GENB7A97 – Oil and Governance

December 12, 2015

Statoil

Team GGG:

JW DePriest

Zach Field

Jonathan Hayes

Bali Horvath

Dhaval Mistry

Chris Vance

Introduction

Statoil is a unique case study in state-controlled oil and gas producers in that it aligns

much closer in management and operation style with traditional international oil companies

competitive in today’s market. The transition from a fully state owned and state controlled to a

partially privatized and fully globalized corporation without the pitfall of nationalization has

been an unusual path that we will explore herein.

Early History

Oil was discovered in the Groningen gas play adjacent to the North Sea in 1959 and

foreign investors quickly showed interest in exploring the Norwegian Continental Shelf (NCS).

Within four to six years, the Norwegian government created legal and regulatory networks to

handle exploration and development along its portion of the North Sea. Statoil was created in

1972 to assure Norwegian participation from the beginning of domestic shelf production to

build the necessary expertise to form a national oil industry. Norway understood that foreign

expertise could be helpful in its formation, yet they focused on increasing their own dominance

of national resources by ensuring 100% government ownership (1).

Statoil incorporated as a limited liability company and established Stavanger as Statoil's

headquarters. Starting with only two employees in 1973, Statoil grew to 54 employees within a

year and then doubled the following year. The Tommeliten block, meaning “Tom Thumb,” was

discovered in 1976; although it was very small, its importance was just the opposite since it

included one of the first subsea developments. It ended up producing 123 billion kWh of gas

and 19 million barrels of oil throughout its usable life (1).

Due to harsh conditions in the North Sea, the Norwegian government collaborated with

foreign oil companies in 1979 to better develop and innovate their technological capabilities.

This led to increased foreign petroleum research investments in Norway as well as enhanced

information sharing which greatly benefited the Norwegian industry. The Statfjord field was

one of the largest production fields, yet the greatest benefit may have been the lessons learned

throughout its development. This was mainly due to the use of the new technologies such as

North Sea transportation solutions and deep water concrete structures, which were both

enabled through the collaboration that had just been set up. The success of the gas

transportation solutions assisted Statoil in gaining foreign investment for and become a leader

in other technologies such as multiphase flow transport; this eliminated the need for redundant

surface installations and facilitated interconnection between new smaller fields to existing large

fields (1).

Statoil collaborated with other Norwegian companies Saga and Hydro to develop its first

ever subsea well in 1986 on Gullfaks. The subsea technology used on Gullfaks continued to

bolster Statoil’s standing as a successfully innovative company. It also encouraged future

development into a number of other complex projects. They ventured into horizontal wells in

1989 to remove oil from the Troll gas field (1).

Norway pioneered the introduction of carbon taxes to encourage carbon emissions

reductions while also profiting through carbon taxes. The taxes also enabled many

improvements in connection with the tax such as halting continuous gas flaring and carbon

capture and storage. Statoil ventured into unconventional resources in Venezuela in 1994 with

heavy and extra-heavy crudes. They gained valuable knowledge of unconventional production,

processing, transport, marketing and selling which facilitated future ventures in Brazil and

Canada (1).

In 1996, Statoil used the first field time-lapse seismic survey in the world which is now

used with regularity at their other locations. The seismic data helps identify how oil is drained

from a reservoir. They also began the first offshore carbon capture and storage (CCS) project in

the world that year. The next year, Statoil featured the first of its kind production ship in the

NCS to develop the site of Norne rather than using a concrete structure, thereby saving 30% on

costs. The climate and oceanographic conditions of the Ormen Lange field which was also

discovered in 1997 made it almost impossible to develop. This included subsea wellheads in

seabed temperatures below zero in the world’s second largest subsea pipeline (1).

Recent History

In 2001, the Company was privatized and issued an Initial Public Offering (IPO), listed on

both the NYSE and the Oslo Stock Exchange. The company changed its name to Statoil ASA. The

Norwegian government retained about 80% share in the company and would go onto maintain

a minimum 2/3rds share (1).

In 2002, Statoil created a new method for finding oil in underground reservoirs using

electromagnetic waves. Traditional methods using seismic surveys had a difficult time trying to

locate reservoirs within or under salt formations. By combining the seismic surveys and the

electromagnetic waves, scientists were able to tell the difference between the densities of oil

and water versus gas while measuring the electromagnetic properties of each. This provided

much more detail for scientists which helped identify oil and gas reservoirs more successfully

(1).

In 2006, Statoil proposed a merger with Norsk Hydro and the European Union approved

the merger in mid-2007. The merger strengthened the company’s position in at the lead

operator on the NCS. The Norwegian government maintained a 67% stake in the company,

which became StatoilHydro as a temporary name. At the time, StatoilHydro was the largest off-

shore oil and gas company across the globe. Two years later, the company reverted back to the

name Statoil ASA. Statoil became the first company to develop gas from Snohit, meaning “Snow

White,” in the Barents Sea. Gas discoveries had first been made in in Snohit in 1984, but no

company had yet successfully developed it. Snohit, also Europe’s first liquid natural gas (LNG)

plant was field operated remotely from the mainland; this was the first NCS to do so (1).

In 2009, Statoil began production from the Tyrihans field by utilizing five subsea

templates (4 oil & gas, 1 seawater injection). Seawater and gas were injected into wells to help

recover oil. The production well sent oil to the Kristin platform through 43 kilometers of pipe.

The pipe had to be heated electrically to maintain a manageable oil viscosity. This ground-

breaking technology at the time set the standard for subsea oil field developments (1).

In 2010, the company had an initial public offering on the Oslo Stock Exchange for

Statoil Fuel and Retail ASA. This IPO allowed Statoil to divest part of their service station

business, and the remainder was sold off in 2012. Around 2010 and 2011, Statoil began

focusing on technologies to further reduce their carbon emissions at their production sites in

the Canadian oil sands. Their plan was aggressive, with emissions reduction targets of 25% by

2020 and 40% by 2025. Furthermore, they also planned to reduce water consumption by 45%

by 2021. By 2011, Statoil claimed to have the “best startup numbers for any steam-assisted

gravity drainage (SAGD) bitumen project in Canada” (1).

Statoil developed a new subsea gas compression operation in 2012, known as Asgard.

The facility came online in September 2015 as the first subsea production site of its kind in the

world. Statoil claims their technology provides tremendous improvements for recoveries and

production life for their gas fields. The company states “subsea compression adds 306 million

barrels of oil equivalent to total output over the field’s life.” They see this technology and gas

compression operation leading to a full “subsea factory” by 2020. This technology will allow

further development of several existing deep water fields for years to come (1).

Currently, Statoil is investing in renewable energy and participating in efforts to combat

climate change. Some of these investments and efforts include offshore wind farms as well as

carbon capture and sequestration. It is unclear how low oil prices will affect the company over

the long term; however, they are focusing more of their efforts on land-based oil production

with little to no production in oil/tar sands, but a priority on productivity projects that reduce

variable cost, such as decreasing well completion time (1).

Management

The Management of Statoil is carried out according to a precise and well documented

management system referred to as the “Statoil Book.” The management system contains the

principles, policies and requirements needed to work safely, efficiently and consistently across

the entire global group. This system has three main objectives:

1. Contribute to safe, reliable and efficient operations and enable compliance with

external and internal requirements;

2. Incorporate values, people and leadership principles in everything done;

3. Support business performance through high-quality decision making, fast and

precise execution, and continuous learning.

The system itself is broken down into four areas of focus, including Values, People and

Leadership, Operating Model, and Corporate Policies. There are also two segments that are a

part of the global management system that governs the functional and business area

requirements of specific work processes.

Statoil sees its corporate values as a performance driver and guide in collaboration with

both internal and external stakeholders. Their values encourage all employees to be

courageous, open, hands-on and caring. Employees are allowed latitude to be imaginative and

ambitious in identifying new opportunities and challenges. Openness is a value that embraces

collaboration done with integrity and diversity with clear and precise communication and

feedback. Being hands-on exhibits a dedication to endurance and follow through with attention

to detail. Caring, stated simply, is to cause zero harm to people and to act responsibly in all

aspects of your work life. Statoil places a high value on demonstration of social responsibility

and sustainable development.

Statoil’s commitment to its People and Leadership can be clearly seen in its definition of

values. Employees are empowered throughout the organization to make decisions necessary to

work most effectively. Statoil intentionally involves their people in the process of reaching their

goals. This approach also empowers leadership to act as “talent scouts” with a responsibility of

building future leaders to meet long term business goals. As such, leaders drive their own

development and build strong and diverse teams.

The operating model at Statoil provides guidance to set values based priorities and

drives quality performance through safe execution. Statoil’s “Ambition to Action” is an

integrated performance process covering people and the organization, health, safety and

environment, operations, market and finance. This process allows the organization to

continuously evaluate risk and respond quickly when the unexpected occurs. The “Ambition to

Action” program balances alignment around strategic direction and common business

processes with empowerment and local business responsibility.

Process owners have been appointed for the process areas with a global reach affecting

large numbers of people across the organization, to support business needs and

standardization based on best practice. Working across the organization, process owners

ensure achievement of high operational standards and functional excellence. Process owners

capture best practice and lessons learned to incorporate into global work processes.

Corporate policies and corporate governance are carried out in what is consistently seen

throughout the Statoil Book, a clearly defined and specific set of processes, objectives and

strategies. While Statoil exists to develop and market the oil and gas resources of Norway, it is

also a publicly traded company that exists to create value for its shareholders. This co-existence

marries nicely a strong commitment to environmental responsibility with a culture that

develops and empowers leadership throughout the global organization to execute a winning

strategy.

The overall management strategy has been cultivated throughout the history of Statoil,

and the success has hinged upon the relationship between government ownership, support and

exceeding lenient control to remain competitive in the global marketplace.

Relationship with the Existing Government

As already discussed, Statoil began completely owned and operated by the Norwegian

government in 1972. Throughout the years, a merger with Norsk Hydro would grow the

company to be responsible for over 80% of Norway’s hydrocarbon production. The increase in

production and overall successful nature became the catalyst for Norway’s dependence for

their various welfare and societal benefit programs. In 2001, the company partially privatized

and began to sell shares to private investors in an effort to raise capital and position themselves

more advantageously in the international market and thus began the downward trend of direct

government control within Statoil. Within this section, we will focus on the role of the

government historically through Statoil with particular attention paid to the current

arrangement and the future for the dwindling, yet ever present relationship.

The ownership interest of Norway’s investment into Statoil is managed by the

Norwegian Ministry of Petroleum and Energy – located and lead within the confines of Norway

with a large global presence, including a Gulf of Mexico controlling office in Houston, TX. This

managing department reports directly to the legislature, the sorting in the Norway government,

ultimately answering to the shareholding citizens of Norway. The Minister of Petroleum and

Energy of Norway (NPE) is responsible for the energy policy crated and managed by this

department. It also acts as government operatory for a myriad of subordinate energy agencies

including the partial ownership of Statoil. Despite the nature of producing and marketing

hydrocarbons, it is this department that is largely responsible for the continued hydroelectric

usage found in Norway by both citizens and industry alike. The ability to manage the internal

environmentally friendly policies and balance the exportation of hydrocarbon assets is

imperative to the department’s and ultimately, Statoil’s success. For this reason, paired with

the gradual privatization of Statoil in order to compete globally, the minister’s direct control

over Statoil business process has decreased since the initial public offering in 1972.

The ability for Statoil to continue to succeed, turn a profit, and invest their dividends

directly into Norway’s treasury keeps politics at bay for the most part. Through electric

hydropower usage in plants and on rigs and continuing the trend of not burning Natural Gas

within the country’s borders, Statoil has been able to establish itself as a “guarantor for welfare

in the country in the minds of the people”(2). These state funds based on oil proceeds drive the

health, education and overall welfare of the citizens of Norway: the shareholders.

The main reason for success of this model, other than the longevity in which it is now

entrenched with over 900 billion NOK, is the clear division of roles in the approach. While the

state is the resource owner, legislator, licensor and regulator, there exists a balance between all

parties and the partially privatized oil company. This distance is maintained as the company and

assets were never nationalized. The Storting created “10 Oil Commandments” that are still

followed, including the oil and gas resources belong to the people and must benefit society, the

oil and gas industry must be an era, not an episode, and lastly, when converting petroleum

resources into financial assets, the aim must be to create a qualitatively better society (3).

These building blocks are engrained in the corporate culture without being an absolute

mandate in operations as a result of early failures from government intervention causing over

budget productions at the Mongstad Oil Refinery location.

Government relations increased their control of gas sales when Statoil was given the job

of selling the conglomerate of Norway’s natural gas. The committee established was chaired by

Statoil and eventually divested off to complete Government control creating Gassco – a state-

owned company to plan and operate the entire gas transport system in the NCS.

The future of Statoil is deeply entrenched with the ability to provide for the wealth fund

and continue to stock government coffers while balancing precariously on the heightened

environmental concern present in Norway. The transition to a global independent from a

national oil company has proven to stretch the culture of Statoil to its limits and will continue to

be a challenge moving forward from an internal regulation standpoint. However, that topic

would require another paper altogether.

Financial Performance

With every management decision and strategy, the proof remains within the financial

results of a corporation and the continued provision of value to the shareholders. Next, we will

examine the success of the past year as it was reported through Statoil and Norway, verified as

such through the availability of the financials through the partial privatization and ability for

individual investment. This is yet another differential between the traditional state owned and

controlled energy suppliers.

Total revenues and other income of Statoil amounted to NOK 622.7 billion in 2014

compared to NOK 634.5 billion in 2013 and NOK 718.2 billion in 2012. Revenues are generated

from both the sale of lifted crude oil, natural gas, and refined porduct produced and marketed

by Statoil, as well as from the sale of liquids and gas purchased from third parties. The 2%

decrease in revenues from 2013 to 2014 was mainly due to the decreased prices for liquids and

European gas and reduced volumes of liquids and sold, partly offset increased US gas prices and

a positive exchange rate development (NOK/USD). Also, derivatives positiviely impacted the

revenues due to the significant drop in the forward curve in the oil market.

Net operating profit income was NOK 109.5 billion in 2014, down from NOK 155.5 billion

in 2013, impacted by lower prices, impairment losses and exploration expenses. Total equity

production in 2014 was slightly lower compared to 2013. Start-up and ramp-up of production

on various fields and higher production regularity compared to 2013 was offset by expected

natural decline and reduced ownership shares from divestment. Statoil has a strong balance

sheet and considerable financial flexibility. The net debt ratio before adjustment was 19% at

the end of 2014, which increased from NOK 58 billion in 2013 to 89.2 billion in 2014. From 2013

to 2014 both cash flows provided by operating activities and cash flows used in investments

increased.

Statoil continued to reduce underlying operational costs and delivered 2015 Q3 quarter

with a strong operational performance and solid results from marketing and trading. Financial

results continued to be affected by low liquids prices. The results enabled them to increase

their guided production growth to above 3% for 2015, as well as reduce the guided capital

expenditure level with USD 1 billion to around USD 16.5 billion. Statoil generated a strong cash

flow in the recent environment and had a solid balance sheet with a net debt ratio of 24%.

Adjusted earnings were NOK 16.7 billion in the third quarter of this year compared to

NOK 30.9 billion in the same period in 2014. The reduction was primarily a consequence of

lower liquids prices and increased depreciation, partially offset by stronger refining margins,

good operational performance and reduced underlying operating costs. Realized average

liquids prices in the quarter were down 37% measured in NOK compared to the third quarter

last year. Adjusted earnings after tax were NOK 3.7 billion, compared to NOK 9.1 billion in the

same period last year. Statoil’s net operating income according to IFRS for the quarter was NOK

7.3 billion, compared to NOK 17.0 billion in the same period in 2014. Net impairment charges of

NOK 4.8 billion related to exploration assets and various other asset impairments and reversals,

provisions for disputes of NOK 3.3 billion and net other adjustments of NOK 1.3 billon impacted

the IFRS results. Earnings per share were negative NOK 0.89 in the quarter, an improvement

compared to negative NOK 1.48 in the same period last year.

Statoil delivered production of 1,909 mboe per day in the third quarter, up 4%

compared to the same period in 2014. The underlying production growth, after adjusting for

divestments, was 7% compared to the third quarter last year. The production from the NCS

grew 10% in the third quarter of 2015 compared to last year, adjusted for divestments. Equity

production outside of Norway was 735 mboe per day, a 4% increase compared to the same

period last year, adjusted for divestments. Cash flow from operations amounted to NOK 90.2

billion in the first nine months compared to NOK 99.1 billion last year. Statoil maintained a

strong capital structure, and net debt to capital employed at the end of the quarter was 24%.

Organic capital expenditure was USD 11.6 billion in the first nine months.

The Future of Statoil

The future of statoil is filled with innovative objectives. With a lot of focus on the

environment, Statoil has partnered up with many specialized companies and universities to

leverage their knowledge and/or technologies. One of Statoil’s most recent onshore and

offshore challenges has been seeking innovative technologies to reduce the use of fresh water

during the completion and production phases. For example, Statoil has teamed up with GE in an

ambitious new collaboration. By bringing together two of the world’s most pioneering

companies, Statoil can accelerate innovation and help address the sustainable energy needs of

today and tomorrow.

In conjunction with this collaboration, Statoil is also launching a global Open Innovation

Challenge. This challenge allows individuals and/or companies to submit ideas on how to solve

today’s most challenging problems, especially in the Oil & Gas space. With Statoil’s massive

global company footprint, they can bring scale, funding and resources to accelerate proposals

from various innovators from around the world, and help develop and implement their

technologies.

Their first challenge was on improving the usage of sand in unconventional oil and gas

operations. Transportation of sand and water account for most of the trucking to and from

production sites. Long-term reductions in volumes will reduce the environmental impact on

local communities and help make energy production more efficient (1). For their latest

challenge, GE and Statoil are seeking innovative technologies to reduce the use of fresh water

during the completion and production phases. By identifying solutions that will reduce the

number of truck loads required, the challenge will help bring about an improvement on the

environment for affected communities, reduce the overall emissions related to the

transportation of water, and make energy production more sustainable over the long-term.

Climate change and a growing demand for clean energy are opening up new business

opportunities. More specifically, Statoil is utilizing their core capabilities in the Oil and Gas

industry to seize these opportunities in two renewable energy areas: Carbon Capture and Wind

Power. Regarding finding more oil and gas, Statoil has a strong focus on exploration activities

using the latest techniques and technology to ensure long-term production growth and value

creation. Items they are involved with here are understanding the rocks, seismic imaging,

geophysical reservoir monitoring, and new project volume/execution.

Statoil is also going after optimizing reservoir recovery. The company's reservoir

management and improved oil recovery performance illustrate that there is a potential for

increased value creation. The development and implementation of new technology drives

enhanced recovery from mature fields. Some of these areas include modeling and simulations,

and advanced drilling using “smart” technologies. While their fields are being developed or

recovered, Statoil keeps a close eye on deploying their resources cost-effectively while

protecting the environment.

Managing technology is one of Statoil’s strengths. They are committed to

accommodating the world's energy needs in a responsible manner, applying technology and

creating innovative business solutions. They believe innovation and continuous improvement

across the value chain are essential to sustain high performance across their global activities.

According to Statoil CEO Eldar Saetre, although the current climate in the oil and gas space is

unstable, “global challenges and new opportunities in the energy market will create a turning

point for the industry.” Saetre also emphasizes the fact that the energy world is changing and

the “oil and gas industry is currently facing a tough reality as global upstream investments are

estimated to fall by 20% in 2015” (1). However, do not let the recent Alaskan project hold fool

you. The company is confident that energy demand is growing, and that renewable energy will

have to meet most of this increased demand. However, they also know that oil and gas will

remain a critically important energy resource for at least the next 25 years and that Statoil will

be one of the leading companies paving the way.

References:

1. Statoil. (2015). http://www.statoil.com

2. http://www.newsinenglish.no/2015/02/04/acting-ceo-takes-over-at-statoil/

3. http://www.npd.no/en/Publications/Norwegian-Continental-Shelf/No1-2012/A-

controlled-success/

4. Bloomberg Business. “Statoil Sees More Norway Oil Exploration Cuts Amid Arctic Halt”

by Mikael Holter (Nov. 23, 2015). http://www.bloomberg.com/news/articles/2015-11-

23/statoil-sees-more-norway-oil-exploration-cuts-amid-arctic-halt

5. WSJ. “Statoil Follows Shell in Quitting Alaska” by Kjetil Malkenes Hovland Nov 17, 2015.

http://www.wsj.com/articles/statoil-follows-shell-in-quitting-alaska-1447776182

6. http://www.wsj.com/articles/SB116642748971353246

7. http://www.arcticgas.gov/norway%E2%80%99s-different-approach-to-oil-and-gas-

development

8. Statoil. (2015). 2014 Annual Report on Form 20-F.

9. Statoil. (2015). Quarterly results – Third quarter 2015. Retrieved from

http://www.statoil.com/en/investorcentre/quarterlyresults/2015/Pages/3Q2015.aspx

on December 10, 2015.