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Oil’s minnows set sights on Mongolian exploration

There is little petroleum data available for Mongolia, but there is a potentially big upside for adventurous companies willing to take a risk

MONGOLIA is fast emerging as a frontier play for bold, junior explorers seeking lucrative rewards. Rich in resources, the landlocked country – of less than 3 million people and GDP of just $7 billion – has become a hotspot for global miners. And it seems the nation is ripe for oil exploration, too.

Positive geological and geophysical data; reported oil seeps throughout the nation’s sedimentary basins, as well as recent oil discoveries; and the geologic similarity of Mongolia’s hydrocarbon basins to producing basins in neighbouring China, offer explorers a rare opportunity to find significant reserves. US consultancy Gustavson Associates claims there is a high probability of finding substantial resources.

But, for now, the country’s potential remains almost unknown. A lack of exploration data makes it impossible to accurately estimate the recoverable reserves. Some US experts estimate between 4 billion and 6 billion barrels of recoverable oil. But good quality seismic acquisition and geological analysis is needed to better evaluate the prospects.

Geology key to future riches

Mongolia has two key geological provinces and, significantly, their rift systems are similar to the neighbouring Chinese northwestern and northeastern basins – home to much of that country’s oil production. Oilfields such as Daqing – China’s biggest, which has produced more than 10 billion barrels since 1960; as well as Erlian, Shendenkou and Karamay, which have been heavily explored since the 1980s – all lie nearby.

More than 20 oil and gas discoveries have been announced by the Chinese government in these regions – with reported oil reserves ranging from 30 million to 800 million barrels. Petroleum Authority of Mongolia (Pam) says geological fieldworks reveal many similarities between China’s Ershan and Hailar basins, and eastern Mongolia’s Tamtsag and East Gobi basins. Pam estimates the country’s established oil reserves at 870 million barrels.

The Erlian basin’s Aershan field complex is reported by state-owned China National Petroleum Corporation as having identical geology, reservoir and fluid characteristics as the Zuunbayan and Tsagaan fields – Mongolia’s only producing assets to date. In the east, the Chinese Hailar basin – covering 40,000 square km with an average sediment thickness of more than 6,000 metres – is a continuation of Mongolia’s Tamtsag basin. Samples from Zuunbayan and Tsagaan, as well as the Tamtsag basin, show oil from East Gobi is similar to Chinese crude from the Erlian and Hailar basins – waxy, with a high pour point.

Pam and an increasing number of explorers believe these similarities signal that Mongolia has the necessary geological conditions critical to the formation of oil. The biggest potential lies in the Upper Jurassic to Lower Cretaceous sediments and within this interval sits a significant thickness of lacustrine shale, or coal with source-rock potential that’s inter-bedded with sandstone as possible reservoirs.

Pam is keen to point out that recent exploration activity in the East Gobi and Tamtsag basins has considerably reduced the risk in these prospects. And there are plenty of opportunities for adventurous foreign oil companies willing to explore this new frontier.

Peter Cockcroft, an oil-industry veteran and chairman of Australian coal-bed methane (CBM) player Blue Energy, has been reviewing Mongolia’s prospectivity and commerciality. He expects the hydrocarbon plays to be relatively small, because of the shallow nature of the basins.

But, he said, the fiscal terms on offer are competitive and there is some upside, as very little regional exploration has been conducted and there are many undrilled basins. And the absence of the majors, explained in part by the small domestic market and marginal nature of the play, make it an attractive prospect for smaller companies. Indeed, Mongolia is attracting a lot of risk capital.

Increasing foreign interest in the petroleum sector has been fuelled by recent oil discoveries and landmark foreign-investment agreements signed with international miners, such as Rio Tinto. Interest has also been stimulated by discoveries in northeastern China, along the border with Mongolia, and finds by Sinopec and PetroChina in eastern Mongolia.

In August, Pam launched its third international licensing round for petroleum exploration. On offer are blocks 1, 2, 25, 27 and 28, covering more than 103,000 square km. Pam has received two applications for blocks 27 and 28, with the closing date for these two licences set on 28 October. No deadline has yet been set for the remaining three blocks.

To date, 35 potential blocks covering more than 600,000 square km have been selected for petroleum exploration. Pam has finalised 18 production-sharing contracts (PSCs), with six more PSCs under review. Joint petroleum geological-survey agreements have been concluded on the remaining blocks.

Unconventional interest

Lately, Pam said, there has been increasing interest, particularly from Western companies, in exploring Mongolia’s potential unconventional resources. There are no specific bidding rounds for shale or CBM, but interested explorers can send requests directly to the agency.

Last year, South Korea’s state-owned Kogas signed an agreement with Mongolia covering joint research and exploration to develop CBM resources. At the time, Kogas said that the country’s total coal reserves base was estimated at 150 billion tonnes – equivalent to 66 billion to 108 billion cubic metres (cm) of gas: with sub-bituminous coal and lignite spreading across the eastern areas and bituminous coal embedded in the central and western parts of the country. Again, little exploration work has been carried out to firm up these figures.

Cockcroft is bullish on Mongolia’s little-explored CBM prospects, but less so on its shale-gas opportunities. There is some potential in the Permian coals, he said, but noted that the downside is that, structurally, they are very complex.

Until now, only two firms have carried out unconventional exploration. But, positively, the country has become one of the world’s top mining frontiers, based on copper and coal reserves close to the border with China. Between 2004 and 2005, Storm Cat Energy drilled about 15 CBM wells in the South Gobi basin – an important mining area – but the US firm pulled out shortly after. More recently, Kogas has drilled at least three unsuccessful CBM wells.

E&P today

Between 1993 and 2010, more than $1.5 billion was spent on exploration, including seismic shoots covering hundreds of thousands of km and more than 800 wells drilled. Initial petroleum production started up in 1998 through appraisal development and by April 2011, 8.12 million barrels of oil had been produced, of which 7.88 million barrels was exported to China.

Explorers and producers such as the UK’s Soco International, Roc Oil of Australia, as well as China’s Dongsheng and PetroChina, explored from the mid 1990s. PetroChina offshoot Daqing Oilfield took over blocks 19, 21 and 22, in the Tamtsag area, from Soco in 2005. It has since started oil production, with volumes trucked to China for refining in Inner Mongolia. Meanwhile, Sinopec took over Roc’s assets. Production is sourced from two areas: the majority from Block 19, in the Tamtsag basin; and smaller volumes from the Zuunbayan area, in the southeast Gobi Desert.

Australia-listed BKM Management has its sights set on Mongolia’s potential. It is keen to acquire SMG Oil & Gas, a Mongolia-based firm licensed to explore in the western Baitag region, next to China’s oil-rich Xinjiang state.

SMG holds a contract for oil exploration and geological survey in Baitag’s Block 30. The survey was initially due for completion in June 2011, but SMG has secured a one-year extension. Once complete, SMG will have exclusive rights for a PSC. Block 30 covers 14,737 square km and lies next to three large, oil-producing basins in China: Junggar, Kup and Santanghu.

BKM expects large Chinese refineries in nearby Urumqi, Karamay and Dushanzi to form natural markets for oil produced in Baitag. And the oil pipeline from Kazakhstan to northwest China also runs through the region, providing additional marketing potential.

BKM says the planned take-over would offer access to greenfield production in a relatively untapped, but potentially rich, hydrocarbon basin at a relatively low cost, with good upside. The proximity of China’s vast market increases the attraction.

Switzerland-based Manas Petroleum, through its offshoot, DWG Petroleum, has rights to Blocks 13 and 14 on Mongolia’s southern border in the East Gobi basin, covering an area of around 20,000 square km. Its primary exploration targets are expected to be sandstone reservoirs lying between 425 metres and 2,500 metres below the surface. Production from similar reservoirs has been established with the Zuunbayan and Tsagaan-Els fields.

A report by Gustavson Associates estimates the likely prospective oil resource, if present, in both blocks at 341 million barrels. If commercial oil was discovered, it could be trucked to a rail terminal near the Zuunbayan oilfield.

DWG is shooting its second 2-D seismic curvey, covering 10 prospective areas over both blocks. The company expects to spud its first well in the second quarter of next year.

London-listed Petro Matad is the parent of a group focused on exploration, as well as future development and production in Mongolia. The group, which holds three PSCs, is the first substantially Mongolian-owned company to list on an international stock exchange. Block 20 covers 10,340 square km and lies in the far eastern part of the country; the two other blocks, 4 and 5, sit in central Mongolia and together cover 50,150 square km. Petro Matad is drilling at its Davsan Tolgoi project on Block 20 and is confident that persistent exploration, including a significant amount of drilling, will lead to commercial production.

Meanwhile, Canadian independent Ivanhoe Energy, though subsidiary Sunwing Energy, is exploring the east-central Nyalga basin. The company has rights to Block 15, a 12,679 square km area that includes Nyalga and holds four significant sub-basins. The permit lies next to the north-south Trans-Mongolian railway, linking networks and markets in Russia and China.

Sunwing is drilling its second well on the permit and has an option to drill up to three more in this initial phase. Exploration to date has established that the Nyalga basin has many of the characteristics of interior rift basins that produce light oil in Mongolia, east and south of Nyalga, and in northern China.

It’s very early days for Mongolia’s petroleum industry. And certainly much more data is required to identify specific prospects, as well as the potential size of any hydrocarbon resources, but the sector offers plenty of upside for adventurous explorers with risk capital at their disposal. The challenge will be finding a market for discoveries, but neighbouring Russia, increasing domestic demand and, of course, energy hungry China present huge opportunities.

Mongolia’s exploration history

Petroleum exploration has been intrinsically linked to Mongolia’s political history. Exploration began with the discovery of oil shale by US geologists in the 1920s, in the Gobi region. In 1931, the presence of oil was confirmed; and in 1940, the Zuunbayan oilfield was discovered in the East Gobi region.

Between 1947 and 1963, two more small oilfields and 80 buried structures with possible oil potential were found during Soviet exploration in the southern, southeastern and eastern parts of the country.

Meanwhile, a small oil refinery was built in Zuunbayan in 1950. Between 1950 and 1969, about 4 million barrels of oil were produced from the Zuunbayan oilfield and 7 million barrels, including lighter oil imported from Russia, were processed at the refinery – supplying more than 20% of Mongolia’s fuel and lubricants demand during the period. But in 1969, operations ceased because of well pressure decline; a fire that destroyed the refinery; and discoveries of huge oilfields in Russia’s western Siberia.

Following the breakup of the Soviet Union, in 1989, Mongolia pursued democracy and an open-market economy, and, after a 30-year hiatus, the petroleum industry reopened for business.

Exploration studies and reports from the early 1990s, by Western companies such as Phillips and BP, confirmed earlier Mongolian and Russian work. And a modern Petroleum Law, following international standards, was put in place in 1991 to encourage exploration. In 2007, Sinopec resumed commercial oil production in Mongolia for the first time since 1969.

New refineries to ease fuel shortages

Since 2000, the volume of petroleum products imported into Mongolia has been climbing by around 10% a year, according to Petroleum Authority of Mongolia (Pam). And with the rapid development of the nation’s mineral resources and industrial sectors, the demand for refined products looks set to rise further.

The country, which imports almost all of its refined oil products requirement, and frequently faces chronic fuel shortages, has started building a refinery in an effort to meet domestic demand and reduce import dependence on neighbouring Russia. Mongolia’s domestic oil consumption is less than 1 million tonnes a year (t/y) – or 20,000 barrels a day (b/d). By 2015, Pam forecasts demand will nearly double to 1.5 million t/y.

Development of domestic natural resources, such as coal, copper and uranium has progressed rapidly in recent years, but the country is still heavily dependent on diesel fuel, gasoline, jet fuel and other products imports from Russia.

Since April, however, imports have been curtailed by soaring domestic Russian demand. Some regional observers claim fuel supplies have been compromised by Russian attempts to exert influence over the country’s expanding economy – which needs reliable fuel supply to deliver natural resources to buyers.

In an attempt to alleviate the nation’s reliance on Russian fuel imports and meet rising demand, the government will build three refineries by 2015. The biggest will be in Darkan, about 200 km north of the capital Ulan Bator.

Japanese companies Marubeni and Toyo Engineering will manage engineering, procurement, construction, maintenance and operation. The refinery will have a capacity of 44,000 b/d, producing 1 million t/y of gasoil, 630,000 t/y of gasoline and 60,000 t/y of jet fuel, says Marubeni. The $600 million plant is set to begin operations in autumn 2014, running Russian and Kazakhstani crudes.

Two other smaller refineries will be built in regional centres, with a 2,400 b/d plant in southeastern Dornod province and a 6,000 b/d facility at Zuunbayan, in Dornogobi province.

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