Power for the people

In the energy business, change comes slowly. The filament light bulb, developed in the 1870s, is only now becoming obsolete. Cars with internal combustion engines were first patented in the 1880s and still dominate personal road transport today.

Even individual assets can remain productive for many decades. Saudi Arabia’s Ghawar, the world’s most prolific oilfield, was discovered in 1948. The Oyster Creek Generation Station in New Jersey was the first large-scale commercial nuclear plant to come on line in the US, in 1969, and it is running still, although scheduled to be shut down in 2019.

So it should not really come as a surprise that many companies engaged in the production and energy also exhibit impressive longevity.

The only survivor in today’s Dow Jones Industrial Average from the index of 1896 is General Electric. One of the three additional survivors from 1924, alongside DuPont and AT&T, is Standard Oil of California, now known as Chevron.

Yet the long-established oil and gas companies now face what are arguably the most serious threats in their lifetime. They are coming under attack on two fronts: from renewable sources, principally wind, solar and biofuels, which are backed by governments in all the world’s leading economies, and from smaller, nimbler companies that have discovered new ways to extract oil and gas from previously unyielding shale rocks.

The history of the energy industry suggests a few of the important qualities that are needed for long-term survival. One is the capacity for innovation and adaptation to new challenges. In the past half-century, the most easily accessible resources have disappeared from the sphere of influence of western oil companies, either because the reserves have been depleted or because they have been closed off by governments.

In the 1970s, companies including Exxon, BP and Shell pioneered the development of previously inaccessible reserves on the North Slope of Alaska and the North Sea. Innovations including the application of the latest computers to help analyse geological data were essential for unlocking those reserves. More recently, the successes of Chevron and other companies in finding oil in deep water in the Gulf of Mexico and off the west coast of Africa, pushing back the frontiers of what is possible in terms of water depths for drilling, have been essential to sustaining their growth. Energy companies that failed to innovate in that way would not survive very long.

A second essential characteristic for longevity is the ability to cope with setbacks. Energy companies deal with hazardous substances and with facilities such as production platforms that can cost many billions of dollars, so the potential for large-scale disasters is always present. After the Exxon Valdez tanker spill in Alaska in 1989, Exxon used the accident as a catalyst for a transformation of its safety policies and practices that was widely acclaimed in the industry. After the 2010 Deepwater Horizon disaster in the Gulf of Mexico, BP faced persistent questions about whether it could continue as an independent company, although the British government has signalled that it would probably obstruct any attempted takeover.

It is a testament to the extraordinary achievement of John D Rockefeller Sr that, 78 years after his death, just a fragment of the empire he created is still the world’s largest listed oil company by market capitalisation. When Rockefeller’s Standard Oil was broken up into 34 separate companies, one was Jersey Standard, which changed its name to Exxon in 1972. It was a pioneer in opening up Alaska and the North Sea. It became ExxonMobil with the 1999 deal to buy Mobil, itself a successor company of Standard Oil.

The setbacks that bring companies to an end can be financial reversals as well as accidents. Oil, gas and power are commodities, and like all commodities their prices go through cycles. To survive in the long term, companies have to be able to cope during the down phases of the cycle. At the end of the 1990s, in the industry’s mega-merger wave prompted by the last prolonged period of weak oil prices, the boards and investors of companies including Amoco, Mobil and Texaco decided they were better off accepting bids from BP, Exxon and Chevron respectively, rather than attempting to remain independent.

The third important quality for any energy company’s survival is the ability to manage complex and shifting relationships with governments. Energy plays such a central role in all modern economies that its supply, distribution and use are inevitably politicised. Companies that fall out with the political authorities too fundamentally can be broken up, as John D Rockefeller’s Standard Oil was in 1911 — or have their assets confiscated. In less extreme forms, a lack of political support can cost energy companies in the loss of access to resources or of tax breaks and other incentives.

Today, all of the characteristics that have contributed to the longevity of the big oil companies are being put to the test. They have been out-innovated in the past decade by smaller, more agile companies that have pioneered production of first gas and then oil held in shale rocks, through the combination of horizontal drilling and hydraulic fracturing. The resulting surge in US crude production has been one of the principal factors behind the plunge in oil prices, which is putting huge strain on the large oil companies’ finances.

The shale producers have also been hurt by weak prices, and US oil output has started to fall, but there are indications that they would be prepared to start investing in increasing production again at an internationally traded Brent crude price of about $65. If so, that level could become an effective ceiling for the oil price, at a level well below the recent peak of more than $115 a barrel last year, and also below the prices that the large oil companies need for many of their higher-cost investments to be profitable, in areas such as Canada’s oil sands.

EOG Resources, one of the most successful shale oil producers, has been dubbed “the Apple of oil” by the analyst Paul Sankey of Wolfe Research, because of its ability to deliver profitable innovation. Under that analogy Exxon and Chevron might be the industry’s equivalents of Hewlett-Packard, or Dell.

The long view of General Electric’s 123-year history shows a process of diversification followed by refocusing. From its origins in electric light bulbs and power generation, GE expanded into domestic appliances, plastics, aircraft engines, medical equipment and even entertainment. It also built up a huge financial services business, which at times generated more than half the group’s earnings. The new GE has also become more involved in energy by building up a large division serving the oil and gas industry.

Behind that threat, though, an even more fundamental challenge is lurking. The world is moving towards tighter curbs on emissions of greenhouse gases, a trend that will be confirmed at the UN climate talks in Paris in November and December. For fossil fuel companies, that means tighter regulations, higher costs and constrained demand for their products.

One response from big oil companies is a shift towards gas, which is attractive for power generation in a carbon-constrained world because it results in roughly half the emissions of coal for the same production of electricity. Gas-fired power can also be complementary to renewable sources such as wind and solar because it can be ramped up and down relatively efficiently to cover shortfalls in generation from those intermittent sources. Many large European oil companies have backed government action on climate change, along with Saudi Aramco and Reliance of India, and can expect to benefit from a shift from coal to gas.

That may not be a long-term solution, however. Carbon Tracker, a research group that works on climate change, has argued that if the rise in global temperatures is to have a reasonable chance of staying within an acceptable increase of 2C, about 60 to 80 per cent of the reserves of oil, gas and coal held by listed companies cannot be burned.

The world is moving towards tighter curbs on emissions of greenhouse gases

For fossil fuel companies, the implications are profound. They may reject the link between their operations and climate change, but if governments take further steps to address concerns about global warming, the resulting policy changes will curb demand for fossil fuels. Big oil companies have made moves into other forms of energy in the past, including Exxon in the 1970s and BP in the 2000s, and those have largely proved to be mis-steps. The conclusion that many have drawn is that oil and gas companies are better off sticking to what they know, and leaving renewable and nuclear energy to others.

If Chevron, Exxon and the others still want to be here in another 100 years, they may need to think about more radical changes than the ones they needed in the past century.