Azerbaijan Oil Market
As increasing oil and gas (O&G) exploration and development in the Caspian region leads to greater production, the countries in this region have large quantities of O&G available for export. Earning hard currency from these resources is essential for regional development plans, as well as recouping the huge investments made by multinational oil companies (www.eia.doe.gov).
As an oil country, Azerbaijan has two main features. Firstly, it is one of the major actors in EU energy security as an O&G exporter, and secondly, it is an important transit corridor for Central Asia's natural resources (Brzezinski, 1997). Numerous new pipelines and pipeline expansions in each direction have been proposed and constructed. Four main pipelines - the BTC, the Baku-Novorossiysk, the Baku-Supsa, and the Caspian Pipeline Consortium (CPC) - carry the majority of the region's O&G resources to major markets such as Europe, Turkey and the Mediterranean. The Baku-Supsa, Baku-Novorossiysk and Baku-Batumi rail routes also transport O&G, but these may be phased out as the larger pipelines are expanded even further (www.eia.doe.gov).
Since becoming independent in 1991, Azerbaijan has attracted significant international interest in its O&G reserves. Foreign investors are helping the country to develop its rich O&G reserves in the Caspian Sea basin, which will make Azerbaijan an important energy exporter over the next decade. Oil production growth in Azerbaijan is coming primarily from the Azeri Chirag Guneshli (ACG) field, which increased to almost 1 million barrels per day by 2008. With the addition of the Shah Deniz natural gas and condensate field and the South Caucasus Pipeline (SCP), Azerbaijan will become a large natural gas provider to Turkey and Europe in the coming decade. After years of misuse and mismanagement during the Soviet era, the Caspian Sea has become more and more polluted as O&G extraction activities continue. New pipeline construction will compound the region's already existing environmental difficulties (www.socar.az).
The aim of this study is to depict the energy market of the Republic of Azerbaijan. In order to give a clearer picture of the marketplace, competitive framework and long-term strategic approaches of firms will become apparent during the study. At the same time, this study attempts to examine the strategic challenges that O&G producers are facing today, and the perspectives of the evolving energy market.
The following dissertation examines the strategic challenges that Azerbaijani oil producers are facing and the perspectives of the evolving energy market. However, other than this, the aim of this study was also to depict a realistic picture of the actual energy market. The objective is to identify future strategy approaches for the Azeri oil market in order to increase competitiveness in the global market.
This following research study and the various analyses presented would allow organizations to study analyse the markets and help them undertake strategic decisions that would help them achieve success. The following chapter conducts a detailed literature survey to study the various other researchers conducted within the same area.
Literature Review
There has been growing demand for oil recently and the price of oil has remained quiet volatile. Most economies are dependent on oil and any fluctuations in price have a direct impact on cost of goods and essential services. Energy prices have constantly been rising presenting new challenges every day for organizations forcing them to undertake strategic changes to minimize these effects. The following chapter conducts detailed literature review in studying the various researches conducted by other researchers and to support the secondary research methodology of this dissertation. The following literature review is divided into four areas of research.
Oil is increasingly abundant on the upslope of the bell curve, and increasingly scarce and expensive on the down slope. The peak of the curve coincides with the point at which the assets of oil have been depleted by 50%. Once the peak is passed, oil production begins to decrease while the costs increase. ( www.lifeaftertheoilcrash.net/breakingnews.html )
In practical terms, this means that if 2005 was the year of global peak oil, worldwide oil production in the year 2030 will be the same as it was in 1980. However, the world's population in 2030 will be much larger (approximately double) and more industrialised (oil-dependent) than it was in 1980. Consequently, worldwide demand for oil will outpace worldwide production of oil by a significant margin. As a result, the price will skyrocket and oil-dependent economies will crumble.
US Vice- President Dick Cheney in his speech at the London Institute of Petroleum Autumn lunch in 1999 states that
"That means by 2010 we will need on the order of an additional fifty million barrels a day."
(The April 2004 issue of the magazine the Middle East, Dick Cheney, Peak Oil and the Final Count Down)
Figure 1: Worldwide Oil Production, 1900-2080
(www.lifeaftertheoilcrash.net/individualitemPages/oilcrashtheFilm.html)PeakGraph
In this situation, companies must participate for the best strategy and take into account all business strategy development issues. This literature review covers four elements, one of which is the industry life-cycle.
The distribution of forces within an industry changes during repeated periods of disruption and instability at the global level. It is important to recognise the differences between the energy market and other markets. Firms operating in the energy market are more active than in immature markets. The O&G sector will soon reach the peak of its significance.
An early exposition of the industry life cycle was first provided by Schumpeter (1942). Industry cycles play a very important economic role in that they create opportunities for challengers to develop the industry. One has to go back to Schumpeter's works to appreciate the full force of the theory of capitalist dynamics, innovation, and cyclical fluctuations set within the context of dynamic disequilibrium.
Schumpeter (1942) was absolutely correct when he insisted upon the importance of cyclical behaviour in industry being linked to innovation and the waves of "creative destruction" that such cyclical behaviour could unleash. The business world is inherently cyclical through the operation of competitive forces. According to Schumpeter (1942), a macroeconomic perspective focuses upon overall business cycles, with emphasis upon understanding their regularity.
Schumpeter (1942) asserted that instead of products, markets follow a life cycle, the early stages of which are characterised by growth. The growth phase of the life cycle is followed by a relatively stable mature stage, which then leads to extinction as innovations by firms operating in other industries lead to the substitution of superior new products.
However, there are scholars who believe that it is possible to control the life cycle beyond the actions of industry participants (Dhalla and Yuspeh, 1976). Dhalla and Yuspeh (1976) contended that the industry life-cycle is a self-fulfilling prophecy and that the main part of this system is far from company influence and planning (Ghemawat and Nalebuff (1985). However, Londregan's (1990) study presents a more theoretical basis and highlights the difficulties related to real market conditions concerning the "duopoly assumption". Different traits are strategically advantageous at different stages of the industry life-cycle. Once it has been determined which change trajectory the industry is on, it is important to determine which phase of change the industry is experiencing.
In line with this finding is an article by Chan Kim and Mauborgne (2004), who suggested that incumbents are not at a disadvantage in creating new market spaces when the right strategic move is made. In their study they distinguished between two kinds of spaces - red and blue oceans - to describe the market universe.
Red oceans are all the industries in existence today - the known market space. In red oceans, industry boundaries are defined and accepted, and the competitive rules of the game are known. Companies try to go one better than their rivals to capture a greater share of existing demand. As the market space becomes crowded, prospects for profits and growth are reduced. Products become commodities, and cut-throat competition turns the ocean "bloody", which is why they are called red oceans.
Blue oceans, in contrast, denote all the industries not in existence today - the unknown market space, untainted by competition. In blue oceans, demand is created rather than fought over. There is ample opportunity for growth that is both profitable and fast. In blue oceans, competition is irrelevant because the rules of the game are waiting to be set. The blue ocean is an analogy to describe the wider, deeper potential of market space that is not yet explored. Like the real blue ocean, it is vast, deep and powerful in terms of lucrative growth, and infinite.
Red ocean strategists focus upon developing advantages over their rivals, usually by assessing what competitors do and striving to do it better. Here, grabbing a larger share of a limited market is seen as a zero-sum game in which one company's gain is achieved at another company's loss. Therefore, companies focus upon dividing up the red ocean because growth is increasingly limited (Chan Kim and Mauborgne, 2004).
Blue ocean strategy applies across all types of industries. Red oceans will always be a fact of business life, but with supply exceeding demand in more industries, competing for a share of contracting markets, while necessary, will not be sufficient to sustain high performance. Companies need to go beyond competing to create blue oceans in order to seize new profit and growth opportunities. A better balance must be struck across red ocean and blue ocean initiatives.
Table 1: The differences between red ocean and blue ocean strategies
(http://www.valuebasedmanagement.net/methods_corecompetence.html)
Red Ocean
Blue Ocean
Compete in existing market space
Beat the competition
Exploit existing demand
Make the value/cost trade-off
Align the whole system of the companies' activities with its strategic choice of differentiation or low cost
Create uncontested market space
Make the competition irrelevant
Create and capture new demand
Break the value/cost trade-off
Align the whole system of the companies' activities in pursuit of differentiation and low cost
Thus, the authors maintain that identifying competition as the core of corporate successes and failures, however, scholars, companies and consultants have ignored two fundamental and far more lucrative aspects of strategy: one is to find and develop markets where there are little or no competition- blue oceans- and the other is to exploit and protect blue oceans.
If these new ideas involve new technologies or significant new combinations of technologies to create new market opportunities, this is radical innovation (Tushman and Nadler, 1986). Radical innovation "departs dramatically from the norm" (Anderson & Tushman, 1990) and "transforms the relationship between customer and suppliers, restructures marketplace economics, displaces current products, and often creates entirely new product categories" (Leifer et al., 2000). Radical innovation allows companies to take the leading position in market entry and to shape new rules of competition.
Coping with radical innovation is a difficult task for companies, especially established ones (Christensen, 1997; Leifer et al., 2000; Stoelhorst, 2002). Effective management is a key issue in this process. Poor insight into the management of discontinuous technologies and radical innovations represents a strong threat to companies as rapid, complex and technology-driven change is becoming an increasingly disruptive force in today's markets, business, economics and society.
Strategic innovation means an innovation in a business model that leads to a new way of playing the game. Disruptive strategic innovation is a specific type of strategic innovation, a way of playing the game that is both different from and in conflict with the traditional way (Charitou and Markides, 2003). One of the key findings of Christensen's (1997) work is that disruptive technological innovations eventually grow to dominate the market.
Although it's a common belief that the difficulties faced by established firms in responding to discontinuous innovations concern a problem of competencies, Christensen (1997) focused his attention on problems in decision making at senior level. Popular interpretations of the work of the Innovator's Dilemma seems to propose that senior teams failing to invest in disruptive innovations are irrational-that they should have made the appropriate investments but were unsuccessful in doing so because they were blinded by current customers and larger margins. This is also consistent with some intriguing recent work suggesting that the cognitive frames of senior managers do, indeed, play a major role in guiding strategic decisions (Kaplan, 2004; Tripsas and Gavetti, 2000).
One of the key findings of Christensen's work is that disruptive technological innovations eventually grow to dominate the market. Christensen and Raynor (2003) make this point forcefully by arguing that ''. . . disruption is a process and not an event . . . it might take decades for the forces to work their way through an industry but [they] are always at work.''
Similarly, Danneels (2004) summarised the existing theory on disruptive innovation by pointing out that "disruptive technologies tend to be associated with the replacement of incumbents by entrants". If correct, this has serious implications for incumbent firms. The only way to respond to the disruption is to accept it and then find ways to exploit it. Christensen and Raynor (2003) suggested that established companies could exploit a disruption only by creating a separate unit. However, the available literature on business-model innovation does not support such an extreme position, offering a wider range of possible answers for the incumbent.
The case of the oil industry with such a deep distinction between a business model innovation and a technological disruptive innovation cannot really be applied; and this is due to the fact that the development of a new technology which could be qualified as disruptive would necessarily imply the adoption of a new business model. Complexities related with its production, distribution and to the end user distribution, in fact, would justify the review of the strategic configuration adopted to date. The framework proposed by Clayton Christensen in his first published "The Innovator's Dilemma" (1997) didn't present the capability to give a solution and respond to the disruption brought by the new technology and was fairly exposed in the 2003 edited "The Innovator's solution".
In both cases, in fact, what is central to the theory has been treated as given. It is arguable that what the incumbents really need is not only the ability to respond to the disruption, but also the capability to foresee the change and adequately prepare.
Of course there is not a formula that could help recognize the stage when a given industry will be disrupted by a new entrant technology. Though Christensen and Scott A. Anthony (2005) suggest that is possible to "See What's Next" by following a three-part process to use the theories of innovation to spot and interpret disruptive developments and predict industry change.
Part 1: Look for signals of change, for signs of companies emerging to meet the needs of three different customer groups:
Overshot customers - customers for whom existing solutions are too good. They welcome noisily disruptive innovations that offer good-enough technological performance at low prices.
Undershot customers - customers for whom existing solutions are not good enough.
Non-consuming customers - customers that lack the skills, wealth or ability to "do it themselves". Non-consumers welcome new market-disruptive innovations that make it easy for them to do it themselves.
Non-consuming customers typically refer to markets different from O&G. However, the distinction between types of customers can still be emphasised based on consideration of the features around which typical energy sources compete: durability, efficiency and environmental friendliness. Given this configuration, energy sources like O&G can be found to apply to undershot customers, who demand more efficiency or environmental friendliness, or overshot customers, who demand just basic performance like heating or lighting.
Part 2: Analyse competitive battles to see which firms are likely to emerge triumphant
There are two components to this analysis. The first part involves identifying each combatant's strengths, weaknesses and blindspots by looking at their resources (what they have), processes (the way they do their business), and values (decision rules that determine how resources get allocated). The second part requires the identification of the company that is taking advantage of "asymmetries"; that is, doing what its opponent has neither the skills nor the motivation to do. It is important to pay particular attention to asymmetric processes and values. Whereas resources are extremely flexible, processes and values are inflexible, determining what a company can and cannot do, and will and will not do.
Part 3: Look at important strategic choices that can help to determine ultimate winners and losers
For entrants, it is important to start by looking to see if the company is properly preparing for competition by hiring the right management team, instituting an appropriate strategy-making process, and receiving funding from investors, which will allow the company to follow a disruptive path. Finally, it is assessed whether an incumbent has developed the capability to capitalise upon disruptive trends. Well-schooled incumbents can respond to a disruptive threat by setting up a separate organisation or using an established process to parry the disruptive attacker.
In identifying the path that O&G firms should follow in order to embrace the best strategic choices, attention shifts to a description of the tools that should be adopted in order to foresee and anticipate changes in the competitive arena. Scenarios are developed specifically to deal with future uncertainty and assist in making decisions where uncertainty is present. The scenario method begins with recognition of the unpredictability of the future, but acknowledges that we need to take decisions in the present that will have future implications. Unlike traditional business forecasting or market research, scenarios do not merely extrapolate current trends - they present alternative images of the future based on different assumptions: "Scenarios are not predictions... (but) a tool for ordering one's perceptions about future environments in which one's decisions might be played out" (Schwarz, 1991).
Scenarios, like stories, can take many forms and there is no single way of developing them. They can help make decision-making more robust or help to identify strategies for pre-empting undesirable future developments. They may also be used in monitoring change, or in a creative form, depicting preferred future developments and ways to achieve them. In some circumstances, a single "success scenario" may be developed as a means to explore how best to achieve a known, preferred goal.
When embarking upon scenario analysis, one of the central issues is to determine whose interests should be taken into account. Thus, preparing a detailed stakeholder analysis represents a fundamental step. Crosby and Benjamin (1992) highlighted that policymakers and managers can use stakeholder analysis to identify the key actors and assess their knowledge, interests, positions, alliances and importance related to policy. This allows policymakers and managers to interact more effectively with key stakeholders and to increase their support for a given policy or programme. When this analysis is conducted before a policy or programme is implemented, policymakers and managers can detect potential misunderstandings about and/or opposition to the policy or programme and act to prevent them.
When stakeholder analysis and other key tools are used to guide the implementation, the policy or programme is more likely to succeed. Schmeer (2001) defined stakeholder analysis as a process of systematically gathering and analysing qualitative information in order to better derive a complete picture. Although Schmeer (2001) described the stakeholders in a process as actors (persons or organisations) with a vested interest in the policy being promoted, Brinkerhoff and Derrick (1998) went further, pointing out that the analysis should include such stakeholder characteristics as knowledge of the policy, interests related to the policy, position for or against the policy, potential alliances with other stakeholders, and ability to affect the policy process (through power and/or leadership).
Table 2: Research studies examined in the literature review
RESEARCH
AUTHOR
RESEARCH TITLE
SUBJECT
Schumpeter (1942)
The Theory of Economic Development
Cox (1976)
Product Life Cycles as Marketing Models
Industry & Technology
Harrigan (1980)
Strategies for Declining Businesses
Life-Cycle
Dhalla and Yuspeh (1976)
Forget the Product Life Cycle Concept
Londregan (1990)
Entry and Exit Over the Industry Life Cycle
Ghemawat and Nalebuff (1985)
The Devolution of Declining Industries
Foster (1986)
Innovation: The Attacker's Advantage
Daft and Becker (1978)
Innovation in Organizations
Tushman and Nadler (1986)
Organizing for Innovation
Anderson and Tushman (1990)
Technological Discontinuities and Dominant Design: A Cyclical Model of Technological Change
Leifer et al. (2000)
Radical Innovation
Dosi (1982)
Technological Paradigms and Technological Trajectories
Song and Montoya (1998)
Critical Development Activities for Really New versus Incremental Products
Radical
Christensen (1997)
innovation
Stoelhorst (2002)
Lambe and Spekman (1997)
Lynn, Morone and Paulson (1996)
O'Connor (1998)
The Innovators Dilemma, When New Technologies Cause Great Firms to Fail
Transition strategies for managing technological
discontinuities: lessons from the history of the
semiconductor industry
Alliances, External Technology Acquisition, and Discontinuous Technological Change
Marketing and Discontinuous Innovation
Market Learning and Radical Innovation: A Cross Case Comparison of Eight Radical Innovation
Rice et al. (1998)
Projects
Kessler and Chakrabarti (1999)
Managing Discontinuous Innovation
Tushman and Anderson (1986)
Speeding Up the Pace of New Product Development Technological Discontinuities and Organisational
Tushman and O'Reilly (1996)
Environments Unternehmen müssen auch den sprunghaften Wandel
McDermott and O'Connor (2002)
Managing radical innovation: an overview of emergent strategy issues
Disruptive technology
Henderson (2006)
Kaplan (2004)
Tripsas and Gavetti (2000)
Leonard-Barton (1992)
Charitou and Markides (2003)
Christensen and Raynor (2003)
Christensen and Anthony (2005)
Chan Kim and Mauborgne (2004)
The Innovator's Dilemma as a Problem of Organizational Competence
Framing the Future: Cognitive Frames, Strategic
Choice, and Firm Response to the Fiber-Optic
Revolution
Capabilities, Cognition, and Inertia: Evidence from Digital Imaging
Core Capabilities and Core Rigidities: A Paradox in Managing New Product Development
Responses To Disruptive Strategic Innovation. Sloan Management Review
The Innovators Dilemma, When New Technologies Cause Great Firms to Fail
How Can You Benefit Form Predicting Change
Blue Ocean Strategy
Scenario analysis
Schwartz (1991)
Schoemaker (1994)
Godet (1987)
Schmeer (2001)
Brinkerhoff (1998)
Crosby (1992)
The Art of the Long View
Scenario Planning: A Tool for Strategic Thinking
Scenarios and Strategic Management
Stakeholder Analysis
From Design to Implementation: Stakeholder Analysis in a PHC Project in India
Stakeholder Analysis: A Vital Tool for Strategic Managers
Introduction to Azerbaijan: Azerbaijan has been a developing country and has a great history coupled with conflicts. This country has many big neighbours and many presidents have always supported peaceful relations. Mehran (2001, 216-236) has stated that "presidential monarchy" has helped political consolidation. Significant accomplishments in the fields of foreign policy and economics, as well as the elimination of actual and potential rivals in the armed forces and elsewhere, have greatly enhanced Aliyev's powers. Azerbaijan's gross domestic product (GDP) grew by over 30 percent in 2006, driven by growth in oil production and the beginning of natural gas production. Since then favourable real GDP growth was expected, but maintaining low inflation rates as energy and transit revenues flow into the country is still a major challenge. Most estimates determined by researchers have Azerbaijan's proven crude oil reserves range between 7 and 13 billion barrels according to industry journals and government sources. The State Oil Company of the Azerbaijan Republic (SOCAR) estimates has proven reserves at 17.5 billion barrels which, under an antiquated. Soviet reserve classification system may include reserves that are either not viable or not fully proven. The country's largest hydrocarbon structures are located offshore in the Caspian Sea and account for most of the country's current petroleum production. The majority of Azerbaijan's oil
output (80 percent in 2007) now comes from the Azerbaijani International Oil Consortium's (AIOC) ACG fields, and SOCAR's output has been declining by around 1 percent per year.
Oil exports: Azerbaijan export an average of around 730,000 bbl/d (billion barrels per day) of oil during this decade. Almost all of this oil is being exported through the BTC pipeline system which passes through Russia. Small amounts of oil (less than 100,000 bbl/d on average) аre being exported through rail to the Georgian coast and by pipeline to Novorossiysk.
Mukhsinowa (2008, 121-128) conducted research and suggested schemes to improve management schemes for oil production with in Azerbaijan. Mukhsinowa states that better management techniques help in reducing waste and improve production techniques.
Mamedov et al (2006, 49-89) conducted research with in Azerbaijan oil companies and brought about ideas in implementing efficiency methods with in oil industries. Bringing about efficiency helps organizations achieve success.
The above literature review presented various researches undertaken and presented different areas of research studies undertaken. This review supports the following dissertation by providing the best secondary research information for conducting this research. The following chapter presents research methodology and further explains the various secondary research methods used in the research study.
