End of the Road for Cyprus ‘Gas Hub’ Dreams

Cyprus’ hopes of becoming a regional natural gas player are all but dead more than three years after the discovery of the 5 tcf Aphrodite field. The five blocks awarded in early 2013 have yielded nothing, with no further drilling planned before their February 2016 expiry.

Before arriving in Cyprus in January 2012, your correspondent did some reading up on the state of the economy. “Cyprus is hugely leveraged…[with a] formidable refinancing schedule,” the FT said. So he expected to find a sense of foreboding at the coming economic storm. Not a bit of it.

Instead he found a population high on gas. Aphrodite gas to be precise. A month earlier, on 28 December 2011, US firm Noble Energy had announced that it had struck gas with the first ever well drilled offshore Cyprus, on Block 12.

In something of a reversal of the normal procedure, the island’s politicians had already named the ‘field’ even before its discovery: Aphrodite.

How big was the field? 7 tcf was Noble’s estimate of recoverable reserves, but the island’s politicians and other supposed experts didn’t stop there: figures of 10, 15 or even 20 tcf were regularly bandied about. And of course the amount the island could hope to make was as simple as multiplying the reserve size by the international gas price: Cyprus was going to be the next Kuwait.

Fast forward three years and few are quite so bullish. A second well drilled on Aphrodite in June 2013, led to the mean recoverable reserves estimate being downgraded to 5 tcf. And the two exploration wells drilled since have both been flops.

These more recent wells were the result of a bid round launched in February 2012, at the height of ‘Aphrodite euphoria’: before this only one block, Noble’s Block 12, had been awarded. The 2012 round was a moderate success, with heavyweights Total and Eni (with Korean state firm Kogas) snapping up blocks – two and three respectively, a total of five out of the 12 on offer.

HIGH WATER MARK

In retrospect these awards, finalized in February 2013, marked the high point of Cyprus’ gas hopes. The plan was that Aphrodite, together with that other soon-to-be-found nearby fields would be tied back to a to-be-constructed LNG liquefaction plant at Vassilikos on the island’s south coast. Maybe a 1,500km pipeline to Greece could be thrown in for good measure.

And of course there would be plenty of gas left for the Cypriot domestic market, and, so the population was told, this would lead to a slashing of utility bills that are the highest in Europe.

REALITY CHECK

The first reality check for the island came the following month, in March 2013, when the island’s newly elected President, Nicos Anastasiades was forced to accept a €10bn bailout from the EU and IMF after his predecessor, communist President Demetris Christofias, had managed to delay seeking assistance for the country’s crumbling economy. Even a last-ditch trip by former Finance Minister Michalis Sarris to persuade Russia’s President Vladimir Putin to help out rather than accept money from the EU and IMF – as Mr Christofias had done with a €2.5bn loan at sub-market rates the previous year – failed to secure the required billions. Even Mr Putin knew a bad investment when he saw one and politely said ‘nyet’ to the prospect of accepting Cyprus’ supposed future gas output as collateral.

ENI DISAPPOINTMENTS

Cyprus’ latest drilling disappointment came when Italian firm Eni’s second exploratory well on Block 9 last month failed, as with the first drilled last year, to locate exploitable amounts of natural gas (MEES, 20 March). This appears to mark the end of the road for exploration offshore Cyprus – possibly for several years. The Italian firm operates Blocks 2, 3 and 9 with an 80% working interest while Kogas holds the remaining 20%.

No further drilling will take place before the February 2016 expiry of the initial three-year exploration period for the blocks awarded in 2012. MEES understands that if Eni seeks an extension then Nicosia will grant it, but “this is a big if,” says a source with knowledge of the situation. On Blocks 2 and 3 seismic has failed to turn up drillable targets.

Though Eni is contracted to drill four exploration wells across the three blocks under the terms of the January 2013 award,MEES understands that Nicosia has shown flexibility with both Eni and Total – the other key exploration player – in the hope of keeping both firms active in its offshore. Eni’s two unsuccessful wells have already cost some €300mn and the best the Italians have been able to offer Nicosia is that they plan to reconsider their modelling of Block 9 seismic in the hope of turning up more targets.

TOTAL ALL BUT OUT

Total is even closer to the exit. In February it relinquished Block 10 without drilling any wells and was only just persuaded by Nicosia not to quit the country.

Cyprus has absolved Total from its original two-well drilling commitment (across two adjacent blocks, Blocks 10 and 11, which lie on the maritime border with Egypt) on the condition that it continues to evaluate 3D seismic on Block 11 in an attempt to locate a possible target. But “unless they come up with something spectacular” the French firm will quit Cyprus when their initial exploration period expires in February, Charles Ellinas, former head of Cyprus’ state-run hydrocarbons company CNHC tells MEES.

If, as seems likely, Total and Eni both quit, then it’s back to square one for Cyprus in terms of exploration.

ONLY APHRODITE REMAINS

All of this means that in terms of Cyprus gas development the 5 tcf Aphrodite field is the only game in town. Any talk of a gas hub, or an onshore liquefaction plant, must be thrown out of the window – for a field of this size, 200km from Cyprus and separated from the island by a 2,500meter-deep trench, it simply isn’t economic. Cypriot gas discoveries for the foreseeable future will begin and end with Aphrodite: the country’s politicians will have to scale back their expectations.

The only economic options are either a floating LNG production facility (or possibly floating CNG) or else a pipeline to Egypt, where two existing LNG liquefaction plants lie idle. (Though Egypt is somewhat further away, the seabed topography is less challenging, and of course a new liquefaction plant is not needed.)

However even these two options have their problems – international LNG prices have fallen sharply in recent months, denting the economics of any new LNG development; whilst the Egypt option owes its relative attractiveness to the stasis in that country’s offshore gas development. There are undeveloped fields in the Egyptian Mediterranean of similar size and much closer to the coast than Aphrodite. If Cairo can sort out the investment conditions to facilitate their development – and it seems the government is well on the way to doing this – then the relative economics of piping Aphrodite gas to Egypt lose their sheen.

IT’S ALL ABOUT THE MONEY

In addition, it is clear that for Aphrodite operator Noble, in these cash-tight times, the field’s development is not its first priority. The firm devoted a mere three lines to Cyprus in its recently-released 152-page annual report, compared to several pages on neighboring Israel where it operates fields with total reserves of 40 tcf. And the main thing that Noble had to say about Aphrodite is that it is looking to farm down its 70% stake.

“There is also potential for a farm-out arrangement of our working interest,” Noble says. MEES understands that Noble is looking to divest 30% of Block 12 in order to reduce its exposure in light of the current low oil and gas prices.

Noble’s partner at both Aphrodite and its Israeli fields is Israel’s Delek Group. And Delek, which holds a 30% stake in Aphrodite, has had difficulties in raising the cash to finance its share of development costs for Israel’s 22 tcf Leviathan field – a priority ahead of Aphrodite for both firms. Noble says it has “supported the efforts of our Leviathan partners to obtain appropriate financing for their share of development costs, and we have sought other arrangements with experienced industry participants to ensure the required technical support for the execution of the (Leviathan) project.”

‘DEVELOPMENT PLAN’?

In some ‘good news,’ Noble says it will submit a development plan for Aphrodite in the second half of this year. However, in something of a Kafkaesque twist, this supposed development plan – or at least the version of it mentioned in Delek’s recently-released 2014 annual report – would not actually enable the field’s development.

The submission “will include a preliminary plan for the establishment of a FPSO (Floating Production Storage and Offloading Unit) with an estimated initial production capacity of approximately 800mn cfd,” Delek says. This sounds like the ‘Egypt option,’ but with one major catch: both Noble and Delek have made clear that they will not be paying for the pipeline needed to land the gas in Egypt, that is to say the most expensive part of development.

In another indication that this does not constitute a serious development plan, Delek also floats the option of a pipeline to Cyprus – if someone else will be paying for it then why not continue to indulge the fantasies of the island’s politicians? FPSO development will “enable the supply of natural gas to the local market in Cyprus as well as the export of natural gas via pipelines to other markets, including Egypt,” it says. So the “development plan” would get the gas to the surface of the sea, 200km from shore: if it’s going to go anywhere from there then someone else can pay for it.

ECONOMIC LIFELINE?

Nicosia was hoping that revenue from possible gas finds would help the country’s economy rebound swiftly after it was forced to accept a €10bn bailout package from the IMF and European institutions (collectively labelled ‘The Troika’) in March 2013. But, even if the government promptly jettisons its hopes of a larger project tying in yet-to-be-found or Israeli fields and prioritizes Aphrodite development, Nicosia-based financial expert and Director of Sapienta Economics, Fiona Mullen tells that any income from natural gas will most likely be after 2020.

CLOSER TO RECOVERY

Nicosia moved a step closer to exiting its bailout program when it this week lifted capital controls put in place in March 2013 to stem the outflow of bank deposits, after the Troika ordered the island’s second largest bank, Laiki, to be wound down while also imposing a one-time levy of 47.5% on all uninsured deposits of over €100,000 at the island’s largest lender, Bank of Cyprus.

“This sends the message that the Cyprus crisis is now behind us, although there are plenty of challenges ahead of course,” Ms Mullen says.

These challenges include passing a long-delayed foreclosure and insolvency bill and the privatization of state firms.

Ms Mullen said that despite these challenges, she is more worried about growth in the long term. “Cyprus has the lowest investment rate in the EU. It is only around 10%, more like a developing economy than a developed economy, compared with an EU average of 20%,” she says. She adds it is difficult to see where the growth will come from, “unless there is a lot of time and effort put in by both the private sector and the government into creating the foundations for new growth.”

Source: MEES (Lebanon Gas News, April 16, 2015)