Sarawak’s upstream dream [NGW Magazine]

Malaysia’s Sarawak State is firming up its oil and gas development plans as negotiations with the central government over the devolution of the state’s upstream authority near their end.

The government in Kuching has said it wants sole authority over Sarawak’s onshore upstream as well as an equity stake in the state’s offshore fields. It has also said it will launch a new business-friendly regulatory environment for onshore projects, while also calling for a greater say in future offshore auctions managed by state-owned Petronas.

Sarawak has been pursuing greater control over its natural resources for a number of years, arguing that the state does not receive enough from Petronas despite delivering the bulk of the country’s gas production and a significant share of oil output.

Sarawak’s deputy justice minister Sharifah Hasidah Sayeed Aman Ghazali said in February that the state had accounted for 60-65% of the nation’s gas output in 2005-2015 as well as 30% of its oil production. It is home to the country’s liquefaction facilities that were built and operated originally in a joint venture between Anglo-Dutch major Shell and state Petronas. Output over the nine trains totals 25mn metric tons/year. It is also home to Shell’s Bintulu gas-to-liquids plant.

Auction block

Sarawak deputy chief minister Amar Awang Tengah Ali Hasan told the state assembly on November 13 that Kuching was in talks with both Kuala Lumpur and Petronas over the future of the state’s oil and gas resources. “The state government is fully committed to taking control of the exploration and mining of oil and gas within the territorial boundaries of the state,” Hasan said.

His announcement came just two weeks after Sarawak chief minister Abang Johari Openg revealed that his administration had allocated two onshore blocks – SK433 and SK334 – to Petroleum Sarawak (Petros) so that it could oversee their development.

“The state government, through Petros, will have control of, and legal titles to, all the oil and natural gas produced from the onshore areas and select and appoint contractors or enter into ventures with investors to explore and produce oil and gas from onshore Sarawak,” Openg said at the time.

The two onshore blocks serve as the starting point for this transition in power, with Petros announcing that it wanted to hold an auction in the very near future with awards to be finalised before the end of March 2021.

Petros’ executive vice president of upstream, James Foo, said at an industry event at the start of November that the company was focused not just on taking over the state’s onshore licences but also on building a successful upstream business.

The company intends to split SK433 into two development contracts – covering the Adong Kecil West and Engkabang West marginal discoveries – and one exploration licence. SK334 will be offered under a single exploration contract, with an option to transition to a production-sharing contract (PSC) if a commercial discovery is made.

Energy consultancy Rystad Energy’s vice-president of upstream research, Eugene Chiam, told NGW that the blocks had been chosen for the first auction because of their petroleum systems.

SK433 lies in a proven petroleum system that contains the Adong Kecil West discovery, made by Japan’s JX Nippon in 2012. Current data for SK334 points to the block having a similar system to that of discoveries made in neighbouring Brunei. He said: “Since these two blocks are within ‘known’ petroleum discoveries and systems, it makes sense that they would be among the first few to be offered.”

Kuching has claimed that regaining control of the state’s oil and gas wealth will be key to developing a high-income economy. The state government has projected that Sarawak needs to expand its GDP to grow by least 6%/yr if it is to become a developed economy by 2030. However, turning two blocks into a thriving upstream industry that fuels economic development is no easy thing, and one made harder when starting with inferior acreages.

Onshore challenges

Both Petros’ CEO, Sauu Kakok, and Foo have been cautious about the onshore Sarawak Basin’s potential, employing terms such as “challenging” and “mature” as they temper expectations.

“Overall, we consider the Sarawak basin to be fairly mature, and the three big matured basins which have generated a lot of production today are Central Luconia, Baram Delta and Balingan offshore Bintulu – these are very mature to the extent that additional discoveries in those areas may be limited,” Kakok said at the start of December.

Chiam, meanwhile, noted that development challenges could include gaining access to land for exploration work, land acquisition and clearing hurdles and demanding terrain conditions. Despite previous exploration efforts, Sarawak’s onshore has failed to deliver oil and gas discoveries attractive enough to lure in major developers.

The Rystad analyst said: “The success of the block award will be critical for Petros, as it is the company’s first award since its formation. Unfortunately, in the current macro market it is hard to see who will be interested in bidding, since exploration is always the riskier part of the business and has taken a back seat during the downturn.”

State-owned Petronas, for example, announced in May that it would slash its capital expenditure this year by 21% from its an initial estimate of ringgit 50 ($12.3)bn, while also trimming 12% from its operating expenditure. Moreover, Hong Leong Investment Bank warned in September that the national oil company could deepen cuts to as much as 30% if the current downturn failed to ease. Further complicating the picture is the fact that Sarawak is still to unveil details of its planned oil and gas regulatory framework.

Regulatory tightrope

The terms offered to bidders for SK334 and SK433 are likely to reflect those elsewhere in the Malaysian upstream, Chiam noted, broadly based on production and profit sharing with the royalty range near the 10% mark. What the future holds for new bid rounds, however, is far from clear.

While Openg has pledged to work with existing industry players to draw up business-friendly terms that will attract investment, the official has repeatedly locked horns with the Malaysian government over his calls for a royalty hike. Kuching has repeatedly called for its royalty share to increase from 5% to 20%, a proposal the central government has been reluctant to acquiesce to given that it would eat into its share of the pie.

It remains to be seen how much oil and gas revenue Kuching will be able to ringfence from each onshore oil and gas contract for its own use, and it could well be in a position to boost its take without alienating upstream developers in the process. Indeed, introducing business friendly legislation to attract investors, especially when exploration budgets are so constrained, only makes sense.

The state government already believes that oil and gas revenue is the key to its economic transformation and this belief may grow further still in the face of the global recession. But it will need to be prudent. Framing the regulatory system in such a way that the rewards and risks are fairly shared at both ends of the cycle and investors remain keen, is a complex one, as neighbouring Indonesia has discovered.