LEBANON'S OIL AND GAS: Investing the money well

The danger of Lebanese politicians taking a cut is real

Lebanon’s progress to cultivate wealth from its offshore oil and gas resources has left us with more questions than answers. While the country will not extract any resources for at least five years, the agreements being negotiated in the next 12 months will determine whether Lebanon gets a good deal or not.
Over the course of six days, seven leading thinkers will discuss different aspects of the resources — from avoiding environmental destruction to how to spend the new wealth — each with the aim of helping provoke awareness about what is going on in this crucial period.
For Executive's sixth segment, Paul Cochrane analyses how best Lebanon should invest the profits from oil and gas.


If Lebanon manages to tap its offshore hydrocarbon reserves, the multi-billion dollar question is what to do with the revenues. How much is Lebanon looking to gain? Well, David Rowlands, chief executive officer of prospector British Spectrum Geo which has been carrying out seismic surveys on the country’s offshore resources, told The Times on March 4 that the value of Lebanon's oil and gas could be as much as $140 billion. Others have put it at anywhere from $40 billion to over $70 billion – much depends of course on commodity prices. With Lebanon's GDP at $40 billion, and public debt at $58.7 billion, any petrodollars are a major boon for the country's troubled finances.
In the 2010 Offshore Petroleum Resources Law, it is stipulated that Lebanon must form a sovereign wealth fund (SWF) into which the net proceeds of the government’s revenues will be invested. However, the law is deliberately unclear about how the money will be used once it is in the fund – leaving final decisions dependent on later negotiations.
Early last year, Prime Minister Najib Mikati proposed that the SWF should initially be used to reduce the public debt from 135 percent of gross domestic product (GDP) to 60 percent, but it was unclear whether he had government support for the proposal.
Given the government's less than stellar reputation in spending public money, the crony capitalism-style deals with Lebanese banks in financing the country's debt over the decades at highly lucrative interest rates, and the lack of accountability and transparency within the political process, how best to run a SWF?

Ups and downs

The primary rationale behind a SWF is to ensure the revenues generated from natural resources are appropriately utilized for the present and future generations – money put into the fund is invested, profits are generated and returns can be saved or re-invested for the future. Yet there are both positive and negative sides to SWFs.
On the plus side a SWF can handle greater investment risk than the central bank, domestic investment will boost the local economy, and strategic global investments can ensure a degree of economic and political security for a country.
On the negative side, SWFs are notoriously opaque. In the rankings of oil-based SWFs, only Norway scores well in the SWF Institute's Linaburg-Maduell Transparency Index, and notably Norway is the only democracy in the top 10 SWFs by value. As critics have pointed out, SWFs are popular with authoritarian and semi-authoritarian governments because they don't have to be transparent or accountable. Furthermore, oil and gas producing countries do not necessarily become more transparent if they set up a fund, while some energy producers do not have SWFs at all, such as Iraq and Saudi Arabia.
With Lebanon ranked 128 out of 176 countries in Transparency International Corruption Perception Index 2012, with a score of 30 out of 100 (zero means highly corrupt), hopes for transparency in handling hydrocarbon revenues are dim.
The real danger is that becomes a political tool. In Lebanon's political system, whom controls what ministry and handles the finances is hotly disputed, and no parties really trust one another, so the dangers for managing the SWF are clear.
Where will money be invested domestically that does not benefit one political party, movement or region over another? And if the fund invests internationally, where and what to invest in? Say a March 8 government wants to invest in Iran. Would the March 14 movement accept that? Probably not. Imagine then, hypothetically, if March 14 unseated March 8, would investments in Iran then be transferred elsewhere, such as to Saudi Arabia.

Seeking neutrality

Perhaps a better approach would be to give Banque du Liban (BDL) – the country’s central bank – control over the SWF. The BDL has handled foreign reserves well – certainly gold, with Lebanon ranked 19th globally by the World Gold Council (WGC) this year.
But BDL, like all central banks globally, is also not known for its transparency. Additionally, the recent appointment of Ahmad Safa as an Executive Director at the BDL's Banking Control Commission raises concerns, as he was fingered by the United States Treasury for his role in the money laundering scandal that took down Lebanese Canadian Bank in 2011.
Perhaps the best initial strategy would be to pay off the debt, and invest heavily – possibly through public-private partnerships for added transparency – in the country's dilapidated infrastructure and institutions. Only once that money is spent would it be truly worthwhile debating how best to organize and run a SWF, and where it could invest domestically and globally.
Alternatively, another idea would be to pay off some of the debt and then use the SWF to buy more gold, which could be held partly in Beirut and elsewhere. By holding physical gold the country would be on a solid foundation in terms of reserves and, if needed, to go to the markets for financing, while in the local political context this would arguably reduce the chances of misuse of funds.
Furthermore, in a period of quantitative easing with the US Federal Reserve printing money – some $1 trillion is to be added to the Fed's balance sheet per year, according to Forbes – holding gold is a way to hedge against any devaluation in the world's reserve currency, the greenback, which is crucial for Lebanon, given two-thirds of all bank deposits are held in US dollars and the Lira pegged to the dollar.
Additionally, there has been a growing move in recent years by governments (the US excluded) to buy gold as a hedge against inflation and currency devaluation, with official holds surging from $2 trillion in 2000 to $12 trillion in 2012, according to the WGC. Indeed, last year, central bank gold purchases were up 17 percent on 2011, to 534.6 tons, the highest level of buying since 1964. While buying gold would not be a panacea for what to do with hydrocarbon revenues, it should be considered as an option in these trying economic times, certainly to diversify the government's portfolio as well as to prevent political bickering.

Coming of Age

Nonwovens Report International

 

Agriculture accounts for significant nonwovens sales in the Middle East – most products here are currently imported cheaply from China, such as sacks and for sheeting

The Middle Eastern nonwovens sector is starting to grow from its Turkish and Saudi base. Paul Cochrane reports from Beirut

Nonwovens manufacturing has grown fast in the Middle East and North Africa (MENA) region, with most of the major players less than two decades old. With a burgeoning population and strong export potential, MENA production has in general doubled over the past five years, especially in the region’s manufacturing hubs of Saudi Arabia and Turkey, which currently have the strongest nonwovens sectors. But with heightened investment in the sector over the past two years, manufacturers elsewhere are squaring up for an increasingly competitive market as more supply comes online in 2013 and beyond.
Israel – through producers Avgol, Shalag Shamir, Albaad, Spuntech and Hogla Kimberly – is one new pretender. And to a lesser extent Jordan and Tunisia are growing a nonwovens industry, while Egypt is an emerging manufacturing hub. The majority of production in the Arab world and Turkey is currently for hygiene products, attributed to major investment in Reicofil machinery. Meanwhile, lower cost nonwovens are imported cheaply from China.
“The reason is the old story of utilising high-end equipment in the best way, which is for hygiene. If you have that sort of equipment, to make any other material would be like using a Ferrari as a delivery van,” said Richard Gillings, business development manager at Saudi German Company for Nonwoven Products (SGN), which is based in Dammam, on the country’s Gulf coast, near Bahrain. “That is why the major focus is hygiene, and there is some medical. Technical production is very small, as most of that is imported from China. In agriculture, as far as I know, we are the only manufacturer in the Middle East, although 95% of our business is hygiene and the rest agriculture.”
SGN is Saudi Arabia’s first nonwovens manufacturer, established in 1995, and the first spunbond operation in the Middle East, producing polypropylene spunbond and SMS nonwoven fabrics.
Last year, the kingdom accounted for 55% to 60% percent of SGN’s sales, rather than the company looking for more overseas sales.“Saudi Arabia is our biggest market, and there has been lot of investment in diaper lines as there is a high birth rate and overall high disposable income,” said Mr Gillings. The bulk of its exports are to Middle East and Africa (MEA) markets.
SGN is indicative of the overall expansion of the market, recording 10-15% annual growth over the past five years. SGN has two manufacturing facilities, a 30,000 square metre site in Dammam, and a 70,000 sqm site in Rabigh (on the Red Sea coast), having added three lines by 2006, bringing production to 33,000 tonnes per year (tpy). In March, SGN is to start its fourth Reicofil line at its Rabigh site, which has room for three more lines. “It will add another 17-18,000 tpy, with about 50,000 tpy altogether,” added Mr Gillings.
Meanwhile, production in Turkey has also surged to meet domestic and export demand, with production doubling between 2007-2011, according to Serkan Gogus, commercial director of Mogul in Turkey, which primarily produces wet wipes through spunlace brand Aqualace. He said: “The biggest growth is in spunlaid and spunmelt technologies, mainly for hygiene and spunlace for wet wipes.” Recent investments were in spunlace and PET spunbond at its two lines, with the latest opening in 2012. “We’re seeing the strongest growth in Turkey and Saudi Arabia, and there has also been growth in Egypt recently,” he added.
Egypt is a burgeoning market, both in consumption and increasingly for production due to its geographical proximity to MEA markets. France’s Bostik has invested in a new manufacturing plant in Cairo, Bostik Egypt, which opened in April, 2012, exporting to the MEA, and multinational Procter & Gamble (P&G) is building a $176 million diaper factory in the North African country, aiming at the same markets, with 40% to be sold locally. Japan’s Unicharm announced last October that it is also expanding into Saudi Arabia and Egypt as part of a strategy to triple the company’s annual production of diapers and feminine napkins by 2020, with 40% to be manufactured and consumed in MENA and Asia.
“Unicharm entered the market now, so a lot of these companies are growing, and Egypt is a place to grow. I don’t know how the political situation may effect things, but Egypt is still a high potential market and the middle class is there, bigger than before, and demand will grow, such as for diapers,” said Mounir Haddad, managing director at Saudi Advanced Fabrics (SAAF), which produces nappies for P&G distributors in Jeddah, Cairo, Europe and Africa.
The locational move of nonwovens manufacturing towards Egypt and the Red Sea is also aimed at meeting emerging retailer purchasing habits. “The trend is looking for more local supply - Egyptians like supplies from Egypt. There is a move towards that, and we’ve done that by opening factory on the east coast of Saudi Arabia,” said Mr Gillings. “What clients want in general is having their supplier in the same industrial area, and if not a supplier, then suppliers to maintain stock locally to cut down on lead times.”
SAAF is one of Saudi Arabia’s major nonwovens manufacturers alongside SGN and Mada, but exports 90% of its production, which is evenly split between hygiene and medical products. “SAAF is the biggest manufacturer in terms of medical volumes, SGN in hygiene volume, and Mada has started medical production but is still small,” said Mr Haddad of the kingdom’s manufacturers. More than 70% of SAAF’s exports are sent to China, the rest to the United States, Europe, Egypt and Turkey.
SAAF is also upping production, from 25,000 tpy to 40,000 tpy, adding to a Reicofil 3 line, and a Reicofil 4 line installed in 2006, with a third - 6 beam, SSMMMS, 3.2 machine Reicofil 4 - to be operational in September.
However, such investment by nonwovens manufacturers across the MENA region is likely to lead to more supply than demand. “Of course there is growth, but less than capacity. A lot of capacity came on last year and this year, and will create over capacity for the coming two years,” said Mr Haddad. “This is where there will be some conflict, but it won’t last too long as there’s growth in hygiene, especially in Asia and considerable growth in Africa.”
Indeed, despite 112 million people being aged under-30 in the MENA region, sub-Saharan Africa is seen as the next big sales market. “I don’t expect too much growth in the Middle East in terms of consumption but I believe Africa has more growth opportunities as penetration of nonwovens is very low,” said Mr Gogus.
But while Turkish manufacturers are bolstering export potential, consumers and manufacturing customers are suffering because the government in Ankara has decided to protect its nonwovens market, by raising import duties in September 2011. “We were very active in Turkey with a lot of customers, but sales are down 30 to 40% because of the higher tax,” said Mr Haddad.
While a supply and demand gap is expected for the MENA nonwoven hygiene industry in the short term, more local demand is forecast for medical products.
“We expect continual growth as SMS nonwoven is taking the place of Spandex,” said Mr Hadded, who said SMS already had 50%-60% of the European market, while in MENA it is just 20% - so there is “room for growth”. Bolstering demand for medical supplies were Gulf governments requiring hospitals to use disposable materials last year. “It created tenders for nonwovens we’ve never witnessed before,” he added. Such requirements are expected to be rolled out in other countries across the MENA region, he said.


Photograph by George Haddad

When the price is right

Petroleum Review

Should Middle Eastern oil producers – Saudi Arabia in particular – be price makers rather than takers, confined to influencing prices through OPEC quotas? With OPEC’s contribution to overall oil production dwindling compared to non-OPEC producers’ output, and rising domestic demand in the Arab world, there are strong arguments for price signalling. However, the turmoil in the region means any change in strategy will be difficult to implement, writes Paul Cochrane in Beirut.


At the very tail end of 2012, a delegation from the Shanghai Futures Exchange visited Riyadh to lobby the Saudi Arabian authorities to use the Chinese bourse’s benchmark to sell its crude. The proposal, while unlikely to be accepted, highlighted the direction Saudi and Middle Eastern crude is increasingly heading – eastwards. And unsurprisingly, China wants to make the most of this – countering the dominant global crude benchmarks, London’s Brent and the US Western Texas Intermediate (WTI).
Notably, the news also restated the fact that the Kingdom, despite being one of
the largest oil producers and the world’s swing producer, remains a price taker not maker. OPEC, and Saudi Arabia, its most influential member, use a reference basket of 12 crudes – Arab Light, Saharan Blend, Murban, Basra Light and so on – known as the OPEC Secretariat Crude Oil Basket Daily Price, or OPECDALY.
Over the past year, that basket price has been closer to the Brent price per barrel than WTI, but the real point is that it is a reference price – there is no long-term strategy for oil pricing. Saudi Arabia and other OPEC members can only try to steer prices by ramping up or reducing production through collectively imposed quotas. As a result, barrel prices are driven by the futures markets rather than by producers, and this can – and as we saw in the wake of the financial crisis, does – cause price volatility.
For producers such as the Gulf States, dependent on hydrocarbon revenues to balance the books, being price takers may mean no accusatory fingers pointed at them when prices spike into the triple digits – but volatility can play havoc with their budgets. Currently there is the spectre of downward prices as non-OPEC countries, Russia and the US inparticular, ramp up production – OPEC now accounts for an estimated 40% of global output – while demand is weak due to sluggish economic growth.
‘The biggest thing going on right now is the huge change in expectations of supply and demand. Look at the International Energy Agency (IEA) forecasts before the financial crisis – demand at the end of the decade was to be 8.5mn b/d higher than is now expected,’ says Greg Priddy, Director of Global Oil at consultancy Eurasia Group. Handling such changes is a challenge for any oil producer, but Middle East and North African (MENA) countries need high oil prices to continue for domestic economic and political reasons, as well as to fund some $740bn in energy projects over the next five years, according to Arab Petroleum Investments Corporation. ‘The Saudi government requires $90/b-plus for their budgets and to meet population growth. The next three to five years is fine, but it will become a challenge,’ notes Priddy.

Managing markets

One proposal that is floated every now and again by economists as a solution to better control oil production and prices is for MENA countries, led by Saudi Arabia, to sell oil in the same way government bonds are sold – by auction. Through direct market feedback this would determine production output, and impact on how much needs to be invested in energy projects. Budgets could then be planned more effectively with the break-even oil price in mind, and there would be fewer barrel price fluctuations, which has led to huge budget surpluses due to conservative estimates or fiscal deficits as the price plunges.
‘A market decided by oil ministers doesn’t work. It did when OPEC dominated, but now there’s a lot of competition,’ explains Marcello Colitti, an independent oil consultant based in Rome. ‘The present situation has not been completely digested by oil producers still believing in the possibility of financing continuing as before.’ He advises Riyadh to manage the market rather than make calculations on how much it needs to keep the country going: ‘If they keep doing that, they will have a surprise. So, they should go into the market, sell oil at the price they believe is right, and give everybody the ability to resell it. It will mean the price is a market price. At that point you have a situation where you have the feedback on your production.’
However, if Riyadh became a price maker it could very well signal the end of OPEC, as other members would be forced to go to the market. ‘The OPEC group has become more or less irrelevant, although still relevant to the Asians,’ notes Kate Dourian, Editor of Platts Middle East in Dubai. ‘OPEC could set up a price benchmark reflective of the market, it is not an inconceivable solution, yet at the moment I’m not sure the Saudis want that kind of commitment. But if there is no price band and no production quota, what’s the point of OPEC?’

Make or take time

One reason the Saudis would be hesitant to sell oil directly is to avoid the experience of the 1980s, when OPEC official prices were out of sync with freely- traded crudes and there was surplus capacity. Competition between OPEC members led to price discounting.
However, Saudi Arabia kept to the official price system set in 1974 and had to reduce output, leading to a 70% drop in exports between 1980 and 1986, to 3mn b/d. A short-lived ‘netback pricing’ system also failed, and the debacle ended with the ousting of Saudi Oil Minister Ahmed Zaki Yamani in 1986 and the creation of the OPEC quota system.
‘The Saudis have been price takers not makers following the Yamani experience,’ says Dourian. ‘To be price makers is not an option in their psyche as they’ve been burned so many times and don’t want the responsibility. That is why they pushed for OPEC price targets [in 1986].’
A further factor against going to the markets, or for Riyadh to go on the Shanghai Exchange, is the performance of the Dubai Mercantile Exchange’s (DME) Oman Crude Oil Futures Contract. The region’s sole pricing benchmark has only attracted Dubai and Omani crude, and no other major Gulf producers.
Opened in June 2007, the DME recorded 2mn crude oil futures contracts by March 2011, but then rallied, passing the 3bn barrel mark in May 2012. While prices have largely mirrored Brent, trades pale by comparison and, notably, are primarily in actual physical trades of barrels, of which over 40% is bound for China.
‘If the Saudis do anything, and not anything I’ve been told, there is the potential for them to say: “There are a lot of benchmarks out there, why not use some of this, some of that, and maybe go with one of the exchanges". But to be exposed to a Shanghai Exchange or Dubai? Probably not,’ comments Dourian.
Ultimately, with all that is happening in the Middle East, from a population boom to rising domestic demand – slated to rise 1.8 times from 630mn toe in 2010 to 1,140mn toe in 2035, according to the Institute for Energy Economics, Japan – and political instability, producers do not want to rock the boat.
‘It is politically difficult to change these things, and there is no pressure yet,’ notes Priddy. This extends to energy subsidies, with MENA countries having spent some 210bn on energy and other subsidies in 2011, equivalent to 7% of combined GDP, according to statistics from the London School of Economics.
‘The whole pricing issue is a political hot potato following the Arab Spring, with many governments not willing to cut subsidies,’ concludes Dourian.

'Qatargate' breaks open

Dirty dealings in Doha's winning World Cup bid

Commentary - Executive magazine

When Qatar won the bid to host the 2022 FIFA World Cup back in 2010, football fans around the globe were astounded at the decision. Many were suspicious, given that they could not even place the tiny Gulf peninsula on a map. Few knew Qatar even had a national football team. Moreover, Doha seemed a rather hot location for a summer World Cup. 

Indeed, right from the opening whistle pundits put forth that Qatar bought the bid. Qatar and FIFA have since been trying to make the case that it was merit and not petro-cash that affected the decision. The Qatari diwan and FIFA could not have been happy, then, to see the cover of France Football magazine when it graced stands at the end of January with “Le QATARGATE” emblazoned on the front. What lay inside was a 20-page report laying out how Doha bought the bid and pushing FIFA to remove Qatar as a host.

In what the magazine terms “acts of collusion and corruption,” the exposé shows how Qatar used its generosity to influence members of FIFA’s Executive Committee (EC) to vote in their favor, made donations for youth initiatives through its sports academy Aspire in countries with voters on the EC and provided $1.25 million to “sponsor” the African Confederation congress to win over four Africans on the EC.

On top of that, millions of dollars were offered to reinvigorate Argentinian football to gain a vote, and famous footballers were paid millions to sing Qatar’s praises to the press. 

Some of the most revealing news focused on France itself. France Football reported that in November 2010, then President Nicolas Sarkozy organized a dinner for Qatar’s crown prince, Union of European Football Associations’ President Michel Platini and a member of an investment fund that owned struggling football team Paris Saint Germain (PSG). Possibly coincidental, but certainly eyebrow raising, Platini voted for Qatar at the FIFA bid just weeks later. In 2011, Qatar’s sovereign wealth fund, Qatar Holding, bought a stake in PSG and the remainder in 2012. PSG has since spent more than $250 million acquiring high profile players, including David Beckham with a $1 million per month contract. Added to this, Qatar set up French TV channel beIN Sport and spent $200 million for the rights to broadcast French football until 2016. 

But what does France Football’s expose mean? An investigation has now been started that could strip Doha of the 2022 tournament, which would then be given to the runner up, the United States. There is widespread conjecture that this will not happen though, as it would be exceedingly damaging to FIFA — potentially opening investigations into the transparency of Russia’s bid for the 2018 cup — and would be a crippling blow to Qatar’s image, not to mention its budget plans with a staggering $65 billion to be spent hosting the cup. 

Also, Qatar is pushing for the scheduling of the event to be switched from the sweltering summer to winter time instead. This will face fierce opposition from European football leagues, with whose seasons this would coincide (although perhaps not the French). 

What is very clear is that Qatar is never going to shake off the notion that its petrodollars bought the 2022 World Cup. But whatever happens over the scheduling, and if Qatar actually remains as host, Doha will have to make damn sure it pulls off a spectacular event, which right now is looking a bit wobbly given the infrastructure needed — metros, train lines, thousands of hotel rooms — and that the technology for the much touted air conditioned stadiums has not even been tested yet. 

In the meantime, another “Qatargate” is in the offing: how did the gulf monarchy manage to become an “associate member” in the International Organization of the Francophonie (IOF) last October without going through the observer stage, having less than 1 percent of its population speaking French, and being a British colony until 1971? Curiously, Qatar appears to have intensely lobbied African countries to support its membership in the IOF.