Risks and opportunities facing the gas industry at the dawn of the new century

17^th World Petroleum Congress Rio 1-5 September 2002

Key note speech by Djamel Eddine KHENE
Vice President Exploration and Production, Sonatrach.

> Slides (2,3 Mb)

Chairman, Ladies and Gentlemen Good morning,

First of all, I would like to convey to you Mr Chakib Khelil’s sincere regrets for not being able to be here today. Mr. Khelil who was planning to address this session this morning was held back by an urgent commitment. He wishes you all the success at this conference.

For me, it is a great pleasure to be back in Rio and to have the chance to talk to you this morning.

It is also a pleasure to see so many colleagues and partners in the audience today.

The last time I was here in November 95 during the 8^th International Deep Offshore Technology Conference the Topic was "Subsea Developments in Ultra Deep Water".

Since then a whole series of technological innovations have been taking place in Brazil, especially in Campos basin. These technological changes have transformed the efficiency of the way in which we can recover and produce oil from ultra deep waters.

Petrobras has played a leading role in research to develop and apply new subsea technologies and continue to do so through the Deep Water Technologies Program Procap 3000.

I would like to take this opportunity to pay tribute to Brazil and Petrobras for their technological contributions to our industry. (Slide 1)

Today, I would like to share my thoughts with you on the outlook of the Gas industry and the risks and opportunities facing this sector.

The growth in demand for natural gas has risen at almost double the rate for oil by more than 20% since 1990. Gas has become the fuel of choice, mainly at the expense of coal.

Most forecasters see gas demand rising significantly for the next 10 years. It is expected that consumption for gas will increase by another 25% by 2010.

One important factor which is reshaping the energy business is the long term shift toward cleaner, less carbon intensive fuels.

Among other factors which are helping natural gas to capture a growing share of world’s energy market is the existence of plentiful reserves around the world.

Based on current estimates total proved world gas reserves amount to 5000 + trillion cubic feet that is the equivalent of roughly 70 years supply of gas at current rates of consumption.

The challenge today is that while there is a general agreement that huge reserves remain in many different parts of the world, bringing these supplies in the amounts needed to the market cannot be taken for granted.

As we know nature did not always put gas where it is easy to find and produce. Often gas is available in areas of the world where the operating environment is difficult and the technological and logistical requirements are daunting.

Equally important are the political, financial, regulatory and environmental issues that need to be addressed to bring gas projects to fruition.

Later on I will focus on some of the risks and opportunities facing the gas industry. But first, I want to briefly describe the Algerian gas industry and the gas business at Sonatrach.

Algeria was the first country to develop exports of liquefied natural gas (LNG) and the first non European country to export its gas to Europe. First commercial production began in 1961. (Slide 2)

Now exports to Europe flow not only in LNG vessels, but via two transcontinental pipelines linking the giant field of Hassi R’Mel to northern Italy via Tunisia and the strait of Sicily for the Enrico Mattei Gazoduc (Transmed) and Spain and Portugal via Morocco and the strait of Gibraltar for the Petro Duran Farell Gazoduc (Maghreb Europe). (Slide 3)

It has the largest proven gas reserves in Africa as well as some of the biggest oil reserves. Gas amount to 57% of Algerian oil and gas reserves

Algerian gas production exceeded 140 billions cu m³ in 2001. Current plans call for increasing level of production to 160 billions cu m³ in 2005.

Nearly half of this gas is presently recycled in the gas fields to maximise liquid recovery. Large amounts of it could be made available for exports in the future with the maturing of gas reservoirs. (Slide 4)

In 2001, 62 billions of cu m³ have been exported by Sonatrach and current plans call for increasing this level of exports to 85 billions cu m³ by 2010.

More than 20 international companies are operating now in Algeria in partnership with Sonatrach. The total area in partnership exceeds 100.000 km².

In 2001 ten exploration contracts have been awarded and it is expected to conclude ten other contracts in 2002. Until now seven contracts have already been signed this year. (Slide 5)

Despite the relative important number of exploration contracts signed in 2001 and 2002, Algerian sedimentary basins, compared to similar petroleum systems worldwide, are still underexplored (9 wells / 10.000 km²).

Thus, plans are underway to intensify exploration for oil and gas in Algeria. (Slide 6)

The new hydrocarbon legislation which is presently under Government’s approval will provide investors with new fiscal incentives commensurate with the risks involved.

Now let me turn to Sonatrach to briefly describe our core competencies our action plans and how we fit into the oil and gas business.

In the 40 years since our founding in 1963, Sonatrach has become a leading player in both the upstream and downstream sector of the oil and gas industry.

Sonatrach was established as an instrument to transport and market the state oil production share from the Algerian oil producing fields operated then by the international oil companies.

At that time nobody realised that Algeria was to become one of world’s leading oil and gas provinces or that Sonatrach would play a key role in developing resources.

Now Sonatrach is an integrated national oil and gas company which holds a key position in the upstream business in Algeria with interests and commitments in 199 bocks totalling 1.5 million Km².

In recent years we have been working to build a portfolio of new core areas internationally by identifying and pursuing attractive exploration opportunities abroad. (Slide 7)

Sonatrach holds exploration rights in Yemen and is involved in projects in Africa and South America. We are present in ten countries around the world. (Slide 8).

Total liquids and gas production of Sonatrach exceeded 4 million BOED in 2001 and current plans call for increasing this level of production to 5 million BOED by 2005. (Slide 9).

Perhaps one of the major strengths of our company lies in the size and quality of our resource base. At year end 2001 Sonatrach had recoverable reserves of more than 40 billions of oil equivalent barrels.

Our resource base has grown by 10 billions of oil equivalent barrels during the last ten years. (Slide 10) During the last 30 years reserve replacement exceeded company’s production by 13%.

Our objectives for the near and medium term are as follows : (Slide 11)

• Intensify our exploration effort in Algeria and abroad to maximise production through near-term and medium-term exploration projects.
• Upgrade efficiency of our exploration and production operations to reduce costs.
• Maintain a large portfolio of opportunities and invest in projects that deliver superior returns.
• Expand our partnership business opportunities both in Algeria and abroad.

In the downstream business we are taking a number of steps to significantly expand our presence in southern Europe through new gas and power projects.

We are also clarifying our gas exports strategy in the face of new competition and the regulatory changes which are taking place in European markets.

Finally, we are trying to gain access to gas outside Algeria which will enable us to develop our international involvement.

We enjoy a strong position in the European gas market which is undergoing change and growth. And our objective is to remain a flexible supplier with long-term contracts. (Slide 12)

Abundance of natural gas resources

Based on pretty conservative estimates, only a minor part (20 – 25%) of estimated world total natural gas supplies have so far been found and produced and huge supplies are waiting to be produced in many different parts of the world. As further exploration is undertaken it appears that gas resources will be even more plentiful than those of oil.

On the demand side it is expected that over the next 20 years gas will continue to grow faster than oil probably 50 to 70% faster than oil.

There have been a whole series of advances over recent years which have enabled the industry to make new oil and gas discoveries with lower costs and increased operational efficiency.

Technology for instance has increased the quality and speed with which we can acquire and interpret seismic data. We can now look at fields in different ways and identify and track oil which is trapped in the reservoir.

3D seismic proved to be one of the most important technological breakthroughs in an industry where profitability is closely tied to innovation and technology. 3D seismic is used to get a better understanding of the subsurface and the structure of oil and gas reservoirs, even when they are obscured by geological barriers such as salt.

Technical advances in 3-D seismic acquisition and interpretation have been used in Algeria, particularly in the Berkine basin.

When Sonatrach drilled the first well at Hassi Berkine, some 30 years ago, the results then were not very exciting and we were far from thinking that we were sitting on one of the largest oil accumulation existing in Algeria.

But in the late eighties and early nineties, using the new technical advances with which we can acquire and interpret new Seismic, Sonatrach and its Partners succeeded in identifying one of the most significant oil discovery ever made in Algeria.

In 2001, Production capacity of Hassi Berkine reached 300 000 barrels/day. This production will increase to 500 000 barrels by 2005. Existing production capacity is based on a recovery factor lower than 30%. After appraisal and relying on future technological advances we expect this recovery factor to double.

Another area where technology played a crucial role is Drilling:

Horizontal drilling and the use of multilateral and intelligent wells as well as other drilling techniques have helped to reduce costs and increase decline rates sometimes dramatically.

Technological change has undoubtedly been a key factor in maintaining oil and natural gas as the world’s energy mainstays. Gas is a great example.

It is technology which has dramatically increased the productivity of gas as a fuel in the power generation sector, it is again technology which has reduced production cost of LNG, and now it is technology which is changing the economics of long distance gas transportation.

Technology will continue to be the lifeblood of our industry and demand on technological innovation will be significant.

If we look back 20 years from now and even 10 years from now we would find a different world than we have today.

Following the fall of the Berlin’s wall most of the world opened up to private economy.

As a result many of the reserves which not so long ago where still inaccessible, have been opened to foreign Companies.

Perhaps the most significant example is the Caspian region. But other countries in Africa, Asia, Eastern Europe and other parts of the world are also opening up to private investments.

In many of these countries plentiful reserves are waiting to be developed.

Bringing those reserves into fruition will require, apart from the technological, managerial and financial capabilities which are essential when you are dealing with large-scale projects, the satisfaction of at least two other prerequisites which in our opinion are critical:

First, a new approach to social and environmental issues is required. Companies investing in the developing world must behave as good corporate citizens placing environmental and ethical behavior in their top priorities. They have yet to demonstrate to local communities that oil and gas development can bring social and financial benefits to them.

Second, we believe it is the task of host Governments and National Oil Companies to create in their own country a political and business climate that welcomes private investment.

This can be done by integrating for instance the views of their counterparts in their decision making process and by reducing the time required to get projects approved.

Last but not least, all parties must work together to promote honest business principles and practices and a cooperative business environment.

Undoubtedly, major changes have been occurring over the years in the nature of relationships between International Oil Companies (IOCs) and National Oil Companies (NOCs).

The NOCs desire to benefit from financial support, technology and managerial expertise coupled with the willingness of IOCs to take full advantage of the investment opportunities available in the host country have largely contributed to erode barriers that have separated the two sides in the past.

Furthermore, the opening up of markets is driving NOCs to step outside their own country and participate in projects abroad creating a New World of opportunities for cooperation and partnerships between IOCs and NOCs.

At Sonatrach, partnership is part of our business. More than 20 projects are now developed or operated in partnership in Algeria and abroad between Sonatrach and International Oil Companies. And in 2005, the oil produced in partnership in Algeria will exceed that produced by Sonatrach alone.

We believe that partnership based on mutual advantage is going to become more crucial to energy development in the future.

Development of new reserves from far remote locations, difficult environment and increasingly challenging geology will increase the need for true and powerful partnerships. (Slide 13)

However the majority agree that climate change is something which can no longer be ignored and the risks are such that precautionary action is becoming extremely urgent.

At Sonatrach we are working on a program to eliminate gas flaring on our sites almost completely.

Gas flaring in Algeria has been reduced by 80% over the last ten years and the objective is to reach a target of 93% by 2005.

Secondly, we have decided to reduce the CO₂ content of the gas we produce.

Most of Algerian Natural gas has a low CO₂ content but there are fields were the percentage of CO₂ in the gas can be very high.

Our policy is to have CO₂ removal units in all the sites where CO₂ content exceeds Company’s standards.

But these examples represent only one part of our environmental program.

We are also taking actions at our drilling sites to reduce the pollution caused by the drilling products to surface areas.

We have a program underway aimed at reducing sulfur content in our petroleum products.

Nothing about the future is ever certain and making predictions about energy prices can be very hazardous.

As I said earlier, international gas projects are long term projects characterized by extremely high capital costs and a broad range of complex and interrelated issues. This makes them high-risk ventures.

These projects will be economical only if the projected gas revenues are large enough to recover over the projected life of the project the costs necessary to construct the project, bring the gas to its market and ensure to the producers a return which is commensurate with the risks involved.

The concern, as these changes are taking place, is how to incentivize the investments of large scale capital intensive gas projects if the fundamentals which have served so far to implement long-term sales contracts are unilaterally called into question by political institutions not always fully aware of the sophisticated mechanisms which characterize Natural gas contracts and the sacrifices gas producers had to make to bring these projects into stream.

Large-scale gas projects require large investments in schemes where there is often a physical link between the gas source and the market outlet.

A prerequisite to the development of such projects is the existence of long-term sales contracts with take or pay clauses.

Producers need long term adequate volume commitments to finance and develop distant new gas fields and their transportation infrastructure. This in turn will ensure security of supply to consumers.

Conclusion

It is time for me now to conclude. But before I do, I want to leave you with one or two thoughts:

Thank you.