The analysis “Three Questions About Egypt’s Oil and Gas Sector,” has been published by the Oil and Gas Council, the leading network of energy executives in the world. This analysis
is related to Africa Assembly 2018, which is the largest African O&G
finance and investment event. The Oil and Gas Council will organize Africa
Assembly 2018 on June 5-6 in Paris, France.
March 21, 2018
London, United Kingdom
1 — What
is Egypt’s role in the O&G business on a global scale?
Egypt has been one of the first countries active
in the petroleum extraction. In fact, the country has been producing crude oil
for more than a century; Egypt’s first commercial crude oil production started
in 1910 in the Sinai Peninsula. Today, according to BP Statistical Review of
World Energy 2017, the country owns 3.5 billion barrels of proven oil reserves,
which position Egypt as the 6th and 27th largest holder
of proven oil reserves in Africa and in the world, respectively. Almost 50% of
the oil production occurs in the Western Desert, while the remaining production
is located in the Mediterranean Sea, the Nile Delta, the Gulf of Suez, and
Upper Egypt (the latter is the southern part of the country).
Despite being a medium-sized oil producer with 691,000
b/d in 2016, Egypt’s oil consumption at 853,000 b/d is higher than its
production (this is not surprising because Egypt has a population of 95.5
million), so Egypt has been recently obliged to import oil from other
countries—mainly from Middle Eastern countries. Over the last forty years,
oil’s share in total primary energy production has consistently been reduced
(it was 95% in 1970 while it is today 44.6%)—of course, oil is the main fuel
used for transportation.
However, the real added value in the O&G
business for Egypt derives from the country’s natural gas reserves, which at
65.2 Tcf position Egypt as the 3rd and 16th largest
holder of proven natural gas reserves in Africa and in the world, respectively.
In 2016, Egypt was the third African natural gas producer with an overall
annual production of 41.8 Bcm. Egypt’s natural gas sector started to expand at
the end of the 1990s because of increased domestic demand and of the idea of
exporting the excess natural gas as L.N.G. In 2009, Egypt’s natural gas production
peaked at 62.7 Bcm, but, then, in 2010, production started to decline. The
reason was that some of the offshore production areas in Mediterranean Sea had
reached the maturity level while at the same investments were lacking because
Egypt was slow in reimbursing the foreign contractors. On top of this, the oil
price reduction in 2014 did not help attract foreign investments in the country.
The whole picture changed completely in 2015 when
Italy’s E.N.I. announced the discovery of the Zohr field, a giant offshore gas
field in the Mediterranean Sea at a depth of 1,450 meters with 30 Tcf of gas in
place, of which 22 Tcf of recoverable reserves. In December 2017, E.N.I.
started production at the Zohr field at the level of 350 MMcf/d. From this
level, daily output is set to rise to about 1 Bcf/d in June 2018 and then 2.7
Bcf/d by the end of 2019. In addition to the Zohr field, other gas fields—West
Nile Delta (recoverable reserves of 5 Tcf), Noroos (estimated reserves in place
of 530 Bcf), and Atoll (recoverable reserves of 1.5 Tcf)—are increasing Egypt’s
natural gas production. And the Egyptian Natural Gas Holding Company (EGAS)
intends to launch soon a new licensing round centered on 9 blocks in mature
areas in the eastern part of Egypt’s Mediterranean Sea. Later, this round will
be followed by another round covering frontier areas in the western part of
Egypt’s Mediterranean Sea. Summing up, there is a complete commitment toward
discovering new gas reserves.
2 — In
addition to O&G reserves, what is Egypt’s added value?
Geography and infrastructure. In fact, not only is
Egypt gifted with O&G reserves, but also it is strategically located so
that it is one of the world’s most important transit points for the physical trade
of hydrocarbons. The Suez Canal is a transit waterway for oil and L.N.G.
shipments, while the Sumed Pipeline (whose book capacity is set at 2.5 MMb/d) is
the only alternative route in proximity of the Suez Canal to transport crude
oil from the Red Sea to the Mediterranean Sea if tankers are not able to pass
through the Suez Canal. If it were impossible to navigate through the Suez
Canal or to use the Sumed Pipeline, tankers would be obliged to navigate around
the Cape of Good Hope in South Africa. This would mean to increase both the
costs and the shipping time. The Cape of Good Hope route would mean 15 more
days of navigation to Europe and 8 days to 10 days more of navigation to the
United States.
However, the recent natural gas discoveries
throughout the eastern Mediterranean Sea in the offshore of Egypt, Cyprus
(Aphrodite field, 4.5 Tcf; Calypso field, believed to hold 6 Tcf to 8 Tcf), and Israel (Tamar field, 10 Tcf;
Leviathan field, 22 Tcf)—and with the future possibility of natural gas
discoveries offshore Lebanon—for the time being, offshore Syria is completely
out of the picture as a consequence of the civil war ravaging the country) has
additionally increased the geographic importance of Egypt, which might become
in the near future a regional energy hub with particular attention given to the
trading and export of natural gas. The World Bank supports the development of
Egypt’s role as an energy hub. It’s plausible that Egypt will be again a gas
exporter in 2019. In any case, it is premature to know for how long Egypt will
be a gas exporter—it depends on whether there will be new natural gas
discoveries and on the country’s population growth. However, in addition to
exporting its own gas, Egypt could export Cyprus’s and Israel’s gas. In fact, all
the above-mentioned gas fields, the Zhor field included, are located very close
to one another.
And, of all the mentioned countries, in addition
to its advantageous geographical position, Egypt has already in place an export
infrastructure. Egypt has two L.N.G terminals, one in Idku and one in Damietta.
These terminals, which have a combined capacity of about 19 Bcm per year (Idku,
11.48 Bcm; Damietta, 7.56 Bcm) are currently not used. These terminals might
well be used for exporting Cyprus’s and Israel’s gas. In addition, if Egypt
were able to find a solution to its confrontation with Israel regarding Egypt’s
shut off in 2012 of its gas exports to Israel via the El Arish-Ashkelon Pipeline,
this pipeline (9 Bcm per year) would be again an important natural gas
infrastructure in the region. Three arbitrators at the International Chamber of
Commerce ruled that Egypt’s natural gas companies will have to pay Israeli
Electric Corp. $1.76 billion for halting gas supplies. Instead, the future of
the Arab Gas Pipeline, which connects Egypt to Syria and Lebanon, is difficult
to understand considering the present conflict in Syria.
It’s necessary to underline that duplicating
L.N.G. export infrastructure in all the involved countries would be economically
illogical. At a time when it is quite important to limit both capital
expenditure (capex) and operating expenditure (opex) per MMBtu of produced
natural gas, building in Cyprus and/or in Israel export infrastructure already
present in Egypt would eat away at the profitability of Cyprus’s and Israel’s
gas exports. So, despite all the difficulties of the eastern Mediterranean
geopolitics, collaboration among the involved actors—and, in specific, between
Cyprus, Egypt, and Israel—would really go a long way in maintaining eastern
Mediterranean natural gas prices competitive on the world markets.
3 — Is
Egypt’s O&G fiscal framework attracting to international companies?
Egypt is one of the oldest oil producers in the
world, which means that in the country there is a lot of experience in managing
petroleum operations. Hydrocarbon production
is by far the largest single industrial activity, representing approximately 16
percent of Egypt’s G.D.P. And the energy sector is the most important sector for foreign direct investment
(F.D.I.) in the country.
Egypt’s petroleum fiscal framework has changed
over the decades to reflect the evolution in the way of thinking how to
structure a petroleum fiscal framework. Until 1962, Egypt based its framework
on a royalty/tax system, then between 1963 and 1972 it moved to a participation
system, and lastly, since 1973, it has been using a production sharing system.
The production sharing contracts that Egypt has
signed over the years have had in general terms a positive result for both
Egypt and the foreign companies—although it must be clear that unless a
petroleum fiscal system has a lot of flexibility, which is always difficult to
implement, it is improbable that it may always remain the same and give the
same results over the years without any amendments.
One of the Egyptian P.S.C.s’ most attracting features
to foreign companies is that in Egypt the P.S.C.s are enacted into law. In practice,
this feature has always given foreign companies a lot of confidence that their
investments are protected and upheld by national law. The downside is that,
because of enacting contracts into law, it is then more complicated to
renegotiate or amend the contracts—in fact, it’s required the approval of the
Ministry of Petroleum and of Parliament. In addition, investments in Egypt are
generally protected against expropriation, especially if there is a bilateral
investment treaty between Egypt and the home country of the foreign
investor.
When there is a commercial oil and/or gas
discovery, a
non-profit joint venture (J.V.) between the contractor company (50% stake) and Egypt’s
competent company (50% stake)—the competent company may be the Egyptian General Petroleum Corporation (E.G.P.C.), the
Egyptian Natural Gas Holding Company (EGAS), the Ganoub El Wadi Petroleum
Holding Company (Ganope)—is
established as a special joint stock company (the Operating Company). In all
the contracts, the government is entitled to a 10% royalty calculated on the
total quantity produced. However, Egypt’s competent company, and not the
contractor company, pays the royalty. Similarly, the contractor company is
subject to the Egyptian corporate income tax (C.I.T.), which for the O&G
sector is set at the rate of 40.55%. However, who pays the contractor company’s
C.I.T. is Egypt’s competent company, which pays the tax out of the competent company’s
share of the petroleum produced and saved as defined in the P.S.C.
One of the challenges that continue to trouble
the foreign companies investing in Egypt’s O&G sector is the issue of
delayed payments. The Egyptian government is currently trying to pay out the
remaining backlog of arrears to the I.O.C.s to encourage more foreign companies
to invest in exploration and development activities, but this issue is still
far from being fixed. The government had a peak of arrears at $6.3 billion in
2013, reduced to about $3.5 billion in March 2017.
In the past years, to increase hydrocarbons
production, Egypt has offered more generous percentages for profit and cost
recovery (expenditures with respect to exploration, development, and related
operations). In specific, it raised cost recovery percentage from 35% to 40%.
Still, along the same line, it was decided the abolition of the mandatory
abandonment of part of the concession area every two years—the contractor can
now present a new exploration plan for the concerned area and not abandon it.
This strategy has paid off because Egypt has
signed several oil and gas exploration deals in the past years. With reference
to natural gas, Egypt has signed natural gas deals according to which it pays
foreign companies a higher price for the natural gas the companies produce—before
the price was $2.65 per MMBtu, while the new prices range from $3.95 to $5.88
per MMBtu. In fact, before this contractual modification, some relevant gas
discoveries remained undeveloped because foreign companies had not found any
profitability in developing those discoveries at the previous prices.
The Ministry of Petroleum has established a joint
committee to redraft the P.S.C.s and to introduce amendments that may
incentivize foreign companies to enter Egypt’s O&G sector. According to the
current timeframe, the committee should be able to present its result by the
end of this year. One of the most important modifications should concern a
reduced reimbursement period to stimulate foreign investment. The foreign
companies already working in Egypt may forward suggestions to the committee.
The basic idea is to provide the P.S.C.s with more flexibility, for instance,
sharing production or surplus and, with natural gas, being able to modify over
the course of the contract the price per MMBtu that Egypt pays to the foreign companies.