What influences procurement strategy decisions in E&P industry?
It is generally accepted and agreed that adopting the right procurement strategy is a critical element in delivering projects and / or managing assets and operations. Yet the mechanics behind procurement strategy decisions and structure of a Procurement and Supply Chain Organization (PSCM) in E&P companies differs dramatically.
You see companies with robust and rigid procedures and those with very flexible and ill-defined processes. There is also a significant difference in supply chain decision trees, i.e. a very structured approach in making procurement strategy decisions, with quantitative analysis (scoring) attached to it, vs. “competitive tender” as a default method and a very transactional approach. There seems to be no “best option” answer to this and it mainly depends on the size and business culture of the company.
Is there a best way to make procurement strategy decisions and who is in a better position to make it? The decisions that will reflect risks and opportunities, objectives of a sourcing requirement and a lifecycle approach? Probably not yet, but ownership structure, size, risk tolerance, internal culture, previous experience and a drive to commoditize play a key role.
The ownership structure will dictate the degree of financial certainty and contractual liability required, e.g. Public Companies and National Oil Companies (NOC) tend to fall into the category, whereby risk transfer is the preferred option, although it is illusive in complex procurement. We tend to see a significant number of contracts that are signed in a spirit of the worth case scenario.
Size of the company makes a difference. Big companies leverage on bigger and cross geographic spent, whereas mid size and small size operators do not do it. The former would have long tern agreements and partnership arrangements, whereas the later are not able to offer same attractiveness to suppliers. What they do instead, outsource most of the procurement activities to an EPC or IPD contractor.
Risk appetite differs significantly, whereby you have stage gate approaches to minimize risk exposures, vs. sharing risks with your suppliers and achieving the most efficient allocation of risk. Subcontracting risk is an illusion.
Internal culture plays one of the key roles. In a risk-averse environment, companies tend to agree to pay a premium (up to 30% of project cost!) to transfer all the risks. Unwillingness to be innovative and flexible in PSCM, which in many cases is a direct result of looking at PSCM as merely a support function, costs a lot to companies. Internal collaboration makes a significant difference as well, be it leveraging on a bigger spend or looking at the ways to change or influence the demand for materials and services.
Experiencing certain situations as part of the previous experience is a fundamental aspect. It could be a road block and make companies strictly comply with the old way of doing things, which these days may not always be the right way, or on the other spectrum, pave the way for continuous improvement and piloting new approaches.
Tendency to commoditize materials and services as much you possibly can is another element of transactional and adversarial procurement. While the approach is good in certain cases, it is becoming less and less effective, as many operators realize and would need to acknowledge that the times of easy oil is gone and technology along cannot help. You need to better collaborate with your suppliers, as such go away from commoditizing philosophy.
What you also see is that companies tend to select different degrees of control of their supply chain depending on the complexity and value of the requirement and in-house procurement competency and resources.
There seems to be a very strong correlation between influence of PSCM in procurement strategy decisions and the monetary value. The higher the value, the more complex approval process is and less influence PSCM has in procurement strategy decision. Why is it? 1) PSCM is seen as a support function only; 2) The stereotype of “Projects department know how to do it”. 3) “This is how we do it all the time”. To put in perspective the attitude towards PSCM you see is -“We’ve done it a lot and know what the best procurement strategy is, we will let you know when we need you to do the paperwork”. While it does work great in certain cases, in the overwhelming majority, it is not.
In parallel to that, PSCM influence fades as a result of lack of clear supply chain map and decision making criteria. Hence, such procurement decisions are made in an inconsistent way and without a deliberative thought process attached to it. A balance between quantitative and qualitative components in the process is required, otherwise concentrating heavily on quantitative would result in another “tick-the-box” approach, or on the other spectrum, whereby the decisions are based entirely on intuition (qualitative) you may end up having very biased choices.
To put it in perspective....a number of times you see services that are very complex and critical, but low value - do they go up all the way approval process? No, they are simple commoditized transactions. E.g. a bad decision made on getting a contractor to study ocean swell and current ( low cost, high impact situation) may result in a multimillion dollar increase in project costs, whereby it affect the size of an offshore facility and result in massive overcapacity.
On the other extreme- procuring a complex offshore platform using Risk Transfer / Lump Sum approach, very often results on significant budget overruns and schedule delays. Because what you have is “We always get big CAPEX projects using EPCI as a contracting strategy”.
We should aim for a good match between quantitative and qualitative ingredients we put into the decision making. We need to realize that:
- Majority of transactions are lower risk than perceived
- Transferring risk is an illusion. Ultimately, all project ( or other) risks would affect the owner
- Commoditizing everything is not working
- Align objectives with your contractors and start trusting them
What are your thoughts on that?
