Analysis: What can blockchain offer oil and gas?

Vinod Raghothamarao, director consulting, energy wide perspectives & strategy, IHS Markit EMEA suggests the energy supply chain could be transformed

Blockchain is set to disrupt many industry sectors.
Blockchain is set to disrupt many industry sectors.

Oil and gas companies operate in dynamic and complex environments, where they face constant challenges especially in terms of supply and demand. When the oil price is high, there is an argument to evaluate and take the moment to embrace new technology. When the price of crude oil is low, the high cost of upstream oil exploration and development, coupled with downstream efficiency challenges, forces most companies to reduce costs.

The oil and gas industry presents a particularly compelling opportunity to leverage blockchain technologies due to the high transactional values, and therefore risks, and economic pressures to reduce costs. A secure system that mitigates risk, increases transparency, provides an audit trail, and speeds up transactions at a significantly reduced cost may be appealing to oil and gas companies.

Blockchain is a distributed transaction-ledger database shared across traditional boundaries. The seamlessness of sharing a constantly updated, single source of the truth is one of the digital technology’s primary strengths. The expanding chain of “blocks” of digital data preserve every follow-on action by parties who have played roles in sourcing, producing, transporting, installing, trading and reselling oil and gas products. After business rules have been encoded, blockchain helps eliminate the need for human intervention to validate and reconcile the data.

One of the most obvious and powerful uses for the digital ledger technology is to provide a reliable and efficient platform for executing and recording energy trades. The entire non-hydrocarbon supply chain could be transformed with blockchain. The interaction with thousands of suppliers, vendors and counterparties drives up complexity and cost, but blockchain could help companies monitor compliance from their various suppliers.

Smart contracts

Additionally, the introduction of smart contracts, which are essentially computer code stored on blockchain that can execute actions under specified circumstances, should give oil and gas executives greater interest to improve their supply chain and finance activities. Smart contracts enable counter-parties to automate transaction tasks that are typically performed manually and that require the involvement of third-party intermediaries. Smart contract technology can result in processes that are faster and more accurate and cost efficient. Also, the parties to a smart contract agree to be bound by the rules and determinations of the underlying code, which in theory should lead to fewer contract disputes.

Joint ventures are common in the oil and gas industry and generally require a suite of complex agreements - for example, relating to the sharing of costs or revenues - which could be implemented as smart contracts. Most contracts contain audit clauses giving the parties the right to audit each other to make sure that all parties are complying with the contract. Introducing a blockchain ledger to record joint venture transactions and using smart contracts to define, negotiate and execute the contractual conditions will provide all involved parties, including the tax authorities, with transparency and consensus on what has occurred. This single audit trail, agreed upon by all participants, will significantly reduce the effort needed to ensure timely tax compliance and reporting, as well as the effort needed by the tax authorities to understand tax positions.

Global supply chains in the oil and gas industry comprise a complex web of suppliers, shippers, and contractors. The complexity and scale of this network requires substantial administration and creates opportunities for errors. From the tax authorities’ and customers’ perspectives, there also is a concern that suppliers might manipulate invoice values, potentially avoiding taxes or inflating costs, as goods are sold and shipped around the world. Utilising blockchain technology to record and manage the movement of goods and related invoices will significantly mitigate the risk of errors and the opportunity to alter invoice values or recipients. Goods will be tracked from source to customer, reducing time and costs, and providing insight into the supply chain process that could be used to create efficiencies. Invoices will be recorded in the blockchain, creating an immutable record of its contents.

The movement of invoices can also be addressed in the blockchain using public and private keys, preventing unapproved parties from accessing the invoices. This again could help to reduce the administrative burden on companies to report transactions to authorities and reduce the time taken by tax authority audits because of the reliability and transparency of data in the blockchain.

Tracking assets

Operations and maintenance and quality control personnel also have a real need to track exactly where asset components come from. Blockchain has the capability to help track all related components and assets, and to share records among business partners. It provides a framework for registering contractors, tracking performance and reliability. A blockchain could be used, for example, to track which suppliers produced the components and subcomponents for a blowout preventer.

If a certain component breaks down, the operator could consult data in the chain to determine when, where and by which company the component was produced. Manufacturers might examine the data to see if maintenance—frequently outsourced—was performed as recommended.

As an increasing number of assets are computerised, blockchain technology could also help to keep track of software updates to protect Internet of Things devices so as to avert sabotage and potential damage from cyberattacks.

In addition, using blockchain, the operational performance of a critical asset or equipment can be tracked based not only on the cost of the equipment but also the cost of all aspects of the performance lifecycle —including maintenance, operating costs, uptime and downtime. Once a service-level agreement has been determined and coded in the system, sensors could communicate to the blockchain, and performance factors would determine payment amounts (including bonuses or penalties).

But blockchain’s role extends into other sectors. For instance, it can be a real disruptor in energy trading and process optimisation. Blockchains can facilitate trading of energy by allowing for a faster settlement, reducing transaction costs and risks.

It can also play a role in grid management. The combination of smart devices and blockchains will allow the grid to self-regulate by automatically triggering actions such as curtailment, redispatch, demand-side management, and production/storage from batteries.

Blockchain can extend into the power sector and also into renewables. It provides a fast, secure, and universal solution to financially support renewable energy developments. It opens renewables ownership to every type of investor, either through direct investment or through the use of crypto–guarantee of origin.

Going forwards, we realise that even though some of the technological best practices have certainly trickled through the energy industry, there is always still scope for further improvement. Using blockchain, the oil and gas industry can see reductions in cost of managing complex financial agreements, such as those governing royalties and payments, improvement in transparency through their supply chain, reduction in trade finance costs, and ultimately greater responsiveness to changing market conditions.

Effective deployment of pertinent blockchain technologies is the way forward for oil and gas companies to reduce costs during a downturn, to make sure they continue to maximise their efficiencies and to focus on oil and gas production and exploration in the most optimised way. It will be really interesting to see how blockchain adoption evolves in the oil and gas industry and the ramifications of its use for the whole energy industry in the very near future.

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Oil & Gas Middle East - December 2018

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