United States: Preparing For And Adapting To Lower Oil Prices: Reducing Risk, Mitigating Loss And Capitalising On Opportunities In Today’s Market


In January 2015 the price of a barrel of Brent crude slipped below $50 for the first time since May 2009. A surprise surge in global production and weaker than anticipated global demand upset what had been a fairly stable market with oil prices trading around the $100 - $120 per barrel range for the last three years, despite a number of significant geopolitical events affecting petroleum producing countries.

The industry is awash with speculation about the forward price curve for oil: will the fall in oil prices be short lived or is this the beginning of a new world order of materially lower oil prices? While speculating as to why the market is as it is - or where it is going - is a natural reaction, prudent oil companies would be wise to take stock of prevailing market conditions and to realign their business strategies to address the new challenges and risks posed by lower oil prices.

Organise Rather Than Agonise

In order to effectively manage the risks of lower oil prices, oil companies need to determine where costs can be reduced and where savings can be made. Carrying out a detailed review of the operational and financial aspects of their business and determining where the business can be rationalised and optimised should be a priority for any oil company operating in a cheap oil market.

Oil companies carrying out a review of their business and operations need to focus on controlling expenditure and operating costs as well as implementing focussed risk management across their business and assets. An analysis of the relevant underlying concession and operating agreements should focus on voting powers and rights to veto or cancel capex and/or reduce opex. Reviewing default provisions will provide guidance relating to costs associated with default or available remedies for non-defaulting partners. As service providers come under increasing pressure to offer more competitive terms and prices, there should be scope for project operators to renegotiate or retender service contracts in order to secure cost reductions. If contracts for the sale, transportation or processing of petroleum have been entered into, operators should review rights of interruption. A review of material contracts should give particular attention to exit provisions and force majeure conditions which could allow parties to exit or suspend unprofitable operations. An overall cost/benefit analysis of maintaining contracts versus termination should be carried out and, where appropriate, implemented to reduce costs.

Projects need to be run efficiently, now more so than ever before, so oil companies need to be proactive in making interventions if projects are unlikely to deliver an IRR that the project sponsors had planned for. Where projects are facing cost overruns, partners should agree to either re-scope, defer expenditure or (if the contracts allow) stop or delay production until the market has recalibrated itself. Lower costs need to be achieved so operations which are too expensive may need to be aborted or remodelled. Delaying final investment decisions on development projects or shutting in production on producing assets may have the benefit of reducing costs without reducing ownership interests in assets which could be profitable in the future when oil prices increase or other production costs decline.

 Time and resources spent optimising capital structures and restructuring balance sheets will be time well spent. As the price of oil declines, oil companies may find that liquidity of capital becomes more restrictive and debt financing becomes increasingly more expensive as lower oil prices alter the industry's capital risk profile. In order to reduce the need to take on increasingly burdensome financing, oil companies should seek to optimise their capital structure and overall financial position in other ways including: restructuring corporate and tax models, divesting assets and reviewing the company's dividend policy. The industry is contracting and reducing shareholder dividends in the short term may be necessary for the company's longer term survival.

The fall of oil prices happened quicker than most oil companies expected, and many are waiting to see the stabilisation of oil prices before reworking their corporate strategies and economic models. This reactionary approach could be costly in the long term, as it is those who react swiftly who should be better positioned to decrease exposure and to mitigate the negative impacts of low oil prices.

Divest Carefully Not Recklessly

A review of operational and financial aspects of the business (in addition to being a cost-reducing exercise) should be a key component in formulating a clear strategy for an oil company's divestment program. A divestment does not need to be structured as a simple cash sale: relinquishments, swaps, farm-outs or mixed consideration (cash/shares) could be more appropriate, given the risk profile and strategic objectives of the company.

All companies will be seeking to remove underperforming businesses and assets with lower yields to balance their portfolios; sellers, however, need to be mindful of the fact that prospective purchasers will not be interested in low yield assets. In order to attract investors, sellers should consider combining the sale of lower yielding assets as a package together with exploration and/or development opportunities, farm-in options or the offer of other strategic collaborations.

The sticking point in early negotiations is likely to be price allocation; oil companies across the industry will be waiting anxiously to see how early divestments are valued in order to benchmark their own portfolio. Oil companies looking to divest poorly performing assets should assess the costs implications of retaining high cost assets against the cost of a discounted divestment to facilitate a quick sale. Assets with high costs will deplete cash reserves which could otherwise be better utilized picking up healthier assets in growth markets or maintaining the balance sheet and financial ratings of the company.

At the deal structuring and execution stage, sellers should carefully consider the scope of price review clauses, warranties, MAC clauses and other hardship clauses, as these can provide additional protections in a collapsing market. Sellers should also take into account the financial capacity of prospective purchasers and should consider if parent company guarantees, bank guarantees or alternative collateral support measures are necessary to secure the deal.

This is a turbulent time for the industry but it will be the oil companies who act decisively in managing their cost base and capital structure – by building in resilience where necessary and rationalising where appropriate – that will be best positioned to endure lower oil prices and to capitalise on any opportunities which may become available.

Carpe Diem

The founder of Standard Oil and father of the modern oil industry, John D. Rockefeller, once said that "with every crisis comes a new opportunity". Rockefeller was no stranger to turbulent oil prices; he presided over Standard Oil during a period where oil prices fluctuated unpredictably. Rockefeller recognised that low oil prices provided opportunities to pick up assets with good reserves and development potential cheaply as competitors hurried to monetise assets which had become economically unviable. Rockefeller kept Standard Oil well-funded and was able to leverage these reserves when the market contracted, picking up discounted assets which could be profitable when oil prices picked up. We would do well to remember how Standard Oil rose to dominance pursuing a strategy of consolidation.

Citigroup recently collated the breakeven price of major oil projects around the world highlighting that most projects require oil prices to exceed, some materially, $50 per barrel in order to break even.1 If oil prices continue to fall or if they stabilise at levels around the $50 mark, many oil companies will seek to mitigate their financial risk by divesting assets that are too expensive to develop or run given the shape of the proposed development and/or the IRR requirements of the project developers. Distressed M&A activity is therefore likely to allow well-funded companies to acquire assets with good reserves and production potential on favourable terms.

The fact is, it is a buyers' market and the best deals are to be had while oil prices are falling.

Prospective buyers should move fast in order to get the price and key terms agreed and contractually bound while sellers are eager to sell as bargaining position will begin to erode when prices start to increase. Buyers should focus on getting comprehensive due diligence done quickly and effectively and get deals closed quickly. Assets with low capex or opex and long-lead work obligations may make good acquisition targets as they keep the balance sheet looking healthy and the delay in outlay will help project owners capture the benefits of higher oil prices and/or cheaper production costs.

Not all players will have the requisite balance sheet or financing in place to embark on acquisitions even where there are deals to be had. If financing is not available, it is better to let a deal go rather than risk stressing the balance sheet in these precarious times. The primary aim for any oil company should be streamlining the business and mitigating potential losses until oil prices pick up; capitalising on market opportunities should be a secondary aim and a collateral benefit.

Concluding Remarks

It is unknown if the fall in price will be a "V" with a rapid return to high prices or a "U" with sluggish recovery, but 2015 is likely to be a tough year and hard decisions will need to be made. Getting into shape is never easy but is essential for survival when there is less to go round. Everyone in the industry will need to adapt.

The years of high prices allowed the market to soak up additional costs and project pricing has soared since the early 2000s. Getting control of costs and monetising poorly performing assets should be at the top of the agenda for oil companies. Failure to manage the risks of low oil prices will cost parties dearly; projects which were modelled on $100 barrel oil need to be remodelled or rescheduled to avoid soaring costs and plummeting profits.

Every oil company recalibrating its business model in line with the new economic landscape should remember that the need to react quickly should be tempered with the need to react prudently. Before embarking on significant divestments or acquisitions, oil companies should carry out a portfolio-wide review of material contracts and formulate a clear strategy with profit optimisation and cost control at the centre. The oil company should determine where savings can be made, where assets can be monetised, if there are alternate strategies to divestment and if there is scope for making strategic acquisitions.

Oil price volatility is not a new phenomenon, and if history is anything to go by, we can assume that oil prices will inevitably rise again; after all, one needs to bear in mind that oil is a finite resource. When oil prices rise, it will be those who took tough and timely decisions to mitigate the effects of cheap oil who will ultimately have the optimum balance sheet, portfolio composition and market positioning to weather the storm and to maximise gains when prices recover.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Similar Articles
Relevancy Powered by MondaqAI
In association with
Related Topics
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions