Tullow: National Oil Company may share in production, but government must make up its mind over basin development

Uganda’s proposed National Oil Company will have the right to acquire a 15 percent stake in the oil fields that Tullow Oil, TOTAL and CNOOC are developing, according to Eoin Mekie, Tullow’s General Manager in Uganda, speaking exclusively to Oil in Uganda.

The arrangement was included in the agreements signed between Tullow and the government in early February, in defiance of a parliamentary moratorium on further oil contracts.

Mr. Mekie welcomes the creation of a National Oil Company, saying that “It will certainly cement our relationship with the government once we actually start working alongside them.”  He adds that Tullow, CNOOC and TOTAL are ready to build the capacity of a National Oil Company that may also want to take up exploration options in other blocks when new licensing rounds begin.

However, Mr. Mekie also reveals that the government has “not yet shared its refinery plans” with the international oil companies, and that the companies and government need to reach “a concensus on what a basin-wide development will look like over the next five to ten years.”

The recent discovery of oil in Kenya, Mr. Mekie says, is probably a “game changer” for Uganda’s nascent oil industry, because it is now less likely that regional markets will exist for oil products refined in Uganda.  But, he emphasises, Tullow and its partners need to know what the government’s plans are, in order to proceed with commercially and environmentally efficient field development.

The Tullow Oil Pty General Manager also believes that “there is more oil to be found” in Uganda, and that the eventual size of the fields may turn out to be double what has so far been found.  The Chinese company, CNOOC, is now test drilling the ‘Kanywataba prospect’ in the Semliki basin, while TOTAL is planning an exploration campaign in the Pakwach basin.

The full text of the interview appears below, and is followed by a brief Oil in Uganda analysis.  (To assist the reader, a recent map of the oil exploration and production licence areas, published in April by the Petroleum Exploration and Production Department, can be downloaded fro here.)

 

OIL IN UGANDA: How is the relationship with TOTAL and CNOOC actually going to work?  Are you going to operate separate blocks?

EOIN MEKIE: Up until the farm-down, having taken over the interests of Heritage, Tullow was the 100 percent owner of the licence for all three blocks. [EA1, EA2, EA3a]. This was a lot for us to take on and also the government did not wish all that to be in the hands of one operator.  The situation now is that all three companies have a third ownership of the licence in each block. The whole lot is jointly owned.  But TOTAL will operate Block 1, [in the Pakwach basin to the north of Lake Albert, including the Paraa discovery area, which falls largely within Murchison Falls National Park] Tullow will operate Block 2 [comprising the ‘Buliisa discovery area,’ on the north-eastern shores of Lake Albert and the ‘Kaiso-Tonya discovery area,’ mainly within Hoima District and including a large, offshore field in the middle of the lake], CNOOC will operate 3a— the Kingfisher and Kanywataba areas. [Kingfisher is an offshore ‘discovery area’ in the south-eastern part of Lake Albert, Kanywataba is a prospective area at the southern tip of the lake, in Ntoroko District—ed.]

And ‘operating’ means that, 3A for example, will be an entirely CNOOC operation?

Physically, they will do the work, but the three partners fund equally, so they’re doing the work on behalf of all three partners.

And then the profit from whatever is produced in each block will be shared equally between the three companies?

Absolutely.

Isn’t there an aspect of comparative advantage in this?  Tullow has had a fairly meteoric rise over the last ten years, but it’s still a young company . . .

Very young.

So aren’t there areas in which TOTAL and CNOOC have greater expertise?

In a sense, yes.   They do have strengths in terms of land development. CNOOC has strengths in refinery and pipeline experience, TOTAL has much greater Africa experience and a larger spread of African interests than we do, and in a sense we hope to learn from them.  The bulk of the finds are actually in the northern block [EA1] and TOTAL is the operator of the northern block, which reflects their greater experience.  So we are trying to play to the strengths of the three partners, and hopefully we will complement each other.

But although there are three operators, this is a single basin and it has to be developed in a coordinated and efficient manner, in order to minimise costs, minimise the environmental footprint, and ensure that the facilities to be put in place for eventual production are efficiently placed.  If we develop each area totally separately we’ll end up with a very inefficient development.  Although we are three operators the third-each arrangement means that we are not actually competing with each other.  The pressure is on all of us, by all of us, to be efficient—recognising that there are three companies whose reputations are at stake, and working to common standards including environmental standards etc.

But you are still prospecting as well?  It’s not just a question of developing the existing finds?

We are still prospecting.  In fact, during this next week CNOOC will spud an exploration area down in Kanywataba, and up in Block 1 [around Pakwach] there’s a year’s worth of further exploration activities. A seven or eight well exploration campaign is ongoing, particularly in the western side of the block.

There’s no further exploration going on in Block 2 but we’re still doing a fairly major appraisal campaign, particularly in Waraga, and we’re in discussion as to whether we’re going to do another appraisal in Ngassa.

An ‘appraisal’ is a kind of second phase exercise, when you know there’s something there but haven’t fully assessed it?

Yes, you know there’s something there but you haven’t delineated it:– how big it is, what’s it’s shape, etcetera.  You’re trying to get information to show you how best to develop it: where to put development wells, how to extract the maximum out of the reservoir, etcetera.

If you look at the Kenya discovery, it’s one well so far, so you cannot delineate.  It’s very successful but you cannot speculate on whether that’s the sweet spot or whether it’s peripheral, or what’s the extent of it—it’s just way too early, although it’s fantastic news to hit that on the first well.

What’s your expectation of the basin here in Uganda?   I think Tullow has reported that there are 1.1 billion recoverable barrels. 

That’s still the figure we’re working to.

How high could it go?

It could conceivably double.  There’s certainly more to find, so we’ve got a fairly extensive exploration campaign.  Watch this well down here [indicating Kanywataba on map]. That could open  up a whole new area.  But the thing to bear in mind is that we believe ‘the low hanging fruit’ has probably already been found in the basin.  This stuff [Kanywataba] and the stuff out here [west of Pakwach] is much more speculative, with a lower chance of success.  Nevertheless, we’ve been successful so far and if Tullow has a strength, it’s in its exploration prowess—its ability to find stuff where other people haven’t.

Tullow has reported that so far the company has already invested a billion dollars in Uganda.

Yes, that figure’s getting a bit old now, it’s a bit of date.

Is it a net figure?  Does it include acquisitions and taxes?  And how much of it do you expect to recover from ‘cost oil?’

That figure does not include taxes.  It includes what we invested in purchasing assets and in operational expenditure. We hope to recover the bulk of the operational expenditure, but there’s a rather confused period when we took over from Heritage, and that discussion is still going on with government.

What’s that discussion about?

Post the Heritage purchase there was a period when the government did not actually recognise our purchase of Heritage, right up to the time when we signed the Memorandum of Understanding with the government at the beginning of last year.  So there was an 18 month period during which we were incurring costs, looking after the acreage we had purchased from Heritage, and our status was not then recognised by government.  That still needs to be sorted out.

So the discussion is about whether or not those costs are recoverable?

Indeed.  They’re not massive, but they are significant.  And ultimately we hope to recover the bulk of those costs from cost oil.

The other figure that is bandied about is that you, TOTAL and CNOOC will together invest, what, 10 billion in the production phase.

This is to develop the known fields, so it’s not a one year or two year thing, it’s over a five to ten year period.  This is what it will take to drill the production wells, to build the facilities.  That whole development is around the 10 billion mark, but that’s very much a ball park figure.

Just in the first year of the partnership, the gross budget for the three partners is about 700 million [US dollars], so that gives you an indication.  And that’s just for finishing off appraisal, doing some further exploration–not actually constructing facilities.  There’s a lot of design work going on, working out where to put stuff, what the sub-surface looks like, how to develop this.  Because the difficulty with this development is that it’s spread over a massive geographical area: the basin is 160 kilometres long, it’s a very long way from the marketplace, and it’s an incredibly environmentally and socio-economically sensitive area.  So developing all that, it’s not just developing the actual technology for the wells, it’s getting the stuff to market that’s the real difficulty.

If you compare this to what we did in Ghana: Ghana was deepwater, single platform, pretty much off-the-shelf technology from the Gulf of Mexico—a  floating storage buoy, tanker comes alongside to take it away to market.  High capital costs, but technically relatively easy. This is completely different.

So that brings us to the refinery.  Will the companies be involved in building and operating it?

Our licence, our agreement with the government, covers purely the upstream side.  We get the oil to a central processing facility, separate water from the oil so you’ve got pure crude.  What happens downstream from that—refinery, export pipeline, or whatever—is yet to be established.

The government is working on their plans for a refinery.  They haven’t shared those with us yet.  But one of the things we have to get to by the end of this year, between ourselves and the government, is—what is the overall, holistic approach to development of the basin?  Because right now we’re doing development plans for the fields without knowing what the government’s development plans are around the refinery, and the capacity of that refinery.

We pretty much know they plan to put it in Kabaale, but exactly where? Not sure. Time frame?  Who are the investors?  Etcetera.  It’s possible, depending on the scenario, that the partners might want to take a stake in the refinery, since that would at least secure us some influence over the commercial chain.  But it’s not part of our existing licence to be part of that.  Similarly with an export pipeline.  So that’s a separate investment decision.

But if you’re investing all this money in getting the crude to point X, you have a strong interest in what’s going to happen beyond there.  

Indeed.  The other thing that we don’t know about the refinery is what commercial terms the government is thinking of.  If the government is refining its own crude it would like the input price to be as low as possible.  We need that input price to be commercial if we’re to justify the investment in the [production] facilities.

Will the Kenya oil discovery impact on the government’s plans for the refinery?  It originally wanted to refine as much as possible and export refined products to the region.  But will the regional market be there if Kenya also becomes an oil producer?

Well, I can only speculate, but it does look to start changing the game.  Kenya already has a refinery, on the coast, so would Kenya buy product from Uganda?  I can’t see that happening.   And if Tanzania was going to buy a product from East Africa, would it be better buying it from Kenya, which could supply it down the coastline, or would it be better buying it here in Uganda where you’ve got to build a pipeline or where you’ve got to truck it?

I think the government [of Uganda] is at the point where they realise that refining all of the crude isn’t going to happen.  They haven’t yet said that they are committed to an export pipeline.  My gut feeling is that in time they will.

If you’re not going to refine more than, say, 60,000 barrels a day—which would be enough to feed growing domestic demand with some small export—then you do need to get oil production to a peak level whereby in terms of cost recovery and income generation it becomes commercially viable for us.  You might say, well, let’s produce at low level and stretch it out over the next hundred years, but that’s not economically viable for us and it’s not going to be economic for anyone to do that.  So there has to be a balance between national interest and economic viability.  You’ve got to get production to a certain peak level [to make it economically viable].  So the obvious place for the excess is an export pipeline [for crude oil].

Now, if you can tie that pipeline together with other developments elsewhere, the cost of export drops dramatically.   So if the Kenya success proves to be the opening of a new, significant development, then that clearly has possibilities for Uganda.  It’s not a problem, it actually opens up opportunities.

Because there would be a more economic export pipeline to the coast? 

Well, there has already been this pipeline that Kenya and the Southern Sudanese have signed a Memorandum of Understanding on, from South Sudan down to Lamu.  The benefit to both countries is that it’s a shared investment and therefore it becomes an investment halved.  If it becomes an investment ‘thirded,’ then even better.  That might in turn even open up opportunities for the DRC . . . you never know.

If you can have this vision of real cooperation in terms of export within the region, you can see the possibilities.  And it is clear that there is more oil to be found.  Ethiopia: Tullow is committed to drilling a well in southern Ethiopia before the end of the year.  That’s very much linked to the geology of the oil discovery in Kenya.  If that opens up, Ethiopia is another landlocked country looking for export and it won’t find a route through Eritrea.  It’s very early days yet, but you can start to see a regional picture building up, you can at least see the possibilities.

How long can Tullow wait without knowing the government plan? 

I don’t think we’ll have to wait very long.  Our goal is to reach a concensus picture with the government on what a basin-wide development will look like over the next five to ten years:– which fields first, where are we going to put the facilities. Even if they’re not committed to a pipeline yet, they do have to think, if they were to go for a pipeline, where they would they put—because that affects where we put the facilities.  Otherwise you end up with a highly inefficient development with a larger environmental footprint than is necessary.

So we’ve got to have that discussion with government before we can really move forward.  We want to do that by the end of the year.  But I think the government themselves also want to get there.  The president is pushing for it: he’s chasing us, saying, ‘When am I going to see production?’   So there’s pressure within government.  Obviously, they’re trying not to run too fast, they want to get legislation in place, they want to get the National Oil Company established and they want to make the best use of the resources for the country.  But then we have to make that balance with economic, commercial interests—because at the end of the day it’s our money, it’s the partners’ money that’s funding it.

So it’s decision time really?

Yes.  Within Tullow we’ve actually termed this the year in which we secure our commercial future in Uganda.  We’ve submitted our first field development plans for two of the Kaiso -Tonya fields.  We’re looking forward by the end of the year to having production licences for those fields.  But for those production licences to be worth anything we have to have a vision of what the overall basin development looks like.  Because those development plans are tied in to what we think the government’s plans are at the moment.  So, yes, it’s crunch time.

Have you discussed with the government the role of the intended National Oil Company?

Not as such, but the agreements we have with the government permit a national company to take up to 15% interest.

In the fields that you’re developing?

In the fields that we’re developing.  And that interest would be carried by the partners until it was paid off.

So the National Oil Company would buy that interest?

They would buy that interest but it would be funded by the partners.  The government wouldn’t actually hand over cash to us, but once we start producing, that [the sale of the interest to the National  Oil Company] would be added to the cost oil.

Would the National Oil Company be a largely passive partner?

Well, not necessarily. We would look at how best to use the skills we have across the basin to build the capacity of the National Oil Company.  Because the National Oil Company will not be purely focused on this.  When there are further licencing rounds and new explorers come in, the National Oil Company may even decide that they want to take some of that acreage that hasn’t been explored yet.  So they may be looking to us to say ‘Well, we need to build up capacity, we need to build up people with skills in drilling, with skills in petroleum engineering, with skills in reservoir engineering.’  So I would imagine the National Oil Company would, for example, seek at the very least seek to second people into the partner organisations for capacity building.

That’s pretty much how CNOOC started, isn’t it?

And Petronas of Malaysia.  My first overseas stint was many years ago in Malaysia, working with Petronas.   One side of Petronas was a regulator, the other side was an operating company, working alongside Shell at that time.  And now they have interests in their own right globally. Petrobras [in Brazil] is also the same.  So it’s a model that’s been repeated all over the world.  And with opportunities opening up in East Africa, who knows what the future may be?

Ghana was slightly fortunate in that when we found Jubilee they already had a national oil company, because they had a small development off Fishponds, further up the coast, so they had that capability already.  But it [the establishment of a National Oil Company] will happen here, and it will be a good thing.  It will certainly cement our relationship with the government once we actually start working alongside them rather than us working and PEPD serving as the regulator.  You’ll achieve a better balance between regulation and enabling in the industry.

Because government will have a greater incentive to see it work rather than worrying about putting brakes on it?

And they’ll get a far greater insight into our side of the coin.  So the setting up of a National Oil Company can only be a good thing.  It will increase pressure for transparency.  It will increase national awareness generally of the industry, and increase opportunities for people.

That brings us on to ‘local content.’   Supposing you find another 30 to 40 percent of what’s already  there in the basin you’re working and that’s extracted in, say, the next 20 years . . .

Probably longer than that.  If you look at the history of oil development it has a habit of lasting longer than first prognosed.  The North Sea ought to be dead by now on the basis of early projections. Similarly, the domestic US oil ought to be dead by now, but it’s never been busier.

Okay.  How many jobs will be created for Ugandans directly in the oil industry?

Directly in the oil industry?  Well, there are peaks and troughs, because the industry will go through phases.  Once we have actually built all the facilities and are producing, it’s a very capital intensive business, it’s not labour intensive. There aren’t a lot of jobs directly operating facilities out there.  Ancillary jobs, like catering, security, transport, trucking, cranage . . . there’s a lot more jobs there.  But you’re not talking about more than a few thousand in directly associated jobs.   At peak, when we have massive construction going on in the field, then you may be looking at five to ten thousand people, largely semi-skilled, vocationally skilled workers—welders, electricians, plumbers, bricklayers etc.

And do you see Uganda as having the capacity to supply people with the necessary skills?

That’s what we’re actively working on.  We actually have an individual whose sole job is to work with vocational establishments looking at how do we get them up to speed with internationally recognised standard curricula for welders, international electrical standards, so that we can generate enough qualified people over the next two to three years, so there’s a pool of people with skills that they can then take elsewhere.   Because right now, they don’t have the skills.  If you look at the way that electrics are done in this country, or the kind of welding that goes on at the side of the road—making gates and fence posts and stuff like that—it isn’t suitable for the international oil industry.

We would not want to end up having to bring thousands of Filipiinos or Chinese or Indians here.  We want as far as possible to use local labour. So, yes, we TOTAL and CNOOC are all looking at the same thing. We also know that government is looking hard at vocational skills, and we need to pull those various things together so that we don’t step on each other’s toes but are going in the right direction.

Another thing we’re looking at is, when we do have a lot more people in the field, how are we going to feed them?  Where are all the fruit and vegetables going to come from?  You don’t want to be trucking all that from Kampala if you can get agricultural business to a stage in the Hoima region that farmers collaborate and work through cooperatives to supply initially the oil industry.

One of my mantras is that Uganda’s future is not in oil.  They’re not a Saudi Arabia, they’re not a Kazakhstan, they’re more like Dubai—where they had oil, they didn’t have as much as their neighbours, and it lasted for a certain period of time and they used that period to generate an economy that was  sustainable afterwards by other means. One of the most obvious means of sustaining the Ugandan economy is to take advantage of the gorgeous climate they have here.   It should be able to feed half of Africa.  So starting the ball rolling in terms of organised agriculture, based initially on supplying the oil fields but thinking bigger than that in the long term, is one of our pushes.  We’re working with a couple of government aid agencies, including Irish Aid, and a not-for-profit company called Traidlinks to try to develop an agribusiness initiative in Hoima.

What about public and civil society perceptions?  Many people seem pessimistic: some say they wish the oil had never been discovered.  Is that your experience in other countries?

Yes, and you will find it in Kenya as well, you will find it wherever this opens up.  Because the stakes are huge.  There’s a massive opportunity, but there is potential for a downside.  A sudden influx of wealth does things to societies potentially.  It has to be managed carefully, that’s why this revenue management bill is very important—how transparently the wealth is managed.  We already have substantial existing levels of corruption.   Multiply the potential wealth several fold without addressing that and there are significant problems, and people are right to be concerned.  But that in turn is creating healthy tensions, is creating debate which is pushing the agenda of transparency.

Much as we were hurt by the debate in parliament last year—the farm-down was delayed and so forth—it’s actually a good thing in the long term because it is forcing the transparency issue. It is forcing people to think about it.  It made us sit up and realise that we’re not doing enough to educate people about the industry, in terms of engaging with larger civil society and just getting some generic understanding.

Because what I take for granted after 30 years in the business, people out there just don’t know.  We’ve been accused of everything from already having produced lots of oil and snuck it out, to dumping nuclear waste, to being responsible for elephant encroachment on populated areas.  And we have to do more to get out there and talk to people and engage more with society, saying this is what you can expect, this is what it will look like.

There will be change.  It’s not going to be the same after this.  You can’t ‘un-discover’ this.  It’s not going to go away.  What you can do is join together and manage it as a society and make sure it is used the best way.   The debate that’s happening is part of that.  It can only be a good thing.

Questions put by NY on May 9, 2012

 

Oil in Uganda analysis

The revelation that a National Oil Company already has the right to a 15% stake in field development shows that the government is keen to maximise the commercial benefits to Uganda—by having its own company actively engaged in exploration and production, rather than just receiving royalties and taxes from international players.

However, Ugandan civil society organisations and international development partners are concerned that plans for the National Oil Company’s governance, investment structure and parliamentary oversight are inadequately spelt out in the Petroleum Bill that will create the Company.  People fear that if the Company is not fully transparent and accountable there will be a high risk of under-the-counter deals, rake-offs and general malfeasance. The news that this corporation-in-the-making already has an agreed option in production underlines the importance of all those questions.

It is also clear that the government and the international oil companies are not yet on the same page with respect to overall production and marketing strategies.  The companies’ commercial interest lies in getting the oil out of the ground and onto the market relatively fast, and at a good price.  The government probably wants a slower production schedule, and would still like to see as much of the oil as possible refined in Uganda.  Tough negotiations lie ahead.