2009 Review: Regional governments getting tough with foreign energy firms

24 December 2009

The region’s governments are setting increasingly stringent terms for international companies.

When contractors gathered at Saudi Aramco’s Dhahran headquarters in the first week of March to hear its five-year spending plans, most of the talk was expected to focus on how the economic downturn might hit their future project revenues. But they left with a very different concern.

The state oil giant, acting on a directive from Oil Minister Ali al-Naimi to create employment opportunities for young Saudis, told them they would have to set up joint ventures with local firms if they wanted to compete for engineering, procurement and construction (EPC) contracts in the country.

While they will still be able to subcontract some work to affiliates outside the kingdom, there will be tough new quotas for the number of Saudis required to work on the projects’ design and construction phases.

Regional trend

Aramco means business, warning that a failure to hire and train enough Saudi staff could lead to financial penalties for the foreign contractors. But it is far from alone in clamping down on international firms that only pay lip service to the idea of creating a meaningful local presence.

In key markets across the region, governments are laying down new rules in an effort to develop their domestic energy industries, so they can compete more effectively on the world stage.

In Libya, international engineering and construction firms have called for crisis talks with the state-run National Oil Corporation (NOC) over its plan to build a skilled local workforce by banning the practice of awarding work to firms based overseas.

In neighbouring Algeria, President Abdelaziz Bouteflika has stopped foreign companies taking a majority stake in any project in the country in which they invest, and has given his government the first option to buy any assets they want to sell. Oil majors were also asked to offer some of their own assets in exchange for exploration concessions in the seventh licensing round, which ended in December 2008, although no deals have yet been struck on this basis.

Iraq has also laid down tough terms for oil majors bidding for lucrative exploration opportunities in its first upstream licensing round. The country’s Oil Ministry has taken advantage of massive international interest by telling potential investors they will have to pay for their Iraqi partner’s 25 per cent stake in the project and will not ultimately own the oil reserves or infrastructure if their bid is successful.

The trend for more stringent investment requirements is a nod to the fact that few of the multi-billion-dollar projects currently being built around the Middle East make a significant long-term contribution to the development of local skills.

One UK-based energy consultant who was involved in advising Iraq’s Oil Ministry on its contract terms says it is about striking the right balance.

“There has always been a suspicion in countries rich with oil and gas that foreigners are simply there to take money out of the country once they have completed a project,” says the consultant. “I think those lines are being redrawn in favour of the host country at the moment.”

Saudi Arabia neatly encapsulates the dilemma. Of the kingdom’s 766,000-strong private sector workforce, just 7 per cent, or 55,000, are employed in jobs directly related to the petroleum and mining industries, despite the sector accounting for 90 per cent of gross domestic product. Although 60 per cent of the population are under the age of 25 and many are in the market for jobs, local labour is barely tapped, with almost all work carried out by foreign workers.

In 2005, Al-Naimi gave Aramco the tricky task of helping to create employment oppor-tunities in the kingdom’s industrial sector. It faced an uphill battle. Each job created in the oil and chemicals industries requires an investment of between $500,000 and $1m. While the jobs offer good earnings prospects for those lucky enough to get them, they also require high levels of education and experience.

One source at Aramco who has worked on the company’s new contracting strategy says tougher requirements are long overdue for international firms.

Changing perceptions

“Our biggest problem at the moment is that companies are coming in on big projects, doing the job and then, if there is nothing else to carry on with, they leave the country,” says the source. “Few Saudis are being employed in the high-end, skilled positions, and this is what we are trying to change.”

Aramco’s decision to force foreign companies to join with local firms to create a viable domestic skills base reflects a feeling within the kingdom that previous efforts to boost local employment with quotas have not been a success. “The local quotas are seen as not really having the impact they should,” says one EPC contractor based in Al-Khobar, in the east of the country. “Saudis will only take certain jobs and there is nothing in place at the moment to try to develop their existing skills base.”

Several large international contractors have come out in support of the plan, saying it represents a reasonable trade-off given the huge business opportunities on offer. South Korea’s Samsung Engineering has more than $4bn worth of work in the kingdom and is building a training and technology centre within the Jubail industrial complex.

“I think it is inevitable that any country would want knowledge and skills transfer to their own people when a foreign company does a project there,” says Yeon-Joo Jung, chief executive officer of Samsung Engineering.

Jung admits that training local workers with little experience in the field will pose a new challenge for international firms.

“How well the company can deal with the challenge is what will determine the competitive advantage of an EPC contractor,” he says. “What I want to do is train more people and more local engineers by transferring the EPC skills that we have in the headquarters to our overseas sites.”

Boosting the local skills base of a Saudi office is one thing, but making that sort of commitment in a country like Iraq is more problematic. The Iraqi Oil Ministry has created a complex contract model for its current bid rounds, in an effort to have Iraqi firms operating the contracts while still taking advantage of international expertise.

“The risk profile is heavily weighted against the international contractor and the terms remain challenging, but you are talking about a really enticing investment opportunity,” says one executive at the UK/Dutch Shell Group who is involved in the company’s bids for work in Iraq. “You can see it from Baghdad’s point of view. It is a big opportunity to revitalise its economy, and it wants local companies to benefit.”

Financial implications

In Libya, Saleh Rahuma, head of the NOC committee responsible for establishing a local engineering presence, has been handed the difficult job of turning the government’s nationalisation mantra into a workable policy.

“We have come to the point where we need more from our international companies and we are in dialogue with them at the moment to work out a good compromise,” says Rahuma.

One source at Italian oil firm Eni, which works in countries across the Middle East, including Libya, says international contractors and oil majors will be forced to pick and choose which countries to work in if the current trend towards localisation continues.

“We are in Libya, we are in Algeria and we are bidding for work in Iraq,” says the executive. “We want to stay in these markets if we can, but there is a limit to how much money and investment we can plough in to help their local workforce and economies. We are here to work and carry out these projects to the best of our ability.”

Rahuma says that given the economic outlook and low oil prices, he expects good co-operation from international contractors.

“We think we have been more than fair in the past but we need to think of our long-term goals for the energy industry in Libya,” says Rahuma. “That means more training and retraining of Libyans, and I am sure a lot of other countries are thinking the same thing.”

The commitment of officials around the region to developing their local work-forces deserves to be encouraged. But inter-national firms, with one eye on their own profitability, now have to decide in how many countries they can commit to make a meaningful investment.

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