Guyana: On appraising the efficacy of a local oil refinery

Introduction

As indicated last week, today’s column initiates a presentation in the coming weeks, of my considered view on the efficacy of Guyana establishing a local oil refinery, in order to exhaust successfully the potential benefits of its recent oil and gas discoveries. After the completion of this task, I would then have one final topic left to address, before wrapping up this rather extended discussion on the coming time of Guyana’s oil and gas industry, which indeed commenced almost a year ago (September 4, 2016). That next topic will deal with the revenue and other fiscal features related to the production arrangements surrounding Guyana’s first oil.

Local oil refinery

Because of its enormous significance, it is crucial for this initial column to delineate clearly what is intended when I refer to a ‘local refinery’, in Guyana’s context. This is because the ownership, management, and operational characteristics, define the nature of a local refinery. These characteristics can take varied forms. And, for each of these variations, I would hold very different positions and therefore, make different recommendations.

However, for purposes of simplicity, in the broadest sense, I recognize three types of such relevant characteristics. These are: Type 1, an oil refinery that is owned, managed and operated in Guyana by foreign investors. These investors would assume full financial responsibility, under local and international laws/regulations/guidelines, for the oil refinery. The foreign investor may be either an international oil major; a state owned oil company/national oil company (NOC); or some joint arrangement among such investors. Type 2: an oil refinery that is owned, managed and operated in Guyana by local private investors. These similarly assume full financial responsibility under the local and international legal framework. Likewise, the local investors may be involved in joint arrangements, with either foreign private or foreign state-owned interests (NOCs).

In the two instances cited above (Type 1 and Type 2), I would have absolutely no reservation, nor indeed would I have a specific interest in the matter. This is because: 1) Guyanese consumers would be covered/protected by local laws/regulations/ guidelines, and 2) no state funds are involved. And, since the owners/operators of the refinery are risking entirely their equity or other funds, I shall presume they would be rational and undertake a private/commercial feasibility study of the venture before deciding on the risks they are willing to take for the rewards they can obtain. I would go further and argue that, in these cases, a local oil refinery should not be subject to my (or indeed any other outsider’s) assessment, which could claim precedence over those who are willing to put up the investible resources under the conditions as indicated here!

Logically, and following from the above, the only circumstance therefore, where an outsider’s view would matter is if 1) it can be established that Guyana’s taxpayers would be funding the venture, or 2) that local laws would allow/facilitate extortionate influence over local purchasers of the oil refinery’s output of its refined products (for example, gasoline or diesel fuel). Both of these circumstances I have ruled out in the above processes.

It follows from this presentation then, that my area of concern would be a third category, Type 3, which is: if, and only if, the oil refinery is state-owned (whether fully or in part). In this circumstance Guyanese taxpayers, and by extension Guyanese consumers, carry a substantial portion, if not all of the financial responsibility for the refinery. In fact it is only if there is a joint venture arrangement with the Government of Guyana would the latter not be the case.

Strategic concerns

When framed in this manner, it follows that an efficient appraisal of the state’s involvement in a local oil refinery raises several wider strategic concerns. Six of these I have singled out for comment today and will briefly discuss in random order in coming columns.

First, and perhaps foremost an evaluation/assessment of a local oil refinery, as defined above, is clearly linked to generic concerns about the role of the government/state in the economy. To date, this discussion remains far from settled in political economy.

As we shall see, in large part the issue centres on the crucial distinction of the state as a regulator of economic, social, environmental and other processes and the state as a direct producer of products, in these dimensions. Second, and by simple extension, this circumstance raises specific concerns about the role of the state in the energy sector. In this regard, there are rich experiences to draw on, since over many decades, the oil and gas sector has yielded several examples of state failures and successes.

Third, issues concerning the role of the state in the petroleum sector are linked to the economics of adding downstream value along the petroleum industry’s value chain.

Such issues arise because the upstream discovery of crude oil offers scope for further value added as production shifts towards midstream and upstream along petroleum’s value chain, where transportation, storage, marketing, and distribution of refined products reside. A lot of these issues were addressed in earlier columns (March-May, 2017) where local content requirements (LCRs) were assessed.

Fourth, because of the previously stated strategic concerns, items 1-3 above, (role of the state in the economy, in energy specifically, and downstream local content value added) the evaluation of a local oil refinery is linked to the wider strategic option of determining whether the Government of Guyana should create a National Oil Corporation (NOC) to manage its coming time of oil and gas production.

Fifth, oil has always been a volatile product on the world market. This has attracted speculators and discouraged riskaverse investors, especially where greenfield investments are concerned, as would be the case for an oil refinery in Guyana. Because of this circumstance the medium to long-term outlook in the industry is key. Current information suggests that because of a doubtful long-term outlook, oil industry investors are shifting to shorter-cycle projects and avoiding long-term refinery projects. Thus, DeLoitte and Touche in their 2017 Oil and Gas Industry Outlook, had reported : “through 2020, US$620 billion had been deferred or cancelled; the appetite for long-term and complex major capital projects has waned, despite a few notable exceptions”. Other bottlenecks and jeopardies had been identified in the Outlook, particularly skills availability, and technological advancement in deepwater recovery.

The two most critical variables in regard to item 5, are 1) the forecast world price of crude oil at, or around the mid2020s when a refinery might be operational, and 2) the potential size of Guyana’s oil finds at about the same time. Both variables have been assessed, respectively, in my August 6 and 13, 2017 columns.

Conclusion

Next week I continue to frame the issues that will guide my recommendation on the efficacy of a local oil refinery or not, for Guyana.