Shale Gas in CEE: Building a New Industry

The time is right.

Now’s the time for North American E&Ps to invest in shale gas in Central & Eastern Europe (CEE): lacking the capital and technology, several CEE countries are looking for partners to explore and develop their potential shale gas resources, according to Steve Butler, Director of KPMG’s Energy & Utilities Advisory practice in Central and Eastern Europe.

For many countries in the CEE region, domestic production of shale gas is a priority, largely because countries are highly dependent on foreign imports.

“The primary driver behind many countries’ interest in shale gas is energy security,” said Butler. “In nearly all of the countries where there is already significant natural gas consumption, independence from Russian imports, in particular, is an important factor.”

“For their part, North American investors are increasingly considering Central & Eastern Europe as a potential market where they can replicate some of their success back home,” he explained. “Although production costs may be higher in the CEE region, natural gas prices are expected to remain firmer in Europe, as compared to those in North America.”

Those are a couple of the valuable insights available in a new, free publication from KPMG entitled Central and Eastern European Shale Gas Outlook, an in-depth overview of the region’s nascent unconventional gas markets that provides an objective assessment of the potential advantages and challenges of investing in the shale gas sector in CEE.

KPMG’s Steve Butler explains, “Our report doesn’t simply emphasize the opportunity in the region, as we also look at some of the challenges facing shale gas development in the CEE, such as the higher cost of production, or issues related to public acceptance”.

“It’s a complex picture in the region, which we realize may be unknown territory for North American investors, who may not be familiar with the individual countries or sub-regions. As a result, our report takes a look at some of those differences.”

He added, “the report also highlights a handful of countries in the region with good potential for shale gas, as most North American players are currently focusing on Poland.”

The KPMG study categorizes CEE countries as “leading,” “secondary” or “potential” shale gas markets, placing three countries in each of the first two categories. In the top tier are Poland, Romania and Ukraine.

Following Ukraine’s disputes with Russia in 2006 and 2009, and due to the fact that new gas transit projects like Nord Stream and South Stream are intended to cut the country out of the loop for Russian gas deliveries to Europe, Ukraine has been categorized as a “leading” market, in light of its strong motivation to develop its shale gas potential.

Indeed, Ukraine has been eager to do just that. Mr. Butler noted that the Government has just signed production sharing agreements (PSAs) with Chevron and Italy’s Eni, which has recently signed a deal that furthers its commitment to exploration in Ukraine.

“Ukraine has the largest estimated shale gas reserves in the CEE region,” he explained, “as well as the largest domestic gas consumption, so it’s a market with immense potential. On the other hand, the country remains a challenging investment environment for many foreign investors. When considering these risks, it loses some advantages in comparison with other potential shale countries. It doesn’t matter how big your market is, if there’s an elevated level of uncertainty, then fewer investors are willing to take the risk of entering the market – a perception that Ukraine would need to address going forward.”

Another top-tier country, Romania, with its developed hydrocarbons exploration sector, could have an easier time pursuing shale gas, due to its existing infrastructure and trained manpower, as compared to others in the region that have little or no history of hydrocarbons production.

“With an existing oil field services sector, it takes less money and time to develop domestic expertise, as opposed to starting from scratch,” he remarked. “For our top three candidate countries this is a very important driver, which should help shorten the time from exploration to production.”

In the near term, however, Romania still needs to resolve whether it will go ahead with shale gas exploration, in light of the new government’s recently-announced moratorium, he said. The latest news from Romania indicates that the government plans to conduct further study, with a decision to be taken by the end of 2012, or in early 2013.

Possible exploration successes in Romania and Poland, or in other CEE countries, will need to be accompanied by best practices in environmental and safety standards, while production companies will have to engage the public and provide assurance through greater transparency, Butler noted.

“Although there are few shale gas-specific regulations in Europe, there are environmental standards for a number of processes that relate to hydraulic fracturing, such as waste water treatment, which are more stringent than those in North America. It is crucial for companies to follow these standards, while demonstrating to other stakeholders that their operations are being run according to best practices,” said Mr. Butler.

The next tier of “secondary” markets, according to KPMG’s CEE Shale Gas Outlook, is comprised of Lithuania, Bulgaria and Hungary.

“Lithuania is very keen on developing shale gas,” said Butler. “The development of its shale gas reserves is a key strategic priority set by the Government, which has thereby placed Lithuania at the forefront of these smaller, second tier markets.”

Bulgaria, meanwhile, has good potential but has recently introduced a hydraulic fracturing moratorium, while in Hungary, shale gas exploration is continuing in the south.

Government policy initiatives could help drive shale gas development in CEE.

“For most countries, shale gas has not yet been incorporated into their national energy strategies, as there is still a great deal of uncertainty with regard to the availability of the resource, as well as the commercial feasibility of its extraction.”

As a means of helping to reduce this uncertainty, the US government initiated the Global Shale Gas Initiative to promote shale gas development around the world: “The US is offering assistance to several countries in the CEE region – primarily through knowledge sharing and research, but also through the encouragement of investment by American companies – to develop their domestic shale gas resources.”

Poland, he said, was the first among the CEE countries to join the Global Shale Gas Initiative.

Another obstacle to shale gas development in the CEE region is the shortage of available exploration and drilling equipment. Butler noted that there are significantly fewer rigs in the CEE region, as compared to the US, which is a major infrastructure issue that needs to be taken into consideration.

In characterizing the kinds of investors that are likely to take part in the development of shale gas in CEE, Butler went on to say that there is an important role for North American companies to play, by bringing their technological expertise and investment dollars to the CEE region.

“What’s different from the North American experience is that there, it was usually the smaller, independent companies that initiated the drive for shale gas exploration. In the CEE region, national energy companies and regional players are keen to develop the sector. To the extent that international majors or independents from North America can contribute to the further development of shale gas in the region, then there are plenty of opportunities for partnerships and other forms of collaboration,” added Butler.

Get your free copy of KPMG’s Central and Eastern European Shale Gas Outlook.