The Changing Role of Mergers and Acquisitions (M&A) in the Energy Industry

Understanding and responding to the evolving M&A environment to achieve high performance

Results of an Accenture research initiative

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Table of contentsIntroduction Section 1: The “Business in a Fragile World” scenarios from an energy-sector perspective 5

Section 2: Player market focus and mindsets for each scenario 10

Section 3: Predicted M&A activity under each scenario 13

Section 4: Distinctive capabilities required to compete in each scenario 17

Section 5: Will the M&A patterns of the past reoccur in the future? 20

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M&A in the energy industry1 used to be primarily the realm of international oil companies (IOCs), but the players today have changed. The market is seeing an influx of private equity firms that have an abundance of cash, as well as nontraditional players, such as NOCs, which are targeting resources in their own regions. As a result, over the past few years the level of M&A activity in the energy industry has been quite high, with activity ranging from deals between small companies for acreage to multibillion-dollar deals between large multinational players. For all players, this changing environment raises questions around portfolios, strategies and actions to take. The assumptions used in the past no longer serve companies today because the types of players undertaking M&A have changed and so, too, have their underlying reasons. Thus, your firm may be encountering (and losing

deals to) a surprising new group of competitors who limit your options for achieving inorganic growth.

Companies of all types need to reexamine their strategies in terms of the types of assets in which to invest going forward and ask themselves: Do we understand our marketplace well enough to succeed in this changing environment? Are we differentiated enough to win the deals we are going after? And are we positioned to be a winner today and in the future?

To answer these questions, Accenture conducted a research study to understand the role M&A plays in the energy industry today and uses these findings as a basis to predict how M&A would be used in the future. The findings of our study are intended to help companies shape a distinctive M&A capability and to better position themselves to compete in a marketplace of players with varying motivations.

The study findings are presented in four scenarios which examine possible ways the future could be different from today and propose ideas on how energy businesses can prepare for tomorrow’s world. The key questions are: What will be the motivations of players in the future, and which companies are advantaged, disadvantaged and at risk? The points of view Accenture presents in this paper attempt to assess the future through these four scenarios to help give players an understanding of how to go forward and what distinctive capabilities they will need to achieve high performance.

IntroductionThe pursuit of mergers and acquisitions (M&A) is a vital part of the business strategies of many energy companies, but in recent years its purpose has changed markedly. A decade ago, most M&A deals were undertaken to create synergies and cut costs. Today, however, companies are challenged to find new ways to grow and ensure supply given declining levels of accessible oil and gas reserves. Increasingly, they are using M&A as a way to address growth challenges and gain access to reserves. Against this backdrop is a host of nontraditional players jumping into the M&A game, including national oil companies (NOCs), private equity firms and oil services companies, making the landscape a highly competitive one driven by entirely new motivations.

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Section 1: The “Business in a Fragile World” scenarios from an energy-sector perspectiveIn 2002, Accenture developed four scenarios of the business future collectively called “Business in a Fragile World.”2 In 2003, the implications of these scenarios were applied to the global energy sector in a follow-up article titled “Managing the Unknown.”3 Four years later, these scenarios are proving to be still quite relevant and robust, with only one needing to be updated to reflect recent events. For the purposes of creating a point of view about the future of M&A in the energy industry, we have taken these scenarios and once again applied them to the global energy sector.4

In 2002, drawing on the experience and knowledge of Accenture’s business and energy strategists, as well as on outside experts in economics and

politics, Accenture identified key economic and sociopolitical forces we felt would shape the future business environment. The economic forces include economic ideology and corporate strategy, market developments, government economic policy, the role of supranational institutions, the implications for travel and transport, and the impact of information and communications technologies. The sociopolitical forces include attitudes and values, approach to policymaking, religion and ideology, geopolitics, civil society, and international institutions.5

When these forces are represented graphically (see Figure 1), we can see that one dimension includes forces that could drive us either toward a

more economically integrated world or, alternatively, to a more isolated, independent one. Along the other dimension, forces exist that could push us toward either a more collaborative world or, conversely, a non-collaborative one. By mapping these forces in various ways, four different scenarios for the future result:•Survival of the Fittest: A Darwinian

world of free markets and intense competition, especially between developed and emerging economies

•Common Ground: An economically integrated, highly collaborative world

•Tempestuous Times: A world in which economic integration comes at the cost of growing conflict and tension between governments, and between business and society

•Worlds Apart: An actual reversal of globalization into protectionism and nationalism

Figure 1

Accenture depiction of four possible energy sector future scenarios

Collaborative

Non-collaborative

Economic independence

Economic interdependence

Today

Common Ground

Survival ofthe Fittest

TempestuousTimes

Worlds Apart

Map of the futureA number of economic and political forces are shaping the future business environment. Four scenarios for that future can be mapped along two axes: one ranges from a collaborative to a non-collaborative world; the other ranges from an economically independent to an economically interdependent world.

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Scenario 1: Survival of the FittestThe Survival of the Fittest scenario envisions a world of competition in terms of trade and capital flows in which economic and business decision making is driven partially by the capital markets and partially by geopolitical interests. This competition is particularly marked between the developed economies and those that are emerging. Russia joins the World Trade Organization (WTO) and, together with existing member China, partially opens up its energy markets to foreign investment. Russian and Chinese energy companies, pressed by capital markets to demonstrate improved corporate governance and transparency, represent an increasing source of competition in global energy markets. Competition

is fierce between energy companies from the developed economies and those from the emerging economies, so each tends to focus on short-term strategic objectives. As more of the key energy-producing markets embark on liberalization drives, energy companies look to create value through mergers and acquisitions. In parallel, oil firms in emerging economies and those in developed economies move toward consolidation as a vehicle to achieve scale. National oil companies seek acquisitions in the more open markets of Russia, China and the Middle East to ensure access and control of reserves as well as production (security of supply). This is particularly true in the downstream market, where years of tight and low margins have seen some players consolidate or exit the sector. As markets open and competition intensifies, oil prices

fall but become more volatile. In part, this is due to pressures within OPEC, which is unable to contain the tensions between price setting and overproduction, which are driving down oil prices. The organization, now conceding market share to non-OPEC producers, eventually breaks up completely.

For energy companies, this world offers many positive aspects: economies from global supply chains, low taxes and regulation, integrated and highly liquid capital markets producing a low cost of capital and high levels of innovation. But there is a negative side as well. Despite its high growth performance, this world generates tension and friction that could boil over into instability.

As competitiveness begins to drive every business decision, energy companies are increasingly split on issues such as sustainable

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development, renewable fuels and corporate citizenship. Because of this, government and business support for issues such as climate change begins to recede. Increasing interest, however, is paid to alternative forms of energy (for example, nuclear, wind and solar) by those in the developed economies as their ownership of conventional resources falls. As state-owned energy companies are privatized, they are increasingly unable to fulfill the wider social and community welfare roles they once played in some countries, contributing to rising social tensions.

Scenario 2: Common GroundIn the Common Ground scenario, strong forces push toward a more integrated, collaborative world. On the economic front, Russia becomes a member of the WTO. Politically,

leading nations work together to reduce international tensions in some of the most volatile parts of the world. Over the medium term, this effort leads to a political settlement in the Middle East, restoring some stability to the region. Crude oil prices become much less volatile and start to decline, as concerns about the security of supply fall.

Greater political stability paves the way for new forms of cooperation between energy companies and governments, especially in the developing world. There is a new focus on sustainable development—developing oil and gas resources in ways that will leave a positive economic legacy for those countries when their reserves run out. In this scenario, smart energy companies seeking better access to new reserves and a long-term license to operate pay particular attention to sustainable development.

Oil and gas companies still operate across global markets, but there is a growing emphasis on localization—working with local partners, building local skills and using local sources of supply. Such local integration brings real benefits—including lower costs and much better access to local skills, which reduces the reliance on expatriate workers. New consumer markets emerge in developing nations as companies and countries alike take advantage of this collaboration, integration and localization.

Over the medium to long term, strategic cooperation between governments—particularly on major transportation infrastructure projects—radically changes energy industry dynamics. Construction of a Russo-Chinese oil pipeline and a new terminal at Murmansk in Siberia to export crude to the

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United States dramatically increases Russian oil exports and creates new competition for producers in the now stable Middle East.

Reduced tensions and greater stability in key energy-producing regions allow companies to plan better. But there are growing concerns about the high cost of the stability. There are far stricter environmental controls across all regions and energy sectors, pushing up costs (and, indirectly, energy prices for business and residential users). Rules providing greater job protection add to costs in some stages along the supply chain. While stability makes planning ahead a better bet, the positive impact is offset by time delays as growing regulation and bureaucratic controls hamper fast decision making.

Scenario 3: Tempestuous TimesOur third scenario, Tempestuous Times, is a world of conflict and friction in which energy companies can still operate globally but find it more costly and difficult to do so. They are forced to shorten their supply chains and build more backup facilities, as these become increasingly vulnerable to disruption, either from terrorists or extreme antiglobalization protesters. Those oil companies with carefully balanced portfolios can cope reasonably well—as trouble flares up in one market, they can switch production to another. However, independents and niche players find life very difficult as their key regions of production erupt in turmoil, often forcing them to suspend operations. Although the larger players are better able to spread their production risk, they begin to encounter problems

in their major consumer markets, as antiglobalization groups mount a series of worldwide consumer boycotts against well-known energy brands. This prompts some energy companies to differentiate their brands by region. As some global retail brands disappear, there is disruption of those midstream and downstream activities—such as refining—that were previously geared to production for global markets. Security is the No. 1 concern for energy companies in this scenario. Security costs soar—especially for insurance to protect employees and key assets such as power stations, refineries, pipelines, tankers and liquefied natural gas (LNG) carriers. As oil production becomes increasingly costly and vulnerable to disruption, the price of oil increases dramatically and becomes extremely volatile, making any kind of planning difficult at best.

Depending on the underlying status of the drivers and the associated impacts, companies participating in the energy industry will need to adjust their market focus and mindset to respond effectively across the different scenarios as summarized in the chart below.

Economic growth Geopolitical situation Environmental concerns

Survival ofthe Fittest Emerging—HighDeveloped—Low Emerging—Neg. Developed—Pos. Emerging—LowDeveloped—High

Common Ground High Positive High

Tempestuous Times Low Negative Low

Worlds Apart Very low Neutral Low

Economic, geopolitical and environmental drivers and impacts across the four scenarios

Drivers

Impacts Oil price

Cost of capital

Regulation levels

Oil industry market

Global/regional/local focus

Medium

Medium

Low

Emerging—NationalizedDeveloped—Protected

Global

Medium-low

Low

Medium

Liberalized

Global with local partners

High & volatile

High

Low

Mix

Regional

High & stable

Very high

High

Nationalized

Local/national

Table 1

Summary of the drivers and impacts across the four scenarios

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The cost of capital for investment in high-risk areas also rises dramatically, reflecting the higher-risk premium demanded by the markets. Projects in areas such as the Middle East are canceled as several countries have their credit ratings downgraded. Encumbered with higher financing costs and greater operational risk, energy companies become unwilling to invest in such regions. The focus now turns to competing for existing, less risky reserves and to using technology to try to extend the life of already mature areas.

Overall, energy companies become less innovative and forward thinking. As the focus turns to keeping the oil and gas flowing, key product, environmental and renewable-fuel innovations take far longer to come to market as companies concentrate less on risky ventures. This is a very unstable world, on the verge of complete fragmentation.

Scenario 4: Worlds Apart Our final scenario, Worlds Apart, provides a glimpse into that fragmented world, which has disintegrated into stagnation.

Barriers to trade and capital mobility go up, and access to oil and gas reserves is limited, threatening the very existence of global energy companies. Long-established global supply chains or sourcing breaks down, economies of scale are lost as markets contract, and innovation dwindles as it becomes impossible to recoup the costs of research and development. Governments increasingly use their regulatory and tax regimes to promote their own national champions at the expense of multinationals, and in some cases, they renationalize their domestic energy interests.

Global energy companies, facing the risk of being unable to recoup investment costs and protect assets, are forced to withdraw from developing countries. Previously innovative sectors, such as LNG, gas-to-liquids technology, alternative energy, and deepwater oil and gas developments slow as oil companies shy away from the costs of bringing them onstream.

Countries that have been concerned about the security of their energy supply now see their worst fears realized as they struggle for supply in these tight markets. Blackouts become quite common in countries never before affected, such as the United Kingdom, which becomes import-dependent for both oil and gas by 2017.

With reduced access to reserves and less competition among energy companies, oil prices rise significantly, but without the volatility they have previously shown. Since there is no global oil market, OPEC either breaks up completely or fragments into regionally based organizations. Russia postpones indefinitely its previous intention to join the WTO. Concerns about the competitive impact of WTO membership rise in China. The Doha trade round, begun at the end of 2001, collapses as developing and industrialized countries fail to make any progress on market-opening measures. Energy companies find it difficult to operate in markets protected by rising walls of tariffs, quotas and red tape. Increasingly detached from global supply chains and sourcing, downstream markets become much less competitive.

Producers are also struggling locally with rising costs of labor and material. There are shortages of key skills and personnel because of new

barriers to the movement of people, and there is a reduction in knowledge transfer across different markets.

There are no real winners in this scenario, only regional survivors. Energy companies that have dominant positions in countries with large internal markets—for example, the United States, China or Russia—can still achieve reasonable economies of scale, after a phase of strong domestic consolidation. Other energy companies seek to overcome the constraints of fragmented markets by following a “multi-domestic” strategy. In practice, this means building a local identity and brand name, working with local partners, developing local supply chains, and diversifying ownership structures internationally to minimize capital transfers across borders.

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Section 2: Player market focus and mindsets for each scenario Going forward in tomorrow’s world will entail looking at the world in a fundamentally different way. Players will be taking into account new considerations when doing deals. To compete in a changed competitive arena, players will need to begin by adjusting their market focus and mindset, and from there, develop distinctive capabilities to better respond to possible future events and meet organizational objectives. In this section, we describe what we believe will be necessary areas of market focus and mindsets for firms to adopt.

Scenario 1: Survival of the FittestSurvival of the Fittest envisages a more competitive world between the emerging economies and developed economies. The short-term focus of both groups leads to moderate geopolitical tensions between those countries that are resource rich and those that are not—increasing the potential for instability. High levels of competition reduce regulatory emphasis on environmental issues, but developed nations still look to foster alternative energy and innovative technologies due to the continuing need to ensure security of supply. International oil companies can finance high levels of innovation and

invest in alternative energies because of high growth, global economies of scale and a reasonably low cost of capital. Economic growth splits between the two groups, and capital moves toward the liberalized markets of emerging economies.

In this scenario, a company’s ability to succeed will be helped by adopting a market focus and position that emphasizes the art of negotiating access to high-demand economies and ensuring a balanced portfolio of resource supply from nonemerging economies. As markets in China, Russia and other BRIC (Brazil, Russia, India and China) countries open more fully to the world, firms need to position themselves effectively to capitalize on the high demand for

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transport and other refined products (security of demand). Successful companies will be those that can partner with each other to secure not only resource supply but also demand. Oil- and gas-abundant NOCs along with NOCs from high-demand economies will be most advantaged under this scenario, but IOCs should look to negotiate access to these markets through the use of joint ventures/asset swaps and by presenting attractive developmental offerings to host nations.

For IOCs looking to achieve security of supply, it will be critical to develop or acquire interests in regions such as Norway, Australia and Canada. Firms that can technologically differentiate themselves from their peers will be best positioned within these highly competitive regions, because they will be able to extract reserves from harder-to-reach unconventional deposits. These specialized skills and technologies can also be taken to NOCs that have become as equally operationally and commercially established as most IOCs. Companies from developed countries also need to look to developing alternative energies as part of their strategies to secure supply.

Oil field services firms should experience high growth globally (resulting in scale-for-growth plays)—they are well positioned to partner with IOCs for unconventional exploration and production (E&P) development and with NOCs for conventional E&P development. As markets liberalize globally and consumption increases in BRIC economies, the gas and LNG markets will be important sectors in the short term. Midstream gas distribution companies (for example, pipelines and LNG shipping) can capitalize on gas-rich NOCs that are expanding abroad to secure demand.

Firms that look to be successful under a Survival of the Fittest scenario might exhibit a variety of mindsets, such as:

•“NOCsoperateaswellasIOCs;IOCswill have to offer something more to encourage NOCs to partner with them.”

•“Jointventuresandassetswapsshould be the choice of entry into emerging economy markets.”

•“Ourmainconsumerbase(andtherefore strategies) will shift to emerging economies.”

•“Investmentinalternativeenergyand unconventional sources (ultra-deepwater, oil sands, coal to liquid [CTL], gas to liquid [GTL]) will be crucial to secure supply.”

•“NOC-NOCintegration/partneringwill secure supply and demand.”

Scenario 2: Common GroundAs previously mentioned, the Common Ground scenario paints a picture of a harmonious world where markets are open and integrated, countries work together to solve geopolitical issues and a global determination exists to support sustainable development. High levels of collaboration mean oil prices fall as security-of-supply concerns decrease. Over time, large infrastructure projects (such as pipelines) enhance energy interconnectedness across the globe. Integration of local people and partners into the operations of global firms enables all countries to share in the resulting economic benefits.

In this scenario, a firm’s chances of success are increased by adopting a market position and mindset that emphasizes collaboration and sustainable, global development. From a market focus and position perspective, high investment levels would be anticipated across the entire energy value chain due to the positive short- to medium-term economic outlook (however, investment in gas over the longer term may be limited by rising environmental and safety regulations). In emerging economies,

investments would be particularly targeted toward the downstream as economic growth increases the demand for transport fuels and other refined products in these geographies. Large oil companies could improve their performance in this scenario by pursuing security of supply through country-facing strategies that maximize local labor and leverage local supply chains. Additionally, NOCs would see the benefits of collaborating with IOCs to access different parts of the value chain as well as creating economies of scale in terms of innovation (thus suggesting the growth of swaps and joint ventures not only to achieve security of demand but also to access new capabilities).

Additional environmental standards would mean a shift toward cleaner established fuels such as LNG. The oil field services industry would undergo a scale-for-growth phase to service increasing production levels of both conventional and unconventional resources. Under this scenario, while there is a drive toward better environmental standards, alternative energy becomes a longer-term play—R&D investment goes toward improving the environmental performance of existing energy sources. Thus there is no immediate shift toward alternative energy.

Firms that look to be successful under a Common Ground scenario might exhibit a variety of mindsets, such as:•“Weshouldtakeacollaborative

approach to extracting ever-fewer resources—‘Expand the Pie’—and adopt a partnership approach with the resource owners.”

•“Jointventuresenableallpartiesto share profits and should be the growth vehicle of choice.”

•“Investmentinunconventionaloiland LNG is critical.”

•“Alternativeenergyisthelong-termgame, but there is no immediate need for large investment here.”

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Scenario 3: Tempestuous TimesTempestuous Times, as stated previously, is a world characterized by supply disruptions, political and economic instability and a high oil price. With low economic growth in the long term and high costs of capital, it is only the larger global or regional players with geographically diversified operations (useful as fallback options) that can function in this scenario. Even then the successful firms would be limited to those that can localize brands so that they do not suffer from growing antiglobalization consumer backlash. Resource-limited energy producers need to look for a range of supply sources not only due to the high oil price, but also because security threats make global supply chains vulnerable to disruption. As a result, some energy companies exit riskier countries, including in the Middle East, and turn their focus to competing for existing reserves in mature regions (security of supply).

Achieving the “right” market focus and position will become essential for those companies from resource-constrained countries. Resource-rich nations will be self-sufficient in their energy needs and can continue to export excess supplies in a global market to many resource-constrained consumer nations (achieving security of demand). For all companies, understanding the risk profiles of all locations will be integral to success in this environment. IOCs and companies that do not have a sufficient amount of reserves to meet demand will alleviate the risks associated with operating in volatile political areas by looking to mature but politically stable regions such as Norway, Canada and Australia. These firms will also need to focus their limited funds on opportunities to increase production from unconventional sources such as

oil sands and ultra-deepwater if they want to remain competitive. This may be accomplished either via acquisition of a specialist unconventional technology provider or through purchasing the services from a third-party oil field services company.

Firms wanting to succeed in this environment should seek to strengthen upstream and downstream asset portfolios within their domestic markets (portfolio diversification). Ensuring complete control of the value chain (supply and demand) will be the main protection for many companies against political disruptions. At the same time, energy firms are advised to spread risk by diversifying their geographic footprint so that a fallback option is available if necessary. Within any non-domestic markets, the emphasis should be on companies repositioning themselves as local brands and using existing supply chains and workforces, supplementing them with knowledge and skills from the parent brand. A high-growth area here for oil field services is in the security sector because physical and data security will become a high priority for most companies.

Firms that look to be successful under a Tempestuous Times scenario might exhibit a variety of mindsets, such as:•“Understandingriskprofilesiscrucial

in order to be successful in this environment.”

•“Adiverseportfoliooflocallyandregionally sustainable brands and supply chains is required to be

competitive.”•“Adesiretohavelessdependenceon

gas;thereisahighriskattachedtoa small amount of global suppliers.”

Scenario 4: Worlds ApartAccording to the Worlds Apart scenario, countries would retreat into themselves, effectively withdrawing

from the global economy and seeking an independent future. Barriers to trade and capital mobility soar. Some governments start to renationalize previously privatized enterprises, and the trend of globalization reverses. Trade and investment volumes plummet. Economic growth grinds to a halt or even contracts. It would be the end of the oil industry as we know it.

To survive in this environment, an energy firm’s market positioning and focus should reside primarily with national interests. There is little incentive for IOCs and NOCs to collaborate. Domestic independents become the sole acquisition option for IOCs or NOCs in large countries to create economies of scale (scale for cost cutting and growth). Investment in technology and infrastructure should be kept at subsistence levels. Local sourcing is a prerequisite, so cost will become the key differentiator. Oil field services will fold or consolidate as investment by their clients dries up. Private equity exits the market due to the restriction of capital flows combined with weak stock market performances. Finally, alternative energy gains little traction, given that energy firms and private equity are reining in investment.

Firms that look to be successful under a Worlds Apart scenario might exhibit a variety of mindsets, such as:•“Thinklocal,buylocal,actlocal.”•“Applyrigorouscostcontrolto

balance spiraling costs in local markets.”

•“Abandoninnovationefforts(bothin unconventional and alternative energy) due to poor payback and minimal likelihood of scaling across borders.”

•“Scaledomesticallytobenefitfromeconomies of scale.”

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Section 3: Predicted M&A activity under each scenario Combining the individual scenario details with their predicted impacts on market focus and mindsets, we have formed a point of view about the role of M&A under each eventuality. Our point of view covers not only the general volume of M&A we predict to occur, but also which types of firms potentially would be advantaged, disadvantaged or at risk from an M&A perspective. Table 2 summarizes our views on the general level of M&A activity.

Table 2

Accenture view of future M&A activity

Degree of overall M&A activity To achieve…

Characterized by…

Survival ofthe Fittest

High

Security of supply Security of demand Relationships

Investment

Skills and technology NOCs looking to expand abroad

Private equity investment shifts to emerging economies

Common Ground

Medium

Investment Geographic and portfolio diversification

Skills and technology NOC-IOC joint ventures

Acquisition of downstream assets

Tempestuous Times

Low-medium

Security of supply

Security of demand Relationships Geographic and portfolio diversification

Skills and technology Means to scale in stable geographies

Worlds Apart

Low

Security of supply

Scale for growth and cost savings

Portfolio diversification Domestic scaling deals

Limited oil field services consolidation

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Scenario 1: Survival of the Fittest

In keeping with the highly competitive environment suggested by the Survival of the Fittest scenario, the degree of M&A activity is predicted to be at a “High” level in order to secure supply and demand, establish relationships, capitalize on investment opportunities, and acquire additional skills and technical capability. M&A in a Survival of the Fittest world is characterized by NOCs looking to expand abroad and by private-equity activity similarly moving toward the new emerging economies. The specific types of firms we believe would be advantaged, disadvantaged or at risk from an M&A perspective under this scenario are illustrated in Table 3.

Table 3

Firms advantaged, disadvantaged and at risk under Survival of the Fittest scenario

Advantaged

Disadvantaged

At risk

Survival of the Fittest

•NOCsfromresource-richandhigh-demandcountriespartneringwitheachother•Cash-richNOCsandprivateequityfirms•IOCsusingjointventuresandassetswapstocreateinnovativedealstructureswithNOCs•IOCsthatacquireindependentandmidsizeupstreamcompaniesinstableregions•Alternativeenergyandrenewables•Midstreamcompanies:LNGshipping,gasdistributionandtransportationcompanies•Largeroilfieldservicesprovidersfromemergingeconomies•Unconventionaloilfieldservicescompanies

•Smallandmidsize/independentcompaniesinstableregions•Smallandmidsizeemerging-marketoilfieldservicescompanies

•IOCstargetedbyNOCslookingtoexpandmoreaggressively

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Scenario 2: Common Ground

In keeping with the harmonious and collaborative environment suggested by the Common Ground scenario, the degree of M&A activity is predicted to be at a “Medium” level in order to capitalize on global investment opportunities, enhance geographic and portfolio diversification, and acquire skills and technical capabilities. M&A in a Common Ground world is characterized by NOC-IOC joint ventures or asset swaps, acquisition of downstream assets in emerging markets (by other energy firms or private equity), and oil field services scale-for-growth plays. The specific types of firms we believe would be advantaged, disadvantaged or at risk under this scenario are illustrated in Table 4.

Table 4

Firms advantaged, disadvantaged and at risk under Common Ground scenario

Advantaged

Disadvantaged

At risk

Common Ground

•IOCandNOCcollaborations•IOCswithaccesstoLNGskillsandgasassets•Locallyintegratedlargeoilfieldservicesfirms•Localsuppliersincloseproximitytooilandgasoperations(suppliersofchoice)•Midstreaminfrastructurecompanies:LNGshippinganddistribution•Privateequityfirmswithanemerging-market,energyfocus

•Independentdownstreamplayersinemergingmarkets•SmallandmidsizeLNGproducers/transporters•Smalloilfieldservicescompanies•Alternativeenergycompanies•IOCstargetedbyNOCslookingtoexpandmoreaggressively

•IOCstargetedbyNOCs•EuropeanandNorthAmericanindependentdownstreamcompanies(forexample,refiners,

retailers) targeted by Asian and Russian NOCs•Midsizegasplayers(inthelongerterm)wholacksufficientcapitalresourcestosurvive

the lengthy planning and consultation timelines to environmentally upgrade plants

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Scenario 4: Worlds Apart

Given the isolationist and nationalist tendencies in the Worlds Apart scenario coupled with a depressed economic environment, the degree of M&A in this scenario is predicted to be “Low” as companies look to achieve security of supply, scale for growth and cost savings, and portfolio diversification. M&A in Worlds Apart

is characterized mainly by deals done by NOCs or IOCs to achieve domestic scale. There may also be some limited activity in oil field services as the stronger firms consolidate to survive. The specific types of firms we believe would be advantaged, disadvantaged or at risk under this scenario are illustrated in Table 6.

Table 6

Firms advantaged, disadvantaged and at risk under Worlds Apart scenario

Advantaged

Disadvantaged

At risk

Worlds Apart

•Nationalchampions•Small,nimbleoilcompaniesinsmallmarkets

•Privateequityfirms•Gasanddownstreamplayers•Alternativeenergy

•Oilservicescompaniesatriskofclosureorbecomingconsolidationtargets•Independentdomesticoilcompaniestargetedbynationalchampions•NOCsandIOCsatriskofnationalizationorreprivatization

Scenario 3: Tempestuous Times

In keeping with the highly disruptive and unstable environment suggested by the Tempestuous Times scenario, the degree of M&A activity is predicted to be at a “Low-Medium” level because companies will be looking to achieve security of supply and demand and geographic and portfolio diversification, and to build relationships and acquire

skills and technical capability. M&A in a Tempestuous Times world is characterized by IOCs and midsize companies looking to scale in stable geographies. The specific types of firms we believe would be advantaged, disadvantaged or at risk from an M&A perspective under this scenario are illustrated in Table 5.

Table 5

Firms advantaged, disadvantaged and at risk under Tempestuous Times scenario

Advantaged

Disadvantaged

At risk

Tempestuous Times

•NOCsfromresource-richandhigh-demandcountriespartneringwitheachother•IOCswithadiversifiedgeographicfootprinttomitigatesecurityrisks•Unconventionaloilfieldservicescompaniesinstable,matureregions•Oilfieldservicescompaniesofferingsecurityservicesacrossallpartsofthevalue

chain (for example, asset and personnel security, data protection software)

•Alternativeenergy

•Independentsinstable,maturemarketstargetedbyIOCs•Smalloilfieldservicescompaniesinstableand/orinunconventionalareas

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Section 4: Distinctive capabilities required to compete in each scenario For energy companies to respond to the challenges raised in each scenario, greater focus needs to be placed on developing a variety of capabilities. As has been seen with other industries, those that become successful in finding and integrating new businesses will be rewarded by analysts and shareholders. As a result,

companies with M&A expertise will have advantages in bidding for targeted businesses against their competitors because they will be able to pay for and absorb higher premium costs. In addition, the new business, once integrated, can benefit from other essential skills possessed by the successful buyer, such as local content knowledge, gas expertise and process excellence. Accenture’s research-

based knowledge and experience with hundreds of companies around the world over many years in assisting with M&A and business-improvement programs have enabled us to identify a number of distinctive capabilities needed to position a company for the future and for high performance. These capabilities are listed in Table 7 and described in further detail in the sections that follow.

Table 7

Distinctive capabilities needed to respond to future energy scenariosSkills and capabilities

M&A strategy, screening & target assessment

M&A transaction making (deal structuring) M&A: Post-merger integration Country-facing strategies Local content

Portfolio management Gas knowledge and expertise Standardization/process excellence

Survival ofthe Fittest Jointventuresandasset swaps

Negotiation

Unconventional technologies

Common Ground

Relationship management

Locally tailored operating models (particularly oil field services)

LNG

Tempestuous Times

Negotiation Unconventional technologies

Worlds Apart

Highly appropriate

Appropriate

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M&A capabilities Merger and acquisition capabilities are essential in all four scenarios. These capabilities will play a relatively minor role in the Worlds Apart scenario because government nationalization of energy assets will dominate compared with the small number of domestic scaling dealscompleted;butevenso,itwill be integral for firms to have an understanding of M&A within their overall growth strategies. In the remaining scenarios, energy companies should seek to develop capabilities at all stages of the deal life cycle, including:•M&A strategy, screening and

target assessment: Identifying winning opportunities to grow and/or transform the company through inorganicmeans;distinguishingreal and achievable synergies from transactions;understandingandmanaging risks to build a balanced portfolio.

•M&A transaction making: Deal structuring—that is, ensuring the “right transaction” is done at the “right price” and the “right time.”

•Post-merger integration: Capturing value and synergies, understanding cultural implications and building on lessons learned.

Other suggested capabilities for companies to build within the M&A space include:•Corporate restructuring: Increasing

shareholder value by dramatically changing the way the business operates.

•Divestitures: Successful divestiture depends on a structured plan, timely execution and clear stakeholder communications.

Country-facing strategy and local content skillsThe necessity to collaborate with emerging-economy stakeholders in three out of four of the scenarios highlights the importance of building strong government and

community relationships as well as local workforces. In the Survival of the Fittest scenario, the strength of capital market influence makes it, relative to the Common Ground and Tempestuous Times scenarios, more difficult to institute measures with longer-term payoffs such as localization. However, companies that strictly focus their operations in mature but politically stable areas are disadvantaged in this scenario, and those that can effectively partner and build relationships within emerging economy nations will be better placed.

Companies that develop strong country-facing strategies to maximize their footprint in a way that benefits both them and the host nation will be able to build more enduring and sustainable relationships. Offers to nations should include understanding government and state entity relations, national supplier and workforce development, community and social development, integration with standards/processes, and public relations and communication.

Effective transformation of a local workforce requires a comprehensive approach that addresses the larger context in which the workforce operates. This approach comprises three elements:•Developingalocalworkforceto

support operations. •Leveragingaglobalworkforcewhere

possible;thisisvitalin the transformation and ongoing

success of a local workforce.•Fosteringsustainablelocal

businesses;thiscomplementsstrengthening the local workforce.

Portfolio management skillsPortfolio management is an essential capability to build as all companies grow and expand. Conditions in the Tempestuous Times scenario will force many firms to operate mostly within their own borders, requiring that they have robust, sustainable

domestic portfolios to solidify their core businesses. Businesses that do succeed at the global level in this scenario are those that build a balanced geographic portfolio flexible enough to withstand any economic or political shocks from individual regions.

Understanding product strategy (markets, customers, products, competitor landscape), budget and resource availability, and assessing profitability/reward against investment and risks are important components of good portfolio management. One key to building a balanced, sustainable portfolio is ensuring that assessments are not simply based on financial models, but also pay attention to how the portfolio aligns with the

organization’s strategy.

Knowledge and expertise in gasGas will be a key area for market focus and position in the Survival of the Fittest and Common Ground scenarios. To succeed in this fast-changing environment, companies must have effective hedging and risk-management strategies. The growth of LNG, allowing for gas to be easily shipped around the world, will create a global gas market. Strong demand will prompt national oil and gas companies to compete globally with the energy and utility majors currently dominating regional markets. Understanding global demand, the growing competition for service provision to high-demand economies, and the long cycle for LNG infrastructural development will differentiate those companies that can profit from this growth area from those that may be forced to the sidelines.

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Standardization and process excellenceStandardization results in reduced redundant work processes, improved resource sharing and smoother implementation of new initiatives. Operational excellence consists of continuous improvement involving assets and equipment, standardized and robust processes, and competent people. Improvement in these areas allows companies to capture additional value through efficiencies and ultimately to become safe, sustainable organizations that can operate under any potential scenario. Capabilities that allow companies to benefit from improved operational and financial performance across the value chain include asset management, integrity management, process safety management, people and processes, effective leadership, and the underlying technology systems.

Energy players across all of the scenarios will need to become more cost-effective due to, in some cases, intense competition from industry peers operating in the same geographic areas and, in other cases, higher-cost structures. All energy players need access to accurate, timely information to compete profitably in an increasingly complex and demanding industry.

SummaryThere are many statistics that point to the rate of failure of past business combinations. Thus it is important for energy players to understand the key challenges across the range of possible futures and proactively build robust skills and capabilities that will help increase their likelihood of

success. Accenture believes many of the skills and capabilities identified in this paper are not only critical in generating high performance today, but will also be critical tomorrow regardless of the scenario outcome. Players participating in the energy future create greater chances to win by perfecting these capabilities now.

Accenture’s High Performance Business research program has spanned 36 industry segments and covered more than 6,000 companies, including some 500 that meet our criteria as high performers. This ongoing research looks at the nature of high performance, and the approaches and actions that businesses take to achieve high performance. It is providing unprecedented insights into the characteristics and practices that help organizations outperform their peers and achieve sustained results over the long term.

Through our research efforts, we have identified three key building blocks of high performance: •Marketfocusandposition.High-

performance businesses maximize growth opportunities and economic structural advantage by striving for optimal scale within their industries. These businesses better understand the dynamics of their industries than their peers and successfully manage

the creation of value through appropriate market strategies. Such strategies lead to value creation by enabling high-performance businesses to identify and forcefully enter attractive markets, to build and manage powerful portfolios, to exploit positioning advantages in the value chain and to achieve optimal scale.

•Distinctivecapabilities.Thefocusis on creating and exploiting a set of distinctive, hard-to-replicate capabilities that delivers the promised customer experience, while simultaneously driving the most efficient use of assets. High-performance businesses are clear about what capabilities really matter to delight their customers. They understand the need to build distinctive capabilities that are demonstrably better, and in the short term, are unmatched by their competitors. This includes mastering technical capabilities to maximize differentiation. At the same time, they excel at innovating and

The three building blocks of high performance extending their mastery across their business model.

•Performanceanatomy.Thefocusis on creating cultural and organizational characteristics that power companies in their goal of out-executing the competition. Performance anatomy comprises a set of organizational “mindsets” that exist in a way that are measurable and immediately actionable by organizational leadership.

These mindsets are: •Executionexcellenceandsuccessful

market creation must be balanced. •ITisastrategicasset.•Talentanditsimpactcanbe

multiplied, making workforce productivity a key execution differentiator.

•Performancemeasurementmustbebroadly inclusive, yet highly selective in its focus and metrics.

•Continuousrenewalisarealandpermanent necessity within a high-performance business.

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Section 5: Will the M&A patterns of the past reoccur in the future?Looking at today’s M&A landscape through a different lens is not the norm for most companies. Yet, our research points to the need for organizations to rethink their approach to M&A and reconsider what additional capabilities need to be developed or enhanced. The M&A environment is becoming more competitive and complex. Companies will need to prepare to compete with firms driven by varying motivations. What deals should your organization pursue? Are you prepared to win the deals that matter to your organization? Do you understand why your competitors are doing deals differently? How can you position yourself to be more attractive for particular partnerships? These are some of the questions our scenario analyses attempt to answer and provide a foundation for companies as they prepare for the future.

M&A activity will always exist in some fashion in the energy industry. Even in a “worst-case” scenario such as Worlds Apart, a small amount of domestic consolidation would still be predicted. Ironically, the type and focus of that consolidation would mirror M&A activity in the late 1990s/early 2000s in most respects except for its lack of cross-border participation.

The very use of scenario analysis means that the future is uncertain. Thus there is no guarantee about what level of M&A activity will occur in the future or who will be involved. However,

as events unfold and demonstrate characteristics of a certain scenario, we believe firms can make an educated guess regarding what type of M&A activity may occur and the type of company that may be involved. More important, our scenario analysis also enables industry players to determine how, and if, they themselves wish to participate in the future.

Currently, the desire for access to resources ranging from the conventional to unconventional (such as oil sands or coal-bed methane) and alternative energy is driving much of today’s M&A activity. As a consequence, oil field services are looking to M&A as a way to grow quickly and meet the demand for further exploration and production. European refiners are undergoing a purchasing trend similar to that of their US counterparts (the rise of independent ownership). Whether all of these trends continue will depend on economic, geopolitical and environmental drivers.

Already we are seeing issues in the US subprime market that could affect not only private equity access to easy liquidity but also, more fundamentally, the economic growth of the developed (if not global) economies. Other issues such as the repercussions of the Iraq war on the stability of the Middle East or the growing use of energy resources to reassert geopolitical power (for example, Russia, Venezuela) could rapidly change the underlying global environment and affect existing

M&A patterns. Then, of course, there is climate change. The actions governments and firms are forced to take could also affect M&A over the short and medium term.

We believe that by reviewing and understanding historical M&A activity in the energy industry, energy and non-energy players can gain a better understanding of how the M&A landscape has changed dramatically and what motivates deals today. This perspective enables companies to recognize that the way they currently play the M&A game most likely needs to change. While no one can predict the future, our analysis of four possible scenarios aims to help companies understand how events in the future may unfold and what steps can be taken to better respond to the evolving M&A environment. To achieve high performance going forward, Accenture believes, organizations will need to adopt new strategies and mindsets as well as develop distinctive capabilities.

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At Accenture, we have helped hundreds of clients realize high-performance objectives by helping them through the merger and acquisition process. We offer deep industry and functional expertise through a global network of more than 2,000 strategy professionals. Accenture’s distinction is that we can provide assistance and expertise through the entire M&A life cycle—starting before the deal and continuing through merger integration. Most important, our knowledge is based on deep industry expertise, not theoretical constructs.

Accenture has provided M&A support in more than 400 deals during the past five years, including some of the most challenging M&A engagements in the energy sector. Our track record for delivery stretches back to the beginnings of the “supermajor era.” Accenture’s Energy industry group operates across 30 countries. We serve approximately 90 energy clients globally, including major international, independent and national oil companies, many of which are in the Oil&GasJournal100.

Accenture’s M&A work has been focused on pre-deal M&A and transaction support and in helping plan and implement pre-deal and

post-close merger integration. Our M&A/merger integration professionals offer in-depth expertise in the following areas:•Corporatestrategy•Transformation•M&Astrategy•Pre-dealanalysis•Mergerplanningandintegration•Mergerintegrationcapability

development•Divestitures•Shareholdervalueanalysis•Alliancesandjointventures

Accenture collaborates with companies to help exploit every source of value from a merger or acquisition, and brings a track record of delivering value with merger integration projects, in particular. To deliver this value, Accenture applies innovative, comprehensive services supported by proprietary tools, execution-driven playbooks, and proven approaches and methodologies (including Accenture’s Merger Integration Toolkit Web application). These tools can help accelerate value realization and integration efforts.

Woven into our work with energy companies and other organizations are the insights gained from Accenture’s High Performance Business research. This ongoing

research looks at the characteristics of high-performance businesses, and the approaches and actions that businesses take to achieve high performance. Our High Performance Business research program has spanned 36 industry segments and covered more than 6,000 companies, including some 500 high-performing organizations. As Accenture addresses challenges with energy businesses, we think in terms of creating the high-performance business—one that can deliver sustained results and outperform its peers over the long term, across business and economic cycles.

For energy companies, the combination of Accenture’s proven experience, M&A capabilities, thought leadership, leading-edge tools and global capabilities can help deliver innovative business solutions that enable high performance.

Accenture experience in energy mergers and acquisitions

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Endnotes1. For purposes of this study, “the

energy industry” is defined as oil, gas, oil services and alternative energy.

2. “Business in a Fragile World,” Accenture report, 2002, http://www.accenture.com/Global/Research_and_Insights/Policy_And_Corporate_Affairs/TheDecade.htm.

3. DavidMowat,MarkPurdyandJulieAdams, “Managing the Unknown,” Accenture Outlook (May 2003): 47-59, http://www.accenture.com/NR/rdonlyres/F027FB46-C87B-4F7F-8FAE-71FAB5AD89C4/0/summary_energy.pdf.

4. Accenture’s definition of the energy sector includes oil, gas, oil field ser-vices and alternative energy.

5. “Business in a Fragile World,” Accenture report, 2002, http://www.accenture.com/Global/Research_and_Insights/Policy_And_Corporate_Affairs/TheDecade.htm.

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Author Andrew Smart is the Senior Executive lead for Accenture’s energy and utilities strategy practice in Europe, Latin America and Africa. Andrew has been with Accenture’s strategy practice for 14 years where his specific focus has been in the M&A and business development arena. This has involved working with both energy and utility companies to plan and execute acquisitions, divestments and joint ventures. Based in London, he can be reached at andrew.smart@accenture.com.

Copyright © 2008 Accenture All rights reserved.

Accenture, its logo, and High Performance Delivered are trademarks of Accenture.

About AccentureAccenture is a global management consulting, technology services and outsourcing company. Committed to delivering innovation, Accenture collaborates with its clients to help them become high-performance businesses and governments. With deep industry and business process expertise, broad global resources and a proven track record, Accenture can mobilize the right people, skills and technologies to help clients improve their performance. With approximately more than 180,000 people in 49 countries, the company generated net revenues of US$19.70 billion for the fiscal year ended August 31, 2007. Its home page is www.accenture.com.