[TRANSCRIPT] 4 Out Of Every 5 Oil & Gas Megaprojects Fail. But why?
In this edition of The Boardroom, we speak to Edward W. Merrow, founder and CEO of Independent Project Analysis, Inc about the startling number of megaprojects that do not hit the mark in the oil and gas industry.
Ed is a recognized expert on the development and execution of large and complex megaprojects and is sought out by Fortune 500 company executives and professionals worldwide. His expertise in megaprojects is built on decades of research on the unique challenges of these complex investments. With the recent surge in megaproject activity across the oil, minerals, and chemical industries in all parts of the world, Ed’s studies are motivated by the industry’s need to develop and execute these projects more successfully in the years ahead.
TH Tim Haðdar, Editor-in-Chief, Oil & Gas IQ
EM Ed Merrow, Founder and CEO of Independent Project Analysis, Inc
TH Hello, and welcome to this edition of The Board Room. Today I'm speaking with Edward Merrow, who’s the CEO and founder of Independent Project Analysis, Inc. He’s got a book that’s out now called Industrial Megaprojects, and we want to speak to him a little bit about what makes these industrial megaprojects tick and what makes them succeed in particular. So Ed, thanks for joining us today.
EM Yes, good morning, Tim.
TH Ed, how do you define a megaproject?
EM Well, megaprojects are defined both by their size, and I would consider a project to be getting into the megaprojects category if, in today’s terms, it's about £1 billion, roughly $1.5 billion. More importantly, megaprojects are complex. The types of projects that we look at are engineering intensive, projects in oil, chemicals, and minerals, and these projects consume a huge amount in the way of resources. They are difficult intrinsically, and their circumstances are usually difficult as well.
TH I know in the book you look at megaprojects from across the industrial spectrum. How many megaprojects are going on in the world at this point in time in the oil and gas arena?
EM In the oil and gas industry right now, there are approximately 150 that are underway or in late stages of planning.
TH Is there a rough breakdown geographically of where these megaprojects are happening? Are we looking more at the developing world or more at the West?
EM Well, actually it's a good mix. Of course there are a bunch in places like the Middle East where a lot of oil development is going on fairly intensively right now. There are a good many in Brazil where the pre-salt play for Petrobras is pumping a whole range of megaprojects. There are a bunch of extraordinarily large projects in the Australian area. They go up to $50 billion in terms of their size. They're set in the Caspian. They're set in the deep water Gulf of Mexico, so they're pretty much everywhere. We even have new megaprojects, of course, here in the North Sea where we have major projects that will be developed by Statoil up in the northern area off Norway.
TH There's a lot of projects throughout the world. When you're talking about Australia, you're talking about all of the Gorgon field.
EM That’s correct, Woodside, Browse, and so forth, the big LNG projects.
TH And obviously when we're talking about Petrobras, in the next ten years they're going to be spending more than it took NASA to put man on the moon in the pre-salt projects out there.
EM Absolutely. They have something on the order of 50 billion barrels of oil to develop, and all of those projects will be expensive.
TH The interesting thing when it comes to the book is defining success and failure for a project of such a massive scale, so we're going to have to define the words, really. How would you define success, and how many oil and gas megaprojects have actually been successful?
EM I define success and failure in what I think are, sort of, common sense terms. If a project comes in reasonably close to its budget, which is less than 25% real growth, if it comes in reasonably close to its schedule, so it doesn’t slip by a year or more, and most critically, if the project produces, more or less, as planned, I consider it a successful project. There are other criteria that you should worry about as well, like safety, but if you meet those four, cost, schedule, operability, and safety, you have a pretty good project.
Now, what's peculiar about megaprojects in general, and upstream projects in particular, they tend to either succeed or fail. As you know, in nature most things are normally distributed, okay, reasonably so, with a skew perhaps to the right. In megaprojects, the distribution of success and failure is highly bimodal. Projects either do quite well or they do very badly. Unfortunately, there are a good many more in the second category than the first.
In oil and gas almost four-fifths of the projects, over three-quarters of the projects, have to be classified as failures. It's very disappointing, and this is counting projects over the last decade. So, I think, a manifestation of how we've approached these developments and we're getting really difficult outcomes. We're getting disappointing results of the projects. Overall the outcome that is most distressing is that of the 78% of the projects in E&P that were failures, two-thirds of those projects had production attainment problems. When I say they had production attainment problems, they produced at less than half of planned for the first two years, and every indication is that in years three and four, at least where we have the data for them, they're not doing much better. So, if we don’t make oil, we don’t make money, even if oil prices are high.
TH Now, you’ve defined what success is and, like you said, its common sense objectives that you’ve delineated there. Now, what are the hallmarks of failure, and particularly if you see those early signs of failure creeping in, how do you mitigate them? When should the warning klaxon be sounding?
EM As soon as you hear that the schedule for the project is going to be set based on aspiration rather than facts you should know you're in trouble. As soon as you start hearing that, well we need to get on in this appraisal, yes I know that you say you need another well or two, but the fact of the matter is we need to get this development done quickly. As soon as you start to hear those things in a megaproject, you're in trouble, and you're in deep trouble. You may not know it yet but you’ll know it very soon.
What happens, very simply, is because we're in a hurry… and by the way I'm not encouraging being slow, but because we're trying to make these projects breakneck speed we end up breaking our necks. This is a problem where, unless we can rein in our desire to do things so fast that we cut corners, we're going to fail, and we're going to fail pretty much every time. Because I say, in megaprojects, speed kills.
TH So, it's the need for people to get their project to market as quickly as possible and start churning out those hydrocarbons that is really the main thing that’s actually killing these things?
EM You see, unfortunately, it's a failed strategy, and it's a failed strategy for a number of reasons. That strategy first pre-supposes that schedule is incredibly important to business results. Well, schedule is important but actually it's third to, first, product attainment, and second, capital cost performance, then schedule. The fact of the matter is the hydrocarbons market will clear and you can always sell, particularly, black oil output. There are commercial constraints around gas projects and those can be real, but when it comes to black oil projects, the fact is timing is relatively unimportant. Oil prices are as likely to be higher as they are to be lower when you bring the project into production.
TH So, it's a case of, don’t worry about getting it done quickly, just get it done correctly?
EM Get it done correctly, and as it turns out by the way, the failed projects end up being slower than the successful projects. So, in absolute terms, we tried to go fast and in effect that forced us to go slowly, and that’s because we make mistakes and the mistakes then cause us time in execution.
TH Now, you gave that pretty startling statistic of four-fifths of oil and gas megaprojects categorised as failures. Now, is that the same for the rest of the megaprojects that you’ve looked at? And if not, what could the oil and gas sector learn from its cross-sector counterparts?
EM No, it's not. The other sectors are characterised by a failure rate that is approximately 50%. That’s not good, but it's considerably better than oil and gas. In general, those projects that are successful in the other sectors, as well as in oil and gas, are those that did a very thorough job in the front end, that did good appraisal. They did what we call good reservoir front end loading, which is that they actually defined how they were going to deplete the reservoir very carefully. They did very good definition of what the facilities would look like.
They optimised the facilities versus the wells, and they then proceeded to execute the project well. One of the things that we in the industry like to do is hurry up and do a poor job in the front end, and then we blame the contractors for doing a poor job executing the project. But the fact is, contractors do good projects well and bad projects poorly, and it's the owner that is actually to blame here, not the contractors.
TH And the blame game is always a trickle down effect.
EM Yes, indeed. As a friend of mine once said, in projects we have the expression, "first we hire the scapegoat", so… That’s what we do.
TH Ed, can the key learnings from successful projects be transferred to their smaller scale cousins? Can this be rolled out across all scales of projects?
EM Absolutely it can. There are relatively few things that are unique to megaprojects. There are only a few aspects of the projects that need to be thought about differently than smaller projects, but the basics of how to do projects are pretty much understood across the board in the industry. Our problem is we just don’t do it. We tend to lack the discipline necessary, but absolutely the same things that make megaprojects successful will make smaller projects successful as well. Many of our projects turn out to be, essentially, unmanageable because they weren’t well enough prepared to be managed by mere mortals. So yes, maybe heroes can do it, but simple humans can't and that’s how we end up failing and failing pretty often.
TH And Hercules has been dead for 4,000 years, so that doesn’t help.
EM Yes, there really aren't very many genuinely new mistakes. I think that we've been making mistakes for a long time. I do think that we need to learn. I think that we can learn, and I think that we need to actually take in the lessons of the past because we'd have much more successful businesses if we did.
TH 2015 is coming up rapidly, it's the great crew change, the great skill shortage, however you want to call it, how is that going to effect the delivery of megaprojects? Is this going to be even more deleterious to practices that are already on the slide?
EM It doesn’t have to be, but it's very likely to be as it's become progressively difficult. There are other things going on in the industry that are problematic as well. We're very short of people around the world, so in terms of basic skills we probably haven't ever been in as precarious position as we are right now. That’s all the more reason we need to slow down. We need to be careful with these projects. We have learned the hard way that we can make a terrible hash of them.
TH Ed, it's been a pleasure to talk to you today, and I'd advise anyone to definitely have a look, if not purchase, Industrial MegaProjects: Concepts, Strategies, and Practices for Success. It's a hell of a read.
EM Thank you very much, Tim. Great to talk to you.