Africa’s oil and gas players prepare for world of lower demand
The energy transition presents a range of possible futures but oil and gas will still play a significant part in the global energy mix for many years
When the oil price crashed five years ago it was supply side dynamics at play. Booming unconventional production, particularly in North America, brought downward pressure on the market. Crude prices have somewhat recovered and stabilised in recent times, but the oil and gas sector has not returned to its previous trajectory. Compared to earlier cycles, it’s now the outlook for demand, rather than supply, that is having the greatest impact in shaping the strategic thinking of the oil and gas sector.
There is much talk about the “energy transition”, where the world moves to lower carbon sources of energy, and a broad range of outlooks as to what our future energy landscape could be. In some scenarios this is expected to result in a gradual evolution over many decades; in others the switch to renewables is predicted to move at a far greater pace, aligned to achieving important climate change objectives. Nonetheless, under all practicable scenarios oil and gas will play a significant part in the global energy mix for many years to come.
In previous cycles, “peak oil” was seen as a supply-side consideration with proponents advocating that oil is a finite resource and at some point production would peak; now, with growing competition from other energy sources, it has become a demand-side consideration, with consumption expected to be the scarce factor; that is demand for oil will peak rather than supply. This significant shift in outlook is driving some fundamental change in the oil and gas sector.
These global forces apply equally to organisations operating in Africa’s oil and gas sector. Those operating in the upstream sector are reshaping their portfolios to focus on projects with one or more of the following characteristics: advantageous production cost curve positions – cost competitive projects are likely to remain profitable under a greater range of future scenarios than more expensive and more vulnerable operations:
- Projects with clear access to demand – activities with a robust market position have in-built mitigation against future demand uncertainty;
- Reliable infrastructure – this is critical to consistently connect to demand. In a world of competing supply, unreliable sources are unlikely to win; and
- Scalable capital profiles – many oil and gas projects require significant upfront investment. Those which are scalable-modularised can achieve returns across shorter cycles which is valuable against future uncertainty.
Oilfield providers of goods and services, meanwhile, are adjusting their business activities to align to the anticipated change in demand for their offerings.
In contrast to North America, hydrocarbon production in Africa is not always connected to nearby demand. Many countries have developed successful export markets alongside some local demand. This creates both a challenge and an opportunity in many African countries – the opportunity is to develop further sources of demand, be that in growing domestic markets or in deepening international connections; the challenge is to create the commercial and physical infrastructure (often across continents) to make robust and successful value chains.
Oil has historically been the sector’s primary focus, but there is an increasingly important role for gas in the move to a lower carbon future. Indeed, the portfolios of many African players are moving to greater gas weightings. Gas has potential for effecting economic transformation in many African countries, not all of which are established oil producers. The hydrocarbon map of Africa is being redrawn.
Developments, both operationally and in the mergers and acquisitions landscape, around several major gas projects in Mozambique bring the preceding comments to life. These gas resources require significant investment in development and infrastructure, and they can make a meaningful impact on the energy challenges of Mozambique and the wider region, including SA.
The proposed projects can provide a material export revenue boost as production connects to regional and international demand. The services sector in Southern Africa and more broadly also have a substantial market opportunity.
Few organisations will be able to successfully operate across the entire oil and gas value chain. Alliances and strategic partnerships, in some cases between governments, will play an important role in successfully navigating the energy transition.
The future is, as always, difficult to predict. The energy transition presents a diverse range of possible futures which, compared to previous predictions, are no longer simply high, medium and low versions of the same thing. In the face of uncertainty, understanding which investment classes are likely to deliver attractive returns in multiple scenarios will be a competitive advantage, along with portfolio optionality to enable organisations to rebalance in the inevitable event of the future being not quite as anticipated.
• Clark is partner, and Europe, Middle East, India and Africa leader: oil and gas transaction advisory services, at EY.