By Daniela Quirós & Borges Nhamire
The promise of transformative wealth from natural gas has seduced Mozambicans for more than a decade. But as the projects led by TotalEnergies and Eni have started construction, revenues to the country look likely to fall significantly short of expectations.
A new independent financial analysis, carried out by Berlin-based Open Oil and exclusively provided to Zitamar News, challenges the financial projections published by the government and the consortia operating the two LNG projects currently in development: Mozambique LNG (Area 1) and Coral FLNG (Area 4). Both projects are selling LNG under contracts that link the gas price to the global oil price.
The analysis, made using publicly available data, arrives at an unsettling conclusion: if oil prices remain at current annual average levels of around $66/bbl in real terms, revenues from the project will be little more than half of the $49.4bn projected by the government in 2018 — dashing hopes for a gas-led economic transformation for Mozambique.
Even allowing for an increase with inflation to $113.27 in 2050, at the rate of inflation assumed by Mozambique’s petroleum regulator, the Instituto Nacional de Petroleo (INP), Mozambique will only make $27.6bn over the life of the projects — not enough to pay back its external debt, which currently stands at $14bn. The risks of falling oil and gas demand due to a global transition away from fossil fuels, coupled with ongoing insecurity in Cabo Delgado province, mean Mozambique’s enormous gas reserves risk becoming a stranded asset.
In June 2018, the INP published its estimates for government revenues for the project, assuming an oil price of $70/bbl. It estimated the entire government take from the two projects — which includes all bonuses, corporate income tax, royalties, profit petroleum, and the participation of the national oil company, ENH — would reach $49.4bn by 2048.
INP has told Zitamar that since 2018 it has increased its assumption of expected government revenues over the life of the projects by $5bn, of which $4.5bn would be revenue to ENH. No explanation was provided on how INP calculated this, and INP has not publicly shared this new revenue forecast.
Open Oil’s analysis challenges those assumptions, however. In Open Oil’s “base case” scenario — the scenario which the organisation considers most likely to happen — it expects revenues to be $18.4bn over the life of the two projects, $13bn less than INP has assumed in its own downside scenario, and a level at which the projects would not break even. This scenario factors in a two-year delay to the start of the Mozambique LNG project, with gas production declining after 2040 and ending early in 2047, as gas demand declines in response to the energy transition. The scenario assumes an oil price of $66/bbl, the oil price at the time the study was completed, and the price assumed in INP’s “downside” scenario.
Under Open Oil’s “alternative scenario”, which follows similar production and cost assumptions to the 2018 INP study, but factors in a two-year delay to production start-up, Open Oil analysis forecasts the country’s revenues will reach $27.6bn over the life of the two projects, due mostly to the project delays and the drop in oil prices as a result of the approaching energy transition. This is still almost $4 billion lower than INP predicts under its own downside scenario.
Since Open Oil’s study was completed oil prices have risen to $75/bbl. However, the Energy Information Administration (EIA) suggests that such an increase may be short-lived and that prices will fall back as more production returns to the market.
Back loaded revenues
Not only are revenues likely to be almost half INP’s initial estimates, the government will also not receive most of the money until 20 years from now.
“The economics of the project back load significant government revenues into the 2030s. This is not uncommon, especially in frontier provinces like Mozambique, but it makes government returns from the project even more vulnerable,” says Johnny West, director of OpenOil.
Those revenues are so far into the future, that in today’s money, and risk-adjusted, they would be the equivalent of just $4.2bn — significantly less than Mozambique’s current external debt, which stands at more than $14bn.
During the first twenty years, the government will get only $7.2bn from both projects combined. Those funds will mostly come from two sources: royalties, and profit petroleum, which is the share of gas production that will be allocated to the country.
The relatively small take in the early years can be explained by several factors. The first is the cost recovery mechanism, which allows companies to recover their massive upfront investment costs by deducting them from the taxable income (which is defined by subtracting the expenses and other deductions to the total amount of revenues).
In other words, all the exploration and development costs incurred in the past and the operating costs incurred in the present year will be deducted from the company’s annual revenue generated annually, decreasing the taxable income base from which the government can charge corporate income tax. Until those costs are recovered, the flow of revenues will be limited.
The large costs of investments in building liquefaction plants and the generous cost recovery system — which even allows interest on loans as a recoverable cost — will mean the government will only start receiving substantial revenue from the corporate income tax (CIT) in 2040 for the Mozambique LNG project and in 2044 for Coral FLNG.
In addition, the project costs will increase as the cost of securing the project increases. The armed insurgency in Cabo Delgado has not only caused a wave of displacements in the region but also has pushed Total to call “force majeure” on the project. No date has been given for when Total will return to the site, but it will be at least a year. These delays will increase the costs of the project — including for security, which is also likely to be recoverable against the projects’ tax bills.
By the time of publication and despite numerous requests for comment, both the government and the companies had failed to comment on Open Oil’s findings, or on how new developments in the market have changed the expected revenues.
Coral FLNG set to disappoint
Open Oil’s findings also confirm earlier independent economic analysis that revenues for the Eni-operated Coral floating LNG project (known as Coral FLNG), on track to start operations in 2022, are likely to fall below expectations.
Late in 2020, Oxfam also published an in-depth analysis of the economics of Coral FLNG using an independent project financial model — predicting that total revenue to the government “would amount to around $11.6 billion over the lifecycle of the project…. [a figure]similar to the revenue forecast provided by the Ministry of Economy and Finance to creditors ($11.5 billion) but much less than Eni ($16 billion) or the Ministry of Mineral Resources and Energy ($24.5 billion).”
However, if oil prices drop to $55/bbl over the long-term — as Coral LNG offtaker BP assumes they will — revenues would fall to $5.5 billion, according to the study.
“This study reinforces some of the key messages from Oxfam’s Government Revenues from Coral South FLNG study launched last year,” said Daniel Mulé, Policy Lead for Extractive Industries Taxation with Oxfam. “It confirms that government revenues from natural gas projects in Mozambique are heavily rear-loaded, subject to high stranded asset risks, and insufficient to provide lasting benefits to the Mozambican people in the next two decades, especially given the country’s debt burden.”
Both analyses include an important discrepancy with the INP projected revenues. At $55/bbl the Open Oil report and the Oxfam report estimate government revenue of around $5bn, much lower than the consortium revenue of around $7.7bn.
INP, meanwhile, expects the government to receive revenues of around $7bn while the companies would only receive $4bn at this oil price.
Rising ENH debt
In February 2021, the World Bank revised its projections for the state oil company, ENH, to account for potential delays in the aftermath of the covid-19 pandemic.
ENH, which holds 10% and 15% stakes in Area 4 and Area 1 respectively, has borrowed money from project partners to finance its equity stake in the projects.
The company will only receive substantial revenue from these projects once these loans — or “carry” — are repaid fully, with interest. This has put the company, which was heavily indebted even before its participation in Area 1 and Area 4 projects, on a precarious financial footing.
The World Bank analysis suggests that “worsening financial conditions posed by the crisis will make it impossible for ENH to pay its carry (money it borrows from venture partners) from the Coral South FLNG without a cross-subsidy from the Rovuma LNG (the FID on the latter is still pending). In a scenario where the Rovuma LNG project does not move ahead ENH would end up with unpaid debt from the Coral South FLNG when the project reaches the end of its economic life (in 2047).”
The Open Oil analysis reaches similar conclusions. With the assumed price scenario of $55/bbl, ENH would only make enough revenues to pay back its debt to the consortium.
The estimated total revenue for ENH of Coral FLNG after repaying its carry is very modest: about $412m, which will only be received well after 2035. If prices go any lower than $50/bbl and costs increase due to delays, ENH risks not breaking even.
Open Oil assumes such carry to have conservative interest rates of 3.8%. However, a Debt Report published by the Ministry of Economy revealed the interest rates from the consortium are much higher: 9%-13% for Area 1 and 8.7% for Area 4, which would have drastic repercussions in further decreasing the government revenues, leaving ENH with an unpayable debt in both projects.
If the current model is adjusted to reflect those interest rates, government revenues would fall by $3.5bn to only $24bn over the life of the projects, leaving ENH with unpaid debt of $1.1bn at the end of the projects.
A recent report: “Fair Share? Shining a light on the extractive industries fiscal regimes in Mozambique, Tanzania and Uganda” by pressure group Publish What You Pay recommended that Mozambique renegotiate its current concession contracts to have “free carried interest” which should apply “across the entire natural gas value chain, and not just to the research and exploration stages”.
Mozambique reformed some elements of its petroleum taxation in 2014 and 2017, but the Rovuma Basin projects are protected from these changes by stability clauses in their agreements and are instead governed by the Petroleum Law of 2001, under which the concession contracts were signed.
Energy transition risks loom large over the project
The outlook for Mozambique state revenues may worsen or improve depending on the oil prices.
“As the energy transition moves closer, investor confidence in big new gas projects like the ones in Mozambique becomes shakier. Although gas is sometimes billed as the ‘bridge fuel’ for the transition, the long lead time to develop a new project and then to reach scaled production means, in many cases, that the window to recoup investment before fossil fuel production finally tapers off is closing, or already closed,” Johnny West, director of Open Oil said.
Oil prices are expected to go down substantially after 2040 and maybe as soon as 2035. According to the Wood Mackenzie’s Accelerated Energy Transition Scenario (AET-2) the oil price could go into terminal decline from 2030, reaching prices of US$37 to US$42/bbl in the next decade and declining further to as little as US$10 to US$18/bbl in 2050.
This is mainly caused by the shift in energy consumption. “The rate of oil demand displacement is such that OPEC [Organisation of the Petroleum Exporting Countries] cannot prevent prices from falling over the forecast period. (…) OPEC cannot cut production enough to support prices over time because each year sees another large demand drop”, according to the report.
The IMF also released a recent analysis expecting oil demand to peak 2040 or sooner, as did the oil giant BP which late in 2020 claimed the oil peak may have already happened. This will further reduce revenues.
The graphic below, created by NRGI and published in their analysis: Risky Bet: National Oil Companies in the Energy Transition shows the long term predictions by some of the sector’s leading experts, showing a wide range depending on what assumptions are made with regard to the energy transition.
Changing the game, but for better or worse?
“LNG can be a game changer for economic transformation, development and inclusive growth, potentially lifting millions out of poverty if the right policies are put in place”, said Abebe Aemro Selassie, the director of African Department at International Monetary Fund in December 2019.
This perspective has also been shared and repeated by other backers of these gas projects, despite the growing insecurity in northern Mozambique and the increasingly volatile oil prices brought on by the energy transition.
Multilateral finance institutions like the World Bank and African Development Bank “have budgets and priorities like promoting Africa’s energy through gas,” said Daniel Ribeiro founder of Friends of the Earth Mozambique. “Given the scarcity of big projects of this type in the continent they have very few options that would allow them to meet their targets and tick their boxes.” Consequently, “Mozambique has ended up ‘benefiting’ from badly planned strategic priorities,” he said.
The African Development Bank (AfDB) in July 2020 justified its financial support to the LNG project led by Total claiming such a project would be transformational for the energy sector in Mozambique, and could be expected to have broader socio-economic benefits for the country.
The AfDB refused to comment for this article on how these socio-economic benefits and transformation would be measured, how this project would really transform Mozambique, or which economic forecasts were used in order to decide on financing the project. The organisation limited itself to saying that the project ” is consistent with the high social and environmental standards of the Bank”.
The AfDB says it “invests in commercially viable and environmentally/socially sustainable private sector projects based on our internal policies and standards.”
But in almost any scenario, the potential of the gas sector projects to transform Mozambique is less than that which has been claimed. The country is vulnerable to interest rates in the loans acquired by the consortium and those interest rates are not public.
“While Mozambique’s vast natural gas resources have drawn interest from international oil companies, the present research should be a wake-up call for any public official who thinks gas is a get-rich scheme,” said Tatiana Almeida, Extractive Industries Officer with Oxfam in Mozambique.
This analysis was funded with the assistance of JournalismFund.eu and Finance Uncovered.
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