Pathways for National Oil Companies in the Energy Transition

The long-term shift away from fossil fuels represents an existential challenge to national oil companies (NOCs). Given their outsized role in global oil and gas production, the evolution of NOCs has important implications for future supply, climate outcomes, and the economic and fiscal health of oil-producing countries. It is important to examine how the prospect of peak oil demand will reshape NOC strategies and investment.

Many recent commentaries have suggested that unless steps are taken to reduce oil and gas demand, divestments by the oil and gas majors such as ExxonMobil, Shell, and Chevron will do little to cut emissions. Forced asset sales could leave more production in the hands of privately held companies and NOCs, which are less likely to adhere to rigorous environmental and safety standards. In a scenario of declining global oil and gas investment and still-robust demand, NOCs would play a critical role in ensuring global energy security. Some could act opportunistically and grow as the majors shrink. Those with greater technical capacity, access to capital, and project management skills could also become central actors in government plans to achieve net-zero targets and climate ambitions.

However, NOCs are not a monolithic group. It is true that some NOCs have the cash and technical skills to assume a larger share of global production, but others will be crippled by the energy transition. Many NOCs are already struggling and risk becoming obsolete as their resource base becomes uncompetitive and their financial and technical partners exit.

To understand how NOCs will respond, it is important to consider what drives their behavior and shapes their strategies. This means analyzing the relationship between NOCs and the state, as well as how governments themselves will confront the energy transition and reshape the mandates of NOCs.

Drivers, Ambitions, and Constraints for National Oil Companies

It is dangerous to generalize about NOCs. At one end of the spectrum, companies such as Saudi Aramco are among the world’s most sophisticated oil and gas operators, with industry-leading technology and engineering capacity, strong balance sheets, and experience in managing megaprojects. At the other extreme are NOCs that are little more than pass-through entities, with very limited human capital or technical ability. These companies, including some in emerging oil and gas producing states, lack capital and financial independence from governments and depend heavily on partners.

What all NOCs have in common is that they are instruments of the state. To understand each NOC’s responsibilities, capacity, role in the economy, partnerships, and ambitions, it is important to place them in context. For a classic rentier state—one whose political and economic system depends on distributing resource rents—the critical role of the NOC is to deliver sufficient revenue to governments and perhaps to provide cheap energy to domestic consumers. As long as oil is plentiful and generates high margins, there is limited pressure for these NOCs to diversify. For developing economies with larger populations and smaller oil and gas resources, NOCs may remain an important source of revenue for governments, but generally the revenue base for these states is more diversified. Instead, NOCs in these countries are tasked with providing sufficient resources and raw materials to fuel economic growth, including industrialization. Other types of states, such as advanced economies or struggling states at risk of economic collapse, tend to create very different demands for NOCs (see table below). This context matters in analyzing how NOCs will cope with the energy transition.

The demands on state oil companies in the energy transition will vary depending on a number of factors: the size of resource endowments, the cost competitiveness and carbon footprint of NOC resources, government climate goals, NOC financial resources and access to capital, and the ability of NOCs to adapt and acquire new skills in renewable energy.

Most importantly, as governments pursue different strategies to cope with the energy transition, the demands of NOCs will evolve. Rentier states that are skeptical about long-term oil and gas demand are accelerating efforts to diversify their economies. Their NOCs will protect the revenue base that will help fund diversification efforts, but they may also be asked to invest in new market segments and strike new partnerships. States with declining, increasingly uncompetitive oil and gas resources face more acute pressures, suggesting that their NOCs will have to evolve into more diversified and resilient players or risk becoming obsolete.

In this new world, some NOCs will flourish and others will fail—but this is a dynamic rather than static situation, and there is no single model for success. NOCs may pursue very different business models depending on what their governments want, and the energy transition does not imply an idealized end state for state oil companies.

There is more work to be done in analyzing the corporate strategies, sources of strength, and challenges and risks of NOCs in the energy transition. But already the broad outlines of various NOC models are apparent.

Late-stage NOCs will keep their focus on oil and gas but seek to decarbonize their production to meet investor and stakeholder demands and align with state goals. They also want to meet market demand for lower-emission fuels and low-carbon energy, including hydrogen. Late-stage NOCs are more likely to be found in advanced economies, where state-owned companies are rare but more technologically advanced and where government stakeholders are focused on climate policy. Norway’s Equinor is the obvious example. Over time, more NOCs may evolve in this direction as listed companies face pressure from investors and as NOCs align with more ambitious government climate policies.

Diversified players are likely to pursue a long-term evolution into diversified energy providers rather than oil and gas specialists. This group has the widest variety in terms of resource endowment and technical capacity. At one end of the spectrum are more commercially competitive and advanced NOCs in major resource-holding states, such as Saudi Aramco, Abu Dhabi National Oil Company, and Qatar Petroleum. Their governments want to position them as low-cost, low-carbon producers and are pushing them to invest in new technologies that will help decarbonize their production, such as carbon capture, utilization, and storage and direct air capture of CO₂. As governments seek more economic diversification and less dependence on hydrocarbon revenue, they will lean on resource-holding NOCs and create new demands. A different subset of NOCs in this group hail from developing economies, especially states with more limited oil and gas resources where NOCs already face pressure to diversify their resource base. These NOCs could become key investors in renewable energy, low-carbon fuels, and electricity generation and distribution, utilizing their engineering and project management expertise. In some cases, this will lead to closer alignment or mergers with state electricity companies. They may benefit from a lack of strong state incumbents in renewable energy. NOCs likely to become more diversified players include Malaysia’s Petronas, Colombia’s Ecopetrol, and Thailand’s PTT Plc.

Traditionalists will continue to focus on oil and gas as the core business. These companies will seek to protect and even grow oil and gas production, in some cases through acquisitions. The resource endowment in this group varies, but generally it includes large resource-holding states. These NOCs face less pressure from governments to diversify their business models or help advance ambitious climate goals. They are more likely to enjoy support from state banks and financial institutions. NOCs in this category include Rosneft, Gazprom, and Petrobras. Traditionalists are more likely to be found in rentier states or developing economies with significant oil and gas reserves.

Finally, struggling NOCs will continue their traditional approach and may even ramp up investment to expand production and capture market share. These companies may benefit if the global oil and gas industry underinvests in exploration and production in the coming years. But ultimately, the energy transition presents serious risks to their competitiveness or even their survival. As their resource base becomes less competitive and important technical and financial partners exit, these NOCs will be left exposed. Many NOCs are found in this category, including PEMEX (Mexico), Sonatrach (Algeria), Pertamina (Indonesia), Sonangol (Angola), and Nigeria National Petroleum Corp.

Implications for Oil and Gas Supply

Unless there is a rapid reduction in oil demand in the coming decades, NOCs are likely to play a critical role in meeting future energy demand as the majors and independent oil producers face capital constraints and societal pressures. NOCs in large resource-holding states may benefit and could increase their market share.

Yet NOCs will follow different pathways in the energy transition, and we should not assume that state oil companies are ascendant or can fill an investment gap left by the majors and private companies. The expectation that NOCs will have the capital and technical capacity to both grow production and deliver the lower-carbon fuels the world needs in a net-zero scenario may be misguided. The International Energy Agency noted as much in its Net Zero by 2050 report (p. 161), suggesting that some NOCs will simply concentrate on supplying oil and gas as efficiently as possible and returning cash to shareholders.

To understand which NOCs will succeed in adapting to the energy transition, it is important to start with first principles and focus on what states want from their NOCs. Analyzing state energy needs and economic priorities can help in forecasting which NOCs will have the tools and support to successfully pull off their own transition, which will stand fast and become more resilient, and which NOCs will be left behind.

Ben Cahill is a senior fellow in the Energy Security and Climate Change Program at the Center for Strategic and International Studies in Washington, D.C.

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