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Troubled times for Algeria's Sonatrach oil firm

Poor fiscal terms, scandals and political insecurity are undermining Algeria's upstream and the hopes of its state oil firm

Algeria, historically an oil and gas powerhouse, is in trouble. Unattractive financial terms, the taint of recent corruption allegations within the state-controlled firm Sonatrach and security concerns are all pushing foreign investors away.

Algeria is the largest natural gas producer in Africa and the third largest oil producer on the continent. For four decades, Sonatrach, founded in 1963, has been a key energy supplier to Europe. But now the company's position is being threatened by Algeria's ailing oil and gas production, rising domestic consumption and a lack of investment in its upstream sector. Sonatrach owns around 80% of the country's producing assets, but a number of (IOCs), including BP, Repsol, Total, OMV and Statoil, also operate in the country.

Reserves

Almost all of the company's reserves are located in the eastern Sahara, 70% of which are concentrated within the two major fields, Hassi Messaoud (oil) and Hassi Ra'mel (gas). But these fields are fading. Over the past six years, Algeria's oil production has been in steady decline. Last year output fell by around 1%, according to Cedigaz figures, to 1.7 million barrels a day (b/d). In 2007, the country produced almost 2m b/d.

Meanwhile, domestic oil demand has been rising. Last year, Algeria consumed 367,000 b/d, an increase of more than 20% in the past six years. Gas production has been suffering too. Output fell 2% last year, to 81.5bn cubic metres (cm), down from a peak of 88.2bn cm in 2005.

As with oil consumption, domestic gas consumption is also rising quickly. Last year alone it increased by 11% to 30.9bn cm. This is up from 20.2bn cm in 2002.

The decline in energy production is a problem for a country so heavily reliant on energy-sector revenue. Oil and gas made up 98% of Algeria's export revenue and around 80% of the country's total income.

By 2010, Algeria's total budget revenue and grants had fallen to 4.4 trillion dinars ($553bn), according to the International Monetary Fund. This was down from 5.2 trillion dinars in 2008. It's one reason Algeria, which needs an oil price well above $100/b to keep its budget in the black, has emerged in recent years as one of Opec's most hawkish members, repeatedly calling for the group to cut output to defend high prices. Lower gas demand in Europe has also affected export volumes.

Since the eurozone economic crisis took hold in 2008, Europe's gas demand has plummeted.

Last year the EU consumed around 434bn cm - a full 61bn cm beneath the peak of 2005. The IEA does not expect demand in the EU to rise back above 2010 levels until 2020. As around 95% of Algeria's pipeline gas exports go to Europe, this can only add to the country's financial pressures.

A lack of new oil and gas discoveries and natural field declines are partly to blame for the fall in production. However, analysts believe the country's less-than-attractive fiscal regime is failing to attract badly needed foreign investment to the sector.

A new hydrocarbons law, adopted in 2005, failed to stimulate investment in exploration. Under the terms of the new law, Sonatrach was granted a minimum equity stake of 51% in any hydrocarbon project, and a windfall profits tax was introduced for IOCs. Just two out of 10 oil and gas blocks on offer were awarded in the country's last licensing round in March 2011. "All the low hanging fruit is gone. The fiscal regime needs to reflect these challenges," Bill Farren-Price, chief executive of Petroleum Policy Intelligence, an energy consultancy, told Petroleum Economist.

Security has also become an increasing concern for IOCs since the terrorist attack on the In Amenas gas facility in January. The need for heightened security in operating areas will increase operating costs for producers.

Sonatrach remains tainted by the scandal of 2010 which lead to its then president and chief executive, Mohamed Meziane, jailed for corruption. Several other senior Sonatrach officials and the former energy minister, Chakib Khelil, were accused of awarding lucrative oil contracts in exchange for bribes. "The other problem is changes at the top of Sonatrach and at the ministry of energy," Farren-Price said. "The result has been piecemeal measures aimed at tweaking the existing format to make it more attractive but they haven't listened enough to feedback from their international partners."

Corruption

Fresh allegations of corruption are not helping. Italian authorities are investigating claims that officials at Italy's Eni paid bribes to Sonatrach officials in exchange for contracts for its services subsidiary Saipem. Khelil, against whom the Algerian authorities have issued an international arrest warrant, denies the allegations against him. 

In January 2013, shortly after the terrorist attack in the south, Algeria's parliament approved amendments to the hydrocarbon law, offering new tax breaks. This was aimed at encouraging foreign partners to explore new territories, such as the Mediterranean offshore and shale gas prospects, to boost reserves. Analysts said the move was too little, too late.

Nonetheless, the country's upstream retains its geological promise. According to the US Energy Information Administration (EIA) around 66% of Algerian territory remains unexplored. Algeria could have vast unconventional reserves, too. According to an EIA study  released in June, the country could have technically recoverable shale-gas reserves of 20 trillion cm - the third largest in the world. Whether these can be produced will depend on Algeria's success in convincing IOCs that entering the country's play is no longer fraught with risks. 

Table 1: Sonatrach by the numbers
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