Thursday, May 26, 2016

Feeding Behemoth--"Statoil: The Solution or the Problem?"

Astute reader will note the name of the partially acquired company. It is the cousin of one of the players in the post immediately below.
From Energy Intelligence, May 2016:
Øystein Noreng

While Norway is widely regarded internationally as the gold standard for effective state management of the oil industry, closer examination actually reveals that it is struggling with problems not unlike those that face other countries. Since the beginning of Norway's petroleum times -- the late 1960s -- a fundamental tenet has been that the oil industry should be subject to political governance and control. But reality falls far short of that objective in the interaction between the Norwegian government, which is the landowner, the industry regulator and the dominant shareholder (70%), and Statoil, Norway's leading and dominant oil company. For decades, Statoil has essentially acted according to its own interests, disregarding those of the state, its majority shareholder. A current case, Statoil's partial acquisition of Lundin Petroleum, shows the extent to which the national oil company has interests contrary to national policy and contrary to those of its primary owner, but it nevertheless has prevailed. Apparently, in this case, the national oil company has more power than the government.

As the landowner, the Norwegian government has an interest in pluralism and competition in the oil industry in order to reduce costs, promote innovation and improve flexibility. Since the mid-1980s, smaller, flexible companies have accounted for much of the innovation in the oil industry worldwide, especially in the US Gulf of Mexico, the North Sea and North American shale. With these objectives in mind, Norwegian petroleum taxation was modified in 2005 in order to attract newcomers, essentially smaller oil companies willing to take risk, with a simple, low-cost management and the ability to make decisions quickly. Lundin is perhaps the most successful company among the newcomers, with an impressively successful exploration record.

In two stages, Statoil this spring has bought 20% of Lundin stock. The deal includes a transaction for parts of fields. In addition to cash, Lundin acquired the Statoil share in the Edvard Grieg field, where it is the operator. As a counterpart, Statoil through its share of Lundin strengthens its position in the giant Johan Sverdrup field. So far, seen in isolation, this appears as a rational operation for both companies. Lundin gets cash it needs for investment and consolidates its position as an operator of a smaller field. Statoil gets a larger share of the oil and the cash flow of a giant field. However, for the government the outcome is negative, as Lundin will be less inclined to challenge Statoil.

The key issue is what will happen next. For Lundin, the need is to secure capital for immediate investment projects. For Statoil, the motivation seems to be consolidating the position in Norway's oil industry and a higher future cash flow by buying into competing oil companies. Further acquisitions should not be excluded, especially if oil prices stay low and Lundin should need more capital. In the end, Statoil might buy all of Lundin.

Statoil's interest is to consolidate an already dominant position in the Norwegian oil industry, where the company is the operator of 80% of production. It has less interest in pluralism and competition. The Lundin acquisition seems to be strategically motivated. To Statoil, Lundin is a small competitor that in key matters such as exploration and cost control has proved more competent. Lundin is possibly the most successful company in recent Norwegian petroleum history. By comparison, Statoil appears less brilliant. Even if it has many highly competent individuals among the staff, it is a large, bureaucratic and rigid organization with a costly administration.

By contrast, Lundin is small, agile and flexible, with a simple, low-cost administration. By doing things differently, Lundin represents a challenge to Statoil. Statoil's response is to buy into Lundin, perhaps in order to take it over completely and eliminate the challenge. Such an outcome would be advantageous for Statoil, but harmful to the Norwegian government, the landowner and the dominant shareholder. Remarkably, Statoil's board, in which the Norwegian government appoints a majority of members, generally supports the senior management rather than the primary investor, the Norwegian government.

Loss of Control
This case shows that the Norwegian government does not exercise much control over its multiple business investments, whether in Statoil or other large companies. Numerous corruption scandals involving partly government owned Norwegian companies operating in developing and emerging economies indicate poor governance, showing that the Norwegian government does not follow up its investment with control. The justification for government investment in businesses is usually that the market and private investors do not secure salient national interests. In the case of Statoil, in the early 1970s, the justification for Statoil, at first a wholly government-owned entity, was to secure funding in order to avoid foreign investor dominance. Statoil's statute was to secure the development of the Norwegian Continental Shelf, nothing more.

The politicians omitted, however, to set limits. Without consulting the government, then the sole owner, Statoil expanded into new business areas, at first refining and distribution in neighboring Denmark and Sweden, subsequently in upstream activities in many parts of the world. Upstream investment abroad has been no unmitigated economic success, but it has provided some oil and some interesting management jobs.

Partial privatization and the subsequent fusion with the oil and gas division of Norsk Hydro has created a giant in the Norwegian economy that neither the dominant shareholder nor the market can tame. The government has little or no influence because the board tends to line up with senior management. No other actors in the Norwegian petroleum sector can match or defy Statoil. The purchase of Lundin further aggravates this issue....MORE
Øystein Noreng is professor emeritus, BI Norwegian Business School, and an Oslo-based independent consultant and adviser.