How Blockchain Can Help Future-Proof the Energy Industry

Just a few short months ago, top energy executives saw a stable future for both the world and their industry. According to EY’s Global Capital Confidence Barometer (November 2019), there was a widespread optimism across sectors that the global economy was on an upturn, demand for energy and products was rising, and 2020 was full of growth potential.

That’s the thing about black swans — they’re impossible to predict. The world looks very different right now than it did 6 months ago. With billions of people sheltering at home, stores and workplaces closed and the economic engines of the world halted until the pandemic’s resolution, Bloomberg analysts have now forecast the biggest demand contraction in the oil and gas industry’s history.

“Forecasts for global oil use are being cut dramatically as government measures to contain the spread of the pandemic restrict the movement of people and throw supply chains into chaos.” — Bloomberg

The oil and gas industry could never have anticipated the pandemic, or the resulting price war that has now sent the price of WTI to nearly a third of its 2018 average. However, the converge of these crises is a powerful demonstration of why critical industries like energy need to optimize, reduce operating costs and be backed by robust systems that can mitigate the impact of black swan events.

The energy sector has a high adoption of technology throughout the product value chain but has lagged other industries in upgrading core business functions like transactions and data management. The consequences are systemic inefficiencies, massive G&A costs and frequent disputes.

For example, an average of 9% of global crude oil transactions are disputed because of data disagreements between counterparties every year, with massive accounting, administrative and time costs to the industry. Other large G&A expenses in energy result from its complex partnerships and vendor relationships, challenging asset transactions, and high burdens for regulatory compliance. These are key areas where blockchain is beginning to be adopted in oil and gas.

A simple definition of a blockchain is an immutable, time-stamped series of pieces of data (blocks) that are managed by cluster of computers (decentralized nodes). Each of these blocks of data are secured and bound to each other using cryptography, forming an unbroken chain that can only be read or added to, never altered (immutable). Networks managing the data can be public, as with cryptocurrencies, or private and requiring permission to access, such as those used in business applications.

“Blockchain is an emerging technology that gives us the potential to reimagine how we work across our industry today.”

Rebecca Hofmann, Chairman, OOC Oil & Gas Blockchain Consortium

Over its 10-year history, blockchain has demonstrated a unique ability to streamline all types of data management processes between departments, organizations and transaction counterparties. It allows products to be instantaneously tracked through production and supply chains, for companies to automate payments and transactions with smart contracts and removes or reduces the need for many kinds of intermediaries like administrators, accountants, and legal support.

More than just a technology, blockchain is a data infrastructure that through automation and transparency, helps optimize the way value moves through and across business networks. In a highly uncertain economic environment, it works to remove systemic drags on capital and productivity, leaving a more resilient and robust organization.

The benefits of digital adoption in oil and gas have the potential to be massive — according to research firm McKinsey, digital technologies can reduce overall company expenditures by 20%, and a significant part of the savings come from getting rid of manual, redundant processes like data reconciliation.

“Our research 2 shows digital technologies may improve total cash flows by USD 11 per barrel across the offshore oil and gas value chain, adding USD $300 billion a year by 2025.”

-McKinsey, Capturing the Next Frontier of Value (2017)

Blockchain has wide potential applications in the energy sector, and transactions are a key area where traditional processes have high costs, long timelines and are ready for optimization. Smart contracts use information from blockchain databases to execute pre-programmed transactions, which are automatically triggered when the contract parameters, for example, a set production amount, have been met. Smart transactions eliminate disputes, free up capital by dramatically shortening transaction timelines from weeks to days or hours, and are a proven application in use in industry today.

Blockchain’s ability to provide an accessible, unbroken provenance of history and transfer is enhancing the creation of efficient digital supply networks, where products can be tracked in real-time and instantly traced back through the full oil and gas value chain. With the incorporation of GPS data into emerging geoblockchains, the movement of products through entire supply networks can be visualized on a map, allowing companies to optimize allocation and distribution, reduce errors and delays, and prevent theft or loss. Black market oil – much of it stolen through industry supply channels – is estimated by EY to be a $133 billion/year problem, and blockchain is a strong potential solution.

The collaborative nature of the industry is another opportunity for blockchain to add value. Upstream oil and gas is complex and built on partnerships, often with a number of companies involved concurrently in the same project. This makes record-keeping arduous, expensive and full of costly reconciliation and double-work, and companies try to verify labor hours, vendor agreements and shared operational costs. Disputes, payment delays and data corrections can be significantly reduced or eliminated with the use of a shared blockchain database that gives all parties access to the same trusted, verified information.

ESG compliance is another area where blockchain can streamline relationships between counterparties, in this case, producers and government regulators. A blockchain database can remove the challenges of audits by regulators by allowing access to an unbroken chain of verified production data that originates right at the wellhead. New applications are exploring how companies can enhance emissions measurement, monitoring and reporting using blockchain, which could potentially be used to create ‘emissions-certified’ petroleum products that prove each barrel’s climate impact.

According to major Siemens survey of oil and gas companies, 70% of them had experienced at least one attack by hackers, who target companies to steal data, divert supplies and disrupt operations. Cybersecurity is a growing but often disregarded challenge to the energy industry, and around the world, similar attacks have been on the rise. Encrypted, immutable and with enhanced tracking capabilities, distributed blockchains may become a core element of cybersecurity that can monitor supply chains in real-time, stop databases breaches and changes, and prevent the misuse of company identities.

“Cyberthreats to oil companies seem to become more prevalent and urgent when political tensions rise. Oil companies are targets of cyberattacks that are rooted in political agendas and geopolitical concerns.”

Trend Micro Report, 2019

Technological change always comes with risks — but in our new reality of greater political and economic upheaval, the far more dangerous risk is in not moving forward. Redundancies, manual processes, a lack of security and unnecessary costs are, as operational complexity and scale grows, making the industry far more fragile to crises, price shocks and other destabilizing events.

Many factors impacting the energy sector are uncontrollable and unpredictable. However, some measure of agency can be gained because process inefficiencies are largely controllable, and can be optimized with digital innovations like blockchain so that companies can focus on meeting the far greater, global challenges they’re facing.

How Blockchain Can Help Future-Proof the Energy Industry was originally published in Data Driven Investor on Medium, where people are continuing the conversation by highlighting and responding to this story.