A “Catch 22” for Nigeria in the oil market

Finally, Shell on June 7 lifted the force majeure on the Trans Forcados Pipeline, basically guarantying customers that it no longer has any impediment to supplying the Forcados grade. Nigeria and Nigerians had a reason to celebrate the lifting of the force majeure as it meant that an additional 250,000 barrels per day of crude oil is now available for sale in the international market. At an average price US$50, this translates to a minimum of US$12.5 million a day of extra revenues that is available for Nigeria and its oil producing partners to share.

The US$12.5 million also represents an average of what the country and its oil producing partners have been losing for each day that the Forcados terminal was out of operation. If it is considered that the pipeline has been mostly out of operation since February 21, 2016 except for a brief period in November, this loss comes to about US$5.63 billion in lost revenues that should have come to Nigeria and its oil partners within the period.

The Nigerian National Petroleum Corporation (NNPC) in its monthly reports discloses that its 100 percent owned subsidiary, the Nigeria Petroleum Development Company (NPDC) has been losing an average of N20 billion monthly due to the closure of the Forcados terminal.

Many other indigenous players in the sector were also significantly impacted by the closure of the Forcados pipeline. Seplat, one of the companies that were badly affected by the Forcados closure, announced on June 7 that with the return of the pipeline, its production has gone back to pre-attack levels, and has added 30,000 barrels of crude oil to its daily production.  This also means that the company was losing a minimum of 30,000 barrels of crude oil a day for the period the Forcados pipeline was down. At the height of the crisis, Seplat, which is listed on the Nigerian Stock Exchange, saw its share price drop to a 52 week low of N240 per share. But Investors have since responded to the good news of increasing production pushing the company’s stock price up the maximum 10 percent on the day after the force majeure was lifted to a new high of N425 per share on June 8.

Many banks would also be glad at the return of the Forcados terminal. The largest credit exposure of banks is to the oil and gas sector. Banks were forced to restructure  loans to players in the oil and gas sector following the steep drop in crude oil price in late 2015 and early 2016, which for Nigeria, was compounded by the militant attacks on oil assets, which also cut output at a time of low oil prices.

Now crude oil prices have significantly recovered from its early 2016 lows and production is picking up. This basically means most of the oil and gas loans that the banks have been forced to restructure and provision for would likely return to a healthy position.  This would be positive for the balance sheet of many banks that have come under significant pressure from the rising non-performing loans in the energy sector.

But then there is a downside to the return of Forcados. Nigeria’s good news is also its bad news. The return of Forcados has helped restore Nigeria’s crude oil production to a new 15 month high of 1.75 million barrels per day, excluding condensates. Nigeria’s OPEC quota stands at 2.2 million barrels per day, which the 2017 budget is based on. The increased production from Nigeria is helping reduce the impact of OPEC’s decision, reached on May 25 to cut crude oil production by 1.8 million barrels per day for another nine months in a bid to remove excess supply from the international markets and also sustain prices at the minimum of US$50 per barrel.

Increased production from Nigeria and US shale producers is helping fill the gap that OPEC and non-OPEC sought to take off the market. News that emerged on 8 June that US crude inventories are also on the rise helped send crude oil prices crashing.

Brent crude was selling at US$47.80 per barrel Fridayafternoon, about 16 percent lower that its highs in January. So while Nigeria wants higher prices, considering that its budget is heavily dependent on crude oil revenues, by increasing production, it is helping drive down crude oil prices in the international markets, a classic “Catch 22” situation.

Many OPEC and non-OPEC members, including Nigeria, definitely do not want a sub-US$50 crude oil price. It has been taken for granted that with the joint decision by both OPEC and non-OPEC producers to cut production, price would be sustained at above US$50. But that assumption is now even in doubt with surging US inventories and prices crashing below US$50 even when Libya, another country also exempted from complying with the deal, has not been able to fully restore its own production to full capacity.

There is a real chance that if and when Libya is able to restore production, prices could come under further pressure, a situation that would jeopardise the budgets of many of the oil producing countries.
So the big question is if the 1.8 million barrels per day cut agreed by OPEC and non-OPEC was not significant enough? The answer looks like a “Yes” rather than a “No”. To make a significant impact on prices, OPEC and non-OPEC producers may have to cut to an extent where the US shale producers would not have the capacity to fill the gap.

But OPEC and non-OPEC producers cannot do this as that would hurt them as bad as low crude oil prices as there is no guarantee that the rise in prices will be enough to compensate for the cut in production. Besides, a steep cut will increase the chances of many OPEC and non-OPEC members cheating in a bid to earn a little bit more dollars to balance their budgets.

The easier solution would have been to get US Shale producers to come on board with cutting oil production in a bid to sustain prices together. But US shale producers are fragmented and US laws forbid them from forming such a cartel in a bit to manipulate prices.

Clearly, the outlook for the oil industry has changed fundamentally. Not even the spat between Saudi Arabia, its allies and Qatar moved prices upward. The terrorist attacks in Iran on 6 June did not also  move prices upward and several missiles fired from North Korea has had no impact on crude oil prices.  This could be an indication that consumers believe they have enough crude oil stored  for emergencies or that the world is no longer that dependent on crude oil as their main energy source. If this is the case, then it is time Nigeria and its OPEC and non-OPEC members start thinking of the value of the oil assets in their backyard.

Many analysts have already predicted that we may have seen the last days of high crude oil prices. And now that US$50 per barrel crude oil is no longer even guaranteed, it is time that Nigeria and its export partners start putting on their thinking cap. Many parts of the developed world are finding alternatives to fossil fuels. Clear alternatives are emerging fast with the cost of solar energy dropping very fast. It would be fool hardy for us to keep hoping that demand and price for crude oil would rebound someday. All indications are that the days of high oil prices are behind us.

While, it is good that Nigeria has been able to reclaim its production figures but the increased production, sadly, may not help with prices. This leaves Nigeria two equally undesirable options, to produce low volumes and see higher prices or to do the opposite. Sadly, we cannot have both for now.

 

Anthony Osae-Brown