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The Business: Birth of a new dawn at BP

The Business Online BPBy : Richard Orange and Rupert Steiner
17/01/2007
 
BP is in need of a cultural revolution.Tony Hayward’s first task will be to change the corporate

IT has been a frenetic new year for the 10 international business heavyweights serving as non-executives on BP’s board. After carefully considering his options in the calm of Barbados, John Browne had sprung his last surprise: deciding to step down 18-months early as BP’s chief executive. At that point neither he, nor the board, had yet made the final decision on who would be his successor.

Would it be Tony Hayward, the able head of BP’s exploration and production department; or Bob Dudley, the American boss of its Russian joint venture TNK-BP? A source who was party to the discussions said: “It was very much neck and neck until the end. There was a real debate.”

Eventually, after a series of meetings last week, the great and the good on BP’s board decided to hand the crown to Hayward, on the strength of his unrivalled internal experience at BP. The oil world is humming with excitement over what Hayward will do to prove himself the true heir of Browne, Britain’s most visionary chief executive in years.

Will he launch a major acquisition in the Canadian oil sands or take a plunge into the Indian and Chinese refining and petrol retail business, one of the highest growth areas in the industry? Or could he be more radical still and exit the refining business altogether? Then there’s the big deal Browne considered a few years ago: a grand merger with Royal Dutch Shell to finally displace Exxon Mobil as the world’s most profitable company?

But speculation about such bold and daring ventures entirely misunderstands Hayward’s mission. The last thing BP needs is another Browne. He may have made BP the company to follow in the 1990s; but it is the other legendary oil executive of recent years, Exxon Mobil’s Lee Raymond, that Hayward needs to emulate.

Raymond retired at the start of last year in a blaze of glory but, unlike Browne, he had barely altered Exxon’s strategy in his 13 years of leadership: instead he relentlessly drove discipline into every part of the business.

As a result he secured Exxon’s reputation as the most efficient cash-generating machine in the oil industry, pushing its value to more than $420bn (£214bn, e326bn), compared with Royal Dutch Shell’s $212bn and BP’s $210bn; and distributing a massive $71bn back to shareholders between 2001 and 2005. It is no surprise that Exxon trades at a premium, with a price-to-reported-earnings ratio of 11.1 times, compared with 10.2 times for BP and nine times for Shell.

Managing this shift will be challenging: as well as Browne, BP risks an exodus of the talented crop of potential successors. Dudley is crucial to the Russian business; but Iain Conn, the executive director, and John Manzoni, the head of refining, are both also extremely able.

Hayward should seek to hang on to them and resist pressure for Manzoni to resign in the wake of this week’s devastating Baker Report into the 2005 Texas refinery explosion.

The next priority will be to bring to BP some of the cohesiveness and discipline Raymond brought to Exxon. Neil McMahon, oil analyst at Sanford Bernstein, says: “At BP you always got the sense that it was the bold, strategic moves that got everyone excited. The project execution and implementation side was seen as a bit dull.”

Hayward’s task is to change this and, in the same way that Royal Dutch Shell responded to its 2004 oil reserves crisis by doing away with its clumsy dual-listed structure, the best way to respond to the explosion at Texas City is with a radical corporate re-organisation.

Baker’s excoriating report has outlined the deficiencies in BP’s organisational structure with harsh clarity. The links between the centre and the rest of the organisation are too weak. This same problem also lies behind the excessive cost-cutting and poor maintenance that led to the leaking pipelines at its Prudhoe Bay field in Alaska; the embarrassing succession of delayed projects; and the resulting missed targets for oil production.

One of Browne’s first actions was to break up BP into semi-autonomous “strategic performance units” built out of coalitions of business units. So, for example, Azerbaijan, Alaska, and the North Sea are all now run as separate businesses. Each responds to targets from head office and can draw on its resources, but is not under direct central control.

The price BP paid for the flexibility this gave it was that head office had an imperfect grasp of the state of the business. The structure Browne installed is no longer capable of holding together a company of BP’s size and scale; it must be unravelled urgently.

BP’s production in 2006 is set to be 14% below what it promised just three years ago; targets for oil production in 2007 and 2008 have already slipped by 16% and 14% respectively. From now on, Hayward must make it clear that such a poor performance is unacceptable. Targets need to be met and executives who fail to deliver fired.

This is especially important considering that BP’s delays compare badly with Exxon’s flawless recent record (with the Sakhalin 2 oil development in Russia, and the Kizomba A and Kizomba B fields in Angola all in production on time or early). Exxon is organised along functional lines and the centre has such awesome visibility and control, which should also be the way forward for BP. “Exxon is like the Borg, the collective,” jokes one London oil analyst. “Everyone does everything the same and nothing ever changes.”

The decision to appoint a global head of safety and operations, reporting directly to the chief executive shows BP is already centralising key functions; the exploration business from which Hayward has come, is already run from the centre. This change needs to accelerate. The next priority is its massive TNK-BP Russian operations, which Browne thought would be the solution to all of the company’s problems. That was to misjudge President Vladimir Putin: persistent rumours that Russian state energy companies, Gazprom and Rosneft, intend to buy out BP’s Russian partners in the venture (though the partners claim not to have held any discussions) sound all too plausible.

TNK-BP is also engaged in a tussle with Gazprom over its stake in the giant Kovykta gas field that increasing resembles the legalistic assault on Royal Dutch Shell’s Sakhalin LNG project.

Even if BP can rely on its Russian reserves, it needs an alternative source of long-term production. Hayward will be pressured to follow Shell into the Canadian oil sands, where massive reserves are available but which Browne rejected as unprofitable. The case is still open but Hayward can only afford to continue ignoring oil sands if he can demonstrate that BP has more than one alternative. Taking a position in prospective Indian offshore oilfields or demonstrating further progress on Iraq would be a start.

Another key question is refining, which BP has traditionally underplayed compared with Shell. Last year, BP’s much-hyped attempt to enter the Indian market with a $3bn joint venture with Hindustan Petroleum collapsed. Hayward must now decide whether to make another play on refining and marketing in high-growth emerging markets.

For all the challenges, times of crisis are good for handovers: the old boss takes the flak while his successor takes the credit for the rebound. The flipside of recent delays is that BP has a queue of projects that should start adding to production over the next two to three years. Deutsche Bank estimates production could be growing by 7% in 2008, taking total output to 4.5m barrels of oil and gas per day from today’s 3.8m barrels.

Hayward must make sure this promised growth arrives, while engineering a complete restructuring at Britain’s largest company. It is no small task, one which will take the relentless attention to detail of a Lee Raymond rather than the fleet-footedness of a John Browne. Shareholders will expect nothing less than a cultural revolution to make BP great
once more. The directors who entrusted Hayward with the job will be hoping that he is up to it.

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