GJCMP Porter
GJCMP Porter
GJCMP Porter
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G.J.C.M.P.,Vol.3(2):76-82 (MarchApril,2014) ISSN: 2319 7285
Abstract
The purpose of this paper is to analyse the oil and gas industrys competitiveness using Porters Five Forces
framework. The paper starts with an overview of the oil and gas industry and proceeds with analysing its competitiveness
with implications to new firms that are considering entering into the industry. Then, it discusses strategy literature
assumptions about future certainty and approaches to strategic decision making. Finally, it concludes with key points and
recommendations.
1. Introduction
The purpose of this paper is to analyse the oil and gas industrys competitiveness using Porters Five Forces
framework. The paper starts with an overview of the oil and gas industry and proceeds with analysing its competitiveness
with implications to new firms that are considering entering into the industry. Then, it discusses strategy literature
assumptions about future certainty and approaches to strategic decision making. Finally, it concludes with key points and
recommendations.
2. Industry Overview
One of the most important industries that has a rich and fascinating history is the oil and gas industry. This history
spans thousands of years and has played a significant role in structuring this business.
A. Early History
Underground oil was first discovered by the Chinese who used bamboo pipelines to transport oil and gas drawn
from wells to be used for lighting. During the 13th century, Azerbaijan inhabitants developed various methods to collect
oil seeps on the surface. By the mid 1590s, they were able to dig pits that reached a depth of 115 feet in order to
facilitate the collection of oil. (Library of Congress 2010).
Producing companies were mainly from Italy and Germany before the Indonesia entered into the European oil
market in 1643. In 1650, the first European commercial oil well was discovered in Romania, about 200 years later, the
worlds first oil refinery was established there. The 1850s witnessed the birth of the first oil company in the world, the
Pennsylvania Rock Oil Company. (Antill and Arnott 2000).
The first major oil company, the Standard Oil Company, was established in 1870 by John Rockefeller, which proceeded
to dominate the next decades (1870-1895) despite fierce competition. (Library of Congress 2010).
C. Modern History
As market globalization began to emerge, more competitors appeared across Europe, Russia and Asia, such as
Royal Dutch, Shell and Anglo-Persian (British Petroleum). (Library of Congress 2010)
Enormous discoveries of oil around the world, particularly in the Middle East, led to a decreasing U.S. dominance of the
oil industry as Middle Eastern production reached 5.2 million barrels of oil a day (about 24% of the worlds total
production) by 1960. (Antill and Arnott 2000).
These discoveries were followed by rapid increases in oil consumption at a rate of 7 percent per annum. This
significant increase of consumption was primarily driven by the expansion of automobile industry and was compounded
by economical and political instability in the Middle East during the 60s and 70s. This resulted in increased oil prices, a
situation exacerbated by embargos by the oil producing counties leading to a reduction in the worlds total oil production.
Due to this oil supply shortage, the International Energy Agency (IEA) was established.
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Moves by competitors to influence the Middle East oil prices led the oil producing countries to establish the
Organization of Petroleum Exporting Countries (OPEC). IEA and OPEC play several roles in forecasting economical
growth rates and petroleum supply and demand scenarios. (Library of Congress 2010).
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Jones et al. (1978) suggest that governments have conferred upon themselves some form of cartel power over the
industry due to their regulations. This supports Amarcher (1976) who points out that OPECs success in influencing oil
prices demonstrates the power such cartels have on primarily commodities. Although OPEC does not set oil prices, its
decisions play a major part in pricing, because the OPEC countries produce 40% of the worlds oil supply (Library of
Congress 2010). Consequently, these governmental policies and regulations work as a barrier for new firms to enter the
industry (Porter 2008). Natural resources obviously play the biggest barrier to entry as new entrants must have the
secure and competitive resource to risk entry into the industry as rivals have to acquire a comparable amount of secured
resources (oil and/or gas) to compete (Jones et al. 1978).
a. Power of buyers:
Powerful buyers have the ability to reduce prices, demand better quality or more service (thereby increasing costs)
and play industry participants off against each other, at the expense of industry profitability (Porter 2008). Major oil
companies outsource much of their field operations to oil and gas service companies. As buyers, oil companies are in a
powerful position to bargain prices, demand better quality or additional service.
Oil and gas companies seek to obtain rights to invest in exploration and production areas internationally. These
rights are acquired through buying a percentage of another companys right or through participating in licensing rounds.
In this highly competitive environment, oil and gas companies join together and form a Joint Venture. (Tavares 2000)
According to Berg et al. (cited in Kent 1991), Joint Ventures are formed primarily for three reasons:
1. Gain more market power (buyer)
2. Reduce or share risk
3. Acquire or share information
Moreover, oil and gas companies form Joint Ventures to overcome political and/or legal impediments or to meet host
country requirements (Chu et al. cited in Kent 1991). ConocoPhillips for example, has 50% equity investment in Joint
Venture with Spectra Energy a natural gas infrastructure company in North America (Datamonitor 2010). A 50:50 Joint
Venture between Shell and Exxon Mobil (Infineum) manufactures and markets high-quality additives used in fuel,
lubricants, and specialty additives (Datamonitor 2010). This, as Porter (2008) suggests, increases the buyers negotiating
leverage relative to competitors which leads to increasing the buyers power.
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According to Porter, (2008) slowdown in production such as experienced by oil and gas companies combined with
declining net liquids production and reserves (Datamonitor 2010), could increase the intensity of rivalry in this industry.
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Other Analysis:
a. SWOT Analysis:
b. PEST Analysis:
Political (P), Economic (E), Sociological (S), Technology (T)
Probability of Occurrence
Literature Assumptions
Future Certainty and Strategic Decision Making:
A companys external environment is a source of uncertainty. Because it is uncontrollable, the external environment
influences the structure, decisions and performance of organizations. Therefore, organizations have to adapt to the
external environment by restructuring themselves. (Jauch et al. 1986).
Milliken (1987) points out that the term environment uncertainty is a source of confusion since it has been used to
describe the state of the organizations environment as well as the state of the organization when lacking critical
information about the environment. This has caused scholars to argue whether environment uncertainty should be
measured as a perceptual phenomenon or as a property of organizational environments (Child et al. cited in Milliken
1987). Rational planning and analysis are the means to combat external uncertainty of the environment (Whittington
2001). Organizations that spend more time and resources in scanning and forecasting the environment will have more
ability to understand the probabilities of various events or changes in the environment. However, organizations operating
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in an unstable market will perceive more environmental uncertainty than organizations operating in more stable one.
Since effect uncertainty is the inability to predict what future environmental changes will be on the organization, any
increase or decrease in uncertainty impacts the organization's ability to function in future states of the market. (Milliken
1987).
Hofer et al. (cited in Milliken 1987) pointed out that it is difficult for organizations to go through all the steps
outlined in the rational planning model to identify opportunities and threats in an environment with a high degree of
uncertainty. Even if they did, the outcome would resemble the garbage can approach (Milliken 1987). The
Evolutionary theorists realize the limited capacity of organizations to anticipate future changes in the environment and
respond to it. Thus, Evolutionary theorists suggest that the best strategy is the one that is selected directly by the
environment. (Whittington 2001) However, in the oil and gas industry, organizations may try to influence the external
environment (rather than adapting it) to create uncertainty for competitors thereby enhancing its own competitive
position. The embargo of oil in the late 70s is one example. (Jauch et al. 1986).
This illustrates the Transition view in that sources of uncertainty are both external and internal and organizations
have the ability to influence the environment (Milliken 1987). Processual theorists, on the other hand, argue that the best
strategy should also encompass profit maximization in addition to environmental factors, while the Systemic theorists
argue that strategies must be socially sensitive in order to understand the internal and external environment (Whittington
2001). Thus, it is important to identify the sources of uncertainty as well as the type of uncertainty being experienced.
Organizational attempts to respond to environmental uncertainty are associated with understanding the response options
that are available to the organization and what the value or utility of each might be. Accordingly, response uncertainty is
likely to be high when there is a perceived need to act because a pending event or change is perceived to create a threat or
to provide an opportunity to the organization. (Milliken 1987) Thus, the Systemic perspective on strategy indicates that
the internal contest of organization is not only individuals or departments, but the social groups interest and the
surrounding resources (Whittington 2001).
Conclusion
Based on this analysis, investing in the oil and gas industry is neutral to a negative proposition (Menghini et al.
1997). A new firm considering entering the industry first has to assess the competitiveness of the industry using the five
forces (Porter 2008). This assessment is even made more difficult due to the high degree of uncertainty in the oil and gas
industry (Hofer et al. cited in Milliken 1987). Thus, we need to rethink our approach to strategic decision making by
analyzing both the internal and external sources of uncertainty as well as identifying the type of uncertainty being
experienced (Milliken 1987).
Recommendations
1. To be able to enter into this industry, new entrants have to assess barriers to entry (natural resources,
government regulations, politics and technology) cautiously (Jones et al. 1978).
2. To anticipate future trend of this industry, new entrants have to analyze the industrys past trends and
performance (Menghini et al. 1997).
3. To outperform rivals, new entrants have to establish a difference that can be preserved (Porter 1996).
4. To invest or diverse into different market segments, oil and gas companies have to select the right market
segment carefully (Garcia et al. 2000).
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* Corresponding Author
Mohammed A. Hokroh is a corresponding author and business system analyst in Saudi Aramco, Ras Tanura, Saudi
Arabia. He is a PhD candidate at the University of Bolton, Manchester, United Kingdom. He holds Master of Business
Administration (MBA) in Finance degree from the University of Leicester, Leicester, United Kingdom and Bachelor of
Science in Management Information Systems (MIS) from King Fahd University of Petroleum and Minerals, Dhahran,
Saudi Arabia. He has published several papers in international journals like Research in Applied Economics, Asian
Journal of Finance and Accounting, International Journal of Accounting and Financial Reporting.
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