Global Energy Advisory – 2nd October 2015

Politics, Geopolitics & Conflict

This week we’re looking at the Balkans and Eastern Europe, where—among other things—a migrant border-crossing storm is reviving old hatreds, Shell is pulling out of Bosnia and tensions in Montenegro heat up amid cries for the removal of one of the country’s longest-running politicians, Prime Minister Milo Djukanovic.

First, trouble has been brewing on the Serbian-Hungarian and Serbian-Croatian borders, spurred by the engineered flow of refugees from the Middle East. Hungary has kept its Serbian border crossing at Horgos-Roszke closed to migrants from the Middle East, and Serbia has responded by redirecting across the Croatian border. In turn, Croatia moved first to block Serbian freight traffic from crossing the border, and then blocked all vehicles with Serbian plates. Serbia responded tit-for-tat, banning the entry of all Croatian cargo. Croatia has made it clear that, as long as Hungary keeps its Serbian border crossing closed to migrants, Croatia will keeps its crossing closed to Serbian traffic. The feud intensified on 15 September when Hungary enforced stricter border laws to keep refugees from coming in from Serbia, and set up a border fence. Most of the refugees are ultimately en route to Germany, but the Hungarian fence is forcing them to reroute through Croatia, which says it cannot cope with the high numbers. The EU has now stepped in and convinced Serbia and Croatia to lift their blockades—but this isn’t over yet and it does not solve the refugee influx problem.

In the meantime, attempts to attract major investors for oil and gas exploration and production in Croatia, Bosnia, and Montenegro have floundered on low oil prices and tender processes that dragged out too long and saw some cancellations—not to mention corruption and petty bureaucratic difficulties. Earlier supermajor interest in these areas has now waned.

Croatia had really talked up its oil potential and then postponed the signing of PSAs with investors for election campaigning reasons. Now it’s shot itself in the foot, for all intents and purposes, and Marathon Oil is already withdrawing. Austria’s OMV has also given up on Croatian Adriatic exploration.

Montenegro’s long and drawn out tender process to explore offshore will also be mired further by mounting protests against Prime Minister Milo Djukanovic—a highly scandalized figure who has nonetheless managed to remain in power, in some form or another, for many years. This could also harm Montenegro’s efforts to join NATO—a decision on which was expected by the end of this year.

And then we have Bosnia-Herzegovina—where onshore oil and gas exploration launched by Shell has nose-dived, with Shell now announcing its withdrawal. While Shell hasn’t been specific about its reasons for giving up on Bosnia, certainly low oil prices make the prospect of attempting to operate in this stagnant, political circus highly unattractive. While the rest of the Balkans are occasionally tinder boxes, Bosnia—though peaceful—stands out for never progressing and never moving forward. Politicians here are not up to the task of running the country and voters continually allow morally bankrupt and corrupt officials to opportunistically retain their seats in a dysfunctional government. It is unlikely, even if oil prices significantly rebound, that this will be an attractive investment venue for the foreseeable future.

Regulatory Updates

• North Dakota regulators will give the oil and gas industry 10 extra months to reduce the amount of associated natural gas flared at Bakken wells. Regulators appear to have caved in on the understanding that low oil prices have led to delays in important infrastructure projects that are necessary to meet flared gas standards mandated by the state. The North Dakota Industrial Commission (NDIC) voted unanimously to change the date when companies must capture 85% of gas produced from their wells to November next year. The extension also pushed back potential penalties for companies, including forced reductions in oil production, and gave contractors more time to expand gas-gathering systems. The new state mandate says that producers can flare no more than 23% of associated gas through March 2016 and 20% by April 1. Producers cannot flare more than 15% by November 1, 2016, 12% by November 1, 2018 and between 7% to 9% by November 1, 2020. In 2014, the NDIC had also imposed a series of four increasingly tighter requirements for how much gas can be flared. Oil companies had been able to meet these requirements at the time due to higher oil prices.

• An Ohio Supreme Court ruling clears the way for Youngstown to vote again on a fracking ban in November. The high court ruled that the Mahoning County Board of Elections lacked the authority to certify an anti-fracking charter amendment, thus forcing it to push the decision back to the 3 November ballot. Youngstown has already rejected four fracking bans at the polls--twice in 2014 and twice in 2013.

• Governor Bill Walker is reviving an old proposition to impose a tax on undeveloped Alaskan North Slope natural gas reserves, which he intends to use as leverage against oil companies to force them into constructing a mega pipeline. Walker called the state legislature into special session starting October 24 to discuss reinstating a tax and exercising the state’s option to acquire TransCanada Corp’s interest in the Alaska LNG Project. The same measure (a gas reserves tax) failed in 2006, with 65% of voters opposed. Walker argues that Alaska is in a dramatically different situation than it was 10 years ago, and is now facing a $3 billion deficit, while it still has no gas pipeline. Alaska -- along with three oil producers and a pipeline company -- is in the process of developing a huge gas pipeline project from the North Slope. A special session this fall to address specific aspects of the project, like property taxes, has been under discussion for months. Walker’s take is that it is critical for the state to acquire TransCanada’s interest in order to have more negotiating leverage. The new proposed tax would likely allow the state to collect crude oil revenue while the Trans-Alaska Pipeline System was being built.

Discovery & Development

• Freeport-McMoRan has announced an oil discovery at its Horn Mountain Deep prospect in the deepwater Gulf of Mexico that could produce a total of 30,000 boepd. Initial production from this well, which will be tied back to existing facilities, is expected in the first half 2017. Since commencing development activities in 2014 at its three 100%-owned production platforms in the Deepwater Gulf of Mexico, FM O&G has drilled 12 wells, all with positive results. Three of these wells have been brought on production.

• Shell has decided to cease drilling in the Arctic after the Burger J well in the Chukchi Sea yielded disappointing results. The company’s decision could mark the end of U.S. Arctic oil and gas exploration for some time. Shell said the decision to abandon the $7 billion exploration project also reflected the “challenging and unpredictable” regulatory environment and the high costs of the project. Shell said the Burger J well will now be sealed and abandoned. The company had put the balance sheet value of its holdings offshore Alaska at $3 billion, with a further $1.1 billion of future contractual commitments. ConocoPhillips also committed substantial funds for leases, placing $506 million for 98 tracts. Other national and international oil companies which also have smaller lease holdings in the Chukchi Sea are Statoil, Eni and Repsol.

• Australia’s Karoon Gas plans to speed up evaluating its discoveries in the Santos Basin next year and launch a new stage of investments to the tune of $345 million over the next three years. Based on its balance sheet, Karoon has around $450 million in capital to fund new investments, which will be boosted by plans to sell part of its stake in the project. Karoon also said it could bring forward production at two Brazilian oilfields after local regulator ANP approved the company's revised Santos basin appraisal plan. It will have until the end of 2018 to complete the program for five offshore blocks, which include the Echidna and Kangaroo light oil discoveries.

Deals, Mergers & Acquisitions

• Spain’s Repsol has reached an agreement to sell the 10% stake it held in Companía Logística de Hidrocarburos (CLH) to investment company Ardian for $365 million, which will increase its stake in the company to 25%. According to Repsol, the sale is part of efforts to ‘fine tune’ its portfolio through selective divestments of non-strategic assets that were launched following the acquisition of Canadian oil company Talisman Energy in December 2014. The sale of CLH will generate a capital gain for Repsol of 300 million euros. The company has carried out an extensive process involving almost 150 potential investors, generating significant interest and competition, before selecting the winning bid. In July, Repsol posted a 44% annual decrease in second-quarter net profit.

• Total has let a contract to Houston-based CB&I to provide front-end engineering and design (FEED) to build a $2-billion steam cracker at its Port Arthur facility in Texas. The plant will have the capacity to produce one million tons of ethylene annually. The proposed steam cracker should be online by late 2019 and will cover the company’s ethylene needs for its U.S. derivatives business. Under the deal, CB&I will also provide seven SRT cracking heaters for the second integrated steam cracker to be built at its complex. The grassroots cracker project at Port Arthur follows Total’s plan to take advantage of lower-cost feedstock supplies that have resulted from increased U.S. shale production.