Royal Dutch Shell plc (Shell) is one of global leading energy and petrochemical companies. Its foundation dated back to 19 Century but it fully formed after merger of Royal Dutch and Shell Transport in 1907. Now, Shell, headquartered in The Hague, operates in more than 140 countries or areas and employs approximately 87,000 staffs.
Shell businesses expand from upstream to downstream: it is engaged in exploration, production, refining, transportation and retailing of gas, oil, oil derivatives, electricity and chemicals; the company is also interested in global energy innovation such as renewable sources of energies. However, Royal Dutch Shell has been struggling to capture investor’s imagination after 2009 (Shell Annual Report, 2012). Although revenues and profits had recovered, Niger Delta and North Sea oil spilling almost destroyed Shell’s revival dream.
The recent figures are still disappointing: Shell suffered more than 30 per cent drop in profits in recent successive quarters (2nd Quarter Unaudited Results & 3rd Quarter Unaudited Results, 2013). What are the factors to Shell’s loss? Is that caused by Financial Crisis or European Debt Crisis? Or caused by Oil Spill? Or caused by deep business environmental changes?
Analysis should start at the general to focus down, called outside-in analytical framework (Angwin et al, 2011). The interaction of an organisation with external environment is decomposed into macro-environment influences, meso-environment influences and micro-environment influences. Macro-environment analysis assesses the stability and complexity in energy industry. Meso-environment analysis focuses on competitive arena; more specifically, it reveals interaction and power of Shell with other main market components.
Micro-environment analysis shows competition position in energy industry: it identifies and compares performances of global energy giants. However, the largest degree of influence is from focal company itself; namely, internal environment where decisions are made about corporate strategy and resource policy. Employing outside-in approach contributes to avoid myopia which seeing the real business world on focal firm’s standpoint and thus increases the accuracy of strategic analysis.
Macro-environmental analysis is the first and necessary part of systematic strategic analysis. In today varied and complex business world, PESTEL is a common conceptual tool used in macro-environmental analysis. This framework identifies current and potential changes in a large macro-territory (Fahey & Narayanan, 1986) and assesses the impact of changes on firm’s industry and itself (Ginter & Duncan, 1990). P stands for political factors that determine governmental influence on economy or a certain industry. Political aspects have significant influence in oil and gas industry. It is because most countries regard oil and gas, main products in energy industry, as strategic materials.
The energy independence is a preferential aim for the countries who intend to avoid economic blackmail and political suppression from other countries and organisations like OPEC (Talevski & Lima, 2009). Thus the authorities strictly control foreign investments into oil and gas drilling and production and allow limited rights to transport and retail oil, gas and other petrochemical products (EIA, 2008), which limit access to proven reserves and potential markets. Besides, the political stability has impacts, especially in North Africa and Middle East.
Instability, including political or economic terrorism, civil unrest, acts of war, piracy on high sea and governmental sanctions can discourage investments and disrupt safe operations and products transports (Talevski & Lima, 2009). E stands for economic factors that determine economy’s performance with resonating long-term effects. Demand for oil and gas is determined by economic prosperity because most industries and transportation run on fuels (Talevski & Lima, 2009). Under current unclear “economic slowdown”, the demand-and-supply relationship of fuels seems unpredictable. It results in fluctuating price of crude oil, natural gas, and petrochemical products with material impacts on oil and gas industry (Shell Annual Report, 2012).
Specifically, in a low fuels price environment, corporates gain less revenue from upstream business because of shrinking margins between raw materials and products; while in a high fuels price environment, corporates suffers less entitlement to proved reserves and lower product demands, which reduces profitability of downstream business. S stands for social factors that influence social-cultural environment of market. Suffering the fears of global warming, people show increasing concerns about natural environment.
The considerations shape preference for green energies rather than fossil fuels, especially in developed countries. Population in developed countries, primary consumers of hydrocarbons, consciously diminish needs for oil and gas but boost needs for renewable energies (Trifu, 2012). It entails heavy investments in research & development in new energies. Besides, public concerns about corporate social responsibility push energy giants to protect all stakeholders’ profits, such as employees and neighbours at increasing expenditure on optimising manufacturing process, building infrastructure and training employees. T stands for technological factors related to innovations that may affect the operation or markets.
Technology is key element in upstream business and downstream business: innovations in exploration and production (upstream) contribute to discover new hydrocarbon reserves or enhance recovery of oil and gas; while in the downstream, optimising reefing process of varying quality and developing marketing campaigns based on technological advance (like communication in social media) help corporates reduce operational costs and enhance margins (BP Annual Report, 2008). Thus corporates should be charged a considerable sum on research & development. Additionally, technological improvement in substitutes and complementary products alter the demands for different sources of energies.
Generally speaking, the dominance of hydrocarbon should be replaced if the increasing number of complementary products driven by green energies emerges and the costs on exploiting and manufacturing substitutes decrease. E stands for environmental factors that influence or are determined by the surroundings. Most energy companies have been involved in environmental pollution. Increasingly strict environmental restrictions require energy companies spend share of their profits in technological innovation and waste disposal to environmental restoration and remediation (BP Annual Report, 2008).
Besides, an uneven geographical distribution of hydrocarbon and separability of production fields and markets expose oil and gas companies to safety issues and environmental issues in transportation (Talevski & Lima, 2009), such as BP oil spilling in Gulf of Mexico. Transportation process requires special care at large human, material and capital inputs.
Thus environmental issues are threats to profitability. L stands for legal factors that laws affect the business environment. Legal regulations subjected to energy companies includes imposition of exploitation obligations, regulations on field development and decommissioning, proposed fuel specifications, the provision of health-safety-security-and-environment protection, emission controls, climate change programs, the provision of disposal or releases of chemicals or petroleum substances, the clauses of antitrust and competition, upfront concession fees , special royalties and taxes (Talevski & Lima, 2009; Trifu, 2012).
More stringent legal restrictions might induce damage to corporate images, larger fees required in business activities or even loss of licence to operate in a certain area (Shell Annual Report, 2012).
Analysis about meso-environment examines competitive structure. Porter’s Five Forces should be advised: It identifies five basic competitive forces which influence focal participants’ income statements and balance sheets through prices, costs and investments (Porter, 2008). Meso-environmental analysis tries to understand underpinnings of competition and causes of profitability in oil and gas industry.
The threat of new entrants is insignificant. There are large capital investments tied to all vertical activities like exploration of new fields, setting-up production facilities, scientific research and accessing to distribution channel. Enormous fixed up-front investment creates barriers to potential entrants (Talevski & Lima, 2009). Economies of scale/scope are another barrier to new participants.
Higher unit costs in exploration and production and lower volume of business result in a small profit margin, which adversely affect returns of money in the start-up (Dess et al., 2004). The threat of substitutes seems not significant today but increasingly influential in following years. Oil and gas are still dominant in many sectors, especially in transportation and industry; and it is estimated to stay the dominance until 2030 (IEA, 2008). However, with the technological advances in drilling and processing new energies and rising concerns on planet, green energies like renewable energies and nuclear energies are predicted to slowly but surely enlarge market share in the future.
The bargaining power of buyers is complex. Generally, the power of buyers is low because the prices of oil and gas are globally given (Talevski & Lima, 2009). However, the power of large consumers, like the US, the EU, China and Japan, are indeed strong because their enormous volumes of demands can alter global demands. Recently, theses primary consumers are trying to switch from heavy dependence on fossil fuels to renewable energies.
Thus the strong bargaining power entails business revolution in oil and gas industry. The bargaining power of suppliers depends on which type of suppliers they are. The conventional suppliers that provide supporting products/services seem disadvantaged because oil and gas industry has a wide range of small unconsolidated sub-suppliers from various sectors. While the suppliers of oil or gas field exert power: no one corporates can operate in a certain country without permission. These countries can determine the supply of materials.
Thus their policy and regulation on oil and gas are quite important to energy companies. The intensity of rivalry is high. The slow industry growth and product homogeneity create small profits margins through technological or managerial innovation. Besides, the needs to replace drying fields exacerbate competition due to the fact that new reserves are more difficult to access. All of them force major and strong oligopolistic players overcome competitive constrains through aggressive activities like mergers, acquisitions and alliances (Weston et al., 2001).
Micro-environment analysis attempts to identify Shell’s competitive position through comparing competitors’ superior performances. Fiercer competition on differentiating products is a characteristic of oil and gas industry. BP intended to gain first-mover advantages. BP has engaged in renewables energies, especially in wind, solar and biofuels (Datamonitor, 2010). Until the end of 2009, BP has more than 500 MW of installed capacity through wind power; the whole solar value chain has been built; and more than $1 billion planned investments was into biofuels business operation. The Total S.
A. refused to be inferior: the investments into renewable energies are also considerable (Datamonitor, 2010). Slow differentiation process might erode Shell’s competitive position. Increasing competition from government-run companies such as China National Petroleum Corporation and Sinopec creates threats to publicly held oil and gas companies, especially in seeking access to the fields (Shell Annual Report, 2012).
These government-run entities have partial access to significant reserves and desirable projects. They are also sometimes motivated by political or other factors in making business decision which is abnormal in markets or harm to competitors. These partial competitive advantages supported by national governments should be achieved at independent participants’ loss.
Internal-environmental analysis focuses on firm-specific factors. The frequent oil spilling disasters have troubled Shell for a long time. Recently, these problems become even worse. The oil spilling in Nigeria mainly caused by lack of maintenance on pipeline resulted in up to 40,000 barrels of crude oil spilling 75 miles off the coasts of Niger Delta (Vidal, 2011); the following oil leaking in North Sea caused by immature deep-water drilling technology and operator error resulted in more than 1,300 barrels of crude oil spilling (BBC news, 2011). However, Shell’s responses to extreme events seem unacceptable.
Criticisms referred to late disclosure of information about leaking events, sluggish efforts to stop leakage, false claims on responsibility and reluctance on compensation (Macalister, 2013; Watkins, 2013). It makes Shell face not only considerable economic losses from business interruption, rehabilitative measures and fines on environmental pollution which caused losing leading company position (Datamonitor, 2010; MarketLine, 2013), but also a credibility problem and even corporate images damage (ICMR, 2010). Another threat is from globalisation outsourcing.
Shell’s operation is on more than 70 countries with differing degrees of political, legal and fiscal stability. A wide range of political developments might affect operations, especially in the upstream, referring to land tenure, re-writing of leases, entitlement to produced hydrocarbons, production rates, and royalties (Shell Annual Report, 2012).
Cross-border transaction also exposed Shell to risks from fluctuating foreign exchange rate. Changing foreign exchange rate increases transaction risks (caused by time delay between signing and settling contracts) and translational risks (caused by operating in foreign currencies but showing on balance sheets in home currency), which increase unpredictability in estimating costs and revenues (Sorensen and Kyle, 2008). Furthermore, Shell face competition from powerful local rivals when entering overseas market. Wining in the competition require large investments particularly when the rivalry happens in home country of government-run firms.
The greatest challenge is from the increasing environmental concerns, leading to stringent environmental regulation and growing demands to green energies in future market. Hart pointed (1995) corporate competitive advantages should be rooted in capabilities in promoting environmentally-friendly economic activities, namely the natural-resource-based view of the firm. However, most core businesses of Shell, especially in upstream activities, still cause huge damages to ecosystem.
This trend creates a puzzle: how to modify current environment-damaged portfolio to satisfy growing requirements to environmentally-friendly business model. In other words, it determines Shell’s future business development direction: from traditional fossil fuel company to environment-oriented energy giants-to sustain competitive advantages by pollution prevention, product stewardship and sustainable development (Hart, 1995).
The second key challenge is from poor crisis management strategy. Current activities in value chain exposure Shell to safety disasters in drilling, production, refining, and transportation process. It seriously hurts social benefit, especially the safety of nearby residence. Growing concerns about corporate social responsibility set higher requirements to Shell to manage crisis. How to win customer’s trusts and recover the credibility depends on Shell’s improvements in social-responsible performance.
It determines Shell’s future strategic direction: from high-level risk-facing but low-level risking-taking company to lower-risk and strong anti-risk company with organisational and policy synergies which extend beyond “principles” to the serious treatments by every staff to think about threats and adopt their behaviour to avoid potential crisis or to manage happened crisis (McConnell& Drennan, 2006). The third key challenge is from globalisation business model in oil and gas industry. This model tightly ties demand to Shell’s products to global economic prosperity and depression. It obviously brings greater difficulty to determine outputs in a certain period in order to balance demands and supply.
Besides, the regional instability in political development and economic situation especially in currency makes it tougher for Shell to audit revenuesto control operations. Furthermore, competition from powerful local rivals is big challenge for Shell entering overseas market. To gain competitive advantages in international context should combine firm-specific resource and capabilities with certain national environment (Grant, 2008). In other words, how to shorten political, economic and cultural distances in globalisation should be Shell’s future direction on optimising integration of global resources (Ghemawat, 2001).
How to deal with the three contextual key challenges should be a serious question in Shell’s development plan. The measures to manage challenges can be understood as to pursue or sustain competitive advantages. In current market, external stakeholders are trying to keep companies accountable for social issues and demonstrate potentially large financial risks for the companies with damages to society or environments.
Fulfilling social responsibility has been becoming inescapable requirements to keep competitive advantages. In order to embed a social perspective into its core value proposition, Shell should change from the fragmented and defensive position to the integrated and proactive posture. In other words, the focus must move from the focuses on corporate image to an emphasis on humanity and substance (Porter & Kramer, 2006). Shared values among society (people), economy (profits) and environment (planet) can be realised (Jamali, 2006).
The primary task is the shift from an environmentally-damaged producer to an environmentally-friendly corporation, namely, to achieve environment benefits. The first step is pollution abatement. There are two suggested approaches. Pollution control is using pollution control equipment to trap, store, treat and dispose emission and effluents. Another approach is pollution prevention, refers to reduce, change and prevent emission and effluents by greater housekeeping, material substitution, recycling and process innovation (Cairncross, 1991, Frosch & Gallopoulos, 1989; Willig, 1994).
Pollution prevention seems more important than pollution control: it tries to prevent and contain pollution in continuous-improvement methods rather than the old model of “polluting then cleaning up” at expense of non-recoverable ecological damages and expensive "end-of-pipe" capital investments to control emissions (Rooney, 1993). A pollution-prevention strategy emphasis on establishing capabilities in production and operation: it can be achieved through extensive and initiative employee involvement (Cole, 1991; Lawler, 1986) and continues improvement in waste reduction.
Thus it is necessary to invest into inventing or introducing environmentally-friendly or resource-conserving facilities and innovating technology used in value chain. For example, non-phenolic and resin-coating technology increase hydraulic fracturing efficiency:
It allows coated sand to be produced with less energy requirement and environmental damages compared to current phenolic resins in the manufacturing process (Drilling Contractor, 2013). Building awareness of environmental protection and forcing involvement of employees also should be suggested. The second step is to product stewardship. It refers to direct the selection of raw materials and manage product design with aims at minimising environmental harm of product system.
Exiting environmentally hazardous business and developing potential products with lower life-cycle costs should be the requirements to reasonable product management (Hart, 1995). To Shell, creating new products with low life-cycle costs will be dominant product strategy. It requests Shell to minimise the use of non-renewable materials, to avoid use of toxic materials and maximise the use of renewable resources (Robert, 1995).
Developing renewable energy is a good choice. Shell is advised to develop wind, solar, hydropower, tidal, geothermal, biomass, landfill gas electricity generation and anaerobic digestion. These green energies not only satisfy legal and public expectations on environmental protection but also solve the problem of fossil fuels crisis. The third step is sustainable development.
To achieve sustainable development demands a great deal of inputs and long-term commitments to develop market (Hart, 1995). To Shell, that means to create market demand transition from fossil fuel to renewable source of energies, especially in the developing countries. For example, Shell can make documentaries about production in the fossil fuels field and the renewable energy filed. This comparison might switch audiences’ preference for energies.
Shell also can persuade energy-intensive producers to adopt green source of energies. Although there is little evidence showing the relationship between these efforts and short-term profits, the engagement to sustainable development will improvement firms’ long-term performance, reflected by price earnings or market-to-book ratios (Hart, 1995). The second task is to manage crisis, specifically to avoid potential crisis and to minimise the damages. That can be understood a task in protecting social benefits, especially nearby residence around Shell economic activities.
There are five phase to accomplish crisis management (Mitroff, 1988). The first phase is signal deletion. Long before the crisis happened, there are repeated and persistent trials of warning signals. It is necessary for Shell to build various appropriate warning systems to identify diverse explicit or implicit signals. For example, the growing equipment faulty rate may imply the increasing possibility of accident and needs for maintenance.
The second phase is preparation or prevention, referring to establish appropriate prevention and preparation mechanism. Specifically, prevention and preparation mechanism works through identifying any sign of weakness and then responding appropriately whatever problems is discovered. In this phase, Shell is required to ensure everything stay fixed even it works well now. The third phase is containment or damage limitation.
It is important for Shell to build damage-limitation mechanisms in place. Preventing all crises seems impossible in oil and gas industry. How to prevent the harm from engulfing other parts of the corporate should be discussed. After every disaster happens, Shell should release relevant information as soon as possible and also clearly claim corporate responsibility. Although it may cause higher expense of recovery, these measures protect credibility in public, which is important for long-term development. The fourth phase is recovery. If Shell is not anticipatory, the aftermath is requested.
That means Shell should build short-term and long-term recovery plan. For instance, in Nigeria Delta, how to degrade toxic substance in soil, air and water, how to recover soil fertility and how to rebuild broken ecosystem, which is highly related to local people’s health need to be considered. The final phase is learning. Shell should reassess the crisis happened on the past to improve capabilities in predicting crisis and avoiding crisis. The third task is to manage the difficulties in globalisation. The challenges are mainly from political difference, cultural distance and economic instability. Thus it is a task to shrink various distances in globalisation to realise economic profits.
Political difference and cultural distance create barriers to foreign companies. International alliance and joint venture with powerful local market participant should be a suitable entry mode for Shell in overseas markets (Grant, 2008). It not only free Shell from political restrictions directed against foreign companies but also access market knowledge and distribution capabilities. Another strategy to shrink political and cultural distance is decentralisation. That means giving overseas subsidiaries higher level of freedoms in decision-making.
These holders of first-hand information can modify Shell’s activities and respond the diverse political and customers’ requirements quickly and accurately. That is the process of localisation. The effects of economic instability also can be minimised by economic tools. For example, financial forward contracts help Shell avoid financial risks, such as fluctuating foreign exchange rate to guarantee the best possible outcomes in a certain production cycle (Shapiro, ND.) Although it cannot balance demand and supply fundamentally, the tools or frameworks tries to decrease damages from external economic changes. Conclusion
Royal Dutch Shell was a successful corporation but now is suffering poor performance. In this essay, the author analyses the macro-environment, meso-environment, micro-environment and internal environment in outside-in approach to identify three key challenges in the long-term survival. They are increasing concerns in environmental protection, poor crisis management strategy and various distances in globalisation.
They also can be understood the threats from environment, society and economy. Thus corporate social responsibility is the synergy. Environmental profits can be achieved through ppollution abatement, product stewardship and sustainable development; sociall profits can be realised by crisis management, including signal deletion, preparation and prevention, damage limitation, recovery and learning; economic profits can be accomplished by shrinking political, cultural and economic distance through alliance & joint venture, decentralised management and leverage by economic tools.
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- BBC News (2011) “Shell North Sea Oil Spill more than 200 Tonnes”, Available at: http://www.bbc.co.uk/news/uk-scotland-north-east-orkney-shetland-14532112 [Accessed at: 27/12/2013]
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