Lessons, survival strategies amid plummeting oil price

The reality in the international oil market has again exposed the depth of Nigeria’s fragile economy. But in the midst of all these, there are many lessons and survival strategies, only if President Muhammadu Buhari and his economic team would cast their net wide. KINSGELY JEREMIAH writes.

If there is anything to learn from the prevailing economic situation in the country, it is for leaders of the country to understand how to wean an economy that is at the mercy of commodity price volatility or external market forces. Indeed, the country’s major foreign exchange earner (oil and gas) is traded in a highly volatile market, which runs mainly on the law of demand and supply, and is compounded by geopolitical realities.

Even though economists and energy experts have severally warned against pegging the national budget on oil price, the President Muhammadu Buhari-led Federal Government earlier proposed a N10.33t budget with projections that oil sales would stand at 2.18 million bpd, and a price of $57 per barrel, while the exchange rate would remain N305 per dollar.

As of December last year, the price of oil per barrel averaged $62.43, but the outbreak of Coronavirus and the geopolitical tension between Saudi Arabia and Russia on one hand, and the United States and China, on the other hand, crippled oil price to a historic low, and Nigeria reportedly discounted its crude for as low as $4 per barrel, despite producing every barrel for about $25.

Confronted with these realities, the Federal Government cut down the 2020 budget by over N320b, proposing a N10.27t budget as against the N10.59t. It also announced a new oil benchmark of $20 per barrel, while oil production volume was reduced from 2.18 million barrels to 1.70 million barrels per day, even though the nation’s output has been capped at 1.4 million barrel per day, by the Organisation of Oil Exporting Countries (OPEC), as the price remained below $20. The exchange rate was changed from N305 to N360/$1.

Going by the prevailing situation, Nigeria is already borrowing to fund deficit in the budget. Reportedly, as much as N6t would be needed to finance the deficit, and the Senate has already approved a request by the executive to borrow the sum of N850b locally. A $3.4b facility has also been granted the country by the International Monetary Fund (IMF) under the Rapid Financing Instrument (RFI).

However, there is also an existing debt burden. The Senate had in March stated that the country’s total debt profile stood at N33t. The lawmakers equally approved a $22.7b foreign loan for the Federal Government. The Debt Management Office (DMO), as of December 2019, noted that the nation’s domestic debt stood at N14.2t, while external debt was $27,676.14 (N10t). Debt servicing alone reportedly gulped N480.4b in 2019.

Unfortunately, the nation’s foreign reserve has drastically gone down, and the International Monetary Fund also reported that the country’s portfolio investment would decline by at least $11.4b, dropping from the $9b recorded in 2019, to a deficit of $2.4b by the end of 2020. The Excess Crude Account (ECA) created by former President Olusegun Obasanjo, in 2004, for saving revenue realised from crude oil sales above the budgeted benchmark price, dropped to $71.81m in February when compared to the $324.968m balance as of January 16, 2020.

While it is noteworthy to mention that Obasanjo built the ECA to $22b before leaving office in 2007, very few oil countries post a shameful save from oil sales compared to Nigeria. In fact, at a time that countries are falling back to their reserves, the Nigerian Sovereign Wealth Fund created eight years ago with $1b seed money only stands at a meagre $1.5b, while Algeria has its $50b plus wealth to fall back on to combat its current deficits.

Be that as it may, as bleak as the situation in the current oil market is, some stakeholders see opportunities, and indeed, survival strategies to once again enable the government to act wisely and learn life-saving lessons.

Corruption, Accountability, And Transparency
KNOWING full well that Nigeria is notorious for corruption, most stakeholders are asking for short and long-term reforms that would directly block leakages and strengthen the mechanism for accountability and transparency. It would be recalled that money stolen from Nigeria yearly through organised Illicit Financial Flows (IFFs) as of last year would have provided almost 62 percent of the funds needed to finance the 2019 budget. Nigeria’s share of global IFFs $18b/N5.5t was only a little lower than the N6.97t total revenue that the country needed to fund the 2019 budget.

A report released last year by the Nigeria Extractive Industries Transparency Initiative (NEITI), and Trust Africa, indicates that the country loses between $15b and $18b yearly to IFFs. Over 92 percent of the crime is reportedly committed in the oil and gas sector.

IFFs are a form of illegal capital flight that occurs when money is illegally earned, transferred, or spent, especially as the money disappears from any record in the country of origin and earnings on the stock of illicit financial flows outside a country, and does not return to the country of origin.

To underscore the nation’s loses to corruption and accountability, as well as lack of transparency, last year, a U.K. judge ruled that an oil and gas firm, P&ID could enforce an arbitration tribunal’s 2017 ruling to make Nigeria pay about $9.6b, including interest over a contract deal made in a shoddy deal by government officials. There was a similar incident on Malabu oil deal, which indicted oil companies and top government officials in the country.

NEITI reported in 2018 that the Nigerian National Petroleum Corporation and other stakeholders in the industry did not remit $22.06b and N481.75b to the Federation Account. Four revenue-generating agencies, including the Nigerian National Petroleum Corporation (NNPC), the Federal Inland Revenue Service (FIRS) and the Department of Petroleum Resources (DPR), were last year accused of not remitting roughly N1.5t to the Federation Account in 2017.

Only recently, the House of Representatives said that the Petroleum Product Pricing Regulatory Agency (PPPRA) allegedly concealed its internally generated revenue (IGR) between 2014 and 2019, adding that the company has failed to remit about N500m yearly since 2014.

While calling for an end to the challenges surrounding corruption, accountability, and transparency, Executive Director, Civil Society Legislative Advocacy Centre (CISLAC), Auwal Ibrahim Musa said: “We note that there are several reports on activities of the sector, including commissioned inquiries, audits, and investigations that have stressed transparency and accountability as crucial elements behind the inefficiency and corruption in the sector. These accountability issues are responsible for the hemorrhage on revenue flows and oil production that have earned Nigeria’s oil sector a not-too-favorable reputation both locally and internationally.”

To him, the continuous mismanagement and corruption in the extractive sector are eroding substantial investments in sustainable development, stressing that it was high time that the Presidency and the legislature implemented a substantive cut in the cost of governance and channel these funds to sustainable development projects, which would benefit the poor as opposed to the elite, which is a disproportionate recipient of Nigeria’s commonwealth.

N15t Realities With Immediate Reform
THE country’s oil sector has been crippled by a lack of reform, and this development has promoted inefficiency, poor management, and deterred investors. Like the Nigerian Constitution, most petroleum laws and regulations, drafted mostly by the military government have become obsolete.

The Petroleum Industry Bill (PIB), which the Federal Government came up with to enable an overhaul of the petroleum industry, and to bring onboard, efficiency and transparency in both the upstream and downstream sectors, as well as make operations international standards compliant, to ensure clarity, address the opacity and the poor business environment in the sector have not yielded any result. No thanks to the failure of the government to assent to the bill, despite it making progress during the Eight National Assembly.

It is believed that the failure to reform the nation’s oil and gas sector is seriously fuelling a lack of accountability, leading to massive corruption and lack of investment. A coalition of over 150 civil society organisations across the nation recently claimed that the country was losing at least N3t yearly due to the non-passage of the Petroleum Industry Bill (PIB) alone.

In 2018 when the price of oil was fair, Nigeria recorded $32.63b (about N12t) from the oil/gas sector, but when reformed and it can attract investments and have full capacity production in leases and engaged value chain, some stakeholders, including former government energy advisor, Joe Nwakwue, economist and public policy analyst, Tope Fasua, Executive Director, Order Paper Nigeria, and convener, Post COVID-19 Petroleum Agenda for Nigeria (PoCoPAN), Oke Epia, as well as experts at Publish What You Pay Nigeria and DotCivics believe that the sector would generate more revenue.

A communiqué issued at the end of the webinar with stakeholders read: “The present pandemic-induced economic crisis by way of the fall in crude oil price is a result of obsolete and inappropriate policies that regulate the petroleum industry; lack of political will by the government to use resources from oil and gas to facilitate the development of industry’s value chain and other sectors of the economy, and the over-dependence on foreign technology, and exportation of raw materials rather than refined products.

“Funding of the 2020 budget in the current crisis is a huge challenge attributed to the fact that Nigeria runs a petro-dollar economy (53 percent revenue of 2019 budget was provided for by foreign exchange from the oil and gas industry).

“The country’s oil and gas industry has not witnessed new explorations in the last decade, as critical stakeholders such as investors’ host communities, and the government remain unsatisfied with the current path that the industry treads,” the communiqué stated, adding that “if the current arrangements are providing maximum benefits for the country, there is a potential capacity of the oil and gas business to generate between N12t and N15t yearly.

“Revenue from oil and gas operations is needed to facilitate the country’s emergence from the Dutch disease hence, it was recommended that the Reserve to Production (R/P) ratio should be increased, gas assets developed and the midstream sector enhanced in a string of industry diversification that will impact the economy in general,” the group said.

Paying For Contract With Crude Oil
SOMETIME ago, Nigeria paid for contracts with crude oil. Under this arrangement, government clients that executed contracts were paid with crude oil instead of cash. Interestingly, some stakeholders have raised several concerns regarding this arrangement, stressing that market realities may not support the deal, even as they see it as an alternative should contractors be willing to accept the offer, knowing well that the product is already in excess.

Founder and Principal Partner at Nextier, Patrick Okigbo sees this as an option but noted that oil prices are too low (and probably uncertain) for service providers to choose the option unless they have a view of how and when oil prices would rebound.

“On the Nigeria side, this would be the worst time to get into such contracts as the valuation (or prices) are too low,” Okigbo said.The Director, Centre for Petroleum and Energy Economics (CPEE), University of Ibadan, Prof. Adeola Adenikinju, equally noted that the country needs to explore how to hedge, adding that using options like oil for contracts would reduce pressures on exchange rates and government finances

He, however, stated that the implementation of such scheme could remain challenging, just as there was a compelling reason to develop a transparent system to implement such an option.

“It is also time to be aggressive concerning public-private partnership. There are many infrastructural projects that we can implement through public private partnership (PPP) arrangements that will benefit the country without direct government finances. We can also explore so many financing options that can hedge prices against volatility,” he said.

Reduction In Cost Of Oil Production
WHILE crude oil is produced in some countries for less than $8 per barrel, it is hovering around $28.99 in Nigeria. Several attempts to reduce the cost in the past have been unsuccessful, but the Minister of State for Petroleum Resources, Timipre Sylva had recently said that he was poised to bring it down to $9 per barrel.

While some people believe that the cost oil production in the country is being inflated by producers and aided by government officials, the cost of oil production per barrel is highest in the United Kingdom, where it stands at about $44.33 (based on geological reasons), and lowest in Saudi Arabia, at $8.98. Nigeria is believed to be the third-highest at $28.99 after Brazil, which is $34.99. In Iran, the cost is only $9 and $10 in Iraq.

Without a meaningful reduction in the production cost, the bulk of revenue accruing from the sector would end up as operating cost, thereby limiting economic development and returns on investment. Adenikinju believes that the prevailing situation is an opportunity for oil firms to embark on drastic cost-cutting and drive up productivity.

“I am aware that most oil companies are negotiating with their suppliers and contractors to reduce costs by as much as 50 percent. They have to look at their entire value chain and see where savings can be made. It is not a time for bloated costs, so emphasis must be on how to aggressively drive down costs and boost productivity,” he said. Adenikinju, is also of the opinion that there is no need for oil firms in the country to embark on new capital investments or projects, but to consolidate on existing ones.

Shutting In Oil Wells As Prices Plummet
WHILE some experts see no motivation in selling nature’s endowment far below cost of production, NNPC has recently said shut-in of oil wells may remain inevitable looking at the price at the market.

The Group General Manager, Group Public Affairs Department (NNPC), Kennie Obateru, earlier noted: “If the situation persists, it is something that is bound to happen definitely. We can’t keep producing if there is no market to sell. And it is not peculiar to Nigeria. It is a global thing.

If prices continue to fall below production cost, some stakeholders insist that shutting in the wells could increase risk in the long run even as there are options for producers to look at.

The Chairman/Chief Executive Officer, International Energy Services Limited, Dr. Diran Fawibe, said the loss to be incurred by the companies if they shut down production might be more than the loss caused by the crash in oil prices. He said, “The situation is bad enough, but if you shut down, it is not at zero cost. So, do you now shut down and start to incur costs associated with non-production? If you are producing, even though it is not economical, you may then have a reduced level of production.

“There are various scenarios about the oil production level in the country, depending on what happens. If the situation worsens and the price goes below $20 per barrel, then we would be talking about a new scenario completely. And I believe that the government is monitoring the situation very keenly to take appropriate measures.” Adenikinju also said it is not the time to shut in production, stressing that the long-term costs of shutting down production outweigh the benefits.

“The decision to shut down production should not be based on a short-term misalignment between price and average costs. This is because in the short run, even if you shut-in your operations, you will still incur some fixed costs, hence, in economics, the decision to shut production is based on short-run average variable costs. As long as price exceeds the average variable costs, it is okay to continue to produce,” he noted.

Okigbo wants the government and its partners to work with modelers to build different scenarios and decide if there was the need to shut in oil wells or not, over the glut in the market.

With no storage tanks available around the world, the high cost of renting vessels, and no credible estimates on when the world would reopen, Okigbo noted that it would be a tough decision to take decisive steps.

The former President of Nigerian Association for Energy Economists (NAEE), Prof. Wumi Iledare noted that in the shut run oil price may continue to fall until it begins to rise when inventory is depleted, or nearly so, but insisted that the hope depends on whether OPEC+ reduces production dramatically.

Focus On Domestic Use, Open Gas Wells
THE Edo State Attorney General and Commissioner for Justice, Prof. Yinka Omorogbe, who doubles as the President, Nigerian Association for Energy Economics (NAEE) noted that the current situation provides the best opportunity for Nigeria to look into its energy needs and use its resources to address the gaps.

“There is always hope. This is just a period of great change and disruption. And those that survive this kind of situation are those that think outside the box. And I think that is what we have to do. We have to think outside the box and it is a time for people to come together to think of solutions to our current woes. I think we need to do what other nations are doing by putting ourselves first. If people won’t buy our products exernally, let’s work on how we can utilise it as best we can so that domestically we can be a country with energy,” she stated.

Omorogbe, who said the country has over the years used its oil and gas resources mainly for revenue and export, noted that the situation is what has led to the current dilemma that the nation is currently in. Omorogbe said: “We have been selling our resources when we have people that are living without electricity and good energy sources. What country does that? America always puts its domestic interests first. We were once doing fine without oil so we need to go back and rethink.

“There are many small and appropriate solutions. Usually, in Nigeria, we like talking of big solutions. This is probably the time for modular refinery; this is time for refineries that are near producing wells because that cuts down cost. It is time to talk about our costs, which are highly inflated…So, a lot of introspection has to be done bearing in mind our results, which is survival. I think we need to think small and domestic. We should allow our small businesses to come into play. We need to have our middle class back because it has been eroded completely. In thinking domestic, and smaller solutions, it would be difficult to steal.

“Let’s us immediately think in terms of diversifying from an oil industry perspective; we have to think of ways, which we can utilise our oil domestically. We owe it a duty to our generation not to fritter away our asset that is not renewable. It takes millions of years to make oil that we can squander in a day. I don’t see a sense in crude for a contract even though they might be hard now but at what equivalent are we going to give out the oil.

“You know an agreement depends on the strength of the parties involved. When you are weak and in a desperate need for something you don’t always get the best in the agreement.” She disclosed that the current price is not a serious challenge for countries that have been proactive about their resources, stating that Nigeria needs to look at the different opportunities it has. According to her, shutting down oil wells won’t be a bad idea as it is a standard thing that is done.

“We can’t produce at a higher price and sell at a lower price. It doesn’t make any sense. Nigeria has a lot of non-associated gas wells, but they are shut down. So, what is wrong in opening them up? I really can’t see anything wrong.

“Don’t let us think about what we can sell out right now. Nigeria can sell a lot of things. We are an incredibly blessed country, but let’s look outside oil. Right now, lets us look at how we can develop our people’s potential,” Omorogbe stated.