Egyptian Gas - Can Booming Demand be Met by Rapid Supply Growth?

Egyptian Gas - Can Booming Demand be Met by Rapid Supply Growth?

21st April 2017

Introduction

After a decade of regulatory and energy policy changes, Egypt is now back on track as the largest and fastest growing natural gas market in Africa and, in parallel, is enjoying a re-invigorated upstream gas sector based on the giant Zohr discovery, go ahead for West Nile Delta (WND) and a range of other gas developments tied back to spare gas process plant capacity.

However, future competitiveness and efficient functioning of the Egyptian gas market, both domestically and within the increasingly integrated global gas and LNG markets, relies on an aligning of several stars.

In this article, our teams have assessed the upcoming challenges, opportunities and outlook for the Egyptian gas market.

Egypt and Regional Eastern Mediterranean Gas Market Overview – Signs of The Times

After a period of turmoil since 2012, Moodys upgraded their assessment of the Egyptian economy from negative to B3 stable in April 2015 and reaffirmed this in late 2016.  The November 2016 announcement of a $12Bn IMF loan, the floating of the Egyptian pound, and the strategy to eliminate energy subsidies and to create a fully functioning wholesale gas market are also promising foundations for growth and stability within the natural gas sector.  Foreign currency reserves as reported by the Central Bank of Egypt had almost doubled from $12.8 Bn in March 2016 to $25.1 Bn in March 2017.

Despite the current global oversupply of gas and the number of large regional gas resources that depend on a large demand market, the Egyptian natural gas market is still attracting considerable interest from major players, a recent example is BP’s (10%) and Rosneft’s (30%) acquisitions of stakes in Zohr.

The World Bank is investigating the feasibility of creating a regional Mediterranean energy hub centred on Egypt.  Supported by domestic gas market reform and unbundling in Egypt and the impact of potential LNG exports from existing plants, this will significantly alter the market structure and pricing of gas in the region.  These changes will also challenge government institutions that may be unaccustomed to the operations of a competitive marketplace.

While the outlook for Egyptian gas demand growth largely driven by increasing power requirements, appears very strong, the track record of curtailments, contractual disputes and subsidy mismanagement over the last decade will affect the attitude of lenders and other stakeholders.

Egypt Gas Supply from Domestic Production – Recent Declines to be Arrested and New Peaks Reached

Egypt has a long history of gas production growth; however, data from EGAS illustrates that gas production peaked at 6.1 Bcfd in 2009.  After this time, production then declined by around 30% to reach 4.3 Bcfd in 2015.

GCA has modelled production declines of existing fields and the potential to bring on new fields from 2017-2035.  Our view is that the recent Egyptian production decline will be arrested in the near-term by development of gas resources near to existing infrastructure, supplemented by further developments including BP’s WND and ENI’s Zohr (Figure 1).

Figure 1: Location map of Egypt's gas projects

Source: Wood Mackenzie PetroView

GCA’s mid-case supply scenario (Figure 2) suggests a peak supply of around 8 Bcfd in 2019/2020, and an ability to maintain gas availability at greater than 6.0 Bcfd until 2024.  Adding in known but as yet unsanctioned gas developments could extend such rates until at least 2027 even without importing gas from neighbouring East Mediterranean gas discoveries outside of Egypt.

Figure 2: GCA's gas supply forecast for Egypt (mid-case scenario) in Bcfd  

Planned exploration investments over the 2017-2021 period amount to several billions of dollars, both within Egyptian waters and in adjacent territorial waters, with the potential to completely eliminate decline in regional supplies up to 2035 or beyond.  

Egypt Gas Demand – Robust Growth Will Continue and Potentially Exceed Production Supply Growth

Egypt is the largest natural gas market in Africa and it is no surprise that it remains of interest to suppliers looking for a market.  Alongside our supply side analysis, GCA has completed a detailed gas demand side analysis.  The major factors that underpin the demand projections in GCA’s analysis, which provide structural support for continued growth in gas demand, are described here.

Power demand growth was over 5% p.a. until 2012, and only then stalled because of the shortage of gas.  Over the next 10 years, Egypt’s population (currently c. 92 million people) is set to grow by over 12 million and GDP by about 4% per annum.  Population and economic growth, both key drivers of electricity consumption, are combining to create strong increased demand.  Hydro power is arguably exhausted and, although there is a push for renewable generation, over the next 5-7 years, the only viable option for large-scale power is gas, hence gas demand growth therefore is both very substantial and sustainable. 

As a developing economy, the projections of growth in the gas-fired power generation sector in particular, correlate well with other nations that have followed a similar path of economic development.  For example, in the US the measure of installed capacity per capita is around 3.5GW per million of population, in the UK it’s 1.34, in Turkey it’s 0.8, while in Egypt today it’s 0.3.  Even based on the long-term planning goals of the power authority, with an expectation to reach around 80-96 GW, dependent on energy efficiency by 2035, we are still looking at a figure less than the UK, and not much more than Turkey today.

Poor fiscal incentives have been stifling growth within the Egyptian industrial and electric power segments.  For natural gas demand from power and industrial sectors to continue to grow, a stable energy policy, appropriate economic reward for investors, and additional confidence in the Egyptian market will need to be underpinned with steady investment and a more stable outlook generally for the country.

Gasification of cities remains a key policy, and one that has stood firm amidst many other policy setbacks.  Over the last decade, in spite of considerable disruption, the Egyptian Government has prioritised development of the gas transmission system and the connection of large numbers of new customers; we expect this to continue, as it is a main pillar of the Government’s goal to eradicate fuel subsidies (especially related to LPG, diesel and fuel oil).  Despite the extension of the Egyptian gas distribution system (currently around 4 million connections) and plans to target 6 million connections assisted by World Bank funding, residential gas demand is relatively small.

For the chemical and industrial sectors, GCA’s view is that the growth potential is less certain.  Media reports indicate a history of gas supply restrictions to gas consuming industries due to insufficient supplies and in the medium term there may be confidence issues in supply, even with Egypt’s two LNG FSRUs in operation.  One positive is that cement manufacturers have been granted direct access to gas supplies from the FSRUs by paying a blend of the regulated rate and the international price, a kind of fore-runner to market deregulation.  Probably the most positive aspect of all round industrial and chemical demand is the proposed unbundling of the Egyptian gas transmission system.  This should provide a big incentive for companies to negotiate their own supplies, creating a much more robust basis for growth.

In summary, significant gas demand growth is likely to be driven by growth in gas-fired power generation, growing industrial and chemical sector demand and an increased requirement for gas for LNG exports (at least in the medium term) from re-starting of liquefaction plants.  GCA’s mid-case demand scenario shows gas demand in excess of 7 Bcfd by 2020 (8.7 Bcfd by 2025), and therefore likely outstripping our modelled mid-case supply scenario from sanctioned projects by 2021.

LNG Exports – Egypt Advantaged Even in Oversupplied Market

At the back end of 2016, Shell exported LNG cargoes from Idku (reportedly linked to debt finance repayments) and has plans to continue these exports into 2017.  At the same time EGAS is expected to import at least 60 LNG cargoes in 2017.  Ironically, winter seasonal LNG exports could resume in earnest at a time when Egypt continues to be committed to FSRU time charters for LNG imports of around 60-72 cargoes in 2017 and for the vessels out to at least 2020.  It is notable that EGAS are currently adopting a relatively short term strategy for LNG purchases, opting to keep 2018 relatively uncovered, perhaps suggesting that the start-up of Zohr, WND and expansion of other nearfield developments may be sufficient to meet 2018 annual gas demand.

GCA’s analysis supports the possibility of LNG exports resuming, particularly in the pre-2020 timeframe, and possibly longer in an upside case.  Based on pre-2020 forecast gas costs delivered to the plant, LNG exports from Damietta and/or Idku could compete in some European and Middle Eastern markets in the medium term.  However, Egypt’s ability to produce competitive LNG will put pressure on the economic rent available for liquefaction, driven primarily by US natural gas prices that may create a price ceiling on LNG markets of around $7.50 / MMBtu.

Egypt’s LNG export potential could extend after this period, in an upside scenario.  In light of the exploration interest emerging after the discovery of Zohr, it is possible that new, as yet unidentified, relatively low-cost gas developments in the Mediterranean may sustain LNG exports well beyond 2020.  By the mid-2020’s, growth of renewable power options in Egypt may also assist East Mediterranean gas being made available for export via existing Idku and Damietta LNG plants.

Longer term, if the upstream sector in Egypt and the wider region is able to capitalise on cost efficiencies and better use of regional gas infrastructure, LNG exports from Egypt may become more attractive, especially if this is done on a positive marginal cashflow measure rather than being based on new capital.

Domestic Gas Development Potential – Technically and Economically Competitive?

Given the increasing interconnectivity of global gas markets, and emerging low cost LNG supplies from the US making their way into global markets, now, more than ever before, the customer is in the driving seat.  Market demand for gas and LNG is becoming the differentiator for individual developments, and only those assets that can appropriately meet the price and timing dictated by the market will be successfully developed.

GCA has carefully studied a large number of Egyptian gas development options.  Based on our experience, the Egyptian petroleum license terms allocate project profit gas to EGAS: this gas is essentially free to EGAS.  Costs and contractor returns are recovered from the remaining gas.  GCA has observed that EGAS profit share is between 65% (onshore) and ~50% (deepwater) and we have represented these fiscal terms in our analysis to model the weighted average cost of gas (WACOG) to consider the merit order of Egyptian gas reserves and resources.  We have identified a WACOG that falls broadly in the range US$1.50-$3.00/MMBtu for the majority of Egyptian gas developments.  Zohr and WND Taurus-Libra are estimated at being more cost competitive at below US$1.50/MMBtu. 

Individual companies operating in Egypt have wide ranging WACOGs depending on the assets and locations, and it is clear to us that no matter how much gas may have been identified in recent or upcoming license rounds and exploratory or appraisal drilling, it is essential that individual producers understand the position of their assets within this merit order to determine their competitiveness and whether investment is likely to be successful or lead to stranded gas and large sunk costs.

What Does The Future Hold In Store – Will Supply Or Demand Dictate?

In the absence of new, low cost gas in Egypt, an increasing supply / demand gap could emerge.  GCA has developed scenarios to identify when gas surpluses and deficits for Egypt emerge in the next 20-year time period.  The outlook for Egypt can broadly be divided into two timeframes, characterised by the period from the present day to the early 2020s, and the period thereafter (Figure 3).

Figure 3: Mid Case Supply / Demand forecast for Egypt (Bcfd)

In the short to medium term, LNG imports are being sought on a fast-track basis to try and address the chronic shortage of natural gas that has arisen as a result of reduced development caused by perceived political and commercial risks.  Risks have reduced and therefore upstream investment is being delivered at an exceptionally rapid rate.

Longer term, as the chronic supply shortage is alleviated, based on our supply / demand analysis, GCA anticipates that Egypt will be able to secure substantial, cost effective domestic and regional gas supplies from Zohr and other developments, largely via pipeline connections within the Eastern Mediterranean.

Whether gas supply matches or exceeds demand, depends on a range of factors outlined in this feature that are under the influence of international development agencies, the Egyptian Government and regulators, as well as gas market participants not only in Egypt and the wider Mediterranean, but in the increasingly integrated global market.

Given our experience in Egypt and the current momentum in the gas market, provided the right support is provided from Government, regulatory and gas energy policy, we are optimistic that the destiny of Egypt’s gas market will be a happy marriage of cost effective supply meeting local and potentially export demand.

In the past 10 years, GCA’s teams have completed over 90 projects relating to Egypt’s oil and gas industry, and are currently engaged in around 8-10 projects every year.  In addition to our leading edge expertise in Egypt, GCA’s Global Gas and LNG group is working on mandates to assist clients strategically, technically and commercially.  For further information, please contact the authors using the details below.

Authors

Egyptian Gas - Can Booming Demand be Met by Rapid Supply Growth?

Ryan Pereira

Principal Commercial Manager, Global Gas and LNG - ryan.pereira@gaffney-cline.com
Egyptian Gas - Can Booming Demand be Met by Rapid Supply Growth?

Rand Al-Obaidy

Senior Petroleum Engineer & North Africa BD Manager - rand.alobaidy@gaffney-cline.com

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