Market liberalisation and discovery prospects lure international oil and gas companies back to Egypt

According to the Minister of Petroleum and Mineral Resources, Tarek El Molla, foreign investment in oil and gas reached approximately $10bn in FY 2017/18, representing growth of 25% over investment received during the year prior, due mainly to spending on new gas fields in the Mediterranean Sea. El Molla asserted that the country is targeting a similar level of incoming capital in FY 2018/19, which ends on June 30, 2019.

The renewed interest shown by international oil companies (IOCs) in Egypt’s natural resources is a marked turnaround from the mood that prevailed just a few years ago, when sector investment fell to nearly negligible levels. Since then the government has worked to remove various obstacles to foreign capital flows, and the size and scale of the IOCs willing to resume business in-country are testament to the success of that reform process.

Investment Blocks

A number of factors combined in the wake of the 2011 revolution to make oil and gas investors wary of spending in the Egyptian energy market. First among them was growing dissatisfaction with the contract model used to define the relationships between the government and IOCs. Egypt’s production-sharing agreements currently allocate around one-third of a project’s output to concessionaires to help cover exploration and production costs – a figure that is complicated to assess and that has often become a subject of dispute between the contracting parties. The remainder of the production is spilt between the firm and the involved government entity, with the latter reserving the right to purchase the foreign investor’s entire share at a preset price.

The inflexibility of this pricing mechanism amid the dynamics of the global energy market has long had the potential to act as a disincentive to investors. However, global players have generally demonstrated a willingness to accommodate the terms dictated by the government, so long as the firms themselves have been able to secure solid returns on their investments.

The 2011 revolution presented the country with a significant sector challenge: a shortage in the gas supply rendered power outages and load shedding commonplace, which damaged industrial performance and provoked widespread social unrest. The government temporarily solved the problem by diverting gas destined for its coastal liquefied natural gas plants – and thereby to export markets – to the nation’s power stations, much to the dismay of several international investors. Moreover, the nation’s weakened fiscal position made it difficult for the country to honour the concession contracts it had previously struck with various IOCs, and public arrears to these firms quickly mounted, with the country’s outstanding debt reaching a peak of $6.2bn in 2012.

In November 2014 then-Minister of Petroleum and Mineral Resources, Sherif Ismail, detailed the negative effects of the financing shortage on the upstream sector. Speaking to local press he stated that, as a result of there being no new concessions in the two years following the revolution, the number of areas under exploration had nearly decreased by half from 2010 to 2013, from 53 to 27, respectively.

The effects of this capital shortfall were mirrored in the data regarding gas production volume: according to BP’s “Statistical Review of World Energy 2018”, Egypt’s recent gas output peaked in 2011 at 59.1bn cu metres, before declining to 40.3bn cu metres in 2016, ahead of recovering to 49bn cu metres in 2017.

Out of the Red

Egypt’s subsequent efforts to reduce its outstanding debt to IOCs have been key to reviving foreign investor sentiment. Since the election of President Abdel Fattah El Sisi in May 2014, the structure of the energy sector has been subjected to wholesale reform, including the dismantling of a costly fuel subsidy regime that had made it impossible for the Ministry of Petroleum and Mineral Resources (MPMR) to operate on a financially sustainable basis. Raising the cost of fuel products passed on to Egyptian commercial and household consumers has also left the MPMR better able to pay its private sector partners. The government’s outstanding debt has fallen steadily following El Sisi’s election, and those arrears had been reduced to $1.2bn by July 2018. Since then, the government has paid down a considerable portion of the remaining sum, and in February 2019 El Molla disclosed that about 80% of Egypt’s debts to IOCs – dating to their peak in 2012 – had been cleared.

Renewed Enthusiasm

The adoption of a more liberalised stance began paying dividends almost immediately. “There is significant potential in the oil and gas sector in Egypt and it is becoming increasingly attractive for investors as the ministry of petroleum undertakes its modernisation programme,” Craig Robertson, country director in Egypt for Transglobe, a Canada-based IOC, told OBG.

In the fourth quarter of 2014 Egypt signed a string of exploration deals with several IOCs to conclude a bidding round carried over from 2013. France’s Total, BP, the UAE’s Dana Gas, the Italian firms Eni and Edison, and Irish firm Petroceltic were among the international outfits that won acreage exploration licences for both onshore and offshore blocks.

Partially fuelling the enthusiastic response to these offerings was the relaxation of a policy that had limited remuneration for gas production to $2.65 per million British thermal units (Btu) – a price level that was sufficiently lucrative for dense, onshore gas formations, but highly uncompetitive for activities in offshore, deepwater acreage. This followed a pledge on the part of the MPMR to respond to rising development costs by raising the rate of payment to producers; BP reportedly began receiving $4.20 per million Btu at its West Nile Delta operation in 2014.

That year, BP also committed to a $12bn investment programme that will conclude in 2019, and the company has already signalled its intention to continue its elevated level of spending in the Egyptian market. In September 2018 the company announced its plans to spend $1.8bn to bring on-line several of the fields it operates in Egyptian concessions.

Broader Investment

This rekindling of enthusiasm is not limited to the country’s longstanding energy partners, as the response to recent bidding rounds has demonstrated. The Egyptian Natural Gas Holding Company (EGAS) launched two international bidding rounds for oil and gas exploration in 2018. The 16 concession areas – most of which are offshore – offered by EGAS were, in aggregate, the state enterprise’s biggest ever offering, while the Egyptian General Petroleum Corporation (EGPC) offered an additional 11 concessions spread across the Western Desert, the Eastern Desert, the Nile Valley and the Gulf of Suez.

Interest in the concessions was considerable, and the results were announced at the Egypt Petroleum Show held in Cairo in February 2019. On the gas side, Shell, ExxonMobil, Malaysia’s Petronas, BP, the German firm DEA, and Eni were cumulatively awarded five concessions. The exploration concession awarded to Exxon marked the company’s first foray into the Egyptian market. On the oil side, Shell, Eni, the US firm Merlin, the UK’s Neptune Energy, and EGPC together received seven concessions.

The Petroleum Show brought further good news regarding sector investment, as Dana Gas announced that it plans to inject $5bn in capital into its offshore North Arish field, where seismic scans have indicated gas reserves of around 566bn cu metres. Should this assessment prove accurate, North Arish would become the country’s second-biggest gas field, following Eni’s offshore El Zohr field – its development is expected to commence in 2023.

New Deal

It is also likely over the course of 2019 that the government will move to eliminate the contract model that governs the relationship between state energy entities and their private sector partners. In early 2019 national officials were hammering out the final legal details of a new contract designed to draw more foreign capital into the industry.

The move is part of a broader effort to liberalise the energy sector, and is intended to speed up the cost-recovery process and reduce the bureaucratic difficulties entailed by current oil and gas agreements. It is thought that the new contract model will allow investors to retain discretionary control over their share of production, rather than be subject to selling their assets to the state at the government’s decision, as the current framework demands.

Under the proposed system, which MPMR officials have suggested will be rolled out beginning in 2019, companies will bear the costs of exploration and production themselves going forward, in return for a share of output that they would be free to retain or sell to buyers of their choice. The share of production left at the discretion of the private partner is likely to vary from one concession to another, meaning that government entities will largely be able to retain control over the production process, even as they satisfy one of the key demands made by IOCs vis-à-vis regulation.