Lower costs and project delays in the wake of the global financial crisis have depressed the energy investment requirements in the Arab World by nearly 15 per cent during 2010-2014, official estimates showed yesterday.
Despite the recent improvement in oil prices, global credit tightness has created serious challenges to funding of those projects and this could prompt regional states to rely more on equity for financing, the Arab Petroleum Investment Corporation (Apicorp) said in a study sent to Emirates Business.
Its figures showed most regional nations had postponed hydrocarbon projects but the bulk of the investment reductions were in such key oil and gas producers as the UAE, Saudi Arabia, Kuwait, Qatar and Algeria.
"The global financial crisis and the subsequent turmoil in the oil markets have combined to take a toll on the region's macroeconomic and energy investment outlooks. To cope with the crisis, Arab energy policy makers and project sponsors have had little option but to reassess their investment strategies and scale down projects portfolios… the uptrend momentum achieved in recent years has reversed. Indeed, the current [seventh] review for the period 2010–2014 points to lower capital investment potential," the Dammam-based Apicorp said in the study, authored by Ali Aissaoui, Head of the Economics Research Division.
"It also confirms a further drop in actual capital requirements in the region. At present, we expect the capital investment potential to fall by nearly 15 per cent to around $470 billion (Dh1,726bn), and the actual capital requirements to fall by some 29 per cent below this potential to nearly $335bn."
The study said its assessment for lower investment requirements was prompted by what it described as the postulation of subdued project costs and a further drop in actual capital requirements as a consequence of the continuing shelving and postponement of projects that are no longer viable.
Although the overall capital structure of projects has slightly shifted to equity, the downstream industry remains highly leveraged, it said. "In a context of higher risk aversion and tighter credit conditions, securing the appropriate amount and mix of debt is likely to be considerably more challenging than any time before. Although the credit and oil markets have stabilised, the speed at which redundant energy projects are likely to be brought back is still uncertain. The region's investment recovery will ultimately depend on the revival of global and domestic growth," said Apicorp, an investment arm of the 10-nation Organisation of Arab Petroleum Exporting Countries (Oapec).
"Meanwhile, funding may not be fully restored yet. Not without lenders and investors being reasonably confident that severe delayed effects of the global financial crisis will continue to be contained should they happen again."
A breakdown showed 70 per cent of the energy investment potential continues to be located in five Arab countries namely Saudi Arabia, Qatar, the UAE, Algeria and Kuwait, with more than half this potential in the first three countries.
The report showed that in Saudi Arabia, potential capital investments have come down to $139bn. Shelved or postponed projects are estimated at 21 per cent of this potential, mostly in the refining and petrochemical sectors. In Qatar the potential capital investment is now estimated at $62bn. "In this country, we assume that the moratorium on further development of the North Field gas reserves will not be lifted during the review period. As a result, shelved and postponed projects are put at a higher rate of 42 per cent of potential."
In the UAE the revised potential capital investment totals $51bn with projects made redundant amounting to 16 per cent, according to the study. In Algeria, which controls the world's sixth largest gas reserves, postponed projects account for 18 per cent of the revised investment of $38bn.
Kuwait, which exhibits the same revised investment potential as Algeria, has by far the highest rate of postponed and shelved projects, the study said.
"This, however, has more to do with the dynamics of domestic politics and policy than the effect of the credit and oil market crises," it said.
"In this context, it is difficult to estimate the country's actual capital requirements as long as major upstream projects such as 'Project Kuwait' a $55bn investment programme remains at a standstill, or key downstream projects such as the $15bn Al Zour refinery are undecided."
In Iraq, where the ambitions to achieve the full development of the oil sector have been revived, the extent of foreign investors' contribution will depend on the government's ability to provide an ultimate solution to security problems.
"Furthermore, when considering all the significant energy-investing countries in the region, a further important aspect to highlight is that the investment outlook is affected across the board," the study said. Apicorp noted that on top of the challenges facing the Arab energy sector is funding, which has become scarce and costlier since the eruption of the crisis.
"In a context of the credit and oil market turmoil, a marked shift in projects' capital structure has exacerbated the dilemma facing corporate financing policies. We have witnessed a trend towards a more equity-oriented capital. Whatever the trend in capital structure is, achieving the needed amount and mix of equity and debt will be considerably more challenging," it said.
"On the one hand, we have estimated that a prolonged period of low oil prices below $60 per barrel will affect project sponsors' ability to self-finance upstream investments. As noted earlier, $60 per barrel is the lower bound of a price band that lies at the confluence of the economic price needed to develop projects in frontier areas and the fiscal price needed to meet oil producers' realistic requirements for revenues. This level of price will limit the amounts of corporate retained earnings, restricting self-financing."
On the other hand, the study added, funding prospects for the still highly leveraged downstream will be even more daunting.
It estimated the annual volume of debt for energy investments to be in the range of $30bn to $42bn for the next five years.
It said the lower bound results from the actual capital requirements found in the current review and the likely capital structure highlighted above. The higher bound corresponds to the potential requirement and the speed at which redundant projects will be brought back when the business climate improves. "A median amount compares to the all-time annual record of $38bn achieved in the loan market prior to the onset of the global credit crisis," said Apicorp.
"Nowadays, such amounts of debt can hardly be met owing to lesser credit availability, higher costs of borrowing and tighter lending conditions. And this is despite the move by some Arab public investment funds to tap governments' net savings and step up their lending and involvement in the local debt market as has been the case in Saudi Arabia in particular."
The study said it believed in such conditions, projects' and companies' credit ratings, which are almost always capped by sovereign limits, would be closely scrutinised. But it noted that not every country has a sovereign rating. "Of the 15 Arab petroleum producing countries, only nine have solicited one and just eight of them have managed to attain investment grade," it said. "The fewer countries in the GCC, namely Kuwait, Qatar, Saudi Arabia and the UAE, whose rating has been maintained at 'AA' by Standard and Poors (S&P) or equivalent ratings by other credit rating agencies (CRAs) will be able to achieve relatively lower borrowing cost and better lending terms."
The study said Arab nations faced serious challenges in maintaining and expanding their hydrocarbon output capacity at a time of credit tightness and economic slowdown. But it stressed that cutting such investments is inevitable in such circumstances despite their massive hydrocarbon potential.
"At the heart of the new challenges facing the Arab World, as it strives to mitigate the shocks and aftershocks of these crises, is how to maintain its capacity to make a major contribution to the world's energy supply, particularly as its growth potential is still far from being realised," it said.
"The region holds 54 per cent of the world's proven reserves of crude oil and condensate, but only contributes to 33 per cent of global oil output. Similarly, while it contains 30 per cent of proven natural gas reserves, it only accounts for 15 per cent of gas output. However, in times of crisis expediency becomes a necessary course of action: scaling down energy investment plans by making projects redundant has been inevitable."
Effects of slowdown
Turning to economy, Apicorp said the crisis had affected the Arab World, mainly oil producers, because of the ensuing collapse of crude prices and their decision to slash output in line with an Opec agreement.
"As long as the oil market was uptrend, up to mid-2008, the Arab World was thought to be spared from the financial crisis. However, the subsequent steep fall in oil prices highlighted previously, and the tightening of credits have combined to take a toll on the region's economy," it said.
"Growth, whose average during the five-year period preceding the financial crisis was 5.2 per cent, contracted sharply to 2.1 per cent in 2009."
It said the extent to which the region's growth will recover, and reach the high rates experienced in the precrises period, depends on key countries maintaining a certain level of public expenditures and the limits of their fiscal sustainability.
In this regard, the major risk to the medium term Arab economic outlook is a weak and protracted global recovery, which would keep downward pressure on oil prices and governments' fiscal revenues, it added.
"Other risks to the outlook include delayed effects of the crisis. On a far more severe level, heightened geo-political threats should not be discounted either. Whatever the growth scenarios for the Arab World, however, inflation and unemployment, whose relative importance has been reversed, will continue to top the region's socioeconomic policy agenda."
The study said Gulf states and other oil producers in the region need to take measures to offset the fallout of what he termed "a dual crisis", which involves the global credit tightness and the crash in crude prices. Its recommendations included repatriating part of their overseas assets in state funds and sovereign wealth funds, cutting risks, and measures to support the banking sectors and development funds.
- Making up for shrinking capital inflow by reallocating internally the capital invested offshore (state funds and SWFs)
- Supporting mainstay regional financing institutions with short term liquidity and eventual recapitalisation
- Reinforcing development funds that promote growth in the private sector and reward job creation
- Excluding from any "option to wait" infrastructure energy projects in current reviews of investment strategies
- Reducing perceived country risks to avoid lower credit limits and higher costs of external borrowings
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