The wait is over: Uganda’s long road to first oil

Friday, December 13, 2019


 

Source: African Business 

 

Oil deposits have sat beneath the shores of Lake Albert, in western Uganda, for millions of years. Since its discovery in 2006, plans to extract the oil, estimated at over 1bn recoverable barrels, have repeatedly stumbled over disagreements between the government and oil companies. The latest was a tax dispute that threw the whole project into limbo, holding up the commencement of commercial production.

The argument turned on the transfer of assets between the three oil companies who are developing the fields: Total, a French supermajor, CNOOC, a Chinese state firm, and Tullow, an independent with headquarters in London. In 2017, Tullow announced it would sell on most of its interests in the Uganda project to its two larger partners, reducing its own stake to 11.76%.

In August this year, the companies and the government could still not agree how the $900m deal should be taxed. A sales agreement between the companies expired. The deal was off.

Uncertainty over the transaction has delayed a long-awaited final investment decision (FID) on the oil project, which was expected this year. Irene Muloni, the energy minister, now says that a decision will be reached by April 2020. It typically takes three years for oil projects to move from FID to first oil.

Meanwhile Total has suspended activity on the 1,445km pipeline that will carry Ugandan oil to the sea. Back in February its boss, Patrick Pouyanné, had quipped about the oil project’s numerous challenges. “There are many crocodiles in Lake Albert,” he said. “We need to domesticate the crocodiles before we move forward.” The story of Uganda’s oil suggests that those “crocodiles” will be hard to tame.

Tax disputes

Uganda has already been waiting a century for oil. The first formal survey around Lake Albert was conducted by a British team in 1925. Yoweri Museveni, the president, held meetings about oil with advisers two weeks after seizing power in 1986, and soon afterwards called off talks with oil companies while the country built its negotiating capacity.

At the time, most African oil exploration was off the Atlantic coast. When commercial quantities were finally discovered in three fields in the western part of the country in 2006 it was the largest onshore discovery in Africa for two decades.

“There is a lot of nonsense that oil will be a curse. No way,” said Museveni when he announced the find. Sensibly, the government did not rush to the market. It took time to pass relevant laws and recruit a team of competent technocrats. Museveni, a notorious micromanager, took a deep personal interest in negotiations with oil companies. He drove a hard bargain.

The most contentious issue was tax. In 2010 Heritage, the company that had done much of the initial exploration work, agreed to sell on its assets to Tullow. The government imposed a $434m capital gains tax bill, which Heritage disputed. A Ugandan court and an arbitration case in London both ruled in favour of the government, and Museveni later awarded a USh6bn ($1.6m) bonus to 42 officials who had helped in the case. A similar dispute arose when – in a foreshadowing of the current standoff – Tullow sold on part of its stake to Total and CNOOC. That matter was settled out of court in 2015.

Other tensions bubbled below the surface. Museveni wanted to refine oil locally. The oil companies wanted to export it, arguing that a small, inland refinery was economically unviable. In the end they agreed that up to 60,000 barrels per day – about a quarter of the total – would be refined in Uganda. The rest will be transported to the Tanzanian coast through the longest heated pipeline in the world.

Taming crocodiles

It was unsurprising, then, that Tullow’s 2017 decision should also run into problems. “The transaction which we have today is being looked at through the lenses of prior transactions,” says Denis Kakembo of Cristal Advocates, a law firm in Kampala with expertise in energy and tax.

The deal was structured so that Total and CNOOC would pay Tullow $200m in cash, and a further $700m towards its share of future development costs. But disagreements arose over several issues, such as how to account for the costs Tullow had already incurred between acquiring its Ugandan assets and selling them on. The government presented Tullow with a capital gains bill for $167m, which the company contested.

A compromise was reached after direct meetings between Museveni and Pouyanné. They agreed that Tullow would pay just $85m, with Total and CNOOC topping up the rest. They could not agree, however, about whether the two larger companies would inherit Tullow’s recoverable costs and count them against future tax obligations. That issue and others remained unresolved when the sale collapsed at the end of August.

The government put forward new proposals, which the firms have since accepted, Hanns Kyazze, a communications specialist at the ministry of energy and mineral development, told Reuters in December.

While the dispute has been resolved, the original sales agreement between the oil companies is dead; they will have to draw up another one, perhaps on fresh terms. Political attention is already turning to contentious elections in 2021.

The government also felt the cost of delay in its own pocket. It has poured money into roads, dams and airports on the promise of an imminent oil boom. A 2018 study by Sebastian Wolf, of the Overseas Development Institute, and Vishal Aditya Potluri, of the Harvard Kennedy School, forecasts that oil earnings will peak at 73% of the government’s non-oil tax revenues within a few years of coming on stream (assuming a price that starts at $77 a barrel and grows by 2% a year). Senior officials at the Bank of Uganda have warned that debts could become unsustainable if oil arrives late.

Everything now hinges on the final investment decision. “From the moment FID is announced, Uganda is going to change drastically,” says Hanns Kyazze, communications specialist at the energy ministry. Up to $20bn is expected to flow into the country to develop oil infrastructure.

But once a decision is finally reached, other challenges loom. Already, thousands of people in western Uganda have been displaced; some are contesting the resettlement package they received. Part of the oil lies below a national park. In January six NGOs will challenge Total in a French court, claiming that it has failed to elaborate and implement its human rights and environmental vigilance plan. Uganda’s oil saga is just beginning.

 

 

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