Abu Dhabi races against the clock
Abu Dhabi, September 10, 2012
by Robin Mills
Abu Dhabi has three critical challenges: to expand oil production capacity to maintain its role within Opec (the Organisation of the Petroleum Exporting Countries); to build new partnerships for different future customers and geopolitics; and to increase gas output to meet fast-growing domestic demand.
The structure of Abu Dhabi’s oil industry has been largely fixed since Abu Dhabi National Oil Company (Adnoc) was formed in 1971 and agreed to take a 60 per cent stake in existing concessions in 1974. There are three major concessions – Abu Dhabi Onshore Operating Company (Adco) onshore, and Zakum Development Company (Zadco) and Abu Dhabi Marine Areas Operating Company (Adma) offshore. These feature various combinations of the international supermajors – Shell, BP, ExxonMobil, Total and Japan’s Jodco (Japan Oil Development Company).
These are the longest-running and, in reserves, among the largest oil contracts anywhere in the world. The onshore concession which is now Adco was originally concluded in 1939 for a 75-year term; it thus expires in 2014; Adma and Zadco concessions expire in 2018. It is astonishing that a contract signed with Shaikh Shakhbut (who ruled Abu Dhabi until 1966) when Abu Dhabi was a collection of palm-frond huts and coral stone houses with a population of 15,000, survives in modified form today. A scattering of other fields are operated by Adnoc and other partners.
Under the existing terms, the Adco partners receive around $1 per barrel of oil produced, after recovering their costs. The government has rights to all gas produced. With this system, and the end of the concession drawing near, there is little incentive to conduct exploration, which is risky and would take years to yield results.
Most years in the last decade saw a single exploration well drilled, or none at all, in the country with the world’s fifth largest conventional oil reserves. By contrast, just last year the US drilled 2,231 exploratory wells. This is even more surprising considering the UAE’s growing gas shortage, and need to explore for deeper gas reserves.
Abu Dhabi plans to boost its crude oil production capacity from 2.7 million barrels per day (b/d) to 3.5 million b/d by 2017. Adco, with 1.4 million b/d, is the largest part of this. With another 700,000 b/d of natural gas liquids derived from its large-scale gas production, the UAE is the world’s fourth largest oil exporter, and Opec’s third largest, having been overtaken by Iraq (and Kuwait) this year. Abu Dhabi and its foreign partners will invest some $60 billion over the next five years to meet these goals, of which $11 billion is accounted for by the Shah gas development.
It is important that the emirate meets these goals on time. Earlier production targets have been delayed or missed. Abu Dhabi and Kuwait have generally supported Saudi Arabia closely within Opec, and have shadowed the kingdom’s production policy. With the war in Libya last year, and sanctions in Iran this year, the ‘Gulf three’ have increased output to moderate prices. In the longer term, they have to meet the challenge from Iraq – they will not wish Baghdad’s ambitious expansion plans to eat into their share of Opec quotas. To achieve this, they need a credible counterweight – hence their own expansion plans. Restoring a reasonable degree of spare capacity would also be welcome, to meet unexpected emergencies.
From 2008, the legacy arrangements have begun to adjust to new realities. The US company Occidental, close partners to Abu Dhabi’s investment vehicle Mubadala, entered to develop Shah and some small oilfields. An offshore concession held by Japanese companies was renewed and expanded. Most importantly, the Korean National Oil Company (KNOC) signed in March this year an exploration agreement covering about a tenth of the emirate’s land area. During Chinese premier Wen Jiabao’s visit in January this year, an agreement was signed for China National Petroleum Company (CNPC) to study seven blocks.
Ali al Jarwan, Adma’s chief executive, said in July that Abu Dhabi was open to more foreign partners. Mohammed Sahoo al Suwaidi, chief executive of Abu Dhabi Gas Industries (GASCO) concurred, suggesting that the most likely scenario was a continuation of the current structure, with Adnoc retaining a 60 per cent majority stake, but with the entry of Korean, Chinese or other companies alongside the existing Western partners.
Abu Dhabi’s ‘pivot to Asia’ has sound economic and strategic logic. It makes sense to strengthen its relationships with its key customers. Nearly all the emirate’s exports go to Asia, particularly Japan, and of course Chinese demand is growing fast. With tightening sanctions on Iran, Abu Dhabi’s oil is more in demand than ever. In contrast, Western oil demand is slowly falling.
Talk of North America becoming ‘energy independent’, and uncertainty over the future shape of US involvement in the Middle East, make it sensible for Abu Dhabi to hedge bets by engaging with powerful Asian countries. It also lures Chinese companies in particular away from engaging too deeply with Iran.
These Asian companies bring useful economic cooperation, too. Korea Electric Power Corporation (Kepco) is executing Abu Dhabi’s $20 billion nuclear power programme. And a CNPC subsidiary built the newly-opened Habshan-Fujairah oil pipeline, designed to assure supplies if the Strait of Hormuz were blocked.
The Asian companies, with government backing and strategic aims, will no doubt make very competitive financial offers. Hence Abu Dhabi wishes to keep them in the game. They may not have the technology of the Western international oil companies (IOCs), though JODCO has gained plaudits for its studies of carbon dioxide injection. But they create a useful competitive tension to keep the existing partners hungry.
Similarly, new Western corporations may be invited in, especially where they bring particular technical skills. Germany’s Wintershall and Austria’s OMV, owned 24.9 per cent by International Petroleum Investment Company (IPIC), the emirate’s petroleum investment unit, were awarded the sour gas Shuweihat field in July. Maersk and Norway’s Statoil have also been mentioned as possible entrants.
This is necessary, as the supermajors may have lost some of their appetite for Abu Dhabi. The huge reserves, the value of a Middle East foothold, and the testing ground offered for new technologies are attractive. But they are engaged in similarly tough financial deals in Iraq (with, of course, greater operational and political risk), they have too few skilled technical people to wish to assign them to low-margin contracts, and more lucrative opportunities have opened up in areas such as shale oil and gas in North America. Perhaps not all current shareholders will retain a place; Portugal’s Partex, which holds two per cent, already seems to have been excluded.
New partners and new commercial arrangements are vital for Abu Dhabi: improving efficiency, maximising recovery from big fields, transferring skills to Emirati employees, allowing a renaissance in exploration, and taking on unconventional resources such as shale oil and gas.
The complexity of restructuring Adco should not be underestimated. The concession may be split into separate fields, with each existing partner taking operatorship of one, and new companies joining. Or, the current system may persist but with a mix of old and new shareholders. Abu Dhabi cannot afford any interruption in Adco, which represents 40 per cent of its output, but time is running short to make some critical decisions. The decisions made in Adco will also set the pattern for the 2018 expiration of Adma and Zadco.
Abu Dhabi also needs to meet the country’s gas needs. Fast-growing demand, and massive plans for petrochemicals and aluminium, have led to shortages. The emirate recycles a large amount of gas to increase oil recovery, but is considering replacing this with nitrogen and carbon dioxide – the use of carbon dioxide has the environmental benefit of reducing greenhouse gas emissions. An Adco pilot project using carbon dioxide has given promising results.
The Shah gas project is technically challenging – the gas is sour, with a high content of corrosive, toxic hydrogen sulphide, and the by-product sulphur will have to be transported from the remote inland location by railway through the sand-dunes of the Rub’ al Khali (Empty Quarter). Together with $11 billion-worth of offshore gas development, to be completed by 2013, Shah in 2014 will somewhat ease the gas squeeze.
But to supply the Northern Emirates, Mubadala is constructing a liquefied natural gas (LNG) import terminal, the country’s second after Dubai’s own terminal. Resorting to expensive LNG shows the costs of slow progress on gas in the last decade. The nuclear power plants, coming online in 2017, will replace a huge amount of gas, probably around one billion cubic feet daily by 2020, a fifth of the country’s current production – again showing how critical it will be to deliver on time.
The dramatic changes in Abu Dhabi’s oil and gas industry will set the template, not only for the country but potentially the rest of the Gulf. Just like Rome, the emirate’s new energy structure will not be built in a day. But, with time running short, the emirate also needs a sense of urgency to tackle its challenges.
* The above article appears in The Gulf, our sister publication.