Executive Summary
The purpose of this management report will be to focus on the business strategy of a particular industry. The industry will be identified and discussed in the introductory part of the report and the various firms that operate within the industry will be identified. An analysis of the industry will be conducted through the use of Porter’s Five Forces model for industry analysis.
From the analysis, the key drivers that influence strategic thinking and profitability within the industry will be identified and discussed. The sources of competitive advantage within the industry will also be identified during the discussion. Strategic options that a firm within the industry can be able to adopt as well as an assessment of the implementation risks associated with the strategic options will also be discussed in the management report.
Introduction
The industry that will be focused on in the management report will be the global petroleum or oil industry that is responsible for the production of petroleum and oil products. The main processes that are conducted by the oil industry involve the exploration, production and refining of oil and natural gas to be marketed and sold to various countries around the world. The main products that are manufactured by the oil industry around the world include oil, natural gas and petroleum with petroleum being used to produce other commodities such as fertilizers, chemical pesticides, plastic equipment, pharmaceutical products and chemical solvents.
Before the oil industry was established, petroleum was used in its unrefined state for domestic and lighting purposes for over 5000 years. This unrefined petrol was extracted from naturally occurring rock formations to be used for mostly lighting purposes. According to Persian history, petroleum was used for medicinal purposes as well as for illumination and warfare. The ancient Chinese used petroleum for lighting purposes as well as for warfare. The first petroleum industry was established in the 8th century in Baghdad, Iraq with the oil fields within the Baku and Azerbaijan regions of Iraq being exploited during the 9th century (Frank 2005).
The importance of the oil industry in the world continued to evolve slowly over the centuries as many people around the world relied on coal and wood for the energy source. The industrial revolution however increased the use of oil and petroleum products as a source of energy and power in many of the industries that were established during the revolution. Research was conducted on other forms of energy that could be used in the industries apart from coal and whale oil. The discovery that kerosene could be extracted from crude oil created a demand for petroleum or oil products in many of these industries and by the 20th century, oil had become the most valuable commodity in the global world (Frank 2005).
The oil industry accounts for a large percentage of the world’s energy consumption in many countries around the world. There are many companies within the oil industry that are involved in oil extraction, refining and marketing activities with some of the most common being British Petroleum (BP), Chevron, Shell, PetroChina, Total and ExxonMobil. 80% of the world’s oil and natural gas reserves are controlled by national oil companies while 15% of the world’s total supply is controlled by the major oil companies within the oil industry such as BP, Shell and ExxonMobile (BBC 2008). The diagram below demonstrates the distribution of oil and natural gas products amongst 50 of the largest oil companies in the world.
Objective of the Report
The objective of this report is to analyse the current competitive environment of the oil industry by focusing on the various competitive environments that exist within the oil industry. The analysis of the industry’s competitive environment will lead to the identification and determination of key industry drivers that enhance the strategic thinking and planning of companies within this industry. The industry analysis of the competitive environments will also ensure the key drivers that are necessary for profitability within the industry have been identified and discussed. The industry analysis will also pave the way for the identification of sources of competitive advantage that exist within the industry and how these sources affect the profitability of companies.
Structure of the Industry
There are five sectors that make up the structure of the petroleum industry and these sectors include the upstream sector which is concerned with exploration and production activities, the downstream industry sector which deals with the refining and marketing of petroleum, the pipeline sector which deals with transportation, the marine sector and the service supply sector. The upstream sector within the petroleum industry deals with the exploration and production of natural oil and gas.
The activities that fall under the upstream sector involve geological assessments of oil fields and wells that have natural oil reserves and the drilling of these fields to gain access to the oil reserves. The upstream sector also involves the use of high-tech offshore drilling platforms to produce oil and petroleum products that are used in the downstream sector of the industry. The United States, which is the world’s third largest producer of oil products, has 3,800 offshore drilling platforms and 500,000 oil wells that are based in areas owned by the country. This has enabled the US to produce over 2 million barrels of oil ever year (American Petroleum Institute 2010).
The downstream sector of the oil industry involves the refining and marketing activities for the industry’s petroleum products. Refining or refinery activities are those processes that are used to package crude oil into usable petroleum products. Oil refineries around the world are used to process more than a billion barrels of crude oil on a daily basis. These crude oil products are then marketed to the various companies that exist within the global oil industry through the use of marketing activities that are designed for petroleum products. The pipeline sector of the industry deals with the transportation of crude oil or unrefined petroleum to various oil refineries for refining operations after which the oil is transported to various oil retail outlets around the world (Journal of Petroleum Technology 2007).
The marine sector of the oil industry involves the transportation of petroleum and petroleum based products through the use of ships and shipping lines. Oil tankers are used to transport oil around the world while port operations are used to monitor oil operations in offshore drilling platforms that are based in the ocean.
Maritime fire fighting and oil spill response are segments that fall under the marine sector of the oil industry that are mainly involved in dealing with oil spill disasters in the ocean or other mainland areas involved in oil production. The service and supply sector deals with the provision of equipment that will be used for oil exploration and extraction operations in the upstream sector of the industry. The sector also provides equipment that will be used in the distribution of the oil to various retail outlets around the world (Pirog 2007).
Analysis of the Current Environment
The analysis of the oil industry is complex in nature given the changing economic situations around the world that affect the production and distribution of oil to various consumers around the world. The most appropriate model that can be used to analyse the oil industry is Porter’s Five Forces model which stipulates that any industry is influenced by five forces that are deemed to be the competitive environments of an industry. These five forces include the power of the buyer, the power of the supplier, the threat of substitutes, barriers to entry and industry rivalry. With relation to barriers of entry, various factors make it difficult for companies that are interested in joining a particular industry from entering that market (Hill and Jones 2009)
The most common barriers of entry in any industry include government restrictions and regulations, patents and intellectual property rights, economies of scale and asset specificity. With regards to government restrictions and regulations, governments require companies interested in entering the oil industry to have adequate capital to finance oil exploration and production activities as well as refinery and marketing activities.
This means that companies interested in the oil industry should have high capital expenditure requirements so that they can be allowed by the government to operate within the oil industry (Lynch 2006). The government regulations are also a barrier to entry into the oil industry as they ensure that the supply and distribution of oil is maintained at a constant rate. High government taxes and subsidies that have been placed on the production of petroleum and petroleum based products as well as the importation and exportation of oil have also made it difficult for oil firms to break into the industry (Grunig and Kuhn 2008).
Apart from government restrictions and regulations, economies of scale create a barrier to entry within the oil industry because of capital intensive nature of the industry’s operations where a large amount of capital is needed to conduct operations within the industry. This high capital intensive nature has made it difficult for oil producing companies to enter the oil industry. The minimum efficient scale (MES) has also created a barrier to entry within the industry because of the high production costs that are needed to produce and manufacture crude oil. Asset specificity is a major contributor to barriers of entry in the oil industry as it involves the use of highly specialized technology to produce different products within the industry. Asset specificity becomes a barrier when a company cannot be able to convert its assets or equipment for other uses in the event the venture fails (Kurtz et al 2010)
The average oil industry requires the use of equipment to perform the various activities that fall under the industry’s five sectors. These equipments are varied and they are in high demand for all the companies based in the petroleum industry. This means that asset specificity is high within the oil industry. Patents have also created barriers to entry in the oil industry because of the similar products produced by the various corporations within the industry. The proliferation of similar oil products in the oil market has made it difficult for intellectual property rights to be applied within the industry. The similar oil products have also made it difficult for consumers to differentiate between a company’s products in the event there is no patent (Detomasi 2008).
The threat of substitutes according to Porter (2004) is the products and services that pose a threat to a company’s products. The substitute products that can be used for energy purposes instead of oil or petroleum products include bio fuels, wind or solar power, hydro electric power and nuclear energy. These substitute products will continue to exist within the oil industry if the demand for oil and oil based products is influenced by price changes and fluctuations within the industry. To further explain this statement, the price of oil and petroleum products is constrained by the price of these substitute products whose industry which is different from the oil industry does not pose any form of competition or rivalry to oil companies within the industry (Porter 2004).
The power of buyers as described by Porter (2004) is the impact that consumers have on the products produced by certain companies and industries. The power of buyers over an industry’s products is usually high when the industry’s market has only one buyer and various suppliers. The power of the buyer comes into force when they determine and set the price of the commodity, creating a market known as a monopsony. Such a market does not exist within the oil industry and the power of buyers is nonexistent in this industry as the prices for oil and oil products are determined by the threat of substitute products, the major oil supplying countries in the world, oil availability, low product differentiation and the price of oil barrels.
The power of suppliers within the oil industry is relatively high as they are charged with the supply of crude oil to various oil companies around the world. Oil suppliers determine the price of oil and petroleum products based on the availability of oil and its supply to various countries around the world. Supplier power within the industry is usually demonstrated when petroleum is sold at a higher price than its original retail price.
This is done to capture industry profits from the various players that exist within the oil industry. The power that oil suppliers have on the price of oil is influenced by factors such as the demand for crude oil, low switching costs that exist within the industry and the few oil suppliers that exist in the world. Most of the world’s oil supply is obtained from countries such as Nigeria, Kuwait, Iraq, Saudi Arabia, Kazakhstan and Azerbaijan (World Energy Research 2009).
According to Porter, rivalry within an industry is influenced by factors such as high fixed costs, high exit barriers, brand differentiation and the various rivals that exist within the industry. The intensity of rivalry that exists within the oil industry is mostly determined by the various oil companies that exist within the market. Some of these companies include BP, ExxonMobile, Shell, Chevron and Total which have all created a sense of rivalry of within the industry because of the various products that they manufacture and produce for sale within the oil industry.
Competitive rivalry within the industry has also been determined by the prices of oil products being offered by the various companies in the industry. If a competitor changes their oil prices, all the other companies will have to adjust their prices to ensure that they do not lose their customers to the rivals within the industry (Grant 2005). The diagram below demonstrates the analysis of the oil industry’s competitive environment.
Key Drivers that influence Strategic Thinking and Profitability
Like any other industry in the world, the oil industry is subject to various drivers that influence the strategic thinking of most oil companies in the industry as well as the profitability of these companies. One of these drivers is globalization which has affected the various sectors of the industry. The oil industry is made up of some of the world’s largest multinational corporations that have their operations in many countries around the world.
Oil companies that are state owned operate within the national boundaries of their respective countries which means that they get to develop their business strategies based on a national or regional perspective. The multinational oil corporations however have to determine their business strategies from a global perspective where they have to consider the needs of the international market when exploring and producing crude oil. Globalization has been a key industry driver in the oil market as the world’s energy needs continue to grow as a result of modernization. Globalization has allowed multinational oil corporations to maximise their resources and equipment to achieve profitability (Naimi 2005).
Another key driver that has influenced the strategic thinking and profitability within the oil industry is neo-liberalism where the deregulation and privatization of oil companies around the world has strengthened the strategic thinking in oil markets. Neo liberalism has also ensured that oil companies are able to achieve profitability through the regulation of oil prices within the various oil markets that exist around the world. Market forces have been strengthened in the oil market to ensure that oil companies continue to conduct oil exploration and production activities. Apart from neo-liberalism, technology has played an important part in the global oil industry. New technological innovations within the industry have ensured that oil fields and wells that were deemed unprofitable are able to achieve profitability (Johnson and Turner 2003).
Technological innovations and improvements within the oil industry have also made it possible to improve the accessibility to oil fields and wells that were inaccessible. Technology has also ensured that the amount of oil recovered from these oil fields is enough to offset the costs incurred by the company during the drilling and extraction operations. The use of technology that incorporates energy efficient features has ensured that the global energy consumption around the world has been maintained to ensure that economic growth has been achieved. The global supply and demand of oil is also a key driver in the oil industry as it determines the price of oil and petroleum based products. The supply of oil in the past and in the present has mostly been affected by political disturbances in oil producing countries such as Kuwait and Iraq (Johnson and Turner 2003).
Such disturbances have driven the cost of oil and oil based products up, forcing many multinational corporations to adjust their prices to deal with losses caused by these disturbances. These political disturbances affect the profitability of multinational companies for the duration of the conflict. The demand for oil has also played an important role in the oil industry especially in developing countries such as Asia and Latin America that have faced continued economic growth in the recent years. Government politics have also played a major role in influencing the oil industry where legislators participate in matters that relate to price regulation within the oil market. Presidential campaigns such as the Bush campaign have focused on the energy industry during their campaigns by encouraging the perception that the oil industry affects energy and environmental policies (Johnson and Turner 2003).
Government politics affects the strategic thinking of many companies as they have to adjust their strategies and objectives to meet with the government regulations established by various government agencies around the world. In terms of price regulation, multinational oil companies have had to adjust their prices to ensure that they do not go against the set out price regulations in the global oil market. These companies have to consider price regulations when developing marketing strategies that will be used to market their products in both the national and international oil market. These drivers of the oil industry are important as they determine the performance of the industry in both the political, technological and economical environment (Detomasi 2008).
Sources of Competitive Advantage within the Oil Industry
According to Edmilson (2000), determining the sources of competitive advantage amongst companies within the oil industry will involve assessing the behaviour of the various players in the industry. The analysis of industry behaviour will be conducted through the use of generic competitive strategies and strategic positioning of companies within the industry.
Different industries have different competitive strategies that allow them to have a competitive advantage over other companies within the same industry. These competitive strategies are used to determine the level of profitability that exists within the industry. Porter developed three generic competitive strategies that can be used by businesses in different industries to achieve competitive advantage over their rivals (Griffin 2008).
These competitive strategies include cost leadership, focus strategy and product or cost differentiation where cost leadership involves a company selling its products at a lower price than its competitors and product differentiation involves providing customers with a unique package of benefits that are different from those of competitors. Focus strategy involves concentrating on a single segment of the company’s market, a geographic area or section of the industry in which to sell its products (Botten 2007).
Porter’s generic strategies have been incorporated within the oil industry to provide the various players within the industry with a source of competitive advantage. The sources of competitive advantage within the oil industry based on Porter’s strategies include the geographic scope of the oil industry where multinational oil companies that focus their business on geographic parameters are able to achieve a competitive advantage. Oil companies that have their operations in various countries can be able to achieve expansion through cost reduction and differentiation strategies. The geographic scope therefore plays an important role in determining the competitive scope of these companies (Edmilson 2000).
Technology is another important source of competitive advantage within the oil industry where various technological innovations have been developed to deal with oil consumption in the global market. The oil crisis in 1973 saw many oil corporations developing technology that could be used in dealing with oil shortages and oil supply (Detomasi 2008). Technology has gained a lot of importance within the industry, a result of which has driven the industry to become one of the most dynamic in the world. Technology with relation to Porter’s generic strategies is an important driving force in cost reduction and product differentiation strategies where oil companies view technology to be an important strategic aspect when it comes to achieving a competitive advantage within the industry (Edmilson 2000).
Another source of competitive advantage within the oil industry is oil-politics where the political dimension influences the differentiation generic strategy within the industry. Both the national and multinational oil companies develop their focus strategies based on the political differentiations of the oil market. Politics plays an important role in the oil market as it influences the public policies and government behaviour with regards to oil regulations and policies (Edmilson 2000).
Strategic Options
PetroChina is one of the largest oil corporations in the world and it is the dominant player in the oil industry within China. The company has incorporated the use of three strategic options which will ensure that the economic growth of the industry in China has been achieved. These three strategic options include internationalization, oil resources and oil markets in both the national and international markets of the company. In terms of resources, Petrochina has developed a business strategy that has ensured the maximization of hydrocarbon resources within China in its exploration and production actvities. It has also chosen to expand its exploration of offshore resources to increase its oil and natural gas reserves in both the national and international markets of the company (PetroChina 2008).
Other strategic options that are available to PetroChina include developing substitutable energy sources to achieve a rapid growth in the energy sector of China, consolidating the upstream sector of the country’s oil industry and strengthening the foundations that exist in China for sustainable oil development. With regards to market, the strategic options that are available to PetroChina to enhance its competitive position in China’s oil industry will be to pursue a leading role in the oil market that will ensure the maximization of profits.
The company could also take advantage of the economies of scale that exist within the market to achieve profit maximization as well as integrate their upstream operations with their downs stream businesses. They could also incorporate the strategic options of expanding high efficiency markets within the oil industry and also promoting their competitive power in both the domestic and foreign oil markets (PetroChina 2008).
The internationalization strategic options that the company can incorporate in its business strategies include concentrating on overseas oil and natural gas exploration activities, incorporating the use of outgoing and incoming resources in the production of oil in the international operations as well as the exportation of the company’s products to international oil markets. Another strategic option that would ensure that the company is able to achieve a competitive advantage in both the national and international oil markets would be to trade oil and natural gas in the international market. This would ensure that the company continues to be the dominant player in the oil industry within China (PetroChina 2008).
The implementation risks that will be experienced by PetroChina when incorporating the above strategic options into its business strategy will include capital expenditure requirements which will be higher should the company consider to expand its operations to additional countries around the world. The company also faces the risk of government restrictions and regulations when it comes to price regulations within its various markets. In its diversification strategies, PetroChina faces the risk of losing its existing businesses if some of its financial assets would be used in the expansion effort.
Conclusion
The management report has focused on the global oil and gas industry by conducting an industry analysis of the oil market. The analysis involved the use of Porter’s Five Forces model for industry analysis which assessed the various competitive environments that exist within the oil industry. The report has also focused on the key drivers that influence the oil industry in the global context and these drivers include neo-liberalism, technology, globalization and government politics.
These drivers are important as they ensure that the oil company is able to develop products that are up to date and meet the international and national needs of the oil market. The report has also focused on the various sources of competitive advantage for companies within the oil industry and these forces include technology, oil politics and the geographic scope of oil companies which has been deemed to play an important role in providing these companies with a competitive advantage within the oil industry.
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