Mitigating risk for oil gas companies with project cost controls

Javier Sloninsky, EcoSys

Fifteen years ago, only 10% of large oil and gas projects ran more than 50% over budget. Last year, that figure nearly tripled to 28%. According to a Schlumberger Business Consulting report, this budget busting trend is expected to worsen by 2015.

The cost of building and operating oil and gas facilities has been steadily on the rise, driven by strong demand for oilfield goods and services and rising fuel and labor costs. At the same time, oil and gas construction projects have become larger and more complex. Better performance tracking and delivery optimization has never been more critical.  

An effective solution for navigating these complexities is the use of automated tools and processes for project cost controls. Project cost management software systems aid companies in aligning their capital investment strategies with strict project execution requirements to ensure ROI is realized.  Effective cost controls solutions not only improve profitability, but they are also the key to building detailed budgets, maintaining data accuracy, measuring project expenditures against plan, and delivering timely reporting.  Cost and schedule overruns can be anticipated in advance, when there is still time to take corrective actions.

Accounting for risk
The development of risk contingency plans, which detail potential risks and the mitigation strategies should an event occur, have long been standard practice when accounting for project risks. Financially, the establishment of a “contingency” fund to be used when risks are realized is also very important, although the methodology is often outdated.  Traditionally, the value of the contingency budget is determined based on a fixed percentage of the project budget, using historical data to dictate the percentage.  This process, however, is static and can unnecessarily hold significant amounts of funds hostage over the life of the project.

With a modern project cost management solution, the contingency can be seamlessly integrated with a change control process.  When risks move from a potential occurrence to one that will have an actualized budget impact, the system will enforce the necessary approvals, draw down from contingency, and apply the appropriate changes to budgets and forecasts.  Conversely, when a risk is averted, the processes in place can return contingency funds to the organization, which can now make better use of the funds.

Mitigating risk through visibility
Managers of complex oil and gas projects can be overwhelmed by the sheer volume of data to track.  Through all the moving parts and multiple stakeholders, from the finance and project controls departments all the way through to the C-Suite and outside contractors, the problem is often the same: siloed data and a lack of transparency. 

Historically, the project cost management discipline has relied on highly manual processes for data collection and reporting, which impact the speed and accuracy of the information delivered.  Analysis and reports may be delivered too late to allow for corrective measures to be enacted. The goal should be a single, integrated source of data that can be accessed in real-time for reporting on project performance, through role-based dashboards, on-demand cost reports, all in an intuitive web-based view.

Project cost management solutions lend visibility to project progress and help to uncover issues before they lead to overruns that cut into margins. How is this achieved? With real-time access to integrated data, project controls analysts can create what-if scenarios directly within the cost management system, account for worst-case scenarios and have contingencies defined based on realistic scenarios. 

With access to cost and schedule data in a single system, Earned Value Management (EVM) techniques can also be applied in scenario analysis. EVM is a project controls discipline that measures project progress against the agreed plan. Fundamental earned value metrics, such as Cost and Schedule Performance Indices, can be used to automatically calculate Independent Estimates at Complete, objective forecasts of the total cost of the project based on actual performance trends. 

The ability to effectively control projects and predict potential outcomes ahead of time can be the difference between finishing a project on time and budget and having massive overruns that are only apparent in the week and months after all expenditures are accounted for. By having historical data as a guide and current data available in real-time, organizations have the tools to make better, more informed decisions during the course of the project.

Choice of projects: A risky business
While projects inherently have risks which must be accounted for and monitored, a full lifecycle project controls system can also help mitigate risk at a very early stage – during project selection.  As an organization chooses among the potential projects that can be executed, various factors come into play. What are the inherent risks of an individual project? What does the investment return in net present value (NPV)?  Is the project aligned with strategic objectives? These types of variables can be weighed and quantified in a project controls system to help determine when or if a project should be undertaken.

Additionally, looking at a portfolio of projects, a project controls solution can work to balance an organization’s supply of resources against the resource demands of existing and potential projects.  This analysis can identify delay-causing labor shortfalls and margin-eating surpluses at the earliest of planning stages.

As the oil and gas industry continues to evolve and projects become more global, more expensive, and more complex, the industry must embrace new technologies to drive project and financial success. All spending is under scrutiny today and even the most profitable oil and gas organizations are paying attention to more effective cost controls practices. It is clear that the industry can benefit from solutions that provide means to better manage the risk associated with large capital projects. Through standardization of processes and automation of reporting, project controls software helps to deliver projects more efficiently, on time and closer to budget.

About the author
Javier Sloninsky is the Managing Director of EcoSys, a provider of enterprise project cost and portfolio management software for industries including government, oil & gas, utilities, transportation, engineering & construction, and IT. Sloninsky has over 16 years of leadership and hands-on experience in the commercial software industry. Before co-founding EcoSys in 2000, he served as a product manager at Eagle Ray Software Systems (acquired by Primavera Systems, now part of Oracle).

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