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‘We need to do what Ford did to the automobile’: Nigeria tries to survive cheap oil

By Charles Idem and Nicholas Norbrook
Posted on Thursday, 6 October 2016 11:34

When oil prices were at $150 a barrel in 2008, exuberant Nigerian oil companies began thinking about snapping up assets from international oil companies eager to sell their on-shore blocks. Local firms bought assets then valued at many billions more than they are today in deals with oil majors from 2013 to 2015. Now, the oily black tide has gone out again and, with oil at $40-$50 a barrel, we can see who was swimming without their trunks on.

Added to the price pressure, a spike in militant activity has hit production levels since February. In particular, the closure of the Forcados export terminal has affected indigenous oil companies, with most of the blocks sold off by Shell linked to the terminal. Companies like Seven Energy and Shoreline have been badly hit, with the latter reported not to have exported a barrel for seven months.

Can the companies readjust? Can the government intervene without making things worse? Will the banks play their part or sit back and lick their wounds? Or can the current crisis be used to re-engineer the entire sector? We spoke to a panel of experts from within the industry to get their practical ideas on how to survive the new era that stretches out ahead – an era in which more of Iran’s oil comes online in 2017 and oil prices remain relatively depressed over the next five years.

A NIP AND A TUCK

The first job for the companies is to cut costs. Capital expenditure (capex) has been slashed across the board. “We cut capex by a mile,” Austin Avuru, managing director of indigenous oil company Seplat, tells The Africa Report (see page 64).

And for some companies that has meant looking into recurrent expenditures that do not make sense. For example, Oando delisted a subsidiary company from the Toronto Stock Exchange in May, saving “around $7m a year in listing and regulatory fees”, according to Tokunbo Akindele, head of Oando investor relations. The company closed down its offices in Toronto and Calgary, laying off staff in those locations.

And staff have quietly been laid off at other companies, too, including indigenous company South Atlantic and United States oil giant Chevron. But with unions kicking off against mass job cuts and oil being a capital-intensive not labour-intensive industry, savings will need to be made elsewhere.

REDO THE IOU

The second job, for banks and companies, is to restructure loans that were made to indigenous companies during the good times. “Most of the [lending] models were built on $100 oil, worst case scenario $70 oil,” says Dolapo Oni, head of energy research at Ecobank in Lagos. He points to the fact that most of the newer Nigerian oil companies have not been able to ramp up production, an obvious counterweight to a fall in prices. “We are not even talking about militancy – this was from last quarter of last year. Most of them couldn’t hold on and started to reach out to us to talk about restructuring.”

Most of the loans outstanding have now been restructured, including one of the two biggest ones: Oando’s $850m in loans spread across many Nigerian banks. The other big loan is problematic. Local firm Aiteo acquired oil licence OML29, one of Nigeria’s most productive blocks, for $2.6bn in 2014 with the help of a syndicated loan of $1.5bn raised from local banks. One finance industry insider says: “That is currently non-performing and sitting on the books of around 10 banks, so it’s a bit of a mess.”

The two companies – Oando and Aiteo – reveal a distinction in Nigeria’s indigenous oil sector. The former is better established and has an investor base that is well diversified. The latter was incorporated in 2008 and was politically connected to the former government but “new to the game,” as Nigerian energy analyst Antony Goldman puts it.

He points to the backdrop of international oil companies fleeing an opaque operating environment even during a period of high oil prices. “If the likes of Shell, Chevron and ConocoPhillips couldn’t make it work, who are we to argue with them?” Goldman asks. That environment includes the curiously well-coordinated efforts of Niger Delta militants, which several in the current administration link to the now out of power People’s Democratic Party (PDP).

So, given the security concerns, next on the list for companies hoping to survive has to be alternative means of getting their product to market. Some companies have done this already. Seplat, for example, built a separate pipeline to the Warri refinery, from where it has oil pumped to barges and shipped it out to ocean liners. And while that has not offset all Seplat’s output, the company is faring better than those locked in by the Forcados shut-in.

Seven Energy, another indigenous company scrambling to renegotiate terms with creditors, is on the verge of completing a gas pipeline from Oron to Creek Town, which Fitch ratings points to as one of the few positives in a challenging situation. Nonetheless, the ratings agency downgraded Seven’s credit rating from B- to CC in early September.

TO BAIL OUT OR NOT?

So is there anything that the government could or should do about the headwinds in the oil industry? There are naturally those pining for a bailout of struggling indigenous producers. They might look to the moral hazard – the fact that one bailout could contribute to bad behaviour, since companies might expect the government to save them from their mistakes – created by the ‘bad bank’ after the 2009 financial crash. Then, the government transferred the losses of big borrowers to the Asset Management Company of Nigeria, and many of them carried on as usual.

Some analysts suggest the government would do better to help producers with alternative export infrastructure or to fix the shortage of dollars that plagues the industry. Ecobank’s Oni cites a client who supplies gas to a major power company, which lacks dollars to settle its bill. This may not be ideal “but they are accepting in naira now, just for the revenue”.

A year of hard ball over the currency appears to be at an end, with President Muhammadu Buhari finally agreeing to a devaluation of the naira in June, with the currency slumping 40% against the dollar in the following two months. But the foreign currency supply has still not recovered.

JOBS FOR THE BAD BOYS

Political accommodation in the Niger Delta should be next for the government’s to-do list. And rather than a programme of paying militants off – seen under the previous administration and continued under the current one – perhaps a serious infrastructure outlay and job creation plan could entice young men who would otherwise be in the creeks bunkering oil illegally or joining one of the many militant groups.

And finally, sorting out the legislative framework around the oil and gas industry would help bring much-needed capital back into the country.

Investment has been hamstrung since former President Umaru Musa Yar’Adua said the Nigerian National Petroleum Corporation was unfit for purpose back in 2008, says Goldman: “We still don’t really know when or what form this reform is going to take. As a result, it’s been very difficult to attract new investments into Nigeria because you can’t say what long-term contractual basis you will have to operate in, what the fiscal terms are going to be, everything that real banks need to know.”

Currently, the Petroleum Industry Bill is back with the Senate. While the bill is about industry regulation, PDP senators from the Niger Delta want to insert provisions about payments to communities in oil-producing areas.

But one oil executive, who requests anonymity, says that this is a moment where Nigerians should be looking at opportunity rather than just survival.

GOLD-PLATED OPPORTUNITY

Currently assembling a team to invest in the Nigerian energy sector, he points to countries like Russia, which has managed to survive low oil prices much better than anticipated because its cost base is in roubles rather than in dollars. And despite much fanfare about local content, the amount of oil services provided in Nigeria in naira is still very low.

Not only that, but the era of high oil prices made people ignore unnecessary gold-plating on contracts and not care so much about the actual cost of the services they were buying. “Service provision is a massive opportunity in Nigeria today. Given the market price and actual costs, it is a licence to print money,” the executive argues.

He points, for example, to transport costs from a pipeline into an export terminal of $11 a barrel in Nigeria, when the actual costs are under $2 a barrel. Likewise, he sees standardisation of parts as another huge opportunity. “We have 6,000 different bolts, where really we only need one. We need to do what Ford did to the automobile.” A new chance for the development of a lean, Nigerian service industry awaits in the era of cheap oil.

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