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Algeria's Disappointing Gas-Plots Auction

Energy January 8, 2009, 11:25AM EST

Algeria's Disappointing Gas-Plots Auction

The North African country saw scant interest in a recent auction of gas rights, a sign of weaker investment appetite among energy majors

Algeria's recent auction of exploration acreage was a key test of the state of play in the oil and gas industry and, in particular, of investor confidence in this important North African energy producer. The bid round, concluded on Dec. 13, attracted little interest from the world's oil and gas companies. While some 80 companies were approved, only nine bids were eventually submitted. In the end, exploration licenses were awarded for just four of the 16 tracts originally on offer. Susan Mance, an analyst at Edinburgh consultants Wood Mackenzie, termed the results "a major disappointment." Analysts say that this and other setbacks could leave Algeria struggling to meet its energy industry growth targets in the coming years.

The failure of Algeria's effort to bring in more international investment shows how much the world of energy has changed in a few months. Algeria has been a country of great interest mainly because of its large deposits of natural gas—a fuel whose use is still growing—and its proximity just across the Mediterranean Sea to Western Europe. Algeria already supplies around 10% of Europe's gas needs and plans to increase its output by about one-third by 2012. Algeria has attracted major investment from companies such as Italy's ENI (E) and Britain's BP (BP), which are big players in European gas. And despite concerns over its own political stability, Algeria looks like a good alternative to Russia as a source of gas, given the current dispute with Ukraine that is now disrupting Russian supplies to Europe.

Out of Step But this time around, the companies for the most part weren't biting. Why not? Of course, the global economic downturn and collapse in oil prices played a role. But industry sources say the Algerians also shot themselves in the foot by failing to adjust to new market realities.

For starters, the acreage on offer wasn't very attractive. The Algerian government withdrew the most interesting block, which was located in the gas-rich Ahnet basin, after potential bidders balked at the requirement that the winner would have to grant access to a foreign upstream asset to Sonatrach, the Algerian national oil and gas company. One source says that the arrangement was "just too complicated."

The economic terms also weren't appealing in the view of some of the participants. Wood Mackenzie figures that on a large, hypothetical, 350 million-barrel field, a winning bidder would earn profits of less than 10% under the regime being offered. The disappointing result, Mance says, "shows [the Algerians'] continuing lack of appreciation of the international oil companies' frustration with unattractive Algerian fiscal terms." According to Mance, Algeria's "concession terms are among the most challenging fiscal regimes for international oil companies."

Khelil Isn't Fazed While some major players including ENI, Britain's BG Group (BG.L), Russia's Gazprom (GAZP.RTS), and Ruhrgas, a unit of German utility E.ON (EONGn.DE), did make commitments to drill some 20 wells, "this will do little to improve the depressed rate of exploration activity in recent years," Wood Mackenzie says. Mance adds that the failure to find a partner for the Ahnet basin was a particularly hard blow because its fields "underpin Sonatrach's future development plans for the gas reserves in the southwest of the country and are a key component of the country's long-term energy strategy." Industry sources say that several of Algeria's major projects are running behind schedule partly because of lack of international help.

In a telephone interview, Algeria Energy Minister Chakib Khelil said he was not concerned by the poor outcome of the auction. "It is not a big disappointment as far as we are concerned," he said. "With conditions in the market [as they are], you would expect this kind of result." Khelil indicated that Algeria doesn't plan to rethink its approach. "We won't change anything," he said. "It is just a matter of waiting for prices to go back up." Khelil said he expected oil prices—to which the price of gas is pegged—to be back in the range of $70 to $80 a barrel in the next couple of years. He also expressed confidence that Algeria would have sufficient gas supplies for exports.

But privately, industry sources say the Algerians are worried by the poor results and are soliciting feedback from the international companies about why they shied away. With good reason: While Sonatrach is rated a technically capable organization, in the view of people in the industry, Algeria is going to struggle to meet its targets for export volumes unless it brings in more foreign help. "A lot of the gas is in difficult reservoirs that are going to require a lot of investment and specific technical expertise," says Ben Cahill, an analyst at Washington consultant PFC Energy. "They have to be somewhat concerned."

Reed is London bureau chief for BusinessWeek.

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