Preamble



People, Ideas & Objects competitive advantage and value proposition is that we provide the dynamic, innovative, accountable and profitable oil and gas producer with the most profitable means of oil and gas operations. Setting the foundation for the industry to obtain the objective of profitable energy independence on the North American continent. It’s not enough to own the oil and gas asset in the 21st century. It’s also necessary to have access to the software and services that makes the oil and gas asset profitable. We do this by providing the Preliminary Specification, an oil and gas ERP software solution that supports a business model that defines the following characteristics.

Specialization and the Division of Labor

Our focus on the areas of specialization and the division of labor and how these tools will move the producer firm to a higher trajectory of productivity and performance, and reduce the relative costs incurred in the industry.

What we do know is that today we stand on the shoulders of giants and benefit from a very sophisticated and complex specialization and division of labor. Today everyone in oil and gas has attained skills from education and training, and gained experience from years of working within their chosen field to conduct select and specialized work. To disrupt this in any fashion without a full understanding of the global aspects of how specialized this work has become would be a failure. At the same time, with the current corporate model proving to be unsustainable, the focus has been on cutting costs. Cutting too deep could have greater implications than what were intended. The point is, to move to a higher level of specialization and division of labor will not be done, and can not be done, without significant and deliberate forethought. The principle of spontaneous order has failed to provide any capacity increases in the past decades. We believe software is responsible, or more specifically, the lack of software development capabilities are responsible for constraining organizations.

Secondly we have to consider the role of software in society today. If we intend to move to a higher level of specialization and division of labor. Then the software that we use, and particularly the ERP software, is going to have to define and support those changes. Therefore we are not only going to have to deliberately plan the next level of specialization and division of labor, we will need to build the systems that define and support it first within the software, before the implementation of any changes or benefits will be seen. This is one of the defined benefits of having the software development capability of People, Ideas & Objects, its user community and associated service providers.

Review of the Preliminary Specification shows there is a defined restructuring that takes place throughout the modules based on a higher level of specialization and division of labor of the industry. The oil and gas producer is a stripped down version of itself that has the C class executives, earth science and engineering resources, land, legal and minor support staff. And that’s it. The rest of the producers administrative and accounting needs are provided by our service providers. Moving the industry from a reliance on the producers administrative and accounting capabilities to a reliance on the industries administrative and accounting capabilities. And each of these service providers are focused on one process, or one element of a process, that is organized and specialized across the industry. So for example, there would be a royalty payment service provider that handles all of the industries Texas Railroad Commission royalty payments. Where the cost of the royalties, and the billing for the royalty service provider is billed directly to the appropriate Joint Operating Committee. Not to the individual producer. Therefore eliminating the fixed nature of the operators administrative and accounting costs, and replacing them with the variable nature of the Joint Operating Committees administrative and accounting costs.

What are the advantages of moving to a system or methodology such as this. Cost and efficiency are the reasons. The costs associated with the royalty payment service provider would be a small percentage of what is incurred by the industry today. By focusing on the most efficient way to process the industries royalty payments, and only royalty payments the service provider would become so specialized as to reduce the time and effort in administering these tasks to a small component of the costs today. In Adam Smith’s pin factory, his research yielded a 240 fold increase in productivity from the changes that he made in the process of making pins. Having the royalty payment process and other processes in the industry subject to this type of analysis, complete with the software development capability of People, Ideas & Objects, similar results in productivity could be attained. All economic growth is a result of specialization and the division of labor.

When we consider the current corporate models attempts to provide the producers administrative and accounting needs for all that falls within their domain. And the understanding that is necessary to support those administrative and accounting tasks. The ability to build that administrative and accounting capability and capacity is costing each and every oil and gas producer their profitability. What will become to be seen as an archaic business model will be the way in which the industry is operated today. It has to because it is unsustainable. And a more effective and efficient business model based on a higher definition of specialization and division of labor will become the norm through the adoption of the Preliminary Specification. The industry's survival requires it. What we are in essence doing is moving from a reliance on the producers administrative and accounting capabilities to a reliance on the industries administrative and accounting capabilities. And this assures that we offer the most profitable means of oil and gas operation. As without the software to define and support this higher level of specialization and division of labor, it will not happen, spontaneous order’s effectiveness is limited in today’s software driven organization. This will need to be resolved if the North American based producers are to approach energy independence. To do so they will need to be profitable and they will need to be efficient.

The Decentralized Production Model

It has been several years since natural gas prices have declined. Oil prices are affected in the same manner. With the costs associated with exploration and production, and particularly shale reserves, its no surprise that producers are reporting losses on operations. What is surprising is that producers have done nothing over this period to mitigate the overproduction that has caused the decline in pricing. The reason for this chronic overproduction is the producers have to generate the revenues to cover the out of pocket costs of the overheads they incur in the “high throughput production” model they employ. This model has these overhead costs of the producer firm being incurred whether there is production or not, and as a result, makes their operation a high cost operation at any level of production. At lower production volumes, it skews their earnings and overhead costs appear out of place. Therefore this behavior of producing at capacity should be expected to continue on both the oil and gas sides of the business. Even in spite of significant financial loss.

In the Preliminary Specification the “decentralized production” model is employed. It enables the dynamic, innovative, accountable and profitable oil and gas producer to implement a price maker strategy. This decentralized production model has been defined by Professor Richard Langlois as:

In a world of decentralized production, most costs are variable costs; so, when variations or interruptions in product flow interfere with output, costs decline more or less in line with revenues. But when high-throughput production is accomplished by means of high-fixed-cost machinery and organization, variations and interruptions leave significant overheads uncovered. p.58

All of the administrative and accounting service providers that we discussed in the previous section charge for their services directly to the Joint Operating Committee. This makes for the conversion of the producers fixed administrative and accounting costs into the Joint Operating Committees variable administrative and accounting costs. Therefore, if there is no production, there is no charge for the administration or accounting items from the service provider and neither the producer nor the Joint Operating Committee is incurring any overheads during times of shut-in production. Control of these administrative and accounting costs have shifted from the producers to the service providers to be dealt with on an annual basis. For example, on shut-in properties no charges would be made for Production, Revenue or Royalty accounting services to the Joint Operating Committee. Therefore the only costs that would not be covered during times of shut-in production would be the costs of capital. The producer can therefore shut-in production that is not meeting the marginal cost and save those reserves for a later time when they will be produced profitably. Keeping that production off the market until the commodity prices rise to the point where they will cover the marginal cost. Putting an effective floor on the prices of the commodities around the industry’s marginal cost.

If producers across the industry follow this process by subscribing to People, Ideas & Objects Preliminary Specification then prices would not have had the significant declines that we have experienced in the last six year period in natural gas and what has occurred since 2014 in the oil markets. If the downswing in natural gas prices were averted by way of a fifteen percent reduction in natural gas production volumes, therefore increasing average prices to $6.70. The projected total revenues (and profits) of the North American natural gas industry for the past five years would have been $380 billion higher than what they have been. Those are the opportunity costs for 2009 through to 2013. The period when natural gas prices fundamentally broke down due to the prolific nature of shale gas. An additional $325 billion in opportunity costs are available under the same scenario to 2019 for a total of $705 billion for the decade. Making all of the North American based natural gas production under this scenario exceed the marginal cost and becoming profitable. And for any shut-in production, no loss on operations would have been incurred because there would have been no overhead, royalty or production costs, or in other words a null operation recorded at the Joint Operating Committee and therefore increasing the current month's profits of the producer from all their other producing properties.

Adding the price declines in the oil market to our value proposition is a gift that we gladly accept. High oil prices covered off a lot of pain and misery in the natural gas side of the business. Soon the bureaucrats will be held accountable for losses on both sides of the business and they should be removed from the scene and replaced by People, Ideas & Objects Preliminary Specification, our user community and our service providers. Our value proposition in oil on North American production priced at $65 / barrel for one year is worth $285 billion. Bringing our total value proposition to almost $350 billion for 2015 alone. Not a bad deal when you consider our budgeted costs.

Adding the ability to shut-in production on marginal operations to the ways in which People, Ideas & Objects provides the innovative oil and gas producer with the most profitable means of operations is a substantial part of our competitive advantage. Shutting in production is the logical thing to do but producers refuse to do so due to the impact on their performance using the high throughput production model. The decentralized production model used by People, Ideas & Objects would actually improve the profitability of the producer, retain those reserves for the future when commodity prices rise, reduce the costs of operation, remove the excess production from the commodity marketplace and indirectly increase prices towards the industry's marginal cost.

Whereas today’s continued unprofitable production maintains high cost operations, adds the losses to the cost of the reserves to be recovered from future operations, requiring even higher prices in the future and further depresses commodity prices. Instead of doing what it needs to do, the bureaucracy will continue to do what it know’s how to do, particularly when it lacks strong leadership. Which based on past history is nothing. But let's be honest, maybe their strategy of praying for another cold winter will come through again this year. Or their strategy of “rebalancing the market,” which is the deliberate destruction of the industries deliverability will make sense and actually take effect one day. 

The individual decisions of each oil and gas producer, based on an actual accounting of the profitability of the property, will determine if the property produces. That is how the oil and gas industry needs to deal with the low commodity price situation that it finds itself in. Shale based reserves will always overwhelm the oil and gas commodity market with flush production and deliverability that are driven by its prolific nature. Production discipline based on profitability can only be achieved through the reorganization of the industry and the producer based on the Preliminary Specifications decentralized production model. Enabling the price maker strategy that’ll provide for the producers and industries profitability. 

Price Maker Strategy

The issue of whether the price maker strategy involves collusion or not can be addressed by clearly detailing why it’s not. The first thing we need to realize is that the oil and gas commodities exhibit characteristics that make them “price makers.” The industry operated by the bureaucrats assumes that these commodities are “price takers.” The differences are defined in the economic literature as follows.


A price maker is a monopoly or a firm within monopolistic competition that has the power to influence the price it charges as the good it produces does not have perfect substitutes. A price maker that is a firm within monopolistic competition produces goods that are differentiated in some way from its competitors' products. This kind of price maker is also a profit-maximizer as it will increase output only as long as its marginal revenue is greater than its marginal cost, so in other words, as long as it's producing a profit.
A price-taker is an individual or company that must accept prevailing prices in a market, lacking the market share to influence market price on its own. All economic participants are considered to be price-takers in a market of perfect competition, or one in which all companies sell an identical product, there are no barriers to entry or exit, every company has a relatively small market share, and all buyers have full information of the market. This holds true for producers and consumers of goods and services and for buyers and sellers in debt and equity markets.

Please note that marginal cost as defined by People, Ideas & Objects is taken over the long term. This perspective is consistent with the definition on Wikipedia and elsewhere that “In practice, this analysis is segregated into short and long-run cases, so that, over the longest run, all costs become marginal.” The issue that People, Ideas & Objects has with the bureaucracy is they preclude the cost of capital and overhead in all of their calculations over all perspectives. Leaving the investors to subsidize the consumers of their energy costs. 

People, Ideas & Objects sees the oil and gas commodities as price makers in the following manner. You can’t put a petrochemical plant next to a hydro dam. You can’t lubricate your engine with electricity. You can’t carry nuclear power in a bucket or fuel your car with coal. Oil and gas have monopolistic competition in that it does not have substitutes. Water is a price taker.

In terms of price maker and the method that our decentralized production model works is that only oil and gas production that is profitable is produced. Those properties that are unable to produce profitably at the current commodity prices are shut-in until the commodity prices rise, or innovations increase the reserves, lower the costs or increase production. The important point that has to be made. Is People, Ideas & Objects price maker strategy is based on the individual, independent decisions of each of the producers, based on an actual, factual accounting of the properties profitability. If that is collusion then the entire capitalist system is.

The definition of collusion is provided by Wikipedia. “In the study of economics and market competition, collusion takes place within an industry when rival companies cooperate for their mutual benefit. Collusion most often takes place within the market structure of oligopoly, where the decision of a few firms to collude can significantly impact the market as a whole. Cartels are a special case of explicit collusion. Collusion which is overt, on the other hand, is known as tacit collusion, and is legal.” All firms will be making the decisions of whether or not to produce at each and every property that they own. Those decisions will be made on the factual, actual accounting that provides the information for that decision. The decision is to make a profit, or if the property is shut-in to incur a null operation. The decision to avoid a loss of financial resources as a result of producing the property at a price that does not cover the marginal costs, in the long term perspective of marginal costs, is a rational business decision, not collusion.

To avoid collusion bureaucrats would have us believe that they are operating the industry within the law today. Losses of catastrophic proportions displacing the financial resources of each and every producer over the long term is normal business for the bureaucrat. To establish their cost structures and legacy commitments of shareholder distributions, bank and bond debt payments that push them outside of any viable future oil and gas price scenario is considered reasonable for the oil and gas bureaucrat, as long as they don’t collude.

What people need to do is to begin reading and thinking about what it is the oil and gas producers are doing. We see the prices starting to motivate some producers to move back into the field for more drilling. We will most certainly test the lows in both of the commodities in a very short period of time. Shale is the issue. The reserves are prolific and the deliverability will overwhelm the market if there is no production discipline within the industry. The only way that production discipline is going to come about is through the adoption of the Preliminary Specification our decentralized production model, based on the price maker strategy. 

Accounting for Capital Costs

Allowing producers to have their balance sheets bloated with capital assets that are never written down. And as a result, their income statements realizing only small portions of the real costs of capital incurred in the production process. Leaves the investors waiting for a return of their capital from the industry. Although the bureaucrats may report profits. They really are just the gross margins of the producer firm. The actual overhead and the capital costs of the property are never moved to the income statement. The overhead of the producer is capitalized to the balance sheet and sits there for eternity to pass. The net result of this process is the producers look spectacularly effective in their operations. Their assets continue to grow as long as they spend. Their profits are high no matter how successful they are. However in terms of really producing anything of value, the investors are now learning, oil and gas is a lost cause. 

Having high asset values on the balance sheet provides no one with any value. In a capital intensive industry, the oil and gas producer needs to deploy their capital effectively. When every producer capitalizes every dollar spent each year. How do you assess the effectiveness of their capital deployment? According to the accountants you need to look at the firm from the point of view of the capital assets life, or reserve life index, or in this example the ten years. I feel the horse has bolted from the barn and locking the gate is useless. Investors need to have a more timely gage in which to assess the capabilities of the management of the producer firm. I would also suggest that the assets at the ten year mark will probably sit for a while longer yet. And instead look at what the costs incurred to maintain and expand the deliverability were. That this cost in the current fiscal year is the cost of capital necessary to maintain and grow the deliverability of the firm. And is therefore a cost that is spent. That this cost has been expended and is irretrievable, and therefore should be expensed in the current fiscal year. Or in other words the size of the capital asset depletion should be the same or even much larger than what the amount is expended in the current year to maintain and grow the deliverability of the producer.

Measurement of a firm's assets and the timing of their movement to the income statement is a key principle in accounting. I think the public accountants and the SEC have messed it up badly in oil and gas. Leading to the investment community essentially subsidizing the oil and gas consumer by funding the capital expenditure programs of producers with no expectation of any return on investment, ever. This has to change if the industry is going to approach the needs of society in the next 25 years. Undertaking the $40 trillion in investment that is alleged to be necessary with nothing but disgruntled investors is not going to do it. Sure investors sit on producers that are well capitalized in terms of their assets on the balance sheet. But they never make any real money. And at the end of the day, all that happens is that a new day begins with the bureaucrats who run this business. We need a change. 

The extraction of value from the oil and gas industry as a result of the accounting methods dictated by the SEC may be difficult for some to comprehend. It is believed that having big asset values on the balance sheet of your producer firm is the ideal situation at all times. With People, Ideas & Objects argument being counter to this, these capital costs should be recognized by moving them to the income statement as soon as possible. Which has large implications in terms of the value that is generated in the industry. Currently all of the costs of exploration and production are “stored” on the balance sheets of the producers. These costs have generally never been recognized on a timely basis and since this is a systemic, industry wide, multi-decade issue, this practice has created serious distortions in the oil and gas industry. By moving these costs from the balance sheet to the income statement you will either incur a loss, such as what the industry would have done, or the commodity prices realized should have been adequate to cover all of the costs of production, returning the invested capital in the form of cash, which industry hasn’t done and have therefore had the investor's cover the annual cash shortfalls incurred from production.

Firstly, without fully recognizing the costs of exploration and production, the oil and gas production appears to be highly profitable. Which attracts more investment leading to more capital costs which increases the productive capacity of the industry which “appears” to also increase its profitability. In reality none of the investment dollars are being returned to the business when these capital costs are not recognized in a timely manner. Therefore the investors and bankers have to make up for the annual cash shortfall of the producers created when the commodity prices are unable to cover the entire costs of the business. The business is still incurring these costs, however the accounting is reporting that these costs are ballooning assets that hold some mythical value for the producer. Nothing could be further from the truth. 

Do this for four decades and the hollowing out of all measures of value of the industry will be complete. Producers have been reporting profits when in reality, if all of the costs were considered, oil and gas has been a lost cause, supported by investors, for decades. The residual infrastructure does not have the capital or financial base or the performance capabilities, because the overproduction as a result of the chronic overinvestment has systemically collapsed the commodity prices. Then, add shale!

Through People, Ideas & Objects the accounting that is carried out will change significantly when we implement the Preliminary Specification. With the decentralized production model enabling the price maker strategy for all oil and gas properties. Producers will be able to shut-in those properties that are unable to produce a profit in a low commodity price environment. And the determination of what the costs of that property will include is the capital costs on an accelerated amortization schedule. This will bring the costs per barrel much higher and into the territory of what it actually costs to produce. Requiring higher commodity prices for the producers to meet the criteria of producing any property. 

At some point in every industry this transition has to be made. In the beginning the build out of the industry has to be undertaken by the investment community. Then when the assets of the industry mature, it is then time to earn the profits from what has been developed. Oil and gas is a mature industry. The bureaucrats continue to consider that it is other people's money that they need in order to fund their operations. This is inconsistent with reality. The industry should be providing the investment community with a return on the invested capital, and an annual profit on those as well. Instead the bureaucrats let the assets sit on the balance sheets to eternity and never let the costs flow to the income statement. This subsidizes the consumers of oil and gas by having the investors pay for the capital costs of the industry. The prices of the commodities never adjust to the real costs of the industry. 

Under this change to People, Ideas & Objects methodology the makeup of a producer's balance sheet will ultimately change. From having a dominant position in terms of fixed assets, and negative cash and working capital positions. To having high values of liquid investments, positive cash and working capital and much smaller amounts of fixed assets. They will be financially much healthier. They will be able to dividend out large portions of their earnings to the investment community. Pay down debt. And fund large portions of their own capital expenditure programs. All as a result of finally realizing the real cost of oil and gas exploration and production!

It will be the level of capital expenditures in the past three years that dictate the oil and gas prices. It will be these properties that carry the higher costs per barrel due to the large balances of capital they still have to amortize to each barrel of oil equivalent produced. If we are generally writing off all of the properties assets in the first three years of the life of the property. It will be these that have to meet the criteria of being produced or shut-in first in a low commodity price environment. Those properties that have exhausted their asset balances will be able to produce large profits no matter what the oil and gas price is in the marketplace. However, it will generally be the work done in the past three years that dictates what the actual costs of production are. And it will be that higher threshold that the oil and gas prices will have to reach to bring on the past three years production. In an industry that has the elasticity of supply and demand characteristics that the oil and gas commodities have, (it is a price maker commodity) it will be the higher prices that the industry will need to be realized in the People, Ideas & Objects accounting methodology and decentralized production model. 

The SEC and public accounting firms detail the methods that capital assets are written down today. They define what the limit of reasonableness is in terms of what is Generally Acceptable Accounting Practices. Their position is to define the limit and ensure that the producer firm does not breach that limit. However, the bureaucracy are taking the limit as the standard in terms of what “should be” used as a method of depleting the capital assets. This, I believe, is unreasonable when it is taken to the extent of the SEC’s limit at each and every producer and each and every fiscal year. Bloated balance sheets provide no value to anyone. Many producers had asset values that exceeded the lifetime possible revenue streams of the organization! It will be People, Ideas & Objects service providers, the sub-industry that we are creating to replace the bureaucrats, that will use a much more aggressive three year method of writing down all of the capital assets. That way prices will reflect the real cost of the commodity. Producers will be able to “make” the necessary prices to recover their costs through the decentralized production model. And the investors can freely invest in the oil and gas producer knowing that the money they invest will be returned to them with the bonus of an annual profit.

Regarding cash flow. One of the areas that I have difficulty in accepting about the cash flow numbers of the oil and gas producers. Is what I believe to be an overstatement of those values as a result of the accounting that is done. If we look at the capital expenditures of the producer firm. And we look in hindsight at the production profile we see that not all of the capital expenditures were dedicated to increasing the firm's production profile. The reality of oil and gas is the ever present decline curve, particularly in shale. Should we look more critically at the capital expenditures of a producer and determine which dollars were spent in maintaining the production profile, and those dollars that were spent in expanding the production profile. 

This goes to the heart of the issue of capitalizing everything under the sun. If capital expenditures are to maintain the production profile why would they not be considered operating costs. If they were they would reduce operating cash flows substantially and more accurately capture the activities and value that the firm is engaged in. This would immediately reevaluate the company's market capitalization and enterprise value in today’s environment. These reduced cash flows would more accurately relate to the state of the industry and producers would have to realize the three fold increase in revenues to record commodity price levels in order to better evaluate their firm. Having everything deemed to be a capital expenditure makes the cash flow overstated, in my opinion, just as capitalizing everything to the balance sheet will overvalue the firm's assets. 

As we can see everything in oil and gas accounting is skewed to overvaluation. Assets, cash flow and earnings all are affected by the policies that are in place within the industry. This industry “norm” has enabled producers to believe that they are productive, contributing members of society when in fact they have been a financial disaster. It is only after four decades of this accounting treatment that the evidence of the issues in doing their accounting in this manner is becoming evident. Essentially the value that is contained within the entire industry's infrastructure, that is the entire producing infrastructure in North America, isn’t worth anything as it is a cash flow drain with catastrophic losses. The only measure in which to turn the industry around from this point is to triple the revenues of the producers to record commodity price levels for a sustained period. These revenues would be able to remediate the destruction that occurred these past four decades. Investors and bankers have invested in good faith, now own an industry that is a drain on their resources, and have indeed subsidized the consumer for their energy needs for these past four decades. The amount of the consumers subsidy accurately reflected as property, plant and equipment on the producers balance sheets.

Oil and gas is a capital intensive business. The way it is run today is the capital is raised, spent and sits for generations on the firm's balance sheet in their entirety. Turning around the capital to be used again and again is never done. It has always been believed that you just raise more money each and every year. Spend that, and then add it to the pile of never depleted assets on your well defended balance sheet. Whatever that means exactly, I don’t know. Producers have to begin to turn their financial resources over in a much quicker fashion. By doing the above, recognizing that most of their capital expenditures are to maintain their production profile, having those capital expenditures recorded as operations will return that capital back into cash within the current fiscal period. That is with the one big qualifier. If the firm is run like a profitable business and not an engineering exercise. It employs the price maker strategy of the Preliminary Specification and realizes the prices that make the producer a truly profitable operation. 

Now that we have established our accounting methodology is different from the status quo. I want to reiterate the value proposition we have in providing the oil and gas producer with the most profitable means of oil and gas operations. Through the decentralized production model, and the accounting methods we have discussed here. We are able to generate $5.7 trillion in additional profits over what the bureaucracy will provide in the next 25 years. By accounting for the capital costs of the industry in the price of the commodity we are returning the capital that was used by the industry. Providing a return on investment back to the investors. If the expectation is that the industry will be spending $40 trillion in the next 20 years. Then the investors, under our methodology, can look for a return of those funds as well. Providing, at a minimum, $45.7 trillion more than what the current bureaucracy have traditionally provided.

Innovation for Profits

As the third element of our competitive advantage, of providing the dynamic, innovative, accountable and profitable oil and gas producer with the most profitable means of oil and gas operations. We focus on innovation as the way in which to enhance the profitable nature of the producer. Innovation for profit, particularly from the scientific basis of the business, is the successful perspective for the 21st century oil and gas producer. From Professor Giovanni Dosi.

In the most general terms, private profit-seeking agents will plausibly allocate resources to the exploration and development of new products and new techniques of production if they know, or believe in, the existence of some sort of yet unexploited scientific and technical opportunities; if they expect that there will be a market for their new products and processes; and finally, if they expect some economic benefit, net of the incurred costs, deriving from the innovations.

The Preliminary Specification has been designed to capture the “what” and “how” of innovation within the software that will be used by the innovative producer. Throughout the modules the principles and understanding of innovation were researched and incorporated into the software. Our research included the works of many but most particularly Professor Giovanni Dosi and his key paper “The Sources, Procedures, and Microeconomic Effects of Innovation” (1988). It was there that we learned many of the fundamental aspects of what are necessary for the oil and gas producer to focus on innovation. Recall that it was in our Preliminary Research Report (2004) that we learned that innovation can be reduced to a defined and replicable process.

To highlight a few of Professor Dosi’s key points on innovation, in this next quotation he notes the opportunities, the processes of innovative search, and incentives to investments in innovation.

Thus, I shall discuss the sources of innovation opportunities, the role of markets in allocating resources to the exploration of these opportunities and in determining the rates and directions of technological advances, the characteristics of the processes of innovative search, and the nature of the incentives driving private agents to commit themselves to innovation.

and

The search, development and adoption of new processes and products in market economies are the outcome of the interaction between:

  • Capabilities and stimuli generated with each firm and within the industry of which they complete.
  • Broader causes external to the individual industries, such as the state of science in different branches, the facilities for the communication of knowledge, the supply of technical capabilities, skills, engineers etc.
  • Additional issues include the conditions controlling occupational and geographical mobility and or consumer promptness / resistance to change, market conditions, financial facilities and capabilities and the criteria used to allocate funds. Microeconomic trends in the effects on changes in relative prices of inputs and outputs, including public policy. (regulation, tax codes, patent and trademark laws and public procurement.)

Innovating for profit is the third element of People, Ideas & Objects key competitive advantage of being the most profitable means of oil and gas operations. It is within the DNA of the Preliminary Specification how the processes of innovation are identified and supported by our software that enhance the ability of the innovative and profitable oil and gas producer. 

And where will the innovative oil and gas producer focus their innovative energies? It will of course be on their inventory of shut-in properties. It will be there that they have the opportunity to increase their reserves, reduce their costs or increase production and return the property back to profitable production that is the incentive to innovate by the producer. 

Lower Costs of Exploration and Development

We now come to the fourth component of our competitive advantage of providing the oil and gas producer with the most profitable means of oil and gas operation. It is the lower costs associated with any field work done for exploration or development. This would also include the field operations on producing properties that were covered by a workover or an AFE.

There have been many complaints from the oil and gas producers about the high costs of field operations. I have written about the accusations made by producers toward the service industry and how the situation has developed and what needs to happen in order to correct these. Everyone would agree that a more productive environment needs to be developed between the service industry and the producers. And I have put the onus on the producers to begin the process of building the capabilities for a more dynamic and innovative service industry. This can begin by developing the Preliminary Specification and implementing the changes within it to start the ball rolling.

There are a variety of interfaces within the Resource Marketplace and Research & Capabilities modules that provide windows to the service industry. These collaborative interfaces are designed to deal with the one issue that is systemic throughout the oil and gas industry. That issue is the manner in which the oil and gas producers deal with the ideas of others who have developed them. They ignore them. And they use them without respect to who the rightful owners are. This is counter to their own best interests. What has happened is that those that know the time and effort necessary to develop a new idea will not make the effort because the oil and gas industry will not respect their efforts, and therefore they don’t bother developing the idea. No new ideas are coming into the service industry at a critical time when the science in oil and gas is becoming paramount. And to add to the problem the oil and gas producers will not hire anyone for field operations that are not of a certain size and scope to handle the job. So all of the money is going to the larger firms in the service industry, no new competition is being developed and no new ideas to support that new competition. Is it any wonder that the producers complain about the costs associated with field operations?

In order for People, Ideas & Objects to claim that we provide the most profitable means of oil and gas operations. We need to show that the costs associated with field operations would be lower in an environment where the Preliminary Specification would exist. By having the oil and gas producers respecting the ideas of others in the service industries will be all that is required to make the changes from the current status to a dynamic and innovative service industry. There are a variety of interfaces and modules that are dedicated to the initiating, sponsoring and supporting of ideas throughout the Preliminary Specification. As I indicated, these are what are necessary for both an innovative oil and gas and service industry. When drilling a well in a shale formation can cost ten to fifteen million dollars the opportunities for innovation are strong. Today no one is motivated to do so because the producers will not respect the owner of the idea. So everyone just picks up their paycheck and carries on. It's a simple matter for the oil and gas industry that you reap what you sow. Recall in the quotation of Professor Giovanni Dosi that investments in innovation is for the purpose of profits. That reasoning applies in this instance as well in that the innovation will reduce the time, effort and costs of field operations by finding a better way.

In the most general terms, private profit-seeking agents will plausibly allocate resources to the exploration and development of new products and new techniques of production if they know, or believe in, the existence of some sort of yet unexploited scientific and technical opportunities; if they expect that there will be a market for their new products and processes; and finally, if they expect some economic benefit, net of the incurred costs, deriving from the innovations.

Producers need to create this profitable environment for the service industry. Producers are the primary industry that receive 100% of the proceeds from oil and gas. They need to understand that a share of those proceeds are entitled to the secondary industries such as the service industry. Treating the service industry like leeches and cutting their funding during the bad times doesn’t instill the partnership that provides the producers with the 100% of those revenues. Establishing a profitable oil and gas industry would help to smooth the revenues of the service industry. Enabling them to better deal with their staffing and development. Without the service industry sharing in the success of a dynamic, innovative, accountable and profitable oil and gas industry. Neither will stand alone successfully in the 21st century. 

Earth Science and Engineering Resources

We now move on to the fifth component of our competitive advantage of providing the oil and gas producer with the most profitable means of oil and gas operations. Our focus is on the earth science and engineering resources of the producer firm and how these are more efficiently and effectively employed in comparison to what we call the standard corporate business model employed by the bureaucracy. There are many aspects of this component of our competitive advantage, however, they all generate their profitability for the producer through innovation, specialization and the division of labor.

In the area of innovation we look to the Research & Capabilities and Knowledge & Learning modules to highlight the processes that are managed within those modules. Focused on the development, documentation and deployment of capabilities within the producer firm. It is there that the research and development of those earth science and engineering capabilities are funnelled into the Joint Operating Committees for their ultimate deployment. From an innovation standpoint there is also the Work Order that enables the innovative producer to participate and sponsor working groups to research and study various earth science and engineering based projects. Designed to eliminate the bureaucracy and the inherent difficulty in managing the accounting logistics for the ad hoc nature of these groups. The Work Order is an interface that enables the user to allocate their overhead and AFE budgets to these studies in a manner that is consistent with the nature of the opportunities.

The specialization and division of labor of the producer firms earth science and engineering resources takes on the difficult issue of the constraint of these resources. Over the next couple of decades the demand for these resources will outstrip supply due to retirements and the inability to bring on any increase in the numbers of new recruits. There just isn’t that percentage of the population that has the aptitude for geology or petroleum engineering. This has recently taken on the term “The Big Crew Change.” The need therefore to deal with the resource constraints is a problem that the industry must resolve and the Preliminary Specification has used specialization and the division of labor to do so.

One of the key difficulties is what I call the hoarding issue. Each producer is building the capabilities and capacities within their firm to deal with any and all contingencies at any time. This hoarding of earth science and engineering resources, when taken across the industry, builds unused and unusable surplus capacity within each producer firm. With each producer firm attempting to provide all of the capabilities and capacities necessary for their producer firm, these critical resources are unnecessarily constrained. The solution that is provided within the Preliminary Specification is what is called the pooling of technical resources. Each member of the Joint Operating Committee commits the technical resources, based on their unique specialized capability, to the property. Any deficiency is made up from service providers or outside producers who provide the additional earth science and engineering capabilities for a fee.

Which brings up the last aspect of the division of labor and that is as it applies to the bread and butter aspects of geology and engineering work. Much of this work can be turned over to service providers who are organized on the basis of providing a specialized service to the industry. Organized around a process or skill that is common or generic and could be specialized to a high level if the scope and scale could be brought into the picture. 

It is reasonable to assume that industry will turn to specialization and the division of labor to deal with these resource restrictions. However, without the pooling concept being a critical element in the solution, the scope and scale of the producers domain of earth science and engineering capabilities, because of the enhanced specialization and division of labor, will most certainly create further shortages in the resource base due to the hoarding issue. And lead to chronic unprofitability due to the enlarged scope and scale necessary to cover their operations capabilities and capacities. 

In a few years having each producer conduct all the earth science and engineering necessary for all of their properties will seem like a business model from the dark ages. What is being proposed here in the Preliminary Specification is the only reasonable solution to the real issue of the limited resource base. It is the earth science and engineering capabilities that form a critical part of the innovative oil and gas producers competitive advantage along with their land and asset base. The Preliminary Specification enables the firms resources to focus on the specialized research and development of “knowledge, skills, experience” and ideas, and the deployment of those in the properties that are held by the firm. This is the appropriate posture for a profitable oil and gas firm, and the fifth component in how People, Ideas & Objects provides the oil and gas producer with the most profitable means of oil and gas operations.

Our Value Proposition

It is People, Ideas & Objects claim that we provide the most profitable means of oil and gas operations. The final aspect of our claim is that our Revenue Model provides the lowest cost of obtaining an ERP system in the industry. And that is by charging for the costs of software development, plus an element of profit as our fee structure. Therefore the industry is only paying for the one time costs of ERP software development. A fundamentally more efficient value proposition than any of our competitors.

We can do this because we are not focused on the traditional software company concerns of code and customers. As a cloud computing provider we are oriented to the changing business dynamics of a dynamic, innovative, accountable and profitable oil & gas, and associated service industries. This highlights the different motivations of the software developer over the long term. In People, Ideas & Objects instance we generate revenues on the basis of the changes that industry desires and communicates through our user community. Our motivation becomes the constant improvement of the software. In the traditional software vendor’s case they are motivated by their code and customer bases. The larger their code base the more difficult it becomes to change, which coincidentally does not generate revenue. And the larger the customer base the more costly the changes that need to be made to each customer. Which coincidentally these changes to the customer software do not generate any revenues. Hence, their age as a firm paradoxically leads to increases in their overhead burden. What you have is a contrast in the dynamic nature of the software itself. In terms of its cost to the industry and the motivation behind the developer.

Within our Revenue Model we have an annual fee and penalty structure for those who have not participated on a timely basis. Isn’t the penalty, when paid, a benefit to the software developer above their regular fees? No, it is not. The penalty structure is designed so that each producer pays an equal share of the total costs of all of the development. There are no free riders in this program. If a producer were to wait until the fifth year to start to participate in the user community and use the software that was built by others; then they would have to pay the fees for those past five years plus the associated penalties as well. These fees and penalties would then be used to offset the following years costs before the calculation of the next year's fee assessment. So the next years fees would be proportionally less the amount of any fees and penalties that were paid by producers who decided to join the community and use the software. We call this the participation bonus.

Each year we specify the amount that each producer's share of costs will be based on a fixed charge per boe. These will be on the basis of estimates of our understanding of what is required to maintain and develop the software to meet its competitive advantage. So there is an inherent level of trust in the work that is done through the community, and the financial support that is provided. The research and software development necessary to make this happen can be significant and needs to be undertaken in a timely fashion. With today’s tools it can be done in a commercial fashion with remarkable speed. Our real constraint is the user community's ability to think fast enough. The producers are a critical part of the community. What can not happen is to have the funding for this development terminated as a result of a lack or fading interest by the producers. It is therefore inherent upon me to provide a compelling reason for that funding cut never to happen. And that is through the fact that we provide the most profitable means of oil and gas operations.

Applying the Preliminary Specification

The following is an application of the business models that are inherent in the Preliminary Specification and user community. What are presented are the quantifiable changes that are attributable to the decentralized production model. Additional value could be gained through the use of specialization and the division of labor, however these attributes are not quantifiable at this time. Encana Corporation is used as an example for the purposes of showing the dramatic effect of the differences that are attributable to the decentralized production model. By removing 20% of their production from the marketplace, the natural gas prices respond and move to $6.70 for the periods following 2013. In addition, through the decentralized production model, the gross overhead of the firm is reduced through the use of service providers. By reducing their production by 20%, Encana's gross G&A is also reduced by 20% which is a feature of the model.

Encana Proforma Recalculation



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