Energy sector recovery cycle has begun but new mindset needed

Derek Leith, EY’s Global Oil & Gas Tax Leader
  • 2019 trading performance shows £28bn revenue, up £1bn from 2018, with employment up 6% to 109,262 in same period
  • 2020 impacted by COVID-19 and reduced oil price but signs of recovery can be seen
  • 2020 UKCS capital investment was 23% lower than 2019, with production down 5%
  • Focus must be on survival and getting fit for the future as energy transition more prevalent than ever
  • Diversification, decarbonisation and digitalisation set to define the future of oilfield services

THE UK’s oilfield services sector witnessed increases in turnover, EBITDA margin, exports, and employee trends in 2019, according to the latest EY UK Energy Services overview published today (Wednesday, March 17).

The report, incorporating the 10th annual review of the UK oilfield services (OFS) sector, considers 2019 trading performance and analysed 1,141 oilfield services companies. Findings include:

  • Turnover increased to £28bn, by £1bn from 2018
  • Exports increased to 46%, up 2% from 2018
  • EBITDA margin increased to 6.9%, +1.2ppt increase from 2018
  • Number of employees increased to 109,262, up 6% from 2018

The report shows the gradual recovery in UK OFS, which started in 2018, set back by events of 2020. The OPEC meeting in March 2020 triggered a drop in oil price which was immediately exacerbated by the demand slump resulting from the pandemic. The plummeting oil price led to many companies focusing on cutting costs and improving efficiencies. Whilst 2019 was characterised by a number of new fields coming into production, 2020 was characterised by the deferral of development projects.

There is likely to be a further decrease in production in 2021 due to a combination of lower levels of investment, project delays as a result of the pandemic and the smaller scale of developments given the maturity of the basin. However, with the vaccine programme roll-out and international economic growth re-emerging, global oil inventory drawdown has resulted in Brent trending to $70/bbl. Confidence in a higher oil price may see an increase in investment spend.

The report shows the industry’s future will be shaped by diversification and decarbonisation, with a move to reduce emissions as we see opportunities in wind, carbon capture, utilisation and storage (CCUS) and hydrogen continue to grow. Environmental, social and governance themes are increasingly at the forefront for shareholders and investors, meaning energy companies must have a clear strategy on decarbonisation and reshaping their businesses for the future.

A digital transition is also accelerating, with a change in mindset and operational model needed to reap the full benefits, such as reduced operational costs and new revenue opportunities.

Derek Leith, EY’s Global Oil & Gas Tax Leader said: “Last year, we were cautiously optimistic that 2020 would be a stronger year for OFS: 2018 had seen the first increase in revenues for UK OFS in three years, and the general sentiment was that trend would continue with an opportunity for margin improvement in 2020. It’s a salient lesson that unexpected events can radically derail expectations.

“2019 capital investment in the UKCS was almost £5.5bn, in line with 2017 and 2018. However, as a result of reduced capital budgets in response to the pandemic, a number of key projects deferred and a lower oil price, 2020 was 33% lower. The expected increase in final investment decisions (FID), with up to ten projects anticipating approval, did not materialise after a number of major projects were pushed back.

“However, with capital expenditure expected to grow modestly in 2021, the oil price recovering with demand growing, vaccine roll-out programmes and global economies emerging from lockdowns, the stage is being set for a broader industry recovery. Two months into the year, it is encouraging to see signs of this recovery emerging, with acceleration expected in H2 2021, 2022 and beyond.”

Celine Delacroix, EY’s Global Energy Services and Equipment Leader said: “In many ways, last year was transformational for the sector, and the pandemic accelerated the crisis the OFS sector finds itself in. Global E&P spend fell by a quarter in 2020, forcing OFS companies to adapt, reposition their portfolios in a shrinking market, and accelerate their digital journeys. 

“The restructuring of the industry is unfolding and 2021 will continue to see significant cost reduction measures and rationalisation of capacity through asset retirements, bankruptcies and consolidation.

“Challenging market conditions and debt and equity investors have forced greater capital discipline on operators and contractors. We expect this to continue in 2021, with companies focused on lowering their debt levels, reducing their asset intensity and remaining highly focused on returns and free cash flow generation.”

Derek Leith continues: “Almost precisely 12 months after the ‘OPEC plus’ meeting that started the collapse in the oil price, there are reasons to be optimistic.

“Brent oil price is trending towards $70/bbl; deferred 2020 maintenance should largely take place in 2021; plugging and abandonment activity is expected on a number of suspended wells as part of a concerted effort to address the backlog of suspended wells; and, there will be more emerging opportunities in relation to decarbonisation and the energy transition.”


Diversification, decarbonisation and digitalisation are the future

Globally the adoption of digitalisation, big data and automation have all increased pace in 2020 and this trend is set to continue.

The benefits of digital are not only bringing internal benefits through the reduction of operating costs but also offering new revenue opportunities through bringing digital solutions to customers and digitalising the energy transition.

While digital spend is accelerating, most companies have yet to reach the benefits from their digital initiatives. The UK energy sector, which is strong in the technical aspects of digital, still lags behind other sectors.

Celine Delacroix explains: “Diversification is inevitable for upstream operators and contractors. Together with decarbonisation, diversification presents a great opportunity for OFS companies to expand their addressable markets, capture growth and redefine investor perceptions.

“I’m a strong believer that the industry must address environmental, social and governance aspects (ESG) head on. That means investing in, developing, and using all available technologies to meet these responsibilities and address investor and customer concerns. It’s technology that will continue to unlock the industry.

“But in a world of shrinking demand, oilfield technologies alone are not going to be the solution. What will be more valuable is the mastery of technology that connects an organisation (from the boardroom to the drillfloor), optimises the end to end value chain and provides solutions to customers’ issues. A change in mindset and operational model is needed to allow the industry to re-invent itself and successfully transition from one of the worst downturns in history.”

Derek Leith concludes: “The pandemic has accelerated the allocation of capital towards sustainable companies and the energy transition of oilfield services. This is shaping investment strategies of the oil and gas majors declaring net zero ambition and of the oilfield services companies which are also starting to embrace energy transition. With significant capital flowing into renewables, traditional oilfield services companies are already embracing this transition and growing their addressable markets beyond oil and gas.

“The UK presents many growth opportunities in energy transition and COP26 in Glasgow this year is focusing the minds of both UK and Scottish Governments on a pathway to net zero. Decarbonisation of offshore production requires government support, but with it comes security of supply, maintenance of supply chain capacity and preservation of the skilled offshore workforce – and, importantly, the creation of a pathway for that OFS skill base, innovation, and entrepreneurial spirit to be pivoted to green energy. I remain hopeful that the North Sea Transition Deal will deliver the support required.”

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