The decisions made during the early project phases often determine the project’s overall degree of success because this is the time where the least money is spent, but where the project team has the greatest influence. Acknowledging this disproportionate level of influence, it is critical that the industry seek to deliver intelligent cost reduction initiatives in the pre-FID phases focused on efficiency improvements, rather than purely headcount reductions.
On this page, we highlight a series of project improvement initiatives that are aligned to our theme of Capability.
Project relationship efficiency
The oil and gas industry has seen the cost of major projects increase dramatically in the past 10 years, with productivity deteriorating over the same period.
The current period of low oil prices has increased the pressure on project teams, engineering, procurement and construction (EPC) companies and the wider supply chain to reduce project costs. So far, this reduction has been achieved largely through headcount reductions, but this relatively crude tool rarely leads to substantial improvements in productivity or resolves cost escalation in the longer term.
Beyond headcount, experience and research suggest that there is significant opportunity for project leadership to enhance the working relationships between the major suppliers, EPCs and operators to collaboratively improve practices and processes across the project development cycle, reducing inefficiency and ultimately lowering project cost.
Regrettably, the abundance of projects that have overrun budget and schedule estimates, coupled with current low oil prices and the prevailing incentive mechanism within key contracts, has led to adversarial rather than collaborative relationships between operators and EPCs.
These strained relationships mean that most cost reduction initiatives are still targeted largely within the operator’s own project organization, which makes up a relatively small proportion of the total project cost. Initiatives across the wider project ecosystem are commonly overlooked, misunderstood or considered too difficult to tackle despite their out-sized potential value. Consequently, the majority of total improvement opportunity on projects remains unrealized.
Future project cost reduction initiatives must be collaborative in nature to move discussions away from protectionist thinking and empower EPCs, who hold the key to the greatest cost reduction opportunity, to propose improvement initiatives.
Critical to successfully making this change is a mutual understanding of the other’s default position and motivation — operators focusing on delivering projects to budgetary targets, and EPCs trying to maintain or maximize profits in a contractual system that actually incentivizes them to maintain (or indeed grow) contract scope at all costs to maintain overall profitability in a market where margins are increasingly squeezed.
Under most EPC contracts, the contractual mechanism means that when scope or contract value decreases, EPC profit also decreases (as profit is typically aligned to man- hours or days).
To motivate EPCs to drive real efficiency, operators must redouble their efforts to ensure that EPCs and major suppliers are part of a fully integrated project team. Critically EPCs and the supply chain should be able to share in the commercial benefits of clear, transparent improvement initiatives; benefits that outweigh the costs to them of a decrease in their total contract value.
Fortunately, the investment and prioritization of such initiatives is gaining momentum across the industry, with a growing recognition of the impact that greater collaboration across the project teams (both internal and external) can have on costs, schedules and working relationships between operators and EPC companies.
Intelligent client and outsourcing
Challenging market conditions mean that organizations across the industry have sought headcount reductions aligning to and often going further than their capex reductions. At the same time, companies have reported that over the past decade they have seen significant decreases in workforce productivity.
The industry is challenged by the impact of increasing project size on peak man-hour requirements, which skew demand and increase the need for large numbers of temporary workers. This issue is accompanied by the need to adapt the traditional engineering skills base to accept new and emerging technology solutions.
While it is unquestionably cheaper to have temporary workers meet peak demand instead of permanent staff who are underutilized, there is a balance to be struck — and a real risk that wage escalation will occur when the project development pipeline increases, as in Australia during the LNG boom.
The increase in temporary workers has been linked to inconsistent application of project management methods and is thought to lead to a more transactional relationship between workers and the projects they transit through. As a result, corporations feel less inclined to invest in training personnel. This in turn exacerbates the decline in productivity and has serious implications for the industry’s future skills mix.
Faced with these challenges, intelligent outsourcing of non-critical project skills offers a potential solution. The outsourcing of functions such as IT, logistics and facilities management are now common across the industry, yet there are many other project management components that should be considered for outsourcing.
In many cases, the required proficiency could be delivered more cheaply through the supply chain and exists in greater abundance within supplier, rather than operator, organizations. Operators should question what skills they will require in the longer term as advanced technology solutions become increasingly prevalent on projects.
They also should consider whether to retain talent in-house or outsource, and if so, how to set up contracts to build the trust and transparency that is required.
The nature of supplier portfolios means they are often better able to manage their workforce size to smooth peak demand and maximize productivity, and they often have greater total proficiency in managing projects than the operators funding them. Greater collaboration between operators and key skills providers could drive standardized training of personnel, improving quality and reducing the impact of turnover on project performance.
To embrace this opportunity, companies need to effectively assess the work and roles they require in-house vs. those that can be outsourced. In the event that sufficient external capability does not yet exist, where beneficial, companies should work collaboratively to develop long-term agreements that give service providers the confidence to invest and the operators, sufficient certainty that the supply chain can deliver.
Companies also should encourage new entrants to the market where skills align. Not all project roles require an engineering or project background, so working with nontraditional providers has the potential to free up existing teams to focus on critical tasks. And, of course, positive lessons can be learned from other industries.
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