Funding the search for gas

11 April 2008
Cairo is raising the price it will pay to oil companies for gas in a bid to boost deepwater prospecting and underpin economic development.

The Egyptian natural gas sector has reached a turning point. A few years ago, energy companies were flocking to the country, attracted by the potential of finding gas in the Mediterranean deep water. But the bonanza failed to materialise and energy companies put their more ambitious plans on hold as the returns on their fixed contracts with the Egyptian government for the costly deepwater prospecting were too low.

But in March, with swiftly rising consumption patterns and persistent lobbying by the international oil companies (IOCs), the Egyptian government finally agreed to pay a higher price for natural gas to oil companies with development prospects in the Mediterranean Sea, paving the way for an surge in upstream activity in the Nile Delta.

In the past, part of the problem has been the unrealistic expectations of oil majors and the Egyptian government. The difference between expectation and reality can be seen clearly when it comes to the country’s gas reserve forecasts.

The government gives a figure of 120 trillion cubic feet (tcf) but the Egyptian Natural Gas Holding Company (Egas) last year estimated Egypt’s gas reserves at just 72.3 tcf. Some 78 per cent of this resource is estimated to be in the Mediterranean, 4 per cent is in the Nile Delta onshore, 10 per cent is in the Western Desert area, and 8 per cent is in the Gulf of Suez. Bridging the gap between actual reserves of gas and those the government would like to see involves drilling a lot of deep wells.

Price issues

Until now, IOCs have been irritated by the low prices received from the state-owned Egyptian General Petroleum Corporation (EGPC). The IOCs claim this acted as a disincentive to deepwater exploration, and in recent years rising inflation has exacerbated the problem.

One recent example is the UK’s BG, which was keen to invest in upgrades to its 800 million-cubic-feet-a-day (cf/d) Rosetta development, which came on stream in 2001 and supplies the domestic market. But investing new cash has hardly been attractive given the low price on offer - about $2.65 a million BTUs, whereas the export market price would probably be closer to $5 a million BTUs.

Fresh investment has failed to materialise across Egypt’s energy sector, and a low point was reached with the recent licensing round, in 2006, which ended in failure when leading international players such as the UK’s BG and BP decided not to participate, arguing that the gas price formula did not justify fresh investment in costly areas.

Investment surge

But Egypt needs gas, and in ever increasing quantities. With a population of more than 80 million and an economy growing at almost 7 per cent a year, according to the World Bank, domestic demand alone should be sufficient to make the case for investment, never mind the export market.

However, the mechanism of the agreements is stifling progress. IOCs are required to sell about two-thirds of their production to the Egyptian state, which the government then sells on the domestic market at further knock-down prices. Egypt’s domestic gas price subsidies have proven difficult to dismantle.

Energy Minister Sameh Fahmy initially decided to increase the price it pays BP and its partner, Germany’s RWE Dea, for gas produced from two licences in the Nile Delta: West Mediterranean deepwater and North Alexandria. For gas produced in the shallow waters, the companies will continue to receive $2.65 a million BTUs.

Cairo will increase in stages its price for gas up to $4.70 a million BTUs for gas from deeper waters. Fahmy says the deal he struck with BP and RWE Dea will be extended to other operators in the country’s offshore sector, a decision that is awaiting approval from parliament.

In March, RWE Dea said it had started developing shallow-water gas and condensate fields in the Mediterranean. The company plans to drill on fields in its North Idku offshore concession in the Nile Delta. As part of RWE Dea’s plan to become an established gas producer in Egypt, it hopes to start production from the fields that are closest to the shore by 2010.

Gas from the North Idku fields will be piped to the Abu Qir Bay processing facility and then into the local distribution network. The work will be undertaken by Suez Oil, a joint venture of RWE Dea and EGPC.

It is likely the project will involve shallow-water platforms and pipelines, which will need to be installed in the next two years. RWE will get $3.95 a million BTUs for its North Idku development.

Eni and Hess have reached similar agreements for new gas they will produce from their North Bardawil and West Mediterranean block 1 concessions.

Domestic demand

Samuel Ciszuk, an analyst at US forecasting company Global Insight, says Egypt will be rewarded for its price revision in the form of new investment in the country from IOCs.

“Cairo is seeking to ramp up output to take advantage of soaring energy prices, and it seems more than likely that we will see an upsurge in investment activity as a result,” he says.

RWE Dea certainly moved fast on the North Idku project, given that it only recently signed the gas sales agreement with EGPC and Egas to ensure it could progress with the scheme.

Meanwhile, BP and the UK/Dutch Shell Group have joined with RWE Dea in agreeing to spend $950m on the exploration of two deepwater areas north of Alexandria, and have promised to spend $800m on drilling and surveying.

Shell will spend at least $45m on exploring north of Damietta, according to the Egyptian Energy Ministry. The three companies will pay the government bonuses totalling $105m on signing the agreement.

But while gas demand in Egypt is rising, the fear is that subsidies in the domestic market will continue to increase demand, limiting the potential for IOCs and the government to profit from world prices that are currently at or near record highs.

To a certain extent, price liberalisation in the domestic market might help constrain demand, and some attempts have been made to achieve this, with prices for industrial consumers expected to double over the next two years to $2.65 a million

BTUs. But bigger rises for domestic users would be controversial and could end up derailing plans, supported by the World Bank, to connect another 2 million households to the gas network by 2015.

Another potential problem for Egypt is a shortage of infrastructure necessary to keep exploration momentum going.

Shell’s plan to bring on stream what it believes to be a big gas field in the ultra-deepwater North East Mediterranean (Nemed) concession has been repeatedly delayed by the unavailability of rigs to drill for the gas, and as a result it does not expect production to start before 2011. But with the government now willing to pay more for gas, most observers are upbeat.

Key fact

Eqypt's Natural Gas Holding Company estimates the country's reserves are 72.3 trillion cubic feet.

Developing liquefied natural gas

By 2005, Egypt had brought on stream two liquefied natural gas (LNG) plants and was hopeful that fresh capacity would follow. But the government’s goal of doubling LNG exports will be hard to achieve.

Capacity is already a respectable 12.2 million tonnes a year (t/y) from three trains. To become one of the world’s top-five LNG exporters, Egypt would need to double this.

“It seems quite likely that there will be a new train at some point, given that senior people within the Petroleum Ministry are already talking about it,” says Samuel Ciszuk, analyst at US forecasting company Global Insight.

A new train is more likely to be located at the Segas LNG plant in Damietta rather than Idku.

UK gas giant BG has long hoped to develop a third train at Idku. But since finding enough gas to support the first two trains, it has not met the same upstream success.

This, however, does not necessarily mean the end of the project. BG seems determined to press ahead, especially since it decided to withdraw from Israel at the end of January.

BG had originally planned to sign an agreement for the sale of 1.5 billion cubic metres a year (cm/y) of gas to Israel, but the company made the decision to pull out after talks with the Israeli government over the sale of natural gas from the Gaza Marine field to Israel collapsed.

Despite this setback, BG still holds the licence for the Gaza Marine field and says it is considering shipping the gas to Egypt for conversion to LNG and export to Europe or the US.

This could provide the basis for a third train at Idku, with the gas from Gaza Marine providing between a third and a half of the gas required to make it viable, with Egyptian domestic production accounting for the remainder.

The UK’s BP, meanwhile, hopes its recent discoveries will prove sufficiently large to support its plans to develop a second train at Damietta. In January, the company announced a ‘significant’ gas discovery in the North el-Burg concession it shares with Italy’s Eni, in the Nile Delta, 50 kilometres north of Damietta.

The find was BP’s second-largest discovery in the Nile Delta in a year. The others, Giza North-1 well in Taurus, which was announced in 2007, and Raven, found in 2003, are both within the nearby North Alexandria concession, which the company shares with Germany’s RWE Dea.

Giza-1 could hold 1 trillion cubic feet (tcf) of gas. But BP has not yet said what volume of gas it has found in the other two fields. Local reports put the newest find, Satis, at 1.3 tcf. Raven, according to rumours, could hold as much as 5 tcf. An estimated 3 trillion tcf is needed to support a second train at Segas, and the recent discoveries could put up to 7.3 tcf at the com-pany’s disposal.

But subtract two-thirds for Egypt’s domestic use, as the company is obliged to do, and that still leaves BP short of the necessary volumes to support a fresh facility at Damietta.

Fuelling competition

Meanwhile, Egypt is pressing its LNG customers, particularly Spain’s Union Fenosa and France’s GDF, to pay a higher price for the gas they import from the country’s two LNG plants at the Mediterranean ports of Idku and Damietta.

Egypt has been selling gas to the two European companies at lower prices under long-term sale and purchase agreements, which enabled it to finance its LNG plants. The first deal was with Union Fenosa, which signed a 25-year gas purchase agreement with Egyptian General Petroleum Corporation (EGPC) in June 2000, in which it agreed to invest £E4.6bn ($842m) in building the Damietta plant.

GDF, which owns 5 per cent of the Idku LNG development, has signed a similar agreement to take the majority of the plant’s output for the next 20 years. Currently, GDF is the main buyer of Egyptian LNG, with imports of about 4.8 billion cm/y from Idku. Indeed, Egypt now accounts for more than 10 per cent of GDF’s total gas supplies.

Higher prices could also hasten upstream work offshore in the Nile Delta, where most of Egypt’s proven reserves of about 70 tcf are located.

While any potential increase in the availability of gas resulting from more exploration on the back of increased prices will benefit the LNG industry in Egypt, which has to compete for gas resources with the domestic consumer market and the local energy-intensive industry, Cairo still wants to keep a third of its resources in the ground for future generations. But here again, price is an issue.

Cairo’s displeasure with the terms it negotiated with LNG buyers in 2000, alongside the high domestic demand for gas, has been suggested as a contributory factor to the supply-side problems experienced by the Segas LNG plant at Damietta.

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