By Dan Rogers, Noam Ayali and Kimberly Heimert

The partial lifting of US trade sanctions against Libya, following the removal of UN sanctions last September, should help to propel Libya into the ranks of major league gas exporters. With most investment and trade barriers removed, Libya can now try to attract the nearly $30 billion in direct foreign investment that it claims to need in order to restore and upgrade its petroleum and petrochemical infrastructure over the next six to eight years. While much of this investment will probably be made in oil and petrochemicals, the impact of even a portion of this investment in the natural gas export sector will have a profound effect on key world gas markets.

Sanctions Disappear

US sanctions that were in place since 1986 were partially lifted on April 23 after the Libyan government pledged to dismantle its programs to produce weapons of mass destruction, destroy its existing chemical weapons stocks and immediately submit to UN inspections. The sanctions-lifting came on the heels of the UN’s decision last September to discontinue its sanctions against Libya based on the Libyan government’s decision to accept responsibility for the Pan Am Flight 103 bombing in Lockerbie, Scotland, pay compensation to the families of victims and cooperate in connection with the prosecution of the key terrorist players.

The US sanctions originally contained a ban on importing Libyan crude oil to the US and a ban on US investment in Libya. The sanctions were subsequently expanded to prohibit direct trade, commercial contracts and travel-related activities between US and Libyan interests. The US government then upped the ante in 1996 by enacting the “Iran-Libya Sanctions Act,” or “ILSA,” which extended the reach beyond US interests by imposing penalties on foreign persons that invested more than $40 million annually in activities that enhanced Libya’s petroleum resources. Originally set to expire in five years, ILSA was extended in 2001 for an additional 5-year period. The collective set of sanctions effectively prevented the import into Libya of needed technology, spare parts and investment funds, substantially crippling Libya’s ability to compete in the worldwide oil and gas sector. Interestingly, no penalties were ever imposed under ILSA, although an RWE-Dea led consortium was threatened with penalties in June 2003 when it signed a contract covering six new exploration blocks in Libya. RWE-Dea countered that under the terms of its deal, which involved the expenditure of $56 million on exploration costs over a period of five years, did not exceed the annual investment limits under ILSA.

Libya’s New Position

The speed and effect of Libya’s reversal of fortune is truly remarkable.

Only a few years ago, Libya’s destiny to remain a pariah of the Western world seemed assured after the Bush administration labeled Libya as a member of the so-called “axis of evil.” With most US and international investment and trading barriers now gone, Libya is today arguably one of the world’s most promising energy sectors, with large amounts of already-proven oil and gas reserves and vast areas that remain unexplored. Several credible estimates place Libya’s existing proven natural gas reserves at 40 to 46 trillion cubic feet. About 30% of these reserves are “associated gas,” or gas produced in tandem with oil operations, with the remaining 70% being non-associated gas. Since only about 25% of Libya’s surface area has been explored to date, mainly using older-generation equipment and techniques, most experts agree that Libya’s actual gas reserves are significantly higher — perhaps at 70 to 100 trillion cubic feet or more. With such sizeable reserves located in relatively close proximity to major European pipeline markets, and significantly reduced costs to produce and transport liquefied natural gas, Libya’s removal from the international blacklist will allow it to become a major competitor in the European gas market, and a formidable competitor in the worldwide LNG trade — particularly in the Mediterranean and Atlantic basin markets.

The steps that Libya needs to take in order to better capitalize on its new fortune are already underway. In an attempt to stimulate investment by those few oil companies that were not barred from activity in Libya (and perhaps in anticipation of eventual sanctions-lifting one day), Libya began to clear the ground for significant new foreign oil and gas investment by initiating important revisions to its 1955-era oil and gas laws. Post-sanctions lifting, the National Oil Company, the state-owned company that is responsible for overseeing oil and gas activities in Libya, has moved matters forward by recently issuing a new and improved exploration and production sharing agreement entitled EPSA-IV. One of the important features of ESPA-IV is an improved “gas clause” that provides more defined contractual terms and better fiscal incentives for the exploration and production of natural gas, liquefied petroleum gas and condensates, in addition to crude oil. With its new oil and gas legal structure and EPSA-IV as the foundation, the National Oil Company is now ready to make things happen. It has announced a tender for eight new exploration blocks (six onshore and two offshore) this summer and has said that more tenders will most certainly follow.

Gas Export Opportunities

Libya is a member of OPEC, and as such its ability significantly to increase its crude oil production and exports will be affected to a large degree by that organization’s quota system. Since the export of natural gas and LNG are not subject to OPEC quotas, Libya should not face any artificial barriers to its ability to increase its production and export of natural gas and LNG at a rate far more quickly than for crude oil. In fact, a few OPEC members have already realized the benefits of being free to bring significant hydrocarbon revenues from LNG sales without any member interference. This benefit will no doubt play an important role in Libya’s plans significantly to increase gas production and infrastructure and supplement existing gas pipeline infrastructure. Libya’s decision in 2001 to join the Gas Exporting Countries Forum, which collectively controls over 75% of the world’s natural gas reserves and 60% of its total gas exports, should not slow its growth plans since to date GECF has not adopted any form of member quota system.

Pipeline Exports

Gas production in Libya began in the 1960s in the form of associated gas. From the 1980s onward, Libya has consistently produced from 1.2 to 1.5 billion cubic feet per day of gas. Historically, about half of this gas has been marketed, 30% re-injected to enhance oil production, 15% flared and the remaining 5% used as fuel for field operations. Almost all Libyan gas has been consumed domestically under a policy that encouraged the use of gas for power generation in order to free its more valuable oil production for export, resulting in recent domestic gas demand growth at an annual rate of around 10%.

With the development by Agip/Eni of the $5+ billion Western Libya gas project, Libya is set to make its first pipeline exports of natural gas. The 595-kilometer subsea pipeline, named “green stream,” is almost completed and will begin shipping eight billion cubic meters of gas per year across the Mediterranean Sea from Libya to Sicily, Italy and then onward to France in September of this year. The Western Libya gas project will also provide an additional two trillion cubic meters of gas per year for domestic Libyan consumption. Italian utility company Edison has committed to purchase four billion cubic meters of gas per year, mainly for power generation in Italy. Energia Gas and Gaz de France have each committed to purchase two billion cubic meters of gas for consumption in France.

With the successful start-up of “green stream,” attention will likely soon return to two other large-scale gas export projects that have been under intermittent development since 1997. The proposed 275-kilometer Libya-Tunisia gas pipeline project began with the signing of a joint venture agreement between the governments of Libya and Tunisia in May 1997. The pipeline was to transport two billion cubic meters of gas per year from Melitah, Libya to Gabès, Tunisia. A preliminary gas marketing agreement was executed in late 1997. Not much more was heard of the project until October 2003, when an agreement to form Jointgaz, a joint venture company, was formed to operate the proposed pipeline. To date, construction of the pipeline has not started.

In June 1997, the governments of Egypt and Libya signed an agreement in principle to link their respective gas pipeline grids. In November 2002, an agreement was reached to construct a $10 billion pipeline to transport gas from Egypt to Libya and link with the green stream pipeline to Italy, together with a parallel oil pipeline to bring Libyan oil to Egypt. The Libya-Tunisia pipeline project and the Egypt-Libya gas and oil pipeline projects are the only significant pipeline projects proposed for Libya to date, but when completed and put into operation, these pipelines will form the backbone of a master gas pipeline transportation system that Eni one day hopes will link the reserves of Libya, Egypt, Algeria and Tunisia for export to Spain. Increased access to and enhancement of Libya’s natural gas reserves following the lifting of sanctions will only help to speed the development of the Libya-Tunisia pipeline project, as well as to fuel the desire to link Libya to other attractive European gas markets. Given Egypt’s aggressive new plans to export its own substantial gas reserves via at least two new LNG projects (one led by British Gas and one led by Union Fenosa/ENI) that are scheduled to come onstream between late 2004 and 2006, it is worth wondering whether the drivers behind the Egyptian government’s support of the gas pipeline portion of the Egypt-Libya pipeline project are still there.

LNG Exports

Libya was the second entrant into the world LNG trade, beginning exports from the liquefaction facilities at Marsa El Brega in 1971. The LNG facilities, which were constructed and operated by Esso, are presently being operated at reduced capacity by Sirte Oil Company, a subsidiary of the National Oil Company. Spain’s Enagas is the primary longterm customer, with other sales to nearby countries, such as Italy. The original plant was not designed to remove “heavier” gas liquids, such as propane, butane and ethane, from the feed gas stream before producing the final LNG product. Since these heavy gas liquids contain very high calorific heating values (measured by Btu content) relative to typical pipeline quality gas, Libyan LNG has historically been too “hot” for consumption without further treatment in downstream gas markets. The existence of UN and US sanctions effectively prevented the import of necessary technology and equipment to remove the heavy liquids before processing into LNG. As a result, the Marsa El Brega LNG facility has only been operated at a third of its design capacity of 3.5 billion cubic meters of gas per year, since its LNG product was only of interest to a limited number of buyers, such as Enagas, who possessed the necessary (and relatively expensive) liquids removal facilities at the LNG import terminal.

It has been estimated that 80% of Libya’s natural gas reserves are located in the Sirte basin, with the remainder of known reserves located in the Ghadames basin and offshore under the Pelagian shelf. Libya’s largest gas field to date, the Attahaddi field, began producing gas at the rate of 300 million cubic feet per day in 2002. This field alone contains 9-10 trillion cubic feet of proven gas reserves and is located near the Marsa El Braga LNG facilities. The Marsa El Brega plant’s proximity to these considerable gas reserves, and the likelihood that these reserves will significantly increase with new exploration and production activity, make it an ideal candidate for upgrade and expansion in the near future. Shortly after the US sanctions were lifted, Shell was reported to have signed a contract with the Libyan National Oil Company to conduct new gas exploration activities and overhaul and possibly expand the existing LNG plant facilities. Numerous other oil and gas industry players will no doubt soon follow, particularly players such as Marathon Oil, ConocoPhillips, Occidental, and Amerada Hess, who will be negotiating the return to concessions they were awarded prior to being forced to leave following the imposition of sanctions.

How all of this pipeline gas and LNG export activity ultimately plays out will make for interesting watching and plentiful opportunities for oil companies, service providers and financiers with the fortitude to venture quickly into this former “axis of evil” country.

Of particular interest will be the effect of this significantly transformed LNG player on the plans and prospects of Algeria, itself a longtime LNG exporter that recently announced its interest in licensing a new LNG export project later this year, and Egypt, which recently joined the world LNG ranks with the development and construction of at least two greenfield LNG export projects, one of which will begin operating in late 2004 and the other in 2005-2006. The cost to produce LNG from a greenfield project is usually higher than production from an expansion to an existing facility, so the Libyan LNG facility has at least a theoretical edge (although any expanded production from Libya is still a few years behind the first Egyptian LNG exports). The significance of this edge will depend on just how much new investment is required to overhaul and expand this 33 year-old facility.

Libya’s proximity to Europe and the US. relative to West African and Middle Eastern LNG producers will also almost certainly foster greater competition for those LNG suppliers as well. For countries, such as the US, that are seeking to reduce their dependence on any one region for their critical energy supplies, this new LNG supply source is very welcome news. It is in some ways ironic that the country that now needs these energy supplies the most was the very country that for political reasons deprived itself (and much of the world) of access to these supplies for almost two decades.