Tuesday, June 19, 2012

The U.A.E. Alternative Oil Exporting Route Bypassing the Strait of Hormuz

July 19, 2012
On July 15, 2012 Abu Dhabi started to export crude oil through the Abu Dhabi Crude Oil Pipeline (Adcop) bypassing the Strait of Hormuz. The initial shipment consisted of 500,000 barrels. The 403-kilometer pipeline runs from Habshan, which is a collection point for Abu Dhabi's onshore oil fields (Habshan is an area in the southwestern part of the emirate of Abu Dhabi), to the emirate of Fujairah, which is on the Gulf of Oman (Indian Ocean) past the Strait of Hormuz. From Fujairah,  the crude oil continues its trip to Pakistan in order to be unloaded at the Pak Arab Refinery Ltd., which is a joint venture between the International Petroleum Investment Company (IPIC) and the government of Pakistan. In specific, IPIC owns a 40 percent stake of this refinery, which on a regular basis utilizes 40,000 barrels a day (bbl/d) of Abu Dhabi's crude oil out of a daily consumption amounting to 100,000 bbl/d. The pipeline is operated by the Abu Dhabi Company for Onshore Operations (ADCO), which is the main oil producer of Abu Dhabi's onshore fields.

The pipeline was paid for (the link was completed as recently as last March) by IPIC, which is an investment company established  pursuant an Emir's decree of 1984 by the government of the Emirate of Abu Dhabi (which owns it). The mandate of the investment company is to invest in energy and energy-related fields across the globe. During the inauguration ceremony, Khadem al-Qubaisi, IPIC's managing director said that the final cost of the pipeline was $4.2 billion. In the end, the project was 27 percent more expensive than the $3.3 billion contract that had been awarded in 2008 to China Petroleum Engineering & Construction Corporation. Part of the additional costs was due to the a more-than-one-year delay in completing the project because of some technical problems.

According to the released information, the pipeline is able at full capacity to transport at least 1.5 million bbl/d of Murban crude, which is the oil loaded within the Gulf but at periodic intervals the pipeline could pump as much as 1.8 million bbl/d, officials stated recently. This capacity is quite interesting considering that, according to data related to last month,  the U.A.E. is the fifth largest OPEP oil producer with 2.61 million bbl/d. Were the pipeline operating at 1.5 million bbl/d of crude oil, 57.4 percent of the UAE's crude oil production (Abu Dhabi holds 90 percent of U.A.E.'s oil) would bypass the Strait of Hormuz. During the next months, ADCO will gradually increase oil capacity and by December the pipeline should be ready to operate at full capacity. The system at Fujairah is planned to load tankers at three offshore mooring buoys. Currently, only one of these three buoys is already working.

Strategic reasons are behind the decision of building the pipeline. In fact, up to now U.A.E.'s oil export route has passed through the Strait of Hormuz, which is located between Iran and Oman and is wide at its narrowest point 21 nautical miles (39 kilometers). The problem is that the width of the shipping line is in either directions only two miles separated by a two-mile buffer zone. The Strait of Hormuz is mainly considered for its importance in relations to crude oil. Around 20 percent of the world's oil (including all of Abu Dhabi's crude oil) or 35 percent of seaborne traded oil, passes through the strait. Thanks to the new pipeline the U.A.E. wants to have an alternative route for exporting its oil. This is of paramount importance, if Iran blocks the strait. After, at the beginning of the year, the U.S. and the E.U. approved sanction measures in response to Iran's suspected nuclear-weapons program, Iran later carried out some naval exercises in the area near the waterway. And it explicitly affirmed that it would implement a blockade of the Strait of Hormuz if the sanctions undermined its oil-exporting activity. The current possibility of Iran blocking Hormuz is no doubt very difficult, but in any case it cannot be completely ruled out. In fact, it's quite probable that Iran would never use the Strait of Hormuz option unless Iran was forced to a-last- resort action in order to maintain power or to countermand an imminent invasion.

Currently, were the Strait of Hormuz blocked, Bahrain, Kuwait and Qatar would be completely unable to export oil (and obviously all of Qatar's liquefied natural gas exports would be similarly blocked). Only Saudi Arabia is partially able to bypass Hormuz thanks to the 5 million-bbl/d East-West Crude Oil Pipeline (Petroline) which is used to transport oil from the Abqaiq refineries in the Eastern Province to the Red Sea terminals (Yanbu). In addition to Petroline, Saudi Arabia recently has reopened an old pipeline called the Iraqi Pipeline in Saudi Arabia (IPSA, with a capacity of 1.65 million-bbl/d), which was built in Saudi Arabia by Iraq in the 1980s with the aim of bypassing the Strait of Hormuz. In fact, during the eight-year Iraq-Iraq War, oil tankers in the Persian Gulf were possible targets for the two contending countries so, Saddam Hussein's regime decided to build IPSA, which was useful for carrying oil from the Persian Gulf to the Red Sea (Mu'ajjiz). This pipeline was laid across Saudi Arabia by Iraq, but it has not been carrying Iraqi oil since the Iraqi invasion of Kuwait in 1990. The pipeline was then confiscated in 2001 by Saudi Arabia as a compensation for Iraqi debts and was used for transporting gas from east of the country to the power plants located in the western part of Saudi Arabia. In order to carry crude oil Saudi Arabia had to recondition the pipeline. In practice, reconditioning IPSA is Saudi Arabia's move to secure an additional alternative route to export its oil.

The big problem for Riyadh is that Petroline and IPSA are able to move oil towards the Red Sea, which is not the best location in times of rising oil demand from Asia and declining demand in Europe. For many customers Yanbu's exports are economically unattractive in comparison to Ras Tanura's exports (Ras Tanura is Saudi Arabia's main oil port in the Persian Gulf). In practice, for shipping to Asia departing from Yanbu and passing through Bab al-Mandab adds up to five days than departing from Ras Tanura.

Summing up, Petroline and IPSA for Saudi Arabia and Adcop for the U.A.E. are the insurance tools permitting the two countries to maintain a good percentage of their oil revenues in the event of an Iranian blockade of the Strait of Hormuz. Surely, given current market trends where the main buyers of Persian Gulf oil are Asian countries, Adcop, having access to the Indian Ocean and not to the Red Sea, has a better location for serving Asian customers.

Putting aside strategic considerations, commercially the pipeline will be a useful transporting means if the U.A.E. is able to maintain the same price for the oil to be loaded at Fujairah and for the oil loaded from inside the Gulf, stated Robin Mills, the head of Manar Energy Consulting. In practice, had this pipeline been of paramount importance on pure commercial terms, the U.A.E. would have built it some years ago. According to some internal sources, the initial crude oil to be shipped is priced as Murban crude oil. It's possible that in the next months Abu Dhabi may identify a different pricing formula also accounting for the cost of using the link.

The day of the inauguration, on the other side of the Persian Gulf, an Iranian M.P. Mohammad-Hassan Asferi affirmed that, given the limited capacity of the pipeline, it would be impossible to consistently reduce the oil that has to pass through the Strait of Hormuz. He then continued stating that this link is "propaganda and political maneuvering guided by Western countries, especially the United States which aims to reduce the strategic importance of the Strait of Hormuz".

There are three other useful considerations. First, in Fujairah it's possible to operate with very large crude carriers (V.L.C.C.s), i.e., any oil tanker with 200,000 deadweight or more. Second, loading in the Gulf of Oman will reduce the shipping traffic through Hormuz. Third, there will be additional economic development for Fujairah. At this regard, it has to be underlined that IPIC plans to build there a refinery with a capacity of 250,000 bbl/d. This refinery will be set in order to produce oil derivatives for both local sale and export. The refinery  whose cost is esteemed at $3.5 billion  could increase the importance of Fujairah's port transforming it into a relevant hub for processing, storage and shipment of fuels.