Lukoil Company Business Review

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Table of Contents

Presentation of the Company
What Are They Trying To Do?
Sequence and Timeframe
Milestones
Where Are They Now?
Where Are They Heading?
Areas for Improvement
Plans for the Future
Thoughts
List

Presentation of the Company

Established in 1991, Lukoil is a company whose principal business lies in the sale and distribution of natural gas and oil to local distributors located within Russia and several of the states within the CIS (DATAMONITOR: OAO Lukoil 2011, 1-9).

Through its acquisition of a rival company (Getty Oil), Lukoil was able to expand its consumer base to encompass consumers in well over 40 countries around the world making it one of the largest oil and gas companies currently in operation.

Through a strategy of expansion and acquisition, this has allowed the company to reach markets in the U.S. as seen in its acquisition of Schlotzmeyer Brothers enabling Lukoil to become one of the largest distributors of petroleum within New Jersey and Pennsylvania (DATAMONITOR: OAO Lukoil 2011, 1-9).

Aside from supplying gas to its consumers within Russia and various other countries, the company also happens to provide home services to consumers in the form of responding to possible gas leaks, as well as maintaining the various gas pipeline within neighborhoods that it primarily markets.

It must be noted though, that the company’s annual revenue has increased within the past few years to an estimated $113.6 billion due to increased demand and for oil and natural gas within Eastern and Western Europe (DATAMONITOR: OAO Lukoil 2011, 1-9).

What Are They Trying To Do?

At the present, Lukoil is trying to leverage its current strength as the second-largest oil and gas producer in the world in order to obtain an EFQM award for excellence. In fact, they had recently applied for such an award in 2011 and was nominated as a finalist, however, they were subsequently turned down due to noncompliance related to its policies involving local merchants and current product mismanagement.

The company is currently attempting to showcase that it deserves the award by developing an internal policy that focuses on developing partnerships with oil and gas distributors within Eastern and Western Europe in order to become a leader within its current market.

It should be noted though that while Lukoil has focused on the EFQM model of utilizing policy & strategies as well as partnerships & resources in order achieve a modicum of success, the fact remains that it neglects to focus on people as a sufficient enabler of success which may be the primary reason why it has only achieved finalist status instead of actually getting an EFQM award.

Sequence and Timeframe

In 2008 Lukoil was able to successfully conduct a billion-dollar merger with the petroleum distribution company, Akpet, in Turkey, which enabled the company to access several million consumers within Akpet’s service territory in Turkey as well as enabling the company to take control of nearly 600 petroleum stations (OAO Lukoil SWOT Analysis 2012, 1-10).

The acquisition of Akpet by Lukoil created numerous opportunities in the form of possible alternatives to their mainline of business as well as a method of possibly accessing the lucrative markets of Turkey and possibly Greece through the use of container ships as a means of delivering natural gas to new markets where prices are much higher.

From a certain perspective, this particular step actually complies with Kotter’s 8 step change model wherein in order to continue to survive in the current oil and gas market, Lukoil created a sense of urgency by pursuing a strategy of heavy expansion into numerous new markets.

This was done through actions of the board of directors of the company starting in the year 2000 till 2008 wherein major new acquisitions were done due to the internal belief that survival through expansion was the only path the company could utilize.

Unfortunately, one of the main problems experienced by Lukoil within the past 5 years is the fact that they let their initial successes dictate the way in which they viewed the market, which led to a skewed production rate (OAO Lukoil SWOT Analysis 2012, 1-10).

This means that they got ahead of themselves and extracted more natural gas than what was actually demanded by the market.

This is indicative of a serious gap between various parts of the company’s management and operations structure given that there was little, if any, sufficient internal communication to voice possible concerns regarding the potential of over-extraction.

It was due to this wanton disregard for basic considerations of the RADAR methodology as well as the law of supply and demand that by 2012 the price of natural gas fell to $2 per 1,000 cubic feet, which is the lowest it has been in decades.

In fact, due to the massive oversupply that Lukoil has at the present (an estimated 25 billion cubic feet or more) the company has had to resort to using abandoned mines and caves as storage areas for the extracted natural gas.

While such a situation is beneficial for consumers it directly cuts into the costs related to extraction and distribution for natural gas supply companies since it in effect costs more to distribute the gas than to sell it.

Various industry experts have stated that it will take several years or possibly even a decade before the excess supply of natural gas has been consumed with prices returning to levels seen in 2005 to 2007 (OAO Lukoil SWOT Analysis 2012, 1-10).

It is obvious that the oversupply of natural gas within Lukoil is a definite problem for the company given the fact that there are few alternative markets that the company can sell the gas to outside of its current traditional markets.

There should have been some means of internal communication present to prevent such a problem from getting out of hand, unfortunately selling the gas internationally is also not an option given the inherent costs associated with international transportation and the fact that other countries already have their own local natural gas suppliers (OAO Lukoil SWOT Analysis 2012, 1-10).

Milestones

Some of the milestones done by the company come in the form of establishing an internal method of self assessment in 2008 in order to help determine how employees rate the operational structure of the company as well as the creation of a system of improving operational efficiency and effectiveness by reducing operational waste through worker based evaluations (Lukoil Neftochim Burgas AD 2012, 4038-4045).

While such aspects have proven to be quite effective in terms of enabling the company achieve a considerable level of market competitiveness, the following factors will highlight some of the problems that the company needs to work on.

Various industry reports which have examined the rate of natural gas consumption within the Russia have stated that one of main reasons why decline has stagnated as of late is due to the fact that weather patterns have shifted resulting in changes in the way in which consumers normally consume natural gas (Lukoil Neftochim Burgas AD 2012, 4038-4045).

For example, natural gas suppliers have always relied on increased gas consumption during the winter seasons as temperatures drop below zero necessitating the need to increase more gas in order to stay warm.

Unfortunately, from 2009 till the present, Russia, as well as much of Eastern Europe, has actually experienced a rather strange phenomenon wherein winters have become milder resulting in subsequent decreases in gas consumption during the winter months.

In fact gas consumption has dropped by almost 25 to 50 percent in some states due to the relatively mild winters that have been occurring.

As a result, the season where natural gas companies such as Lukoil usually make the most money and have a large percentage of their product stock consumed has in effect turned into an average season for natural gas consumption.

Global warming, which has been blamed for subsequent increases in temperatures around the world has been blamed for the milder winters that Russia has been experiencing.

Considering the fact that global warming is connected to the sheer amount of carbon dioxide and other greenhouse gases in the atmosphere it is likely that this period of milder winters within Russia and the Eastern European states will continue well into the future (Lukoil Neftochim Burgas AD 2012, 4038-4045).

This state of affairs has actually greatly contributed to the excess level of supply that companies within the industry have to deal with at the present, which of course adversely impacts the price of gas sold.

The inherent problem really, as evidenced by the literature examined, was that there was an inherent discrepancy in the external communication between distributors and suppliers wherein the adverse relationship between the two lead to a development of a chasm between what the mangers interpreted as accurate industry data but was in fact erroneous since they were not receiving any input from local distributors regarding subsequent drops in demand.

While such an aspect will be discussed later on in this paper, it is important to note that this is a particularly relevant milestone given that it was one of the reasons why the EFQM award was not given to Lukoil in 2011.

Another factor that should be taken into consideration was that the current reduction in demand for gas in Russia and Eastern Europe should have been anticipated by the company, however, there was apparently an insufficient level of internal methods of examination that delved into properly configuring the supply chain resulting in the problems the company is currently experiencing.

Where Are They Now?

The current corporate strategy espoused by Lukoil in order to survive the current problems affecting the European economy and the natural gas industry has been through acquisition and diversification.

Its strategy of acquisition comes in the form of its merger with Akept in Turkey, another gas supplier company, which allowed Lukoil to expand into new markets and make possible forays into other parts of Europe (Lukoil Neftochim Burgas AD 2012, 4038-4045).

Unfortunately, the company’s current policy comes at the cost of neglecting the “people” aspect of the Radar methodology wherein they focus more on developing the proper policies to expand and enrich the company while they ignore the needs of distributors on the local level.

This is evidenced by the fact that on September 2012, various Lukoil gas stations openly protested the actions of the company, which sold gasoline to these stations at higher prices as compared to other local competitors.

The end result was that these gas stations were unable to directly compete against other well established brand and, as such, shows a considerable disparity in communication between the company’s management team and individual local distributors.

Where Are They Heading?

One of the inherent problems that the natural gas industry, as well as Lukoil, currently faces at the present is the fact that gas prices have gone as low as $2 per 1,000 cubic feet. This results in even lower profit margins as shown earlier where Lukoil annual revenue was nearly halved.

In situations where the price of a product continues to go down as a direct result of an oversupply of that particular product within the market there is a certain threshold wherein a company breaks even and when it spends more selling and distributing a product than it does actually making it (Ciopi 2010, 103-110).

In the case of Lukoil and the natural gas industry within the Russia and Eastern Europe as a whole, they are barely breaking even as is. With the demand for gas remaining steady and the fact that it could potentially go down as a direct result of milder winters, this in effect could result in gas prices getting even lower, which would devastate the entire natural gas industry (Ciopi 2010, 103-110).

This assumption still does not take into consideration the full extent of the vast amount of stored natural gas that several natural gas companies have yet to fully disclose, which many experts believe consists of several billion cubic feet of natural gas.

Taking such factors into consideration, it can be stated that the future profit margins for Lukoil look quite grim, especially when taking into consideration the weather patterns and the excess amount of supply, which are the company has yet to find an effective solution for.

Areas for Improvement

The main areas for improvement that Lukoil should focus on involves developing the “people” aspect of the EFQM model.

An examination of the company reveals that its policies lack sufficient corporate social responsibility especially when taking into consideration the various environmentally damaging practices the company has enacted as well as its lack of sufficient care for local distributors as evidenced by their ire towards the company for the less than competitive prices they have to deal with when it comes to selling oil from Lukoil at their gas stations.

Another factor that should be taken into consideration is the fact that there is an insufficient amount of internal communication between management and consumers which resulted in the sheer reckless abandon that characterized the sheer amount of excess gas that was extracted despite the fact that conditions within the gas market dictated a downward shift in consumer demand (Firlej 2009, 1-6).

This is indicative of a serious communication flaw that exists not only within the company’s management practices but also with aspects related to external reviews of the company’s actions in order to determine whether they are complying with current market forces.

The reasons that have been stated so far as well as the time of events that has been elaborated on, can be considered as the primary reasons why Lukoil was only able to become a finalist for the RADAR Award rather than a winner.

While it may be true that the company complied with most of the aspects dictated by the model, the literature examined states that this was meant as a means of boosting operational performance and not necessarily in order to comply with the broader goals of RADAR.

This is evidenced by what was mentioned earlier regarding the distinct lack of focus the company has had on its local distributors.

Plans for the Future

The current plan of Lukoil to address the problems that have been identified is to create a proper information system that in effect allows internal and external parties (i.e., company managers and local distributors) to effectively communicate within the company’s own internal network so as to enable both parties to better understand each other and communicate their ideas and needs (Firlej 2009, 1-6).

It should also be noted that a proper internal information system should help the company control its extraction and processing plants in order to better match supply with demand. By doing so this will help to reduce the overall amount of money the company losses by extracting more than what is actually needed.

Information systems can be described as the interface between people, organizations and technology enabling the business to accomplish a specific task or action.

One example of an information system is the various applications and websites utilized by Amazon in selling products, accepting client payments through credit card processing applications, contacting their warehouses and shipping bought products to the correct addresses indicated by their consumers.

While this is only one example of the plethora of information systems out there what must be understood is that information systems act as methods of integration for a company helping to streamline specific processes so that they can be controlled, influenced and improved when necessary (Firlej 2009, 1-6).

Developing proper information systems is an essential aspect for a company for without it a company will be unable to properly deal with the buying, selling and the utilization of resources across various locations in the country.

Due to the varied and often complicated nature of company operations it becomes a necessity to streamline and integrate product delivery processes, methods of operation, customer service and various other operational capacities.

A company cannot just simply develop and market a product without taking into consideration how best to allocate specific resources in determining where a product needs to go, which branch needs it most, how will product returns be processed and how HR services will deal with salaries for the myriad employees within a company.

A company requires an efficient and up-to-date information system in order to integrate the factors mentioned into an efficient and effective operational strategy so as to better serve its clients and reduce the inherent costs of operation.

Organizations need to understand how to properly allocate resources to specific international locations, how suppliers can be contacted, what are the limits of production on a daily basis and how will each branch location contact each other.

In other words information systems can be classified as solutions to identified problems or necessary methods of integration.

What must be understood is that while managers and CEOs are great at coming up with specific solutions to problems they are lost when it comes to implementing these particular solutions when they require computer programming as one of the factors behind the implementation.

Information systems and information system specialists bridge this gap by being able to integrate the ideas of managers and CEOs into viable technological applications that can be implemented on a company-wide basis.

For example, if a company is currently having problems with its archaic method of form based ordering in order to get products from the warehouse to consumers a manager or CEO would think to implement a faster and better means of getting orders to warehouses without having to rely on someone physically going there and handing them the orders.

Thoughts

Overall, when examining what Lukoil has done so far, it can be seen that its strategy is mostly that of EFQM than that of Kotter.

The only problem is that they neglected to focus on the “people” aspect of the EFQM model and instead chose to pursue a path that emphasized on expansion and prolific distribution networks without taking heed of external measures of control on the company.

This, as a result, has created numerous problems for the company that could have been avoided in the first place.

As such, it can be stated that while the journey of Lukoil has been a fruitful one from a financial perspective, based on the EFQM model it can be stated that it is severely lacking in some aspects of the model and, as such, this is the primary reason why the company was considered as merely being a finalist rather than being given the RADAR Award.

List

Ciopi, M 2010, ‘LUKOIL’s Market Strategy in Central and Eastern Europe’, Petroleum – Gas University Of Ploiesti Bulletin, Economic Sciences Series, pp. 103-110, Business Source Premier, EBSCOhost.

‘DATAMONITOR: OAO Lukoil’ 2011, OAO Lukoil SWOT Analysis, pp. 1-9, Business Source Premier, EBSCOhost.

Firlej, K 2009, ‘Lukoil’s Global Energy Reach: is the Russian Oil Giant a Solid Investment?’, Journal Of Case Research In Business & Economics, vol.1, pp. 1-6, Business Source Premier, EBSCOhost.

‘Lukoil Neftochim Burgas AD’ 2012, Seenews Research & Profiles (Company Profiles), pp. 4038-4045, Business Source Premier, EBSCOhost.

‘OAO Lukoil SWOT Analysis’ 2012, OAO Lukoil SWOT Analysis, pp. 1-10, Business Source Premier, EBSCOhost.

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