When Egyptian strongman Hosni Mubarak was taken down in the 2011 revolution, the energy sector went with him. Since then, it has been a long stream of bad news for the sector and its foreign investors, most of whom had to withdraw non-essential personnel in the violent aftermath of the 2 July 2013 coup that overthrew yet another leader, the Muslim Brotherhood’s Mohamed Morsi.
Now, with the energy sector pretty much out of control, domestic demand on the rise with shortfalls threatening further stability, foreign reserves plummeting and $6 billion in arrears owned to foreign investors, the interim military-backed government is trying to put things right—sort of.
Late October and early November have seen some indications of compromise over the energy sector, but not nearly enough. Domestic production was largely halted with the Arab Spring, and while the government is hoping for a revival it is limiting the playing field to the onshore ventures because there’s no incentive for investors to hit the gas-rich ultra-deep.
Onshore, the interim government has signed nine new oil and gas exploration deals representing new investment of $470 million that should see the drilling of 15 new wells in the Gulf of Suez, the chaotic Sinai and the eastern (Nubian) and western deserts.
The contracts, the first such since 2010, went to Shell, BICO, Greystone, Petzed and the Egyptian General Petroleum Corporation (EGPC).
Then, during the first week of November,…
When Egyptian strongman Hosni Mubarak was taken down in the 2011 revolution, the energy sector went with him. Since then, it has been a long stream of bad news for the sector and its foreign investors, most of whom had to withdraw non-essential personnel in the violent aftermath of the 2 July 2013 coup that overthrew yet another leader, the Muslim Brotherhood’s Mohamed Morsi.
Now, with the energy sector pretty much out of control, domestic demand on the rise with shortfalls threatening further stability, foreign reserves plummeting and $6 billion in arrears owned to foreign investors, the interim military-backed government is trying to put things right—sort of.
Late October and early November have seen some indications of compromise over the energy sector, but not nearly enough. Domestic production was largely halted with the Arab Spring, and while the government is hoping for a revival it is limiting the playing field to the onshore ventures because there’s no incentive for investors to hit the gas-rich ultra-deep.
Onshore, the interim government has signed nine new oil and gas exploration deals representing new investment of $470 million that should see the drilling of 15 new wells in the Gulf of Suez, the chaotic Sinai and the eastern (Nubian) and western deserts.
The contracts, the first such since 2010, went to Shell, BICO, Greystone, Petzed and the Egyptian General Petroleum Corporation (EGPC).
Then, during the first week of November, Egypt signed five more agreements for $115.5 million with Canada’s TransGlobe Energy (TGA) and Greece’s Vegas Oil and gas—again, onshore.
These deals come on the heels of rumors that international oil companies were planning to halt their production in Egypt due to unpaid debts.
Then we have the tricky area of imports and exports, which carry with them significant geopolitical baggage. When Mubarak fell, a 20-year gas contract for the sale of Egyptian gas to Israel fell with him because the Muslim Brotherhood, assuming the throne, alleged that Mubarak officials were receiving huge pay-offs to get this gas to Israel at below-market prices. The contract would have been difficult to honor at any rate, with an explosion of violence in the Sinai Peninsula, with pipelines heavily targeted, making it nearly impossible to ship to Israel and Jordan.
The situation now has flipped, with Israel making its own sizable discoveries in the Levant Basin and Egypt in need of Israeli imports, though it has so far refused to consider this possibility publicly.
Instead of Israeli gas, Egypt will opt for imports of liquefied natural gas (LNG), though this carries a much higher price tag because it means Egypt will have to lease a floating LNG terminal and pay global spot prices. With the ongoing chaos in the Sinai, however, this more expensive option is, for the time being, the more secure one.
Not Enough for Investors and Not Enough for Egypt
Are these new exploration deals enough to keep investors in Egypt? It is a start, but international oil companies will demand more if Cairo wants to see them increase production—and without key concessions to foreign companies to develop offshore, there won’t be much advancement.
First of all, investors want production-sharing agreements that reflect the cost of production, particularly when we’re talking about differences in geology and onshore versus offshore projects.
If Egypt has any hope not only advancing its prospects as an LNG exporter, it will have to make offshore gas exploration and production much more attractive for foreign investors.
Right now, LNG exports are a drop in the bucket compared to what they used to be because domestic production has slumped and what is being produced must be diverted to assuage local demand.
Foreign companies funded Egypt’s LNG export facilities, and now they are seeing the payout. Continued investment is being baulked at because contracts don’t reflect the high cost of ultra-deep-water exploration or infrastructure. Investors will only look onshore because contracts don’t seem to differentiate between the costs, so offshore isn’t worth it. Without the necessary reforms to pricing arrangements, investors will be less than motivated to move offshore and tap into Egypt’s gas-rich waters, and so far the government has given no indications that it’s working towards this.
Right now, the government pays offshore gas producers about $2-$3 per million British thermal units. This compares to over $10 for UK gas and over $17 for Asian supplies. On top of this, the government assumes ownership of half the gas produced offshore, so there’s hardly much incentive for producers.
What we have right now is a tragic state of affairs at Egypt’s two LNG export plants, Damietta and Idku. Damietta is completely idle, having been cut off from supplies, while Idku is languishing with only enough supplies to stay barely functional.
(UK-based BG Group and France’s GDF Suez both export from Idku, and both mourn the state of affairs in Egypt, though they remain optimistic that supplies to Idku will improve towards the end of this year, slightly boosting exports.)
But before that there is the issue of unpaid debts to deal with. In September, the interim government announced it was considering plans for restructuring over $6.2 billion in debt owed to foreign oil and gas companies. In mid-October, it announced that it would start repaying these debts within two months, or by the end of this year.
“By hook or crook we will get them something fixed by the end of this year […],” EGPC chairman Tarek El Molla told reporters.
Still, a final date and a final amount for what exactly will be repaid by the end of this year have not emerged. And a lot of new investment will depend on this.
One of the options being discussed is for foreign companies to raise their output of crude and condensates and then export their share of the increased production as repayment for the money they are owed.
Egypt’s Dilemma
Investors are also looking at the bigger picture here—the one that shows no advancement in Egypt without some heavy reforms.
Paying the debt owed to foreign oil and gas companies will necessitate heavy reform—and specifically a reduction in subsidies that account for more than one-fifth of the entire budget.
There were initial hopes that the military-backed interim government would lean more towards reducing subsidies, but now there is less optimism.
The issue of subsidies is always an explosive one that threatens compounded civil unrest. Both subsidies and the removal of subsidies are the undoing of governments.
A whopping 59% of the government’s total budget expenditure this year went to subsidized commodities and the repayment of public debt. And petroleum subsidies have risen by 25.6%.
While everyone seemed to think that the military-backed interim government would have enough bravery to get rid of subsidies, this may not be the case. The initial optimism for this seemed to be based on the fact that the military was lashing out at the Muslim Brotherhood with complete disregard for the implications and civil rights. If it could be so brave with the Muslim Brotherhood and convince the rest of Egypt that civil rights and various freedoms are worth giving up if it means an end to the “Islamic threat”, then certainly it would be brave enough to get rid of subsidies. But in the end, the military-backed government also thrives on national populism and fears the potential public backlash from an end to subsidies could risk its control. The military is, then, not as powerful as one would think, and its preference would be to put the subsidy reform onus here on the next regime. This is despite the fact that these same subsidies ultimately destroyed the Morsi-led Muslim Brotherhood regime.
Even if the government sweetens the deal for foreign investors offshore, Egypt is not likely to become a major LNG exporter in the near term, or even in the medium term. Perhaps not even in the long-term. Egypt’s demand growth is on the upward spiral and it will take much more than the current government is willing to give in terms of motivating offshore exploration and production to turn this around and make it enough to divert from local consumption.
BG Group—one of the largest gas producers in Egypt--is delaying new investments there right now, and has put its West Delta Marine project on hold. BG Group’s sentiments on Egypt were succinctly summed up in a recent statement to the effect that Tunisia is now considered a much better venue.
“The ability for Tunisia to continue to honor its contracts and to continue to pay for its energy supplies is fundamental for BG’s continued appetite,” Michael Rees, BG president in Tunisia, was quoted by Bloomberg as saying in late October. “Unlike Egypt, where there are lots of challenges in terms of payments and in terms of renegotiation of contracts, this stability is needed because it’s a tough place geologically to invest.”
