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New-look YPF taking shape

Argentina’s ‘energy champion’ shrugs off Repsol’s threat of legal action and vows to push ahead with development of Vaca Muerta

A month after the Argentine government muscled aside Spain’s Repsol and took the reins of YPF, the company has outlined an ambitious new strategy that will see it invest nearly $40 billion by 2017 in a bid to revive the country’s ailing energy sector.

The nationalisation of YPF in May put Argentina’s energy sector firmly under the control of Cristina Fernandez de Kirchner’s government and turned the country’s largest oil and gas producer into a national champion for her energy policy.

At the centre of that policy is a plan to reverse the rapid decline in oil and gas production which has seen Argentina develop an increasingly costly dependence on imports. Last year, the dollar-starved country’s fuel import bill was nearly $10 billion, hitting the country’s balance of payments.

It is no surprise, then, that YPF’s new chief executive, Miguel Galuccio, has put the company’s short-term focus on pumping up output. This year YPF plans to invest around $3.5 billion to drill nearly 750 wells, compared to the previous plan of around 600 wells, and add 10 new rigs, Galuccio said in a presentation in Buenos Aires attended by Fernandez.

The company hopes a rapid increase in drilling will fend off further production declines and hold its oil and gas output steady this year at around 430,000 barrels of oil equivalent a day (boe/d).

Starting in 2013, though, the company plans to start in earnest a two-pronged strategy of improving recovery rates at mature fields while accelerating development and production from its unconventional resources. The company plans to add 20 rigs by 2013 and drill 1,000 wells that year, the most since the mid-1990s.

YPF says that increased investment in these areas will allow it to increase production by around 6% a year, with its oil and gas output projected to rise to nearly 600,000 boe/d by 2017. Galuccio said that on its current pace, YPF’s production would fall below 400,000 boe/d over the same period.

At best, YPF will be able to slow the production decline from its mature fields. The real hope for turning around production lays in the country’s tights shale formations, especially the Vaca Muerta formation, which spans a huge swath of the Patagonian province of Neuquén.

In a Ryder Scott report released before YPF nationalisation this year, the consultancy said a section of the firm’s position in the Vaca Muerta shale holds 22.8 billion barrels of oil equivalent (boe) of unconventional resources, making it one of the largest shale prospects discovered so far outside North America.

Next year, YPF will launch a pilot scheme for its “factory mode” strategy for developing Vaca Muerta. YPF will invest $1.36 billion in that pilot programme and hopes to produce a total of 68 million barrels of oil equivalent, most of which will be oil, from a relatively small area of the Vaca Muerta formation.

From there, YPF plans an aggressive expansion of its unconventional programme. From 2013 to 2017, YPF says it will invest around $12 billion to produce a total of around 550 million barrels of oil from about 400 square km of the Vaca Muerta formation. That is roughly equivalent to the company’s current proved reserves. YPF also plans to spend another $3.2 billion developing shale-gas resources over the period.

"We're going to change the future, building a new model through massive development of unconventional energy," Galuccio said.

Galuccio claimed that the company would be able to fund much of the plan through its own cash flow. But he acknowledged that YPF still needs foreign investors.

“We will need to seek strategic partners which have know-how in unconventional resources and strong investment capacity,” Galuccio said.

Most analysts see YPF’s ability to attract foreign investors as central to its ambitious programme.

The company will free up cash by stopping dividend payouts, which were around $1.3 billion last year. But this is only a fraction of the funds YPF will need to fund capital spending plans of around $7 billion a year.

The company’s funding challenge is compounded by rapidly rising costs. As its production has declined, YPF has been forced to increase its purchase of oil from international markets to maintain high utilisation rates at its refineries. The company has also been hit by the double-digit inflation and rising wages that have seen costs rise across the industry. YPF’s average production costs doubled from 2009 to 2011 on a boe basis.

Funds could come from the government, the company’s largest shareholder, or international equity or debt markets, though YPF is unlikely to find much help from these sources. The government is forced to keep a close hold on its dollar reserves and international investors have little confidence in YPF at this point.

The company, then, is going to need deep-pocketed international oil companies willing to make a long-term, multi-billion dollar commitment to working with YPF on its unconventional projects.

The lure of access to potentially huge deposits of shale resources may ultimately prove too much for companies to pass up, overcoming any wariness they may have about Argentina’s political landscape.

The industry’s interest in those resources is clear. Majors such as ExxonMobil, Chevron, Shell and Total have expanded their positions in the Vaca Muerta over the past two years. Earlier this year, eight suitors – all keen on joining Repsol at Vaca Muerta – pulled out of talks as the Argentine government’s campaign against the Spanish player intensified. When YPF was nationalisaed, Repsol announced it had just received a $15 billion offer for its Argentine business from China’s Sinopec.

But there are clear risks to working with YPF. Repsol has seen its share price take a hit over the past several months because of its stand-off with the Argentine government. Moreover, the same regulatory and price control issues that have slowed investment in Vaca Muerta are still in place.

Any company that enters into an agreement with YPF could also face legal action from Repsol, which has threatened to sue any companies that invest in the new YPF.

Potential partners, then, are likely to proceed cautiously with YPF.

But for YPF, the urgency in addressing Argentina’s worsening energy situation was brought home as an early winter cold snap this month forced another round of energy rationing that has plagued Argentine industry in recent years.

Galuccio, though, is optimistic: “[YPF will] change the energy paradigm and move Argentina from a country that depends on imports to grow, to a country that is able to exploit its hydrocarbon resources, that is abundant in primary energy and is a leader in the rejuvenation of mature fields and in the exploitation of resources unconventional.”

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