Shell Reportedly Latest To Leave Empty Quarter Empty Handed
BMI View: Reports that Shell i s in line to exit its joint venture with Saudi Aramco targeting gas in Saudi Arabia's E mpty Q uarter marks the latest blow to the Kingdom's ambitious efforts to shore up its gas supply with an unprecedented level of foreign participation in its upstream. However , Shell's exit underscores that Saudi Arabia's sour gas deposits will not be commercial under the current price regime. Even with our bullish outlook for growth in renewable power, developing new supplies of gas is critical given plans to replace oil with gas as feedstock for power generation in a bid to reserve the former for the more lucrative export market and for its growing downstream sector.
Royal Dutch Shell is set to end its joint venture (JV) with Saudi Arabia's nation oil company (NOC) Aramco . The news continues a string of disappointments following Aramco's opening of its upstream for foreign participation in the hunt for gas. B etween 2003 and 2004, Saudi Aramco entered into four JV s with international companies to explore for gas in the Empty Quarter, located within the Rub' a l -Khali basin, south east of the Kingdom - E ni RepSa (with Eni and Repsol ), Luksar (with Lukoil ), South Robh Al Khali Company (Srak, with Royal Dutch Shell ) and Sinopec-Aramco (with Sinopec ).
Exploration has yet to yield the significant commercial discoveries that Aramco had hoped for, with the fiscal terms on offer presenting a further challenge to ambitious gas plans. In 2010, Lukoil relinquished 90% of its rights to an exploration block. The Russian oil giant decided not to conduct a second phase of exploration following initial appraisal wells at the Tukhman and Mushayib/Faydah discoveries. Press reports cited at the time indicated that unattractive state-set gas prices - some US$0.75 per million British thermal unit (/mnBTU) - meant that discoveries would only be commercial if development included the recovery of sizable condensate volumes alongside gas.
In 2012, Eni and Repsol also ended their hunt for gas, with the poor quality of gas, the need to discover condensate alongside gas to make development economical and a ban of any potential exports all suggesting limited commercial prospects for Saudi gas. Sinopec also announced in 2012 a halt to exploration, citing the 'uncertain economics' of the current joint venture. Now, with Shell's looming exit, Aramco's most ambitious efforts to draw foreign players into the quest to develop the Kingdom's gas reserves seems set to fail.
Although there appears to be recent momentum in long-delayed but oft-talked of plans to raise gas prices, we believe the proposed increase from US$0.75/mnBTU to US$1.75/mnBTU is unlikely to dramatically increase the attractiveness of gas exploration in Saudi Arabia ( see our online service, January 16 2013, 'Gas Prices Could Rise, But Interest May Still Wane').
Shell's exit comes at a time of intense pressure on the Saudi Arabia's domestic gas sector. Aramco has accelerated development of a number of gas projects, such as the Midyan project, in recognition of both rapidly rising consumption and poorer-than-expected progress on the exploration side. The Shell-Aramco SRAK venture was initially encouraging; a promising discovery was made at the Kidan block and there were reports that development tenders would be launched in mid-2013. Yet Shell seems set to follow its previous partner Total, which exited in 2008, with a pull-out from the Saudi gas sector. Although Shell would not officially confirm or deny plans to exit, industry sources cited by Reuters indicate a recent failure to reach an agreement with Aramco over developments has pushed the company towards a long-proposed exit.
The move comes just as Aramco is targeting a 'record rig count' over 2013 in a bid to boost gas exploration. Sour gas and an absence of infrastructure, along with what is now a poor track record for exploration, make the prospects of a revival of interest in exploration from international oil companies (IOCs) targeting Saudi Arabia's 'empty quarter' highly unlikely without a significant (and unlikely) liberalisation in gas prices.
While we expect Saudi Arabia to remain self-sufficient in gas production - the Kingdom possesses the world's sixth largest gas reserves at 7.93trn cubic meters in 2012, according to the EIA - we see more downside than upside risks in the near term, stemming from rapidly rising consumption and the risk of delays in E&P resulting in a shortfall in supply.
|Production Rises In Hope Of Meeting Demand|
|Saudi Natural Gas Production & Consumption, 2010-2022 (bcm)|
However, with growing concern that domestic consumption of oil, particularly during peak summer months, could reduce supplies for the more lucrative export market, Aramco has ramped up its conventional and unconventional gas exploration and production (E&P) plans. In particular, Aramco is targeting shale gas development, and we see promise in reports that oilfield service companies, which would not face the same economic considerations as IOCs, would be given contracts for the entire development and extraction of shale gas deposits. Although Aramco is targeting shale gas production before the end of the decade, flows by then are uncertain given the technical, geological and infrastructure challenges that shale gas extraction would entail. Thus, generating alternative sources of gas, or reducing demand through efficiency gains or alternative energy sources, are critical for the country's energy outlook.
New volumes of gas will be critical to supporting Saudi plans to reserve oil for both export and as feedstock for a growing refining sector, with gas set to replace oil use in power generation. In line with this, the Kingdom is also pushing to expand its as yet underdeveloped renewables industry. Solar in particular has been cited as the technology of choice for the country, owing to its vast natural potential for solar electricity generation and power consumption patterns which match renewable energy generation. We have been following Saudi Arabia's pursuit of renewable energy closely over the last two years and believe that strong political commitment and a promising track record in power and infrastructure projects will drive the industry to outperform regionally in the coming decade ( see 'Colossal Renewables Targets Supports Sanguine Outlook', February 25 2013, and 'The Pursuit For Solar Continues', October 23 2012). As such, we have adopted a bullish outlook for the sector, anticipating significant growth across our forecast period.
|Saudi Arabia Solar Capacity and Generation, 2013-2022|