Asia Times Online
17 March 2006
Southeast Asia
Indonesia opens a gusher
By Bill Guerin
JAKARTA - Spurred by the personal intervention of President Susilo
Bambang Yudhoyono, Indonesia has brought to a dramatic end a four-
year dispute between US oil giant ExxonMobil, the world's largest oil
company, and Pertamina, Indonesia's largest state enterprise. The
dispute involved rights to a massive oil discovery.
The Cepu oil-and-gas block, Indonesia's largest oil discovery in
decades, has estimated recoverable reserves of as much as 600 million
barrels of high quality reserves and 2 billion barrels of lesser-
quality reserves. The field is also estimated to hold 11 trillion
cubic feet of natural gas. Tapping the find promises to return
Indonesia to the status of a petroleum-exporting country, and
Yudhoyono's bold intervention in the deal was interpreted widely as a
signal move towards a more foreign investment-friendly policy regime.
Exxon, which joined with Mobil Oil in 1998 in the largest industrial
merger ever, has been operating in Indonesia since 1898. Its local
operations are integrated under the subsidiary ExxonMobil Oil
Indonesia Inc, which currently operates Indonesia's Arun gas field
and is also developing a huge contested gas field near the Natuna
Islands in the South China Sea.
Yudhoyono, who pledged early in his term to settle the protracted
negotiations surrounding the Cepu contract, intervened in big-bang
fashion last week, which came in the middle of a high-profile visit
to Jakarta by US Secretary of State Condoleezza Rice.
The president fired six of Pertamina's seven directors and appointed
Ari H Soemarno as the new director, replacing Widya Purnama, who was
widely viewed to be at the core of the disagreement with ExxonMobil.
Washington had lobbied heavily for a resolution, and the new contract
signed on Wednesday gives Exxon the lead role.
The deal simultaneously represents a defeat for nationalist elements
in Indonesia's legislature, suggesting that, contrary to the claim of
his critics, Yudhoyono does indeed have the political will to take
decisions in the national interest - even if it means siding with
foreign investors.
Dwindling reserves
Although Indonesia is Asia's only member of the global Organization
of Petroleum Exporting Countries (OPEC) cartel, dwindling oil output
and decades of mismanagement at Pertamina has reversed the country's
energy fortunes, making Indonesia a net oil importer for the past two
years. While the 2006 state budget assumes oil production of 1.075
million barrels per day (bpd), the actual figure dropped to an
average of around 970,000 bpd throughout last year.
Contradictory regulations, security problems, bureaucratic tangles
and corruption, not to mention years of well-documented mismanagement
at Pertamina, have stymied investment in new exploration in the oil
and gas sector and led to declining output - although the Cepu
agreement should go some way towards restoring the global oil
industry's faith in Indonesia.
At a time when domestic fuel consumption is growing annually at 4%-5%
and export demand for Indonesia's oil and gas is up almost 20% year-
on-year, the urgency for a settlement with ExxonMobil was paramount.
Current crude oil reserves are expected to be depleted by 2018, and
Indonesia is in desperate need of new sources to boost production and
resume its position as a net oil exporter. Last year the country had
a massive US$7.3 billion oil trade deficit.
At full production capacity, which would require about $2 billion in
new investments, it is estimated by 2008 Cepu could produce around
180,000 bpd. Analysts estimate that once Cepu is fully online, it
would increase national production by some 20% and would restore
Indonesia as a net oil exporter.
In Indonesia, the state owns all rights to petroleum and mineral
finds. Foreign companies participate in the industry through
production sharing and work contracts, which historically have often
been prone to disagreement. Oil and gas contractors are required to
finance all exploration, production and development costs in their
contract areas, and are entitled to recover those expenses through
sales revenues.
The enactment of new oil and gas legislation in June 2003 ended
Pertamina's long-running regulatory role in the sector, which critics
said often led to a conflict of interest with its production
activities. The law effectively ended the state concern's upstream
monopoly on handling exploration and refining contracts, and last
year its longtime control over domestic distribution of fuel and
petroleum-based products came to a close. Pertamina's regulatory role
in the upstream sector was taken over by the state-managed Upstream
Oil and Gas Implementing Body (BP Migas).
In January, a high-powered business delegation from the US, including
representatives of oil companies ExxonMobil, ConocoPhillips and
mining giant Freeport McMoRan, had pressed the Indonesian government
to review its taxation policy on production sharing contracts and
provide better incentives for their exploration activities.
Specifically, they requested that the government give a clear-cut
policy and explicit job descriptions for BP Migas and Pertamina,
towards the aim of preventing future conflicts of interest.
BP Migas had earlier cited the Cepu difficulties as motivation for a
new government plan to force foreign oil and gas investors to provide
multimillion dollar performance bonds before they be allowed to sign
production sharing contracts. The state agency now must approve all
work and spending plans of production sharing contractors, including
the Pertamina-ExxonMobil deal, and is responsible for determining
what expenditures can be counted as expenses for oil and gas
production operations.
New age contract
The Cepu deal cuts across Indonesia's geography in complicated ways.
Part of the Cepu block is in Blora regency, Central Java, while
another part is in Bojonegoro regency, East Java. Under the new
agreement, Pertamina and ExxonMobil will each have a 45% equity
holding in the block, with the remaining 10% - legally considered a
participating interest - going to local administrations in East Java
and Central Java, distributed 6.7% and 3.3% respectively.
ExxonMobil's local subsidiary, PT Mobil Cepu Ltd, will operate the
block under a 30-year production-sharing contract with the
government, under the supervision of the so-called Cepu Operation
Committee (COC), drawn jointly from officials from ExxonMobil,
Pertamina and local administrations. The committee will be empowered
to take decisions on operations, development and budget, while
Pertamina's subsidiary, PT Pertamina EP Cepu, will be the deputy
operator of the block.
The ExxonMobil deal had featured prominently in Indonesia-US
bilateral relations. On a visit to Washington last year, Yudhoyono
told US oil executives that amendments to current laws governing oil
and gas deals were in the works, which would offer more lucrative
fiscal incentives, including a revision of the current 15% to 85%
revenue split between oil producers and the government, as well as
changes to the 35% to 65% split on natural gas deals.
For the Cepu deal, Exxon's take will range from 6.75% to 13.5%,
depending on global oil prices. Although the contract's production
split will give the government and local contractor the same 85% and
15% shares, the deal stipulates that global oil prices must average
$45 per barrel or higher to maintain that pay structure, an
unprecedented clause for an Indonesian energy deal. If world prices
fall below $35, the split would diminish to 70% and 30% respectively.
Political energy
In August 1990, Pertamina, which was the governing Golkar Party's
cash cow under former president Suharto, granted a 20-year concession
to operate the Cepu block field to Humpuss Patragas (HPG), then owned
by Suharto's youngest son, known locally as "Tommy", who is currently
serving a jail sentence for ordering the murder of a supreme court
judge. That deal was in cooperation with Australian Ampolex, which at
the time owned a 49% stake in the field.
The deal was that HPG would get 35% of its production costs rebated
after production. Pertamina and the contractor, HPG, would split the
revenue from any excess oil produced over the agreed limits in the
contract on a 65%-35% basis. But after years of unsuccessful
exploration activities, HBG ran up severe debts and encountered cash
flow problems, and was later forced to sell its 51% holding in the
Cepu block to the Indonesian Bank Restructuring Agency (IBRA), a
state-run asset rehabilitation agency established in the wake of the
1997-98 Asian financial crisis.
ExxonMobil Oil Indonesia bought both HPG's and Ampolex's stakes
reportedly for around $90 million, through Mobil Cepu Ltd, acquiring
100% ownership. Soon thereafter, ExxonMobil discovered a huge
reservoir of oil, the largest found in Indonesia for decades, that
Pertamina had failed to hit on after nearly 30 years of plumbing the
site.
Exxon said it was willing and able to invest $2 billion to develop
the potentially lucrative field, but because the initial work
contract was due to expire in 2010, the company sought a 20-year
extension under the original terms. Pertamina proposed to act as the
project's sole operator during the first five years under a new
contract, a suggestion that Exxon flatly rejected unless the state-
owned company put in half the development costs.
Despite the deadlock, Pertamina had said it was willing to go it
alone in developing Cepu - even at the risk of facing a protracted
arbitration lawsuit. Widya Purnama, Pertamina's president director at
the time, said in October 2005 that the state oil firm had set aside
$120 million to start drilling 30 wells in the Cepu's Sukawati and
Banyu Urip fields.
Indonesian vested interest groups famously run exclusive agendas,
aiming to bolster narrow personal benefits over broad national
interests. Pertamina has neither the capital nor the expertise needed
to develop such a major oil project, analysts say, and Hestu Bagyo,
head of Pertamina's Cepu block exploration and production unit, has
conceded this point in public.
Still, nationalistic sentiments have run on high since the 1997-98
Asian financial crisis, often ensnaring foreign investors. Other high-
profile business disputes with foreign investors, such as with
Mexican cement producer Cemex, US gold miner Newmont and the one
brewing with US mining giant Freeport, reflect the risk to foreigners
doing business in Indonesia. But with global commodity prices spiking
up, foreign investors are nonetheless seeking new deals in
Indonesia's resource rich territories, and hopes are that Yodhoyono's
recent intervention will mitigate the political risks to new and
existing investments.
Analysts say the resolution of the ExxonMobil deal, which is expected
to start production in about 2.5 years, will bring massive benefits
to the central government and also shore up newly-autonomous local
regions. At peak production, citing the conservative future estimates
of global oil prices averaging $35 per barrel, the government would
earn as much as US$1.5 billion a year from the deal - excluding the
revenues that would go to Pertamina as contractor.
"The project will create jobs, and of course it will bring benefits
to the local economy," says Energy and Mineral Resources Minister
Purnomo Yusgiantoro. Exxon has said it also plans to build roads,
schools, medical clinics and other infrastructure for the project.
Marginal dissent
Nationalistic commentators had demanded that Pertamina maintain sole
control of the Cepu block for the first five years of the project,
and thereafter manage it with ExxonMobil managers on a rotating
basis. American control would amount to another form of colonization,
they claimed, and in any case they argued that Pertamina's local
staffing expenses would keep down costs.
Although Yudhoyono's intervention has broadly cheered foreign
investors, it's not yet clear that the nationalists have been
completely pushed into the shadows. Over 400 Muslim protesters staged
a rally in front of the US Embassy on Tuesday, slamming what they
said was US interference in Indonesia's domestic affairs, citing in
particular ExxonMobil's deal in Cepu and Freeport's investment in
Papua. The protesters were predominantly from the Muslim radical
Islamic groups Hizbut Tahrir and Majelis Mujahideen, led by convicted
cleric Abu Bakar Baashir, the alleged leader of the militant Jemaah
Islamiyah organization accused of masterminding the Bali bombings.
It's not just Islamic radicals that are making nationalistic demands,
however. Sutarjo Suryoguritno, deputy speaker of the House of
Representatives, warned that a ruling in favor of ExxonMobil would be
tantamount "to us being colonized again ... I urge the government to
return to the true path. We should take a firm stance, that the oil
block is the right of Indonesia and its people," he told reporters.
"We'll take every means, including legal and political measures, to
fight the decision," echoed Tjatur Sapto of the National Mandate Party.
Yudhoyono, with his strong democratic mandate, at least for now is
firmly in control and has shown no sign of being influenced by the
nationalist opposition. He has important backing for his pro-foreign
investment decisions from the secular-minded Golkar Party, which
commands the most seats in the House of Representatives.
Agusman Effendy, chairman of the commission responsible for mining
and energy and a political heavyweight from the secular Golkar Party,
recently said that it was essential that the Cepu block start
production as soon as possible. "We should not lose the momentum."
Bill Guerin, a Jakarta correspondent for Asia Times Online since
2000, has worked in Indonesia for 20 years, mostly in journalism and
editorial positions. He has been published by the BBC on East Timor
and specializes in business/economic and political analysis related
to Indonesia. He can be reached at softsell@prima.net.id.
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