Outlook of the Nigerian oil and gas market
Nigeria needs to generate as much revenue from gas as oil.
When a conversation with my Nigerian friends and colleagues turns to oil and gas, it is inevitably a discussion on:
• How is Nigeria going to survive in a world with low oil prices;
• How should the Buhari regime react to this and related issues (including the perennial issue of corruption in Nigeria);
• What are the key issues that are affecting and will shape the Nigerian oil and gas sector; and
• How can the Buhari regime help develop and build Nigeria to achieve its true potential?
Nigeria's oil and gas industry is the largest on the African continent, yet in 2014 it only contributed about 14% to Nigeria's economy. Whilst Nigeria's economy is more diversified than most people realise, the Federal Government still relies massively on oil revenues. 70 percent of government revenues and 95 percent of foreign exchange earnings come from oil.
In its 2015 budget, the government assumed $53/barrel; which was down from $78/barrel used in the 2014 budget. However, the IMF says that Nigeria needs $119/barrel to balance its 2015 budget. So with oil prices hovering in the $50 to 65+/barrel range, the country is already running a deficit and will need to come up with other sources of revenue.
Nigeria needs oil to stop its reliance on oil
Nigeria needs to continue to diversify its economy and stop its reliance on oil revenue. Whilst this diversification requires strong leadership, good policies and political will, it also requires money. So ironically, income from oil is required to diversify Nigeria's economy - to fill the infrastructure gap, to provide power and to create and grow other industries that are holding the country back.
Better tax collection
However, oil revenue is not the only source of revenue for the Nigerian Government. According to World Bank, the country collected the equivalent of less than 2% of its national income in tax receipts in 2012; compared to an average of 16% for emerging markets and 18% for Sub- Saharan African economies.
The IMF also reported that non-oil tax revenue in Nigeria stood at just 5% of non-oil GDP. Whereas the average oil-producing country collects around three times as much. The solution to this issue is complex and requires all layers of government to cooperate and have coherent policies. However, one fundamental issue is the need to change mindsets and have a culture of tax payment to be the norm and part of each citizen's moral and civic duty.
Gas is the way
Nigeria needs to do more to promote the gas industry so that it becomes an integrated oil and gas producing country that generates as much revenue from gas as oil. Take the example of Qatar, which is the world's most dominant gas exporter. It has the highest per capita GDP that is mostly driven by natural gas.
Increases in gas production requires investment in gas infrastructure which in turn requires gas pricing that provides the necessary return on investment that is also stable and predictable. The knock-on effect of getting gas onshore is well known, with gas-to-power plants the first in line, and benefits for other sectors such as fertilizer, petrochemicals, cement, etc. This will have a huge impact on the domestic economy through improved GDP, import substitution and employment generation.
Today, the majority of Nigeria's natural gas is still being flared off. It is estimated that Nigeria loses $18.2 million daily from the loss of the flared gas. For more details see www.myndff.org/the-nigerian-gas-conundrum. Yet gas flaring has been prohibited in Nigeria since 1984 under the Associated Gas Re-Injection Act Number 99 of 1979. The things required here are both carrot (in terms of attractive gas pricing and incentives to invest in gas infrastructure) and stick (in terms of enforcing this legislation).
IOC divestments and the rise of the Nigerian indigenous oil company
So what is happening in the Nigerian oil and gas industry?
The multi-national international oil companies (including Shell, Total, Eni and Chevron) have been divesting their interests in oil blocks and marginal fields for some time. Many of these assets are Nigerian onshore assets that have been plagued by industrial scale oil theft, insecurity and spillages.
This divestment programme, together with local content legislation, positive government policies and Nigerian entrepreneurs' ability to raise capital and form alliances with foreign technical partners, has resulted in the rise of the Nigerian indigenous oil and gas companies. The corollary of this has been increased technical competence, job creation and a reduction in capital outflow from the country. Yet there is more to be done on all fronts.
Successes have ranged from the completion of the $1.5 billion ConocoPhillips asset purchase by Oando to Seplat's landmark listing in Lagos and London in April 2014. Other deals are awaiting ministerial consent and financing. On completion of the divestments, we could see Nigerian indigenous companies controlling 20 to 25 per cent of the country's oil production (currently 10 – 15%). One thing is certain: the IOCs are going to continue divesting assets in Nigeria and there are clear opportunities for indigenous Nigerian oil and gas companies to take advantage of this.
Marginal fields – why are we waiting?
I wrote about the marginal fields bid process www.myndff.org/nigeria’s- marginal-fields in the first half of 2014. A year or so later, nothing seems to have changed. To recap, under the Petroleum (Amendment) Act No. 23 of 1996, the President has the power to declare a field as a marginal field – i.e. where a discovery has been made but the field has been unattended after 10 years of discovery. For a time, there was considerable hope that the marginal fields programme will further bolster the indigenous oil and gas industry in Nigeria.
However, the marginal fields promise has not reached its full potential. For example, because of the:
• lack of progress on the current marginal fields licensing round almost two years after. Then-Minister of Petroleum Resources, Mrs. Diezani Alison-Madueke, launched the bid process in December 2013 (announcing that the bid round would be completed by March, 2014); and
• lack of development of some of the marginal fields awarded in the first round of bidding more than ten years ago (see below).
Revocation of marginal field licences – just do it!
In April of this year, it was reported that about 18 of the 30 marginal oil fields awarded to indigenous companies as marginal fields were at the risk of being revoked, as the deadline for the development of the fields expired at the end of March 2015. Only nine of these fields have so far been developed and are producing in over 12 years since their awards. These account for just 2.1 per cent of the country's total daily crude production.
The question remains as to why these licences have not been revoked and re-auctioned. Especially given that there has been a two-year (unexplained) grace period extension of the ten-year development requirement which would have ended in 2013. If the intention is for greater local participation, it must be in the interest of the country to re-auction those assets that have not been developed. Perhaps with President Muhammadu Buhari's promise to fight corruption, his administration will be more rigorous in terminating licences that are in default.
There are deals to be done on these non-performing marginal fields to bring them into production. However, with the spectre of a potential licence revocation, any such deals are unlikely to get much airtime.
What does the current slump in oil price mean for Nigerian indigenous companies?
The reality of low oil prices is that there are going to be winners and losers in the Nigerian oil and gas sector.
One notable loser from this cauldron of events is Afren. At the start of 2014, the company was valued at £1.9billion, or 169p a share and was one of the leading Nigerian oil and gas companies. Today its shares are trading around 2p a share. Brought about by the fall in oil prices, a boardroom corruption scandal, security issues in Kurdistan, slowing production in Nigeria and a technical default on payments to bondholders. However, the key factors that resulted in Afren's trouble was its high leverage and debt bill.
The Afren story could easily be replayed with other indigenous Nigerian companies if they are not able to manage their costs and debt profile. However, one person's troubles could well be another's opportunity. Those companies that are inefficient have high production costs or high finance costs are going to find it difficult to survive. This gives other companies who have lower production costs and/or lower cost of capital the opportunity to buy into or merge with these other companies – unfortunately for Afren, no such white knight appeared and the company seems to have been handed over to its bondholders.
Governance and transparency
Perhaps one major lesson from the Afren story is the need for good governance and transparency. At a recent event held at the London Stock Exchange (in conjunction with the Nigerian Stock Exchange), this was listed as the biggest concern for international investors. Whilst Afren has suffered, the Seplat story has gone from strength to strength. Increasing investor confidence in its management and corporate governance and the appointment of a diverse board with strong non-executive directors has helped Seplat become the Nigerian poster child for the London and Nigerian Stock Exchanges.
Any Nigerian company looking to come to the international capital markets would do well to take on board the lessons from Afren and Seplat when preparing to come to the market. The prize is access to capital that most Nigerian companies need to grow and to take advantage of the opportunities such as IOC divestments, marginal fields bid rounds and consolidation in the industry.
I could write pages on what else could be done on the issues I touched on this month but I am rapidly running out of my word limit. So here is a quick summary of some other points for action:
• carry out a root-and-branch reform of NNPC and the Department of Petroleum Resources ;
• take steps to rout out rampant crude oil theft and trace the proceeds (President Buhari has said that “250,000 barrels per day of Nigerian crude are being stolen and people sell and put the money into individual accounts”);
• deal with the high level of piracy in the Gulf of Guinea;
• review and pass the Petroleum Industry Bill. [According to Wood Mackenzie, the delay in passing this Bill has denied Nigeria about $37 billion in private sector investments in the oil and gas industry in the last five years]; and
• put in place clear and coherent laws and policies with strong independent regulators.
If you are an ice hockey fan, you may have heard of Wayne Gretzky. He summed up his secret to success when he said:
“go where the puck will be, not where it is [now].”
With the puck of oil prices forecast to stay low for the foreseeable future, what Nigeria needs are laws, policies and mechanisms to reduce its reliance on oil revenue.
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