Wednesday, February 13, 2013

Internal Politics May Thwart the Development of Lebanon's Offshore Gas Fields

February 13, 2013

BEIRUT, Lebanon The U.S. Geological Survey values that in the Levant Basin there could be around 120 trillion cubic feet (TCF) of technically recoverable gas. The countries that directly share the water of the Levant Basin are Cyprus, Israel, Gaza, Lebanon and Syria. In addition to them, Northern Cyprus which is under Turkish control claims part of the area under Greek Cypriot control. Turkey's aim is now to stop any explorations until its requests are acknowledged. Among all these countries maritime boundaries are defined to so poor a degree, like the well-known and strongly contested land borders.

When, on January 17, 2009, Israel discovered the Tamar Gas Field (containing around 9.7 TCF of gas) 50 miles off Haifa's coast, immediately neighboring countries began taking steps in order to explore consistently their areas in the Levant Basin. Since 2008, Lebanon has indentified some important gas deposits in the waters off its coast, but only after Israel's discovery Beirut realized that hadn't it speeded up its operations, it would have really risked being left out from the newly discovered gas riches. And considering that Lebanon was still technically at war with Israel not to mention the existence of a wedge of sea of 850 square kilometers contended between the two countries and that it had still some open disputes with Cyprus concerning maritime boundaries, it was absolutely mandatory for Beirut to explore extensively its part of the Levant Basin as soon as possible.

Lebanon is almost 100 percent dependent upon foreign energy sources in order to meet its energy needs. Fifteen percent of Lebanon's G.D.P. is destined to pay for the country's hydrocarbons account. In other words, gas self-sufficiency could provide a powerful boost to Lebanese economy. This dependence upon external energy sources has been until today a circumstance common to all the countries now involved in this gas rush in the eastern Mediterranean Sea. Some estimates calculate that having its own gas could permit Lebanon to right away save $1 billion just in transportation costs. Of course, Lebanon does not have the technological skills to develop it offshore gas fields and key to the development of its gas reserves is to bring in international energy companies, which do have the necessary expertise, but that at the same time could be driven off by Lebanon's political instability.

Notwithstanding a very difficult Lebanese political environment with increased sectarian affiliation and the current war in Syria with its spillover into Lebanon, Beirut understood immediately the importance of gas exploration for the development of its economy and in 2010 passed a petroleum law. Moreover, at the end of last year, when many of the energy companies desiring to bid in the future for the Lebanese gas were becoming very frustrated by the government's inability to name the six members of the Lebanese Petroleum Administration (L.P.A.), a solution was found and the authority was then established. This committee will now oversee the issuance of the licenses. According to recent estimates, Lebanon should have about 25 TCF within an area of 3,000 squared kilometers. Such an endowment is larger than Syria's and Cyprus' gas endowments combined.

According to Mr. Salah Khayat, C.E.O. of Lebanon's upstream oil and gas company Petroleb (established in mid-2011) "The 3-D data provided by Spectrum and Petroleum Geo-Services suggest that we have oil and gas resources valued in tens of billions of dollars when extracted over the next four decades". He then added that Lebanon could well have a gas endowment larger than Israel's. Lebanese gas reserves are located below the sea bed at a depth from 1,000 meters to 2,500 meters so that top-notch oil extraction expertise is required.

Beginning to develop these gas resources is also important because if some gas wells in the open sea could be operative in less than two years, building an industrial system capable of exporting the produced gas will require from six years to eight years. And of course, initially Lebanon will have to transform its domestic energy infrastructure. Electric power plants, which now run on diesel oil, will have to be modified and/or new ones have to be built in order to run on natural gas. Not to mention that given the strained relations among Levantine countries finding gas purchasers won't be an easy task.

The regional political contest doesn't help none of the Levantine wannabe gas producers. But Lebanon has to overcome also an additional hurdle: its internal politics, which, since the independence from France in 1943, has been a constant and destabilizing factor. For the Jameson Foundation, a U.S. think tank, it's probable that the country's sectarian rivalries and divisions will engender a dispute over the control of the newly discovered energy resources. Lebanon most relevant antagonism is between the March 8 coalition, dominated by Hezbollah, which is now in power, and the opposition represented by the March 14 coalition. Today's Lebanon has 17 recognized sects which all wrangle for power. With no doubt, an impaired government (no national budget has been passed since 2005) does not provide the best guarantees for a bidding process to which more than 40 international energy companies have showed interest according to Energy Minister Gebran Bassil. In addition, Lebanon has armed forces badly equipped and subjected to sectarian tensions. This overall combination could not be able to adequately protect the gas fields with reference both to military assaults or terrorist attacks. Presently, Lebanese naval forces mainly implement coast guard tasks (search-and-rescue and smuggling interdiction operations) and should be upgraded in order to well patrol Lebanon's maritime exclusive economic zone (E.E.Z.). Moreover, Lebanon's corruption is endemic and it's almost unthinkable that gas revenues, estimated initially at $40 billion, will not be subject to bribery.

The pre-qualification process for the international energy companies desiring to bid for the exploration licenses had to begin in the first week of February, after several months of delay linked to political issues. For the moment, nothing has happened probably because the Council of Ministers has still to issue a decree authorizing the bidding process. The scheduled timetable envisaged to award contracts in March 2014 and to start the activity in 2017.

According to Cesar Abi Khalil, an advisor to the Energy Ministry, exploration and production agreements (E.P.A.s) will soon, probably in April, be approved by the Council of Ministries and the companies will start bidding on May 2, but for the moment it is not clear which blocks will be auctioned to the foreign companies. Initially, international oil companies were obliged to have in any case a Lebanese partner creating a joint venture. Now, according to a government source, foreign companies do not need a Lebanese partner if they are able to propose a viable strategy. Successively, pre-qualified companies will be allowed to form joint ventures between themselves if they deem it useful. It seems that companies that want to participate in the auction must have at least $500 in assets to perform the role of non-operators.

Definitely, there is already the need to specify the fiscal and financial structure of the contracts. This point is very noteworthy because companies have the necessity to structure their investments. Failing to provide them with a complete picture could lately force the involved companies to reopen negotiations once their initial bids have been accepted.

Summing up, the big unknown is whether the new authority will be capable of being free from political pressures. With its members appointed after a lot of political bickering it won't be easy. But for a country that has suffered many years of war the possibility of developing its offshore gas fields is really an opportunity not to be missed.

Saturday, February 9, 2013

ExxonMobil Caught Between Erbil and Baghdad

February 9, 2013

BEIRUT, Lebanon — On January 21, the Iraqi prime minister, Nuri al-Maliki met in Baghdad with Rex Tillerson, ExxonMobil's chairman, president and C.E.O., for the first time since October 2011, when U.S. ExxonMobil and the semi-autonomous Iraqi Kurdistan signed an oil deal aimed at developing six Kurdish exploration blocks. During this meeting, one more time, Prime Minister al-Maliki  ruled out the possibility of implementing in Iraq production sharing agreements (P.S.A.s) similar to those currently signed by the Kurdistan Regional Government (K.R.G.). It seems that in occasion of the meeting the prime minister proposed to ExxonMobil some improved (still unknown) contractual terms in order to permit the U.S. company to continue its operations in southern Iraq.

In practice, Baghdad still wants to continue signing  technical service agreements (T.S.A.) with all the energy companies working in Iraq. The central government defines oil reserves as goods belonging to all Iraqi people — as it is written in the country's constitution. Mr. al-Maliki affirmed that all Iraqi people were partners in relation to the oil discovered in any parts of Iraq and that Iraqis could not, for instance, be partners in Basra but not in other areas of the country. According to some industry sources, the offered incentives have only one precondition: forfeiting the contract signed by ExxonMobil with the K.R.G. Two days after this meeting, in Switzerland, Mr. Tillerson met with the president of the K.R.G., Massoud Barzani to discuss about ExxonMobil's activities in Iraqi Kurdistan.

After the meeting in Baghdad, it seemed the U.S. energy company would take important decisions concerning its operations in southern Iraq. In fact, three years ago, in January 2010, ExxonMobil and Anglo-Dutch Shell signed a deal related to the development of the giant oil field West Qurna-1, which is located in southern Iraq. When in October 2011 the U.S. company struck a deal with the K.R.G. in order to develop the six Kurdish exploration blocks, ExxonMobil bypassed the central government, which is the only authority capable of approving energy deals with reference to all Iraq, the K.R.G. included. To make things worse, at least two of the six exploration blocks (the Qush and Bashiqa blocks) are within the territories disputed between Erbil and Baghdad. In specific, the two blocks are technically part of the Nineveh Governorate, but since 2003 this territory has been administered by the Kurds, who occupied these lands at the beginning of the war against the regime of Former President Saddam Hussein.

Immediately after the signature of the deal, started ExxonMobil's quarrel with Baghdad, with the latter threatening the cancellation of the U.S. company's 20-year T.S.A. related to the development of the giant West Qurna-1 oilfield. Later, last year, ExxonMobil announced that it wanted to sell its $50 billion stake in West Qurna-1, tilting its energy interests toward the K.R.G. The quarrel between ExxonMobil and Baghdad is only one of several possible disputes that have arisen as a consequence of other energy contracts between Erbil and other international oil companies (I.O.C.s). All these contracts have been signed by the K.R.G. without Baghdad's green light. But, with no doubt, the quarrel between ExxonMobil and the central government is the most important because ExxonMobil is the largest of the world's six oil supermajors and is easily a trendsetter with reference to energy diplomacy.

A week after the al-Maliki-Tillerson meeting in Baghdad, the Iraqi oil minister, Abdelkarim al-Luaybi restated one more time that ExxonMobil had to choose between working in southern Iraq or in the K.R.G. He went on expressly saying that there was no formal time-limit, but that now ExxonMobil had to take a final decision about how it intended to operate in the whole Iraqi territory, the K.R.G. included. "Of course, it cannot go on with the two contracts. Thus, it must choose either to cooperate in southern Iraq or in Kurdistan" said the minister.

And Baghdad is now quite positive about a possible ExxonMobil's about-face against the K.R.G. This about-face should be based on economic and political considerations as well. Economically speaking, the West Qurna-1 oilfield alone well exceeds the current the K.R.G. oil production. Consequently, Erbil is quite reasonably worried about the future developments in relation to the large oil fields in southern Iraq. Indeed, ExxonMobil's full support during almost all 2012 was an important game changer for Erbil. In practice, every oil company — the first one was ExxonMobil but later followed suit also Russia's Gazprom Neft, U.S. Chevron Corp. and France's Total — that decided to sign a deal with the K.R.G. (with better contractual terms and a safer environment than Baghdad's) was an additional step for Erbil toward at least an economic independence from Baghdad.

Were now ExxonMobil en route to Baghdad, it would be indeed a relevant setback for Erbil, which for more than a year used the American company in order to become a petro-player. A big problem, especially if the American company could get from Baghdad improved terms, which could then be a catalyst also for other companies which for the moment have forgone investing in proper Iraq. Politically speaking, the U.S. is discouraging Erbil from developing its own energy policy because the U.S. fears that this could be the first step toward the fragmentation of Iraq. In essence, Washington, desiring to avoid Iraq's fragmentation, is at least in political terms well in line with Baghdad. Some analysts point out that since its deal with Erbil, ExxonMobil would have negotiated with the K.R.G. in order just to force Baghdad to improve its contractual terms for the energy resources located in proper Iraq. In other words, the idea was to use Erbil for defying Baghdad to implement contractual improvements in the south. Time now is running out and probably ExxonMobil cannot continue to keep a foot in both camps. Recently, the U.S. company hired as a consultant Mr. James Jeffrey, a former U.S. ambassador to Iraq. Given Jeffrey's past experience, he could be closer to Baghdad than to Erbil. But it's too early to get to this conclusion.

To complicate an issue already well intricate, in mid-January British Petroleum (BP) signed a preliminary deal with Baghdad aimed at developing the Kirkuk field, which is located west of one of the blocks pertaining to ExxonMobil within the contested area. Kirkuk is an ethnically mixed city and it lies exactly at the center of the disputed area between Baghdad and Erbil. And of course, the latter is claiming oil rights with reference to the area assigned to BP. The British company up to now has developed its operations only in southern Iraq. A good reason for this behavior, without risking illegal (according to Baghdad) deals in the K.R.G., is linked to the fact that BP is the operator of the giant Rumaila oil field (17 billion barrels, i.e., around 12 percent of Iraq's oil reserves. This field, located in southern Iraq, approximately 20 miles from the Kuwaiti border, as of October 2012, produced around 1,330,000 barrels per day. BP's bond with Rumaila dates back to several decades ago and in specific it was the British company that discovered it in 1953. Rumaila is owned by the Iraqi government and it's subcontracted to BP and China National Petroleum Corporation (C.N.P.C.) under an Iraqi technical service contract. The field is operated by BP (38 percent), C.N.P.C. (37 percent) and Iraq's State Organization for Marketing of Oil (SOMO, 25 percent). Also ExxonMobil was interested into this field, but it was not successful during the bidding process.

It's obvious that a solution should be found very soon. It's not possible to have I.O.C.s supporting either the K.R.G. or proper Iraq in their Iraqi energy operations. This a condition — although it's not as dangerous as last December's deployment of the K.R.G.'s and Iraq's armies along the contested border — still adds insecurity. And in an area where politics is based on crude oil and crude oil is based on politics, I.O.C.s' commercial ventures have relevant geopolitical consequences especially when dealing with a country like Iraq, which has proven reserves of 143.1 billion barrels of crude oil and 3.2 trillion cubic meters of gas. A new legislation — if accepted by all the involved parties — could well define Iraq's energy sector, in this way partially de-escalating the current political crisis. But the problem is that this legislation has been caught up in political struggles between Sunnis, Shiites and Kurds.

The point that needs to be understood by the government of Iraq is that also losing the ExxonMobil's deal would not stop — although it would be a relevant setback for Erbil — the K.R.G. from getting more autonomy from Baghdad. The Kurdish region is now on a drive toward developing an energy sector in a much more autonomous way than just two years ago. In fact, other companies are interested in getting Kurdish acreage. This means that for a company that leaves the K.R.G. surely there will be some other valid replacements. This current situation surely presents Erbil a completely new political leverage, but at the same time risks bringing Iraq towards its political fragmentation.