relative value of different crudes and constrain logistics for North American refiners. Therefore, firms ought to re-examine the role of trading operations.

Phase three: reform to position for growth

In phase three, downstream oil and gas companies will need to take the following actions to achieve success:

Reimagine functional-support delivery

Introduce zero-based approaches or test the use of more agile support models. Such actions are particularly valuable for multi-refinery companies in which resource pooling can be a strong lever. In a cost-focused environment, a shift back toward centralized organisation structures could unlock significant value.

Deploy advanced analytics and machine-learning applications

Integrate new technology up and down the value chain: several areas are ripe for transformation. For example, we have seen terminal-level pricing engines for products help capture margin by understanding local market dynamics, including price elasticity and digitising operations has boosted refinery yields and throughputs.

Revamp planning processes

Amid ongoing price volatility, it is particularly important to limit short-sighted investments by improving forecasting and planning. Focus on reducing the risk of overinvesting during peaks and suffering illiquidity during the valleys of future market cycles.

Reassess portfolio strategies

As transformation illuminates the intrinsic value of assets, build a clear vision for both five- to seven-year strategies and ten-year (and longer) strategies - and the accompanying investment controls. That shapes the foundation for seizing opportunities for growth and value creation in the short and long runs. Where and how companies do that will be determined by their leaders’ views on key issues, such as asset retirements.

In the decade leading up to the demand shock unleashed by the COVID-19 crisis, the downstream oil and gas industry in North America was making the best of a good situation. Refiners capitalised on the twin benefits of a new, abundant, and relatively cheap supply from US shale producers and an increased demand for their own products. Companies shifted their focus from controlling costs to capturing opportunities for growth.

Today, those same companies face a very different world. The global pandemic has not only amplified the weak signals of disruption that have been forming over the past decade but also fundamentally changed the market itself. Players may no longer exhibit the resiliency they mustered during prior oil shocks. To uncover another decade of value growth for shareholders, downstream companies will have to radically transform how they do business. Those that succeed will shape the industry’s future; those that don’t will not survive to tell the tale.

Written by Gopal Chakrabarti, Tim Fitzgibbon, and Micah Smith, McKinsey & Co.

This article was originally written and published by McKinsey and Company.

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