Saudi Arabia’s decade-long search for natural gas is ending with only two companies finding fields, and those drillers need higher prices to move forward. Royal Dutch Shell Plc (RDSA) and OAO Lukoil (LKOH) are nearing the end of well tests in the Empty Quarter desert. The future of any output hinges on talks with the government, which pays an official gas price of 75 cents per million British thermal units. In the U.S. gas costs about $3.70 per million Btu, while Japan pays at least $12 for imports. China and India are increasing state-set rates.
“The Saudis need to raise prices to encourage new developments,” Kamel al-Harami, an independent oil analyst based in Kuwait, said by telephone. “But they need at first to find enough non-associated gas,” or fields where the fuel exists separately from oil. The failure of Saudi Arabia’s gas ambitions would be felt around the world. The country needs the commodity to boost power generation, in turn freeing up more crude oil for export that otherwise would have been burned locally as Saudi energy use rises by 8 percent a year. A breakdown in talks may shut off foreigners’ last access to the nation’s hydrocarbon reserves. China and India’s decisions to boost gas prices to reflect consumption and spur exploration creates pressure for Saudi Arabia to follow suit as demand climbs and foreign oil companies quit the country. “The Saudis need to raise the price,” said Syed Rashid Husain, a local independent energy analyst based in Khobar. They “can’t afford to shut down the Empty Quarter gas projects. They need every source of gas they can put their hands on.” Saudi Arabia used less crude oil for power generation in January to April than a year earlier, according to a report from the International Energy Agency, which cited increased gas use.
To be profitable in Saudi Arabia, Shell and Moscow-based Lukoil need the government to pay more than the official price. An increase in prices may still not be sufficient to justify development, according to one of them. Lukoil’s venture with state-owned Saudi Arabian Oil Co. spent more than $500 million uncovering as much as 620 million barrels of oil equivalent in so-called tight gas at the Tukhman field, according to a statement. It also found gas condensate at the Mushayib deposit. Shell’s venture with the company known as Saudi Aramco found sour gas and condensates at Kidan and planned to invest about $2 billion, it said, without disclosing volumes. “If the result of negotiations is good, we are ready to start preparing for gas production at the Tukhman and Mushayib fields, and to build a gas pipeline from fields to gas-processing plants,” Lukoil said. The company formed a working group with Aramco last year to negotiate an increase in gas-purchase prices with the government, it said.
Saudi Arabia, the biggest oil exporter, began its hunt for gas in the early 2000s after crude fell below $10 a barrel and unemployment rose. It invited Exxon Mobil Corp. (XOM), Chevron Corp. (CVX) and others in the hope of attracting $100 billion of investment. Many pulled out following years of talks, and dry holes forced Total SA (FP), Eni SpA (ENI) and Repsol SA (REP) to exit ventures with Aramco. Shell and Lukoil are focusing on unconventional resources such as hard-to-reach tight gas and sour gas from the Rub’ al-Khali desert, or Empty Quarter. “Saudi Arabia was looking for gas there for many years and now most of the foreign companies left as they realize there’s no financial or strategic incentive,” analyst al-Harami said, echoing Aramco head Khalid Al-Falih, who said last year the low state gas price impedes development of unconventional deposits.
Regardless of a pricing accord with the government, Lukoil and The Hague-based Shell still plan to produce condensates, a form of liquid gas that can be sold as crude oil since it can be easily turned into gasoline. “Shell is committed to the kingdom and we are keen to grow our investments, both upstream and downstream,” the company said. Shell said it remains in talks with the Ministry of Petroleum and Mineral Resources and Aramco. The country, which has traditionally only pumped gas as a byproduct of crude, estimates it holds more than 600 trillion cubic feet of recoverable gas reserves in unconventional fields. That puts it behind China, the U.S., Argentina and Mexico, Baker Hughes Inc. estimates show. The Kidan deposit may hold as much as 8 trillion cubic feet, Middle East business magazine MEED reported last month. Its high sulfur content means development would require a treatment plant.
Unconventional gas generally costs more to extract than conventional fuel, according to Aramco. The company said in its annual report it’s investing in technologies to cut costs as gas “is an important strategic and economic choice.” Saudi Arabia, which doesn’t export or import gas, has long considered raising prices charged to petrochemical makers as demand growth outpaces supply. Manufacturers such as Saudi Basic Industries Corp. (SABIC), the largest petrochemical producer, have asked the government to postpone such a move to enable them to compete with U.S. rivals. Al Rajhi Capital, the investment arm of Saudi Arabia’s largest bank by market value, said in March that it expects the government to charge more for gas feedstock this year while maintaining subsidies for petrochemical companies in the “near term.” Scarcity of ethane gas is forcing many producers to switch to more expensive liquid feedstock, the bank said. “The low-price environment for natural gas is breeding inefficiency all over the system,” analyst Husain said, referring to the lack of incentive among petrochemical companies to make more valuable products as the gas they use is so cheap. Companies have operated a “very simple model of making very basic petrochemical products out of the cheap gas they get.”