Seoul ensuring energy security

19 June 2009

Seoul has been encouraging South Korean energy companies to look further afield to offset the country’s dependence on the Middle East.

With virtually no domestic sources, South Korea imports 97 per cent of the energy it consumes, with more than half of that in the form of oil. As a result, the economy is highly responsive to volatility in oil prices and there is a strong relationship between gross domestic product (GDP) growth and energy demand.

While booming economic growth fuels energy consumption, high international oil prices often have the effect of slowing Korean GDP growth.

As the oil price hit an all-time high of $147 a barrel in July 2008, the impact on the government’s coffers was felt almost immediately. South Korea posted its first annual current account shortfall in 11 years, at $6.41bn.

The ensuing economic downturn has provided much needed relief, in terms of energy prices at least, and Seoul has been one of the main beneficiaries as oil prices have dropped below $50 a barrel over the past 10 months. It recorded a current account surplus for the third straight month in April, at $4.28bn, after a record $6.65bn in March, according to the Bank of Korea.

While the Middle East still accounted for 84 per cent of Korea’s oil imports at the end of 2008, the impact of the global recession has affected the sort of oil and gas products the country is targeting.

Gas imports

Seoul’s imports of liquefied natural gas (LNG) dropped for the fourth consecutive month in April, mainly due to weak demand from local utilities.

The state-run Korea Gas Corporation (Kogas), the world’s single largest LNG-buying firm, imported 1.76 million tonnes of LNG in April, marking a 19 per cent fall from 2.18 million tonnes for the same period in 2008.

As the world’s second-largest LNG buyer after Japan, South Korea’s imports have played an increasingly important role for the Middle East’s national oil companies over the past decade.

The first LNG shipment from the region was made in 1998, when Abu Dhabi supplied 61,000 tonnes. The following year, Ras Laffan Liquefied Natural Gas Company (RasGas) in Qatar supplied its first cargoes, amounting to 497,000 tonnes, under its 4.8 million tonne-a-year (t/y) long-term sale and purchase agreement with Kogas.

In 2000, Oman LNG also became a long-term Kogas supplier, shipping its first volumes under a 25-year supply agreement, amounting to 4.06 million t/y.

In 2001, RasGas’s deliveries increased to 4.9 million tonnes and Oman LNG’s to 3.9 million tonnes. As a result, Gulf LNG came to account for half of Korea’s gas imports in just over three years.

It is a relationship that moves with the times. Korean utilities companies have been taking advantage of the recent drop in oil prices from last year’s highs to switch to using more oil fuel for power generation instead of LNG.

Korea National Oil Corporation (KNOC) took up the slack from Kogas, with its global imports of crude increasing by 4.4 per cent in the year to April 2009, and its Middle East imports up by 4.1 per cent to 1.98 million barrels a day (b/d).

Showing Korea’s appetite for switching its crude supply sources in the region, imports from Saudi Arabia fell by 3.5 per cent to 655,667 b/d over the period, while supplies from Iran rose by 81.4 per cent to 317,667 b/d.

The UAE fell from second place to fourth in Korea’s list of energy suppliers, with its supplies to the country falling by a third to 277,000 b/d, while Qatar, Iraq and Oman all increased their output at the expense of Asia Pacific and Russian companies supplied about 22 per cent less than in the previous year.

The increase from Iraq in particular is noteworthy as Baghdad had already doubled its March supply to 172,000 b/d due to a resumption of supplies to Korean refiner SK Energy, following a one-year suspension.

Domestically, changes are also being planned to revitalise the structure of the state’s main gas provider. The dominant position of Kogas is set to change over the medium term.

South Korea’s Energy Ministry announced on 22 May that it would call for a break-up of Kogas’s monopoly by pushing through a bill to allow private companies to import and sell LNG for power generation from 2010.

One of the country’s largest oil refiners, GS Caltex, has already allocated investment of $1.6bn to build LNG storage facilities by 2013, and potentially profit from the new market.

However, it may take more than that to effect change. In 1999, Seoul announced a similar restructuring plan that called for the privatisation of Kogas’s operations and the opening up of the Korean gas market.

A subsequent change of government stalled the plan, however, raising doubts over how much political will there is to implement the current version.

Korea’s government has also been actively encouraging its leading energy companies to create deals to help secure supplies of oil and gas from the Middle East.

Equity stakes

In February, Seoul’s presidential office pledged to provide Iraq with $3.55bn worth of infrastructure, in return for oil field stakes.

The deal will involve Seoul investing in infrastructure in return for the right to export oil from fields in the southern Basra region.

South Korea expects to secure up to 2 billion barrels of oil in total from the fields, in exchange for helping to build infrastructure including power plants and generators, according to South Korean state news agency Yonhap.

A final contract between the two countries is expected to be signed before the end of June.

Seoul expects Iraq to help its companies with their bids in the first two oil licensing rounds, along with forthcoming construction contracts on a Baghdad oil refinery project.

The ministry claims the deal is evidence that tensions have eased between Seoul and Baghdad over KNOC and SK Energy’s involvement in the Kurdish oil fields.

Baghdad has said investment in the northern territory is illegal without its prior approval.

Yet it now appears that Korea may have been too optimistic about the goodwill surrounding the deal. KNOC and SK Energy were both excluded from Iraq’s first oil bid round, which took place in the spring, although Kogas, which held an existing licence in Iraq, was included in the bid list.

Elsewhere, South Korea has also looked to enhance its role as a regional oil refiner by negotiating equity stakes with some of the region’s largest energy players.

In the early 1990s, oil giant Saudi Aramco took a minority position in Korea’s S-Oil, which owns and operates a refinery complex at Onsan on the southeast coast of the Korean peninsula with a refining capacity of 580,000 b/d, later raising it to a controlling stake of 35 per cent.

It is among the most profitable of Aramco’s overseas refining interests and is tied into crude purchase deals that ensure that at least 70 per cent of the refinery’s crude supplies are sourced from Saudi Arabia.

“We are very pleased to have this sort of relationship in the Asian region,” says one source at Aramco. “It is a very important export market for us and we get good exposure to the whole Asia area from this one deal.”

Abu Dhabi’s state-controlled International Petroleum Investment Company (Ipic) also entered into a profitable tie-up in 1999, acquiring a 50 per cent stake in South Korea’s smallest refiner, Hyundai Oilbank, which it later increased to 70 per cent.

But an unwanted approach to buy Ipic’s stake by minority shareholder Hyundai Heavy Industries in 2008 has soured the deal.

The International Chamber of Commerce has been forced to intervene, with a trial due to start in early June 2009 to settle the dispute. Ipic may look to sell out as a result.

Korea also retains its own 5 per cent equity stakes in Oman LNG and RasGas, which allows it to profit from the gas-exporting process.

Korea is making its own domestic plans to expand the country’s natural gas storage and distribution infrastructure in an effort to protect against fluctuations in global fuel prices.

It has announced plans to spend $5.3bn over the next 14 years to cater for an anticipated 32 million t/y of LNG imports by 2022.

Despite Korea’s seemingly never-ending dependence on Middle East oil and gas producers, the two sides are desperate to ensure the status quo is retained and strengthened.

In an April round-table meeting between the GCC’s six energy ministers and their biggest Asian customers, including Korea, oil and gas producers questioned their Korean counterparts about their medium and long-term energy needs.

Qatar’s Oil Minister Abdullah bin Hamad al-Attiyah called for greater organisation and investment from Asian energy consumers, but stopped short of outlining what form that should take.

Long-term outlook

According to one Seoul-based oil executive with knowledge of the meeting, Korea and other Asian countries agreed to share their 10-year projections of oil supply and demand with GCC members.

“I think at the time of the meeting they [GCC ministers] were very concerned about the medium-term outlook for their supplies, particularly given the price,” says the executive.

“It was cordial, but what they must understand is that we will always look to be competitive on price and supply. That is our number one priority.”

On the oil front, the executive says that Korea will honour its long-standing purchase agreements with countries such as Saudi Arabia and the UAE, but it is also looking to harness new supplies from Iraq within the next few years.

“It is a good idea for us to keep an eye on these countries like Iraq that are going to be coming to the market with new supplies,” he says. “We like to keep all of our existing suppliers on their toes.”

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