OREANDA-NEWS. March 14, 2017. Oil major Shell says the bulk of the cost savings it has made in its unconventional business has come from improvements in technology and efficiency. As activity picks up, it is also betting that not splitting off its unconventional business — as others have done — will help it draw on its strengths in technology and people, positioning it well to succeed.

Greg Guidry, executive vice president for the upstream unconventionals business at Shell, spoke with Argus at the CeraWeek in Houston recently, sharing his views on key risks facing the industry, M&A outlook and Shell's key priorities. Edited highlights follow:

What are your key priorities this year?

My most immediate priority is keeping folks and keeping people and communities safe as we start to pick up activity and the supply chain starts to feel the pressure. We have a lot of equipment that is going to get reactivated and lot of people that have to get resourced.

Second, is to be able to transition into this step up in activity. It is quite intense in particular areas because it is much more PAD drilling as opposed to disparate activity that is kind of spread out over broad areas. And the third thing is managing reputation given the administration change — the fairly substantial change in the view to what the industry can bring to the economy, can bring to jobs, making sure that we fill the space in a very, very responsible way.

What kind of increase in costs do you see going forward?

The cost reduction we have seen in our own activity, only about 25pc of that comes from unit pricing, from the supply chain. Most of the reduction is due to improvement in efficiency. The challenge for us — we know that unit pricing will go up to some extent — but if we can lock in the efficiency gain from the continuous improvement efforts that we got.

Just as an example, our drilling times have gone down substantially. That's not unit pricing. In most basins, it is at least by 50pc.

We have the capability in terms of our balance sheet to extend our contracts out quite a bit as it relates to contingent liability. We have done that to all of our most costly elements — rigs, frack fleet, chemicals — and a number of other things that is costly in the business. We have got at least two to three year kind of contracts on most of the things locked in. In the onshore business, you have got many, many players to pick from. So we are able to spread our bets quite a bit across a number of suppliers.

But what we have to watch for is, as less experienced crews come to work as industry activity expands — I am more concerned about the quality of the people than I am about unit pricing because that is where you start to lose the efficiency gains — the quality of the rigs and the quality of the people that are manning the rigs. That would be more of an exposure than unit pricing.

What is the M&A outlook for 2017 for the industry and for Shell?

It is hard to predict overall drivers of M&A, but I can tell you from a Shell perspective, we have gone through a very, very substantial rationalization of our portfolio over the last four years, primarily in 2013 and 2014. But we are going to continue to look for more. Because our strategy is to continue to build out where we have Tier I positions.

We will continue to look for good value, incremental to the positions that we currently have. We continue to look in the international space for early entry opportunities because international oil companies do have the advantage when it comes to scaling in the international space. Argentina is a good example of that.

Our primary focus is enhancing the positions we currently have. In North America, our focus is not on entering new positions. Our focus internationally would be on entering new positions.

What are the key risks that may derail the recovery in activity?

Two things: One is capability, and I would say capability more important than cost. Poor capability leads to bad costs. So it is a focus on capability, whether it be hardware capability or people capability. That would be primary.

And the second is license to operate. It is societal acceptance for this activity. We need to continue to work this as an industry. And continue to enhance our practices and standards as an industry as a whole, so as to make this activity more and more acceptable. Prices aside that would be the only other governor in this activity, and the political attitude toward development.

What about the large levels of debt?

I do think it is going to have somewhat of a governing effect on the pace of ramp up. I would expect there to be a bit more conservatism on the part of banks and the part of investors in terms of the rate of ramp up, given the expected volatility in commodity prices. I would expect they would be a bit more cautious approach, which in evidently will affect the rate of ramp up.

What are Shell's unconventionals breakeven costs?

For our portfolio overall, it is $40/bl WTI — and that is the average of the totality of the portfolio, including Argentina. You get to the core of our positions and you can get down to the $20s, upper teens actually. There is quite a range, and some of the selective drilling that we are doing, the margins on those is actually quite a bit better than $40/bl.

Our focus is to generate near term cash. And so we are selectively developing higher margin barrels in the core of our positions. We will take advantage of those higher margin barrels as we work our way out of this lower for longer market.

Our intent is to be a material, sustainable engine for Shell. We are on a path to deliver that. What does that mean? That means about 400,000 b/d of oil equivalent (boe/d) by 2020. Several billions of dollar of cash flow from operations and double digit growth into the next decade. How can we upgrade our portfolio by focusing on very, very few basins but by focusing very, very hard on those basins?

Why do oil majors now think they are going to be successful in this business?

Anyone would have trouble banging their hands on the table saying 'Hey, I am the master, I know how to crack the nut.' Because a number of folks that are considered leading shale players still didn't make money in 2016. It is a kind of like a dot-com evolution. You are going to have certain ones that are going to emerge, and you want to be one of those that emerge.

What we know is that there is no amount of operational excellence that can offset bad rock. So if you don't have the right portfolio, you just can't be successful. The second one is capability. And that is 'Can you adapt your long-held standards that were more tailored for megaprojects and technology leading long cycle highly, highly complex projects? Can you adapt your capability in terms of your standards and talent to be as nimble as you need to be within this business?'

A number of folks have spun off businesses, and created separateness. We don't think we need to do that, because the downside to doing that is that it is tougher to leverage the strengths of a major in terms of technology, in terms of people, in terms of integrated value chain, in terms of procurement scale and in terms of international expansion. It is much harder to do that if you are separate. So what we are trying to do — it is a self-standing line of business, but it is still connected to the mother ship. If we get that sweet spot between nimbleness and connectedness then we are confident that we can be successful in this business.