M A N A G E M E N T

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SUMMARYThe rapidly changing business environment of the 1990’s forced theoil and gas industry to develop new corporate and regional strate-gies to remain competitive. To support strategy development, muchattention has been given to such analytical tools as decision and riskanalysis and probabilistic modeling. Often overlooked, however, isthat a solid foundation of information and a thorough understand-ing of the underlying business environment are required for thesetools to be effective. The business-analysis process provides thisunderstanding and serves as a “hotbed” for new strategic ideas. Thispaper presents several business-analysis tools that enhance aware-ness of the business environment and provide the foundation ofinformation necessary for sound strategic modeling. Examples froma recent study show how tools, such as influence diagrams, value-chain analysis, benchmarking, competitor analysis, scenario devel-opment, and strength and weakness analysis, are used.

INTRODUCTIONDuring the early 1990’s, the energy industry underwent tremen-dous change to improve its financial performance. Most of thischange took the form of corporate and portfolio restructuring,streamlining to eliminate inefficient operations. This effort washighly effective in improving the industry’s bottom line. However,because most of the industry went through this same process, per-formance standards were, for the most part, raised uniformly andindividual companies gained no competitive advantage. Manybelieve new strategies that differentiate a company from the rest ofthe pack need to be developed to gain the advantage.1,2 Fig. 1 illus-trates a typical strategy-development process. Business analysis isan essential step in this process because it provides a solid founda-tion of information and serves as a hotbed of new strategic ideas.In a gardener’s hotbed, growth is nurtured by planting seeds in anenvironment that has the right ingredients: sunlight, heat, mois-ture, and nutrient-rich soil. Likewise, business analysis providesthe right ingredients for idea growth: a multidisciplinary team, anunderstanding of the business, and an in-depth look at both inter-nal and external business environments.

This paper outlines some industry tools and techniques used toperform business analysis and gives examples from a recent region-al strategy study performed for the San Juan basin of northwestNew Mexico. The purpose of these examples is not to describe thestrategies developed but to show how the business-analysis tech-niques were useful in generating ideas.

Fig. 2 shows that business analysis has four components.1. Getting started. Forming and grounding a study team.2. Internal analysis. Building an understanding of a portfolio and

its competitive position.

3. External analysis. Assessing the overall business setting andthe competition.

4. Analysis roll-up. Fitting the pieces of business analysis into acohesive picture.

GETTING STARTEDThe first step in the business-analysis process is to assemble thestudy team. Collectively, the team should have the following attrib-utes: knowledge of key business segments, multidisciplinary skills,regional and global perspective, diversity of information processingand planning styles, mix of asset and nonasset team members, andautonomy from day-to-day asset responsibilities. Building a teamwith these qualities facilitates an objective perspective of the entirebusiness and helps create an environment where challenging andvarying ideas can be expressed.

Briefings and Influence Diagram. To begin working together as ateam, a common level of knowledge and understanding must beachieved. This is necessary because experts in a discipline or busi-ness segment seldom have a complete understanding of the entirebusiness. Once gained, the shared knowledge facilitates break-through insights. Effective ways to develop common understand-ing are through concise business-segment briefings and creation ofan influence diagram. Briefings presented by team members orbusiness-segment experts (such as contract administrators and taxaccountants) convey general business knowledge and historicalperspective.

Construction of an influence diagram3 systematically breaksdown and helps structure the complexity of the business. Key deci-sions, uncertainties, and their relationship are modeled. Fig. 3, theSan Juan basin influence diagram for conventional gas production,shows elements of production capability, opportunities, cost, andrevenue. Creating the influence diagram serves two important pur-poses. First, it serves as an “ice breaker” for the newly formed team,providing a nonconfrontational environment in which memberscan become acquainted with personality and communicationstyles. Second, it serves as an orientation by broadening the busi-ness view of each member.

INTERNAL ANALYSISInternal business analysis is aimed at assessing the strengths, weak-nesses, and capabilities of business segments through a process ofanalyzing elements that drive profitability: portfolio makeup, rev-enue, costs, royalties, taxes, and competitive position. Benchmarkingand value-chain analysis are tools the strategy study team uses tomeasure near-term performance and gauge long-term potential.

Benchmarking. Benchmarking, a widespread practice outside thepetroleum industry, has been embraced as a tool to gauge compet-itive strength. Analytical measures, or metrics, are derived to com-pare the relative performance of companies. Benchmarking studiestypically are conducted by industry consultants because of com-

BUSINESS ANALYSIS:A HOTBED FOR STRATEGY IDEASPaul Menghini, SPE, and Roy Stang, SPE, Conoco Inc.

Copyright 1998 Society of Petroleum Engineers

Original SPE manuscript received 5 October 1997. Paper (SPE 38778) originally presented atthe 1997 SPE Annual Technical Conference and Exhibition held in San Antonio, Texas, 5–8October. This paper has not been peer reviewed.

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petitive concerns and antitrust issues. These blind studies are com-monly organized to measure cost of operations and investments ona unit basis. Because of expense and the need for a representativenumber of participants, most benchmarking studies have beennational or regional studies that cover diverse portfolios.

Internal analysis of operations in the San Juan basin began byevaluating a regional benchmarking study. As the strategy teamworked through study metrics, inconsistencies in operating-costdata became apparent. The team suspected that the regional studyof the San Juan basin was too conglomerated to characterize prop-erties within the basin adequately. Because the study was blind,obtaining more data or additional detail on the input values fromthe study consultant was not possible. To acquire the neededinformation, the team created an in-house benchmarking studyusing lease-operating statements from company- and partner-operated properties.

Fig. 4 represents metric data that would result from a conglom-erated regional look, and Fig. 5 represents data where asset typesare distinguished. The conglomerated regional metric indicatesincreasing cost of operations from Company A, the lowest, toCompany D, the highest. However, when split between coalbedmethane (CBM) and conventional gas production operations, therelative positions for Companies B, C, and D change. Relying onregional data, Company B would have drawn erroneous conclu-sions about its performance as a lower-cost operator. In the SanJuan region, metrics are heavily influenced by the percentage ofCBM and conventional gas production in the portfolio. CompanyB’s low regional metric is the result of a large amount of CBM pro-duction, which costs less to produce than conventional gas. In real-

ity, Company B’s conventional costs are significantly higher thanthose of comparable operations and in the lower performancequartile for that asset type. Moreover, if Company B relied solely onregional metrics, it would not know where to focus efforts toimprove operating costs.

Further subdivision of company-operated data again demon-strates how a regional study can be misleading. Individual com-pany operating practices were believed to be the key driver tolow-cost operations, but analysis shows that a wide range of per-formance levels exist within the portfolio (Fig. 6). A number offactors, such as development opportunity, location, multizonecompletions, dual completions, and well density, contribute tothis variation.

In summary, benchmarking provides valuable insights but mustbe used with caution. While regional results can provide a very-high-level indication of competitive position and strength, they canbe misleading and cause erroneous conclusions. Greater accuracycan be achieved by subdividing regional portfolios into smaller,more comparable asset groups. Partner-operated-property data areuseful but require more work to analyze and use correctly.

Value-Chain Analysis. The value-chain-analysis tool helpsidentify where value is created, the linkage between segments,and the potential benefits of integration. The tool has processesand methodologies to break down margins in detail within spe-cific business segments.4 The strategy study team used this toolto assess the financial margin in each business segment fromE&P through gas marketing (Fig. 7). The team only took a high-level look, but this was sufficient to gain a perspective on thesegment margins. Information of this nature helped the team setrealistic expectations of the potential contribution of the busi-ness segments. For example, the analysis revealed that emphasison marketing efforts alone would not lead to dramatic growth inthe region.

Fig. 1—Business analysis is part of a strategy process.

Fig. 3—Influence diagram—conventional production; Capex=capital expenditure and Opex=operating expenditure.

Fig. 2—Components of business analysis.

Fig. 4—Benchmarking: comparison of gross regional productiondata; BOE=barrels of oil equivalent.

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EXTERNAL ANALYSISExternal analysis, the macro view of the business environment,completes the picture beyond the company’s own portfolio and isused to gain insight into the future direction and opportunities inthe basin. The following elements must be considered.

1. Chronology of events and production history of the basin.2. Remaining reserves potential in the basin.3. Technology development.4. Basin infrastructure: gathering, treating, and processing busi-

nesses.5. Gas market supply and demand.6. Competitors.7. Government policy and regulations.8. Industry attractiveness.

Production History, Reserves, and Technology. An industrydatabase was used to construct the basin production history andreserves picture. Remaining basin potential was estimated inter-nally and validated by use of such resources as the U.S.Geological Survey resource assessment.5 Study of the basinreserves and production history gave a number of insights. Thestudy showed that the CBM play is a recent phenomenon com-pared with conventional production (Fig. 8). CBM production,spurred by discovery of a high-rate-production fairway and theincentive of a federal tax credit, jumped from 0.4 Bcf/D in 1990to 2.2 Bcf/D in 1995, more than doubling the total productionoutput of the basin. The influence of this production buildup wasfar-reaching, impacting infrastructure, basin gas supply, and gasprices. Strategic considerations need to take into account howlong CBM production will continue to climb. A review of the

plays in the basin revealed that most are very mature. Althoughexploration potential still exists in the mature plays, a realisticexpectation would be that future discoveries would be relativelysmall. However, a few plays remain relatively untested, offeringgreater probability for substantial discoveries.

In assessing the remaining potential of the basin, consideringthe impact of emerging technology is very important. For exam-ple, recent breakthroughs in horizontal drilling and three-dimen-sional seismic imaging have dramatically rejuvenated manymature U.S. basins. While quantifying this impact is difficult, onecan at least qualitatively identify areas where new technologycould transform assets from marginal to robust opportunities. Inthe San Juan basin, CBM fracture technology and enhanced recov-ery methods are two examples of technology applications that theteam considered.

Infrastructure. References for basin infrastructure data were limit-ed. Most of this information came from internal knowledge of thebasin’s system capacity, percent utilization, age, efficiency, andremaining life. Data from company-owned gathering and process-ing businesses contributed heavily to this effort. By combining theknowledge of the gas-production history, potential, and infrastruc-ture capacity, the study team could forecast future infrastructureneeds. This allowed the team to explore various potential out-comes, such as whether further expansion of the infrastructurewould be required or whether declining production would lead toconsolidation of gathering systems, treating, and processing plants.

Gas Markets. To evaluate the impact of gas markets on the SanJuan basin, it was necessary to understand the broader North

Fig. 5—Benchmarking: comparison of production data split byreservoir type.

Fig. 6—Benchmarking: comparison of portfolio operating costsby asset type.

Fig. 7—Value chain.Fig. 8—San Juan basin gas production, conventional andcoalbed methane.

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American supply-and-demand picture because events outside thebasin have a profound impact on the demand for San Juan gas.Market-supply-and-demand analysis outlooks are readily availablethrough numerous consulting services. Looking at the past revealedthe cyclic “boom-and-bust” pattern of prices (Fig. 9) and allowedcorrelation of major price fluctuations to changes in supply anddemand. By considering future changes in supply-and-demandconditions, a price-forecast range could be developed. The marketanalysis also helped the team evaluate a number of investmentopportunities, including a pipeline proposal to increase capacityout of the basin.

Competitors. Competitor data were generated from a mix of pub-lic and internal information. Although a wealth of information on

companies exists in the public domain in the form of annualreports and press releases, most of this information is not specificto a geographic region, such as the San Juan basin. Therefore, itwas necessary to use team-member knowledge of competitors tobackfill gaps in the data. A survey questionnaire (Fig. 10) wascondensed from published sources6 to help facilitate discussion.Surprisingly, the survey information gathered from a broad groupof asset-team members gave a fairly complete picture of the keycompetitors. Beyond merely compiling the factual productiondata, the competitor analysis provided insight into potential part-ners and acquisition targets as well as competitor response tostrategic moves.

Government Policy and Regulation. Similar to competitoranalysis, government policy and regulation issues were dis-cussed with internal resources and industry consultants. Keyareas of concern were electricity deregulation, emission controls,gathering-system regulation, and government support of newpipeline construction.

Industry Attractiveness. A further step in the external analysiswas to assess attractiveness of each industry segment to helpdetermine where to focus investment. The five forces model7 wasused to evaluate the attractiveness of E&P, gas-gathering, gas-treating, and gas-processing business segments in terms of threatsof new entrants, industry competitors, threat of substitutes, bar-gaining power of suppliers, and bargaining power of buyers. Fig.11 shows a sample of the industry-attractiveness evaluation forthe E&P business segment. The model indicates that the businessis moderately unattractive, typical of a commodity business withfew barriers to entry and stiff competition. While an unattractive

Fig. 9—Nymex/San Juan gas price history (constant 1997 U.S.dollars).

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rating does not necessarily indicate that the business should beexited, it does indicate that investments are unlikely to yieldreturns that are better than the cost of capital unless a nicheopportunity or competitive advantage can be found. The signifi-cant value of the industry-attractiveness assessment is that itforces the study team to think about aspects of the business thatare normally ignored (e.g., barriers to entry, threat of substitutes,and impact of buyers and suppliers).

ANALYSIS ROLL-UPThe final group of tools synthesizes prior analyses and adds a newdimension to the thinking process by consolidating learning, devel-oping broader perspectives, and assessing the driving forces ofchange. Two of the tools are forward looking, focusing on externalevents or occurrences. The third tool concludes the business analy-

sis by combining historical data, current competitiveness, andfuture outlook.

Political, Economic, Sociological, and Technology (PEST)Analysis. A PEST analysis assesses events that could affect thebusiness. The fundamental goal of this tool is to envision possi-ble events or outcomes that may occur in the respective PEST cat-egories. Brainstorming extreme outcomes develops a broad rangeof possibilities that could cause significant change. Events andpossible actions are then graded or ranked in a matrix of impactvs. the likelihood of occurrence. Those elements with a highprobability of both occurrence and impact merit further studyand consideration when developing and assessing the viability ofstrategic alternatives. Fig. 12 is an abbreviated San Juan basinPEST analysis. When compared with many non-U.S. operations,

Fig. 11—Five forces model—San Juan basin E&P business seg-ment (adapted from Ref. 6). Fig. 12—San Juan basin PEST matrix.

Impact

Fig. 10—Competitor analysis survey questionnaire (adapted from Ref. 6).

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the onshore U.S. oil industry is viewed as a stable environment.However, the analysis shows that several possible political orsociological events have both a high probability of occurrenceand impact. The CBM tax credit is a vivid example of a past polit-ical action with far-reaching effect on San Juan basin gas supply,demand, and prices.

Scenario Development. Scenario development carries the idea-gen-eration element one step further. This tool is used to stimulate think-ing on possible future states of the business or industry. The exercisebegins with identification of two key uncertainties and creation offour future scenario quadrants. A description of the business envi-ronment is built for each quadrant by considering the extreme out-comes of the two uncertainties. Thinking in terms of radical depar-ture from the status quo is encouraged to ensure consideration of abroad spectrum of outcomes. Fig. 13 shows a scenario developmentfor San Juan basin CBM. Uncertainties modeled are tax credit andlevel of production. Once the scenarios are built, strategies can bedeveloped that take into account the key events that could influencemoves toward a given scenario and the internal actions or decisionsthat could be made to ensure business profitability for a given out-come. Monitoring key early-warning indicators over time reveals thedirection in which the business environment is moving.

Strengths, Weaknesses, Opportunities, and Threats, (SWOT).SWOT focuses on the underlying soundness of the existing businessand identifies the external forces acting against it. Strengths andweaknesses address how well-positioned a company is to deal withthe external environment by identifying both those elements thatgive strength and competitive advantage to the business and thosethat are the most vulnerable. External environmental and competitorinfluences are represented in opportunities and threats categories.Fig. 14 is a condensed version of the SWOT developed by the SanJuan basin strategy study team. As the final or summary tool, SWOTis the link to the next phase of strategy development. Successfulstrategies leverage strengths and opportunities and minimize conse-quences of threats posed by the external business environment.

CONCLUSIONSProperly done, business analysis provides a comprehensive frameof the issues faced in a strategy study. Benefits of business analysisare an accurate assessment of past performance and a solid basis forfuture projections; a common level of understanding within theorganization of opportunities and threats; and creative ideas andinsights beyond traditional opportunities.

ACKNOWLEDGMENTSWe thank Conoco Inc. for permission to publish this paper and allthe individuals who supported its preparation and review.

REFERENCES1. Steinhubl, A.M.J.: “Capturing the Potential for Breakout Performance,”

JPT (April 1996) 337.2. Porter, M.E.: “What is Strategy?,” Harvard Business Review (November–

December 1996) 61.3. Celmen, R.T.: “Structuring Decisions,” Making Hard Decisions—An

Introduction to Decision Analysis, Duxbury Press, Wadsworth PublishingCo., Belmont, California (1991) Chap. 3, 34–64.

4. Porter, M.E.: “The Value Chain and Competitive Advantage,” Com-petitive Advantage, Free Press, New York City (1985) Chap. 2, 33–61.

5. “1995 National Assessment of United States Oil and Gas Resources,”Digital Data Series, D.L. Gautier et al. (eds.), U.S. Geological Survey,Washington, DC (1996) 30, 35, and 36.

6. Porter, Michael E.: “A Framework for Competitor Analysis,” CompetitiveStrategy, Free Press, New York City (1980) Chap. 3, 47–73.

7. Porter, Michael E.: “The Structure Analysis of Industries,”Competitive Strategy, Free Press, New York City (1980) Chap. 1,3–33.

SI METRIC CONVERSION FACTORSbbl ↔ 1.589 873 E−01 =m3

Btu ↔ 1.055 056 E+00 =kJft3 ↔ 2.831 685 E−02 =m3

Paul Menghini, a staff engi-neer in Conoco’s Mid-Continent Business Unit inMidland, Texas, is the facili-ties engineer for the WestPanhandle (Texas) gas field.He has been with Conoco

since 1975 in U.S. and non-U.S. assignments that includestrategy studies, benchmarking, portfolio management,and production engineering and supervision. Menghiniholds a BS degree in civil engineering and an MS degree inindustrial management, both from the U. of Wyoming. Heserved as Director of the Oklahoma City Section during1991–92. Roy Stang is a staff engineer in the Strategy andPortfolio Management Group in Conoco’s Mid-ContinentBusiness Unit in Midland, where he coordinates asset strat-egy studies. He has 17 years’ experience in U.S. and non-U.S. engineering and business-development assignments.Stang holds a BS degree in chemical engineering from theU. of Pittsburgh.

Fig. 13—Scenario development—CBM.

Fig. 14—SWOT.