WAY OF DAVID: Andrei Zagorodnyuk on civilization choice, future technologies and how one person can change the entire world

Andrei Zagorodnyuk is a representative of a new generation of Ukrainian entrepreneurs. The chronicle of his formation reflects almost completely the recent history of Ukraine. After the first Ukrainian revolution, when the country became attractive for some investors, he managed to launch a successful engineering start-up, Discovery Drilling Equipment, from scratch. When war broke out in the east of the country, he became one of the first civilian employees of the Ministry of Defense of Ukraine, because this government body was in dire need of an innovative approach. And at present, when the debate about the inevitability of the consequences of global warming is growing, he is ready to re-invent his business – to engage in engineering and alternative energy. Leadership Journey asked Andrei for details.

Leadership Journey (LJ): How did everything start for you? I know your family was close to such a business. How strong was this influence?

Andrei Zagorodnyuk (A.Z.): I got into this industry, of course, not by accident; it is difficult to get there by chance. Almost all members of my family were working in geological exploration. Thus, I am kind of a third-generation oilman. However, no one in the family was in production or operation of drilling rigs. My father and uncle were geologists; my mother and grandfather were geophysicists. Nevertheless, I have grown up in this industry. For me, this industry is near and dear since my early childhood.

I have grown up in this industry; for me it is near and dear since my early childhood

It is hard to say now, was it to the good or to the bad. This industry is undergoing major changes, and it is not easy to switch to new things. This industry is very closed and segmented. It has its own culture, and in English, there is a professional slang by which you can see who belongs to the industry and who does not. When you spend all your life in a specific sector, you know little about the rest of the world. Later I used to communicate with the people from the army. The situation is the same, by the way. In addition, I always liked the machine building and I saw myself working in this field.

When I had met Mike Flannery (Zagorodnyuk’s partner at the beginning of the project – Ed.), I had only one education – a law degree. I was working at different companies and dreaming of my own startup. Then, of course, we did not use this word and said – let us start a company.

Unlike me, Flannery had already his own projects and а rich experience in large international business. At that time, he was a vice-president of the largest machine-building corporation of the industry – NOV; he was responsible for engineering directions in Europe. In particular, he had projects in the UK and Norway – very large drilling rigs. At one time, he also participated in the development of drilling ships and huge offshore oil platforms higher than the Eiffel Tower. These were megaprojects.

I was working in different companies and dreaming of my own startup.

When we had met, this idea was born: a startup that would produce and sell drilling rigs. All these looked quite interesting and new.

We were lucky – it was 2005, the first year after the Orange Revolution; investors had a high interest in Ukraine. This interest was fueled by the fact that Ukraine declared its European integration intentions and many people thought that membership or association with the EU would soon be realised. Everyone understood the prospects it would open up. In addition, the oil and gas market then looked very promising.

LJ: What does it mean – «the market looked promising»? What exactly was there in the market at that time and how did it help in business development?

A.Z.: Well, let us say, the market for drilling rigs was more attractive than it is now. First, China was weak in this market. The Chinese counterparts produced a low-quality equipment and their market share was relatively small. In a word, respectable companies were buying Chinese products not very often. As to the European and American companies, they were heavily overloaded with contracts. At the same time, many existing installations were obsolete; and this was opening the market for selling the new equipment.

Many existing installations were obsolete; and this was the market for selling the new equipment.

When we have started, of course, we expected to sell not in Ukraine, where there was no market at all, but in the world, in particular, in the Middle East and in the EU. At that time, the topic of shale gas was actively discussed in Poland; in the USA, this issue was at the top of the agenda. Shale gas and shale oil were very popular topics of that time because it concerned new applications of the known technologies. They have completely changed the energy balance in the United States. In Ukraine, of course, significant reserves of shale gas, and an urgent need to develop sea and land oil and gas fields were much talked about.

The largest oil and gas companies like Shell, Chevron, Exxon Mobil and ENI echoed all this. It was expected that billions of dollars would be invested in Eastern Europe, including Ukraine. At the same time, the mining boom in the Middle East was growing. We did not yet know how serious the problem of climate change was. Actually, against this background we had decided to launch our startup.

LJ: I know that an old drilling equipment factory in Stryi was your first purchase. Was it rather a purchase of a production base or just a good place close to the borders?

A.Z.: We were buying a plant; as a result, we had only the walls. There was some equipment there, but it was so outdated that we practically got rid of it. Machinery equipment is becoming obsolete at a certain speed and, say, a 20-year-old equipment is already old. At this plant, there was 30 and 40 years old equipment. That is, the equipment was outdated, both morally and physically. Certainly, we knew about it before the purchase, but we still went for it.

In addition, the plant was a landmark place, although only “lovers of antiquities” remembered its pre-Soviet history. Back in the XIX century under the Austro-Hungarian Empire, drilling equipment was produced in Stryi. Immigrants from Canada founded the plant. They managed to start selling products from Stryi all over the world – Middle East countries, Central Asia, Africa, Europe, and America. Stryi drilling rigs even reached Indonesia and Persia. This follows from the catalog of 1906, which we found in this plant archives. It is noteworthy that in this catalog the word «Buyer» was written with a capital letter. We really loved that. But during the endless hostilities that followed World War I, the founders and their families had left the plant and the region crossing the front lines. One could shoot a movie about this story.

WE WERE BUYING A PLANT, AS A RESULT WE HAD ONLY THE WALLS

Definitely, it was interesting for us to repeat this experience, to revive conceptually the whole story of high-end equipment production and sales all over the world. And we did it. But at that time it was just an idea.

The plant at that time was almost dead. Alcoholism, theft and whatever, flourished there. Therefore, when we were saying, that we would sell drilling equipment to world companies, only laughter was heard in response. Two years later, our first drilling rig was taken to drill for Chevron in Poland.

LJ: How did you manage to bring such a plant back to life? Was it actually an investment in an empty place? How could you attract funds to such an “asset”?

A.Z.: In 2005, those investors who were engaged only in oil and gas service projects really paid attention to Ukraine. In this short period of optimism, they were not even afraid of political risks, and they invested in us at the initial stage. The first installment was $10 million, then a little more.  It was not a problem to buy equipment. All the equipment is standard. The main thing was to adjust business processes, and to organize the work of engineers.

To be competitive in terms of quality and cost, you need a fine and effective adjustment of the production process. All processes had to be built from scratch in accordance with Western API standards (American Petroleum Institute – Ed.). In principle, if you strictly adhere to the standard, then you simply cannot make a low-quality product.

However, we had problems with the staff. There were many people, but their qualifications were very low. The search for qualified personnel was the main problem. For example, we had to invite engineers from other cities; we had to train and educate our own team.

THE SEARCH FOR QUALIFIED PERSONNEL WAS THE MAIN PROBLEM

We were doing a lot of teaching. We had opened a school for welders, courses for engineers, etc. Invited foreign specialists were training the Ukrainians and this was a separate and quite expensive investment. We used to hire up to 30 foreign experts in different areas at the same time. Each of the foreign specialist was working with two or three of our experts for training. We did it this way. Then the invited experts left home, and we could proceed working on our own. Sometimes we failed and had to hire a foreigner again. It was quite a long period of learning.

At our plant, we really started lean manufacturing. For example, we keep a minimum of residues in the warehouse – our equipment is delivered only when it is needed. We also use project management technology and principles.

For some engineers, we became a school of professional skills. For example, after graduation, a young woman was working with us as a junior engineer; later she had moved to the United States. She is the head of an engineering department in a large company there. That is to say, after working with us she became a world-class specialist. An interesting case and it is not the only one.

IN COMPARISON WITH OTHER COMPANIES, WE HAVE A VERY HIGH LOYALTY OF PERSONNEL

Many people would have been concerned about the employees’ leaving the company. We are not. Our company has very low personnel turnover, although it is very high in general in this industry. There were cases when people left our company, then returned after having worked somewhere else. We are always happy to see them. In comparison with other companies, our employees’ loyalty is very high.

LJ: You are saying that the first installation was ready two years after the plant has started operation. It was very fast. How did you manage to gain a foothold in the market? What was the feature of your projects?

A.Z.: Initially, our projects were not special, but we had to look for our niche in the market. We decided to focus on the manufacture of non-standard drilling equipment for individual order. Large companies did the same orders for a lot of money. Our custom orders were less expensive.

LJ: What was core of the customization of equipment to the requirements of the client?

A.Z.: Each contractor had specific requirements for the construction of the drilling installation. We tried to take into account all the wishes and changed the engineering for each client. For example, we made installations for specific offshore oil platforms, given their size and shape. Or the customer had specific requirements for the placement of equipment or capacity. That is, we did the project based on specific technical conditions. Often there were situations when the client had already some equipment in a warehouse, or components of previous installations. He wanted to integrate this into a new installation.

Some contractors wanted to integrate components of different manufacturers into one installation, assemble them like a Lego designer. We enjoyed making Lego-style compositions. Many customers were approaching us having exactly these types of contracts in mind. As a result, our installations were cheaper than those produced by large companies, by 20, 30 and sometimes even 40%. And this is not small.

LJ: What is the market situation now? After all, the aforementioned China now makes not only cheap copies. Has your survival strategy changed?

A.Z.: Yes, over the past 10 years, Chinese have indeed improved to some extent the quality of their products. Although, because of breakdowns and a complicated service, the cost of their installations, ultimately, is much higher than a similar indicator of Western installations.

There is another important point – a lack of financing of exports. This is a huge minus for Ukraine. Suppose a manufacturer provides a credit line to a buyer so that he could purchase equipment on an installment plan and pay for this equipment during 4–5 years. This scheme is introduced in China, the EU countries, in the USA, but not here. China goes further and subsidizes its manufacture. As a result, manufacturing plants are idle – they now have a huge surplus of production capacity. Therefore, so far we manage to survive on the account of individual orders and quality of the equipment maintenance. This is still a problem for Chinese producers, for instance.

Those technologies that are imported to Ukraine as modern are actually 20 years old.

There is another trend, which makes us change. Because of the ups and downs, the market for drilling installations has become very cautious and conservative with regard to innovation. For the past 15 years, drilling installations did not change. An exception is equipment of quick-installation, developed in the US for shale deposits. The rest equipment is the same. Those technologies that are imported to Ukraine as modern are actually 20 years old. It is just that for the last 25 years we (in Ukraine) have not bought anything new at all. Thus, drilling equipment becomes of the same type and is often copied. In this case, the price will play a significant role. We will find ourselves in the situation when there are one major manufacturer – a large American company that operates in the expensive market, and cheap Chinese copies.

Those “stuck in-between” have certain problems. Therefore, if you are not a premium company or a price- champion (that is, cheap), a niche or rapid innovation are possible solutions. We have created a niche for ourselves, and besides we provide high-quality after-sales service, unlike global companies.

LJ: Your partners are traditional mining companies, and therefore the question is: will you continue to take into account any global trends? For example, now the transition from traditional to alternative energy is one of the global trends.

A.Z.: Well, I would like to say that there are a lot of major changes happening in the market today. We have a response to these trends. It has matured long ago. The starting point is global civilization survival and it will affect the future of the entire energy sector. We all understand that the future should be for alternative, renewable energy. Everyone speaks about this fact; there is no doubt.

We need to understand that as responsible people, we cannot close our eyes on climate change. This is unambiguously an issue. Unfortunately, large oil companies, instead of investing in clean energy (as the Norwegian state-owned company is doing), very often are lobbying the denial of climate warming problem. This is sad and shortsighted. I mean the situation worldwide, mainly in the United States. The world oil and gas industry has colossal (financial) resources, and with the resistance of the oil lobby, it will be extremely difficult to change the situation. In 20–30 years, the next generation will ask us, what have you done to change the situation?

AS RESPONSIBLE PEOPLE, WE CANNOT CLOSE OUR EYES ON CLIMATE CHANGE

No, this does not mean that we will stop producing installations right tomorrow, but this means that we are thinking about a different direction of business development and are actively working in this direction. We are already developing a new technology that will become a clean innovative project in the field of alternative energy. In addition, we have started to develop the direction of engineering as a separate service, so as not to depend on one business activity. And this is also a serious progress.

LJ: What do you mean when you are talking about innovations? Give us an example.

A.Z.: Well, for example, we are doing research on the “digital twins” technology. This is a relatively recent story. More precisely, the technology was invented a long time ago, but it began to enter the mass markets literally in the last two years.

The fact is that before the creation of a physical product, you make a virtual copy of it. At the design development stage, you can completely simulate the work of a physical object, test it with various loads and modes, separately and in combinations, and only then begin to manufacture it. This is a virtual prototype. This technology greatly helps to refine the product, improve the technology and identify its problems. Therefore, you can significantly reduce engineering risks, development costs and time expenditures.

When the product is already created, then using its virtual copy, you can see in what conditions and how it will work. You can predict breakdowns, virtually speeding up the course of time.

A day of downtime can cost the owner of the installation over $ 50,000

Suppose you increase the level of vibration, you specify the desired indicators for the virtual product and, increasing the vibration, see what happens if such a vibration continues for two months, for example. And if you find out that the equipment will break in a month, then you can fix it on the virtual twin. You should understand that, for example, in our industry, even a bearing break stops operation of a drilling rig costing $ 20 million. A day of downtime costs the owner of the installation over $50,000 of lost revenue and plus fixed costs and, possibly, fines. The average rent of a large offshore drilling rig costs $1 million per day.

The digital twins’ technology allows reducing significantly the risk. You can even avoid risk completely. This is a new developing topic; it is on the agenda, and today we are “jumping” into this story. We use the competencies that we have – in engineering, in production, in understanding clients’ tasks. If you want, (with this twin technology) you can build something which others would think unrealistic. We do have expertise. We start with digital prototypes and go further into digital technology and engineering. The future is there.

LJ: Andrei, we know that quite recently you were to spend more time on social activities than on business. You were the Head the Reform Office of the Ministry of Defense, which is very unusual for our entrepreneurs. Did you manage to balance these activities?

A.Z.: I did not succeed in combining these activities at all. In 2014, our organization was actively volunteering, we were producing anti-cumulative screens for armored personnel carriers, very interesting and effective stoves, etc. In 2015, not knowing how it would end, I have joined the Ministry of Defense — friends and acquaintances of friends had offered me to join the volunteer movement in the ministry.

FOR THE LAST TWO AND A HALF YEARS, I DID NOT SHOW UP AT MY WORK

But it turned out that it was simply impossible to combine the ministry activity and my work. I left business for two and a half years. There is nothing in common between oil and gas engineering and the military administration; they are two different planets. That is, for two and a half years, I practically did not appear at my work. Surprisingly, the company remained afloat and continued to work. I am very grateful to our team for this – they are incredible.

LJ: Did you manage to use your business skills at the ministry?

A.Z.: By the way, this is an interesting question, because in fact it was the starting point. When we have started, there was no idea about the project management department at the Ministry of Defense.

There were only military or former military personnel at the Ministry of Defense, and very few civilian specialists with a civilian experience. Military people have very specific and structured thinking that helps in solving combat or other military tasks. However, if the issue concerns organizational or structural changes, the military approach very often fails.

Military hierarchical structure is standardized, bureaucratic, and there is no room for creativity. This is a tough pyramid. They critically needed (and now need) people not from outside. A third party who could intervene or build a process. Since my colleagues and I, who started to work at the Ministry of Defense, were civilians, and even from the private sector, we could easily move from level to level, and the stars on the shoulder straps did not scare us. We could communicate with soldiers, sergeants, go to the ATO, and talk with the cooks in the units and the next day report some issues to the Deputy Minister and the Minister personally. Not a single military man could do this easily. They use to communicate mostly at the same level and within the framework of responsibilities. A clear-cut hierarchy and a military person is not accustomed to communicate with people above or below his level, respectively.

The military hierarchical structure is standardized, bureaucratic, and there is no room for creativity. This is a tough pyramid. They crucially needed (and need now) people from the outside. A third party who could have intervened or built a process. Since my colleagues and I, who started to work at the Ministry of Defense, were civilians, the more so, from the private sector, we could easily move from level to level, and the stars on the shoulder straps did not scare us. We were able to communicate with soldiers, sergeants, go to the ATO, and talk with the cooks in the units. The next day we were reporting some issues to the Deputy Minister and the Minister personally. Not a single military man was able to do this easily. They communicate mostly at the same level and within the framework of responsibilities. Because of the clear-cut hierarchy, a military person is not accustomed to communicating with people above or below his level, respectively.

We managed to organize very efficient communication bridges with our foreign allies, who are now very helpful to us

Plus, we managed to organize very efficient communication bridges with our foreign allies, who are now very helpful to us. Since then, we have received foreign aid in the form of consultants, equipment, etc.

At some point, I realized that it was time to choose. All this is gone too far. I was good at it and was offered to move to certain positions, to learn military management, etc. I was thinking for quite a long time and ultimately decided to be a businessman as previously and not an official.

LJ: I know that you are one of the participants in the famous Aspen Institute seminars. How pivotal has this experience become for you?

A.Z.: Yes, a very strong experience and impression. I was not expecting. I had two such moments that turned me very strongly. At first, I felt it at Oxford. There were people from 25 countries in our group, and this strongly globalized my thinking.

As soon as the Aspen program was over, I was already on the doorstep of the Ministry of Defense “with belongings”

Then there was Aspen. I took part in the “Responsible Leadership” program and, of course, this week influenced me very much. Moreover, my participation in the program imposed on the events in the country. Therefore, as soon as the program was over, I was already standing on the doorstep of the Ministry of Defense «with belongings.» This is how I began to work at the Ministry of Defense. I am sure that the actions of one person can change incredibly, for example, a country or even the world. Especially in difficult times. It is after such an experience as Aspen, you really start to think in such categories every day.

LJ: Thank you, Andrei. Please tell me what the last book that impressed you the most was.

Smaller companies are more creative, more agile and ready for some kind of unconventional asymmetric actions.

A.Z.: Malcolm Gladwell has written a book – “David and Goliath”. This book is about how small companies unexpectedly beat stronger competitors, much larger companies. Because they – smaller companies – are more creative, more agile and ready for some unconventional asymmetric actions. They see opportunities for themselves in the actions of competitors; this allows them, in the end, to win the market struggle. When I had read this book, I was surprised to find many analogies with what we were doing now. We are doing this by intuition. And we are winning.

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