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Dealing with market volatility in the oil and gas industry

The oil and gas industry is experiencing unprecedented volatility since prices slumped in March following the collapse of the OPEC+ supply pact. In the past week alone oil prices have reached historical lows with West Texas crude reaching approximately -US$40 a barrel in future trades. 

Volatility has been driven by reduced output from Russia quickly followed by lockdowns associated with the COVID-19 pandemic. This is impacting economic growth across the world, with the OECD already lowering its global economic growth estimate for 2020 from 2.9% to 2.4%. The longer the outbreak continues, the greater the decline in global growth and the corresponding fall in demand for energy.

China’s lockdown has already had an impact on the industry, with the country accounting for over 80% of global oil demand growth last year. According to the IEA, the first quarter of this calendar year experienced a drop in demand of 2.5 million barrels per day compared to the same period last year, this is coupled with an increase in stocks. Adding global travel restrictions and industrial shutdowns, the demand for jet fuel, diesel and gas oil are all declining. 
As prices and demand drop, managing cashflow and balance sheets is paramount. Some things you can do to ensure your organisation is prepared for further volatility include:

  • Review your capital structure: Make sure your liquidity, maturities and overall debt levels are able to weather the storm. 
  • Be prepared for assertions of force majeure: China’s largest natural gas and liquefied natural gas importers have already declared force majeure to excuse their contractual obligations. There is a high likelihood more organisations will do this, and the ripple effect will be felt across the entire supply chain. Reviewing what force majeures you have in place, how they may impact your business if they’re invoked and preparing for this will ensure you’re ready to respond. 
  • Understand your risks and put in place plans to mitigate them: For example, if you may require further debt funding in coming weeks and months start looking at restructuring strategies that you can implement them if required. 
  • Determine if you can review prices: Some agreements allow for prices to be reviewed in particular circumstances. It’s best to be on the front foot by identifying where you or another party could seek to review pricing and how you can address this.
  • Review existing agreements: There is a strong possibility that buyers and suppliers may face bankruptcy in the coming months. By reviewing agreements you can determine what commercial risks you have and put in place processes or negotiate amendments to minimise your risk. For example, in some circumstances, it may be more efficient for you to breach a contract and pay the penalty than seek to meet contractual obligations. Knowing this in advance allows you to prepare and respond accordingly.
  • Identify potential partnerships: When the volatility starts to settle down there may be opportunities to capitalise on undervalued assets or take advantage of arbitrage. Identifying these and being prepared will place your organisation at a competitive advantage when we start to come out of this. 

With the pandemic still escalating in many key regions, it’s unlikely we’ll see an end to market volatility for the remainder of the year. But it is possible to put in place contingency plans so that you can address issues swiftly as they arise and minimise the impact on your organisation. 
 

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