April 2014 Control Today’s market dynamics are allowing for - TopicsExpress

April 2014 Control Today’s market dynamics are allowing for more disciplined project engineering, but the headwinds of a boom aren’t far off By R.P. Stastny It’s tempting to think that the oilsands industry has learned its lesson from previous periods of cost escalation, including the 2006-07 construction boom. Take the practice of starting construction on major projects before the engineering is fully complete. That practice, when not managed properly, was partly to blame for costly delays and subsequent design modifications. Supposedly, the industry knows better today. A recent Dundee Capital Markets Inc. report claims exploration and production companies today are “more focused on controlling costs” and are spending “more time on the engineering phase.” The industry and its observers largely agree with the assessment from Maxim Sytchev, Dundee’s vice-president and senior analyst, infrastructure and industrials. But the reasons for more complete engineering are less the outcome of past lessons learned than of the additional risks oilsands operators face today. More time to do the work Project economics play a key in how much pre-construction engineering gets done, according to Bob Schulz, professor at the University of Calgary’s Haskayne School of Business. In the current market, several oilsands companies have delayed pulling the trigger on projects because of pipeline delays and concerns over oil prices. In the last construction cycle, “it was all about getting the project started, getting it built and bringing on production,” Schulz says. “Today, one reason more front-end engineering is being done is because there’s more time to do front-end engineering.” Seven or eight years ago, a perception of world oil supply scarcity, ramping commodity prices and bullish economic forecasts conspired to drive frenetic oilsands activity and intense competition between oil companies. Today’s view is tempered by infrastructure deficits, growing volumes of North American tight oil production and political changes in the Middle East. “There appears to be some thawing in U.S.-Iranian relations, and if Iran could put some of its oil on the market, the Brent price of oil is probably going to drop and so is West Texas Intermediate and Canadian oil prices,” Schulz says. “Also, Libya still isn’t back to its former production, and there’s a risk of Venezuela falling apart and Nigeria falling apart, so this instability is currently adding anywhere from $10 or $20 to the current price of oil.” While oilsands project sanctioning doesn’t typically hinge on the vagaries of near-term oil price forecasts, no producer wants to come on stream in a commodity price trough. Some companies are also delaying their project decisions in order to sharpen their construction cost estimates and margins through better engineering within this tighter market. Design one, build many Another driver to more complete engineering before the construction phase is the preponderance of staged oilsands projects. When a project leverages exactly the same technology, the same modular packages, the same processes and the oil goes into the same pipeline, engineering requirements can align. By virtue of a project being an expansion, the bulk of the engineering has already been done at an earlier stage. The incremental engineering on subsequent phases becomes easier and quicker. Cenovus Energy Inc. strives for manufacturing style efficiencies through highly standardized staged oilsands development. “Typically, we’re able to fully engineer out an infrastructure stage—the tankage, utilities and most of our pipe racks—and then copy that to subsequent expansions,” says Craig McInnis, manager of project engineering for Cenovus’s Christina Lake steam assisted gravity drainage (SAGD) project, which since 2011 has commissioned three 40,000-barrel-per-day expansion phases. “Since we’re copying the engineering that’s 100 per cent complete, we can spend more of our time on managing our fabrication and our construction process.” Cenovus launched this approach in 2007/2008 with its Christina Lake Phase C infrastructure design. That served as the template for the subsequent D and E phases. Current work is on Phase F, which, at 50,000 barrels per day, requires additional infrastructure, but McInnis says it still uses Phase C as its building block. Phase G now expands on the new template of Phase F. “We absolutely believe that designing in smaller chunks is the way to go,” McInnis adds. “About 40,000 barrels a day is what we can really control from an overall management perspective. If you understand your engineering, you understand your estimates, and it’s much easier to implement an overall manufacturing approach.” Steady phased expansion, without dramatic slowdowns or ramp-ups, also contributes to the “manufacturing consistency” Cenovus is pursuing. The idea is that keeping engineering alive, fabricators busy and construction contractors engaged translates into control over costs. Cenovus is not alone in this approach, but it is by far its most active proponent. Indeed, this concept of repeatability is emerging as one of the tenets of SAGD itself. But it doesn’t just apply to this process. Imperial Oil Limited calls it “design one, build many.” The company is currently building a 40,000-barrel-per-day expansion to its Cold Lake cyclic steam stimulation project that has been operating since the mid-1980s. “Nabiye is being built using Imperial’s ‘design one, build many’ approach, reducing design costs and capitalizing on equipment and facility knowledge,” Imperial chair, president and chief executive officer Rich Kruger tells Oilsands Review in the upcoming Heavy Oil & Oilsands Guidebook. Imperial is also currently adding a further 110,000 barrels per day of production capacity at the Kearl mine, which started operating in 2013. MEG Energy Corp. also looks for a templated, staged approach to development, recently completing Phase 2B at its Christina Lake SAGD project. MEG spokesman Brad Bellows says the company typically has engineering about 80 per cent complete before starting construction. “We have a pretty repeatable approach that should reduce the engineering requirements substantially as we build out through stages,” he says. MEG’s Christina Lake Phase 1 was a 3,000-barrel-per-day pilot. Phase 2 went to commercial operations, adding 22,000 barrels per day for a total capacity of 25,000 barrels per day. Additional plant modifications and new technologies allowed MEG to exceed that for design capacity to a total of 35,000 barrels per day. “Everything that we applied to those first two phases, we think we can now do for 2B,” Bellows says. The newly operational phase adds a further 35,000 barrels per day of capacity, which MEG believes it will continue to consistently exceed. Proceeding in stages, in this case, provided an opportunity for new technologies to be engineered into subsequent phases. And MEG isn’t alone in this practice. Cenovus takes a value-based approach to incorporating new technology. “We have a pretty good idea of what it will cost to re-engineer any one particular area, so we weigh that against the potential benefit of incorporating the new technology,” McInnis says. “By copying 80–90 per cent of the facility in each phase of expansion, we can focus on changing that last 10­­­–15 per cent if something new comes along from a technology or process perspective.” Consequently, Cenovus has incorporated new technologies in almost every phase. Megaprojects Mario Potapczuk, manager of projects at HOCS Projects, a Calgary-based engineering procurement and project management company that does both sustaining and greenfield work (currently it’s working for Baytex Energy Corp. on greenfield cyclic steam stimulation project in the Peace River oilsands), says that project size is probably the biggest determinant of how complete engineering is before construction begins. “In fact, the further we stay away from the megaproject mindset, the better your chances of predictability and having the engineering substantially complete before starting the fabrication and construction phases,” Potapczuk says. Neil Camarta, an oilsands project veteran who headed the development, construction and start-up of Shell Canada Limited’s Muskeg River Mine and Scotford Upgrader in 2002—a high-pressure time for cost containment that Shell did not escape—has been outspoken about cost overruns and megaprojects. He says that on a megaproject, the engineering and construction processes should be thought of as two curves. One curve follows the other, and ideally there is at least 12 months separating each curve. “On a three-year project, for example, you’ll want your engineering to be 12–18 months ahead of your construction,” Camarta says. “That works, and it’s done all over the world that way. But if your engineering starts to fall behind, and the daylight between those two curves, instead of being 12 months, is down to six months or three months, you get into just-in-time engineering, and people in the field may have to do different things because the drawings aren’t there for the things they should be doing at that point. Then obviously your efficiency drops.” Learning from the past While most oilsands operators are doing their best to implement the lessons learned on past construction projects, Potapczuk says it’s unrealistic to expect dramatic change in such a short period of time. Still, other pressures are pushing the industry in the right direction. “What is emerging is that the long-term competitiveness of our development costs is seriously being questioned by financiers who apply a global perspective,” he says. “We are responding with an ideal way of executing projects where the engineering is done completely before going out to tender for construction.” Competing on global markets for capital, working in joint-venture arrangements with foreign entities that may require higher levels of cost predictability and other measures may improve engineering practices, but it still may not be enough if the current construction cycle heats up. Australia’s experience in liquefied natural gas (LNG) export facility development is producing cost overruns on some LNG projects by as much as 70–80 per cent, according to Sytchev. Despite partnership and very much operating in a global market, these megaprojects are eluding cost controls. “It’s very difficult to control inflation within a relatively constrained geography and labour pool,” Sytchev says. That situation applies both to Australia and Alberta. Costs get out of hand mostly in the field, but part of the blame is engineering that lowballs development costs. “Companies do a cash-flow forecast before they do a project,” Schulz explains. “Every company has a hurdle rate, say 16 or 14 or 20 per cent after tax in order to have proper long-range deployment of the capital. So if I’m working on the project, what do you think I would do? I juggle the numbers around so that I make it just over the hurdle rate. If I get over the hurdle rate, then I guess we go onto the next phase of the project, and I have a job for a while.” Camarta suggests a less pernicious but equally troublesome human dynamic at play on big projects. “There’s an investment of time and energy and your reputation,” he says. “So the team really wants to believe that it’s ready to go. Even when somebody says, ‘Maybe we should take some more time to look at this,’ you just don’t want to hear anything contrary because you want to believe you’re right and you’ve got it nailed.” Dundee’s Sytchev adds that another construction boom in oilsands could erode the current disciplined approach. And by “boom,” he means the green-lighting of just two more large projects, now that Suncor Energy Inc. has sanctioned its $13.5 billion Fort Hills mine. “We could see a return of the same dynamic we saw in 2006 and 2007,” Sytchev says. “And engineering departments won’t be immune to it.” oilsandsreview/osr-article.asp?id=9569