Georgetown SFS - Chevron FDI Risk in Emerging Markets Strategy


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Georgetown SFS - Chevron FDI Risk in Emerging Markets Strategy

  1. 1.   FDI  Risk  Strategy:  How  Past   Experiences  Shape  Future  Investments     FDI  Risk  in  Emerging  Markets   Aaron  Easlick,  Michael  Edeke,  Patrick  Ottenhoff   Presented  April  19,  2012  
  2. 2. Emerging Markets Appetite  for   Risk   Chevron  is  an  integrated  energy  company  that  generates  most  profit  from  upstream  operations.   Oil  and  gas  industry  is  increasingly  dominated  by  national  oil  companies  in  recent  years,  forcing   independent  ones  to  explore  riskier  areas.   With  strong  financial  health  relative  to  its  private  peers,  Chevron  has  more  appetite  for  risk.   Case  Study  #1:   Kazakhstan   Chevron  successfully  entered  this  market  in  1993  after  independence.   Chevron  operates  in  largest  oil  fields  ,  owns  50%  stake  in  Tengizchevroil  with  the  Kazakh  state.   Major  voids:  lack  of  pipeline  capacity,  shortage  of  skilled  engineers  and  few  domestic  suppliers.   Case  Study  #2:   Chad   Severely  underdeveloped  state  that  has  been  ruled  by  a  military  government  since  1976.   Chevron  operates  JV  with  Exxon  and  owns  a  pipeline  running  through  Chad  and  Cameroon.   Major  voids:  poor  distribution  networks,  insolvent  banks,  and  unpredictable  legal  institutions.   Business  Case:   South  Sudan   Newly-­‐independent  nation  with  significant  oil  reserves;  Asian  companies  investing  quickly.   Major  voids:  Limited  financial  intermediaries,  nonexistent  physical    infrastructure,  political   and  legal  institutions  are  young  and  unproven.   Based  on  Kazakh  and  Chad  experiences,  and  voids  in  South  Sudan,  we  do  not   recommend  that  Chevron  lead  exploration  in  South  Sudan  at  this  time.   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   2  
  3. 3. Chevron Overview Vertically-­‐integrated  energy  company  with  exploration,  production  and  refining   operations  worldwide       Production  of  2.67bn  barrels  of                  oil  each  day   180 160   $198.81bn  market  cap     $,  billions   140 120 Revenue 100 Income 2nd  largest  U.S.  oil  company   80 3rd  largest  private  oil     60 40        company  worldwide   20 19th  largest  oil  company   0 Upstream   Downstream            worldwide   27%   1%     profit  margin   profit  margin   Upstream  production  is  considerably                  more  profitable  than  downstream  operations       87%  of  $20bn  capex  budget  is  directed  to  upstream,  11%  in  downstream,  2%  other   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   3  
  4. 4. Industry Overview: Rise of NOCs 77%  of  total  worldwide  resources  are  under  the  control  of  national  oil  companies  (NOCs)   with  no  equity  participation  by  foreign,  international  oil  companies  (IOCs).     Western  IOCs  now     JVs   IOCs   NOCs,  77%   13%   10%            control  less  than  10%                          resource  base.       14  of  the  top  20  upstream            companies  in  the  world              are  now  NOCs.     This  trend  has  forced                the  IOCs  to  explore                increasingly  risky  areas.     IOCs:  better  technology,                are  more  efficient,                more  profitable.   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   4  
  5. 5. Industry Overview: Leading the IOCs Chevron  (CVX,  +131%)  outperforming  rivals  IOCs  in  last  decade   Running  profitable  operation,  but  slightly  lower  ROE   Strong  financials  indicate  CVX  is  in  safer  position  to  accept  risk   Company   PEG   Chevron  (CVX)   BP  (BP)   Exxon  (XOM)   1.33   1.38   1.47   Business    Case   Kazakhstan  Analysis   Profit   Margin   11.0%   8.0%   9.5%   ROE   D/E   24%   25%   27%   0.08   0.40   0.11   Chad  Analysis   South  Sudan  Analysis   Credit   Rating   AA   A   AAA   Recommendation   5  
  6. 6. Upstream overview 32%  Asia   25%  USA   18%  Africa   15%  Americas   8%  Europe   5%  Australia     22%  OPEC     Chevron  maintains  a  geographically-­‐balanced  upstream  portfolio  and  is  hedged     However,  Chevron  has  entered  or  explored  most  top  targets  around  the  globe  and   will  increasingly  be  forced  to  consider  riskier  areas.     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   6  
  7. 7. Foreign Market Strategy Before  Chevron  enters  a  foreign  market,  it  must  conduct  a  profitability  study  that   encompasses  the  following  three  major  conditions:         1. Political concerns First and foremost, Chevron cannot enter a country if it is not open for business or if markets are closed due to war or sanctions. Iran (sanctions) and Iraq (war) are good recent examples. 2. Geological conditions Chevron must also conduct a cost analysis of production in certain geological conditions (see Slide 10). For example, deepwater and oil sands are considerably more expensive to extract and refine, and therefore are less profitable. 3. Presence of Competitors Presence of IOCs: A market cornered by ExxonMobil or Royal Dutch Shell will be less attractive for Chevron. However, Chevron sometimes invites competitors to join projects to spread risk. Presence of NOCs: Chevron is increasingly confronting NOCs not only in their home markets, but also abroad. PetroChina, for example, is heavily invested in Africa. In many cases, Chevron is forced to enter JVs with NOCs Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   7  
  8. 8. Business case for going on-‐shore Onshore  production  is  more  profitable  than  offshore,  ceteris  paribus.  In  Nigeria,  for   example,  offshore  production  ($30/barrel)  is  twice  as  expensive  as  onshore  ($15/barrel)   Private  operations  are  almost  always  more  productive  than  any  NOC-­‐affiliated  operation.   In  Kazakhstan,  it  costs  the  private  firm  $10-­‐$12/barrel  and  the  NOC  $15-­‐$18/barrel.     Onshore   Production  cost  per  barrel   Offshore,  Sands   More  Profitable    $60 Less  Profitable    $50  $40  $30 High  Estimate  $20 Low  or  Stated Estimate  $10  $-­‐ Red  denotes  costs  stated  in  Chevron  10-­‐k  /  Blue  denotes  analyst  estimates   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   8  
  9. 9. Importance of analyzing risk Examples  of  Risks   Legend     -­‐  Major  enviro.  lawsuit   (operational/political):   Chevron  fined  by  courts  in   Ecuador  for  $9.5bn  for   enviro.  damage       Y-­‐axis  =  frequency   and  likelihood  of  a   given  risk.     X-­‐axis  =  severity  and   impact  of  a  given   risk.     -­‐  Oil  spill  (operational):   Brazilian  prosecutors  are   demanding  $10.6bn  for  an   offshore  spill       Together,  the  size  of   the  bubble  indicates   how  potentially   consequential  a   given  risk  could  be.     -­‐  Windfall  taxes  (political):   Chad  imposed   $280mm  unanticipated   taxes  on  Chevron       -­‐  Expropriation  (political):   Argentina  unexpectedly   Respol;   company  demands  $10.5bn   in  compensation   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   9  
  10. 10. Case Studies: Kazakhstan and Chad Kazakhstan Proven Success in an Emerging Market: This is an example of Chevron experiencing sustained success in an emerging market Entered Immediately After Independence: Chevron entered this market as soon as it was opened (1993), similar to the experience with S. Sudan and its independence Experience Working with State: Chevron was the lead IOC in several projects and consortiums involving NOC investors Chad Geography and Geology: Chad is close to S. Sudan, with a similar climate and similar geographical and geological obstacles Similar Institutional Voids: Like S. Sudan, Chad is extremely underdeveloped and has considerable institutional voids Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   10  
  11. 11. Analysis  of  Kazakhstan   11  
  12. 12. Overview of Chevron in Kazakhstan Chevron  is  the  largest  IOC  in  Kazakhstan  and  was  the  first  private  oil  company  to  enter  the  country   after  Kazakhstan  declared  its  independence  from  the  Soviet  Union;  it  entered  Kazakhstan  in  1993.   Key  Facts  about  Chevron  in  Kazakhstan     Chevron  operates  in  the  two  largest  oil  fields  in     Kazakhstan.  It  has  a  50%  stake  in  Tengizchevroil       (TCO)  a  JV  with  the  Kazakh  NOC  which  operates     the  Tegiz  field   the  deepest  operating  super  giant   oil  field  in  the  world,  and  a  20%  stake  in  the   nd  largest  oil   field.     Chevron  extracts  approximately  291,000  barrels  of   oil  a  day  with  plans  to  increase  its  total  output  by   up  to  150,000  barrels  a  day.     Chevron  is  the  largest  private  stake  holder  in  the   CPC  pipeline,  the  largest  capacity  pipeline  that   connects  Kazakhstan's  oil  fields  to  ports  on  the   Caspian  Sea.   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   12  
  13. 13. Institutional Void Matrix for Kazakhstan Capital  Markets1   Credibility   Enhancement   Information   Analysis     Aggregation  and   Distribution   Product  Markets   Financial  and  legal  statements  are  not   easily  accessible.   No  universal  audit  standards   Local/Global  agencies/companies   .   rarely  rate  quality  of  suppliers   Credit  Risk  Agencies  are  virtually  non-­‐ existent   No  Major  Voids  Exist  for  Oil  &  Gas   Industry   Insurance  receipts  total  .7%  of  GDP   versus  8.6%  in  OECD  countries.   Equity  markets  are  very   undercapitalized   Transaction   Facilitation   accommodate  full  upstream   production  capacity.  Low  quality   domestic  suppliers.   No  Major  Voids  Exist  for  Oil  &  Gas   Industry   Similar  to  OECD  institutions,  however,   Burdensome  regulations  and  taxes  on   lack  of  training  and  corruption  are   importing/exporting  of  goods  make   Regulation  and   prevalent   trading  across  borders  very  difficult   Public  Institutions   Adjudication   Labor  Markets     Independent  aggregators  of  career  and   employee  information  are  not  present   Most  universities  are  inadequately   equipped  and  produce  poorly  qualified   Engineers   Services  that  place  workers  with   employers  are  fractured  and   underdeveloped   Multiple  agencies  exist  to  regulate   workers  rights,  health,  and   discrimination,  however,  corruption   hinders  mission  statements   The  processes  to  enforce  financial   Government  has  the  right  to  break  and    Labor  law  courts  exist  and  operate  to   contracts  is  significantly  slower  than  in   alter  any  energy  contract  with  an  IOC   some  level  of  satisfaction,  however,   OECD  countries.   corruption  can  skew  and  delay  outcomes     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   13   Source:  World  Bank  ROSC    Kazakhstan,  TrustLaw,  BMI  Kazakhstan  Oil  &  Gas  Sector  Report  
  14. 14. Political System & Openness in Kazakhstan Since  1993  when  Chevron  first  entered  Kazakhstan,  political  stability  has  remained  steady  and  openness  has   situation  still  presents  foreign  companies  with  numerous  hurdles.   OPENNESS     +  The  Government  has  made  ascension  into  the  WTO  a   top  economic  priority,  actively  pursuing  necessary   reforms  since  1997.   -­‐    Trading  across  borders  is  difficult  with  import/export   costs  and  time  3x  greater  than  OECD  countries.   Transparency  International  Corruption  Index     FDI  in  Kazakhstan  in  $  Billions     Business    Case   Kazakhstan  Analysis   POLITICAL  SYSTEM   +  Since  2010  the  government  has  stepped  up   enforcement  of  business  contracts.   -­‐    Corruption  remains  a  major  concern  and  cost  to  doing   business  in  the  country  with  transparency  levels  far   below  OECD  countries.   (1  very  corrupt,  9  very  transparent)   Chad  Analysis   South  Sudan  Analysis   Recommendation   14   Sources:  World  Bank  Ease  of  Doing  Business  Report,  WTO,    UNESCAP  
  15. 15. Major voids in Kazakhstan While  Chevron  is  forced  to  deal  with  numerous  institutional  and  infrastructural  voids  in  Kazakhstan,  three  of  the     VOID   POTENTIAL  IMPACT  ON  OPERATIONS   POTENTIAL  YEARLY  IMPACT   ON  GROSS  INCOME   Product  Market  Distribution:       Lack  of  pipeline  capacity   Unless  pipeline  capacity  is  increased,   Chevron  would  not  be  able  to   adequately  increase  production.   $  4.90  Billion   Labor  Market  Distribution:     Shortage  of  skilled  engineers   The  lack  of  qualified  engineers   $1.80  Billion   launch  new  projects  while  managing   current  operations.   Product  Market  Distribution:     Few  quality  domestic  suppliers   Business    Case   Kazakhstan  Analysis   Kazakhstan  ranks  176/183  for   transporting  across  borders.    Any   equipment  failure  or  supply  shortage   could  cause  significant  operation   delays  for  Chevron.   Chad  Analysis   South  Sudan  Analysis   $0.47  Billion   Recommendation   15    
  16. 16. How Chevron is Addressing Major Voids in Kazakhstan Chevron  has  actively  worked  to  address  the  voids  described  on  the  previous  slide  by  typically  trying  to  mitigate  the   potential  for  future  disruptions  to  its  operations,  although  in  some  cases  Chevron  appears  to  retain  the  risk.   VOID   Type  of  Risk   HOW  CHEVRON  IS  ADDRESSING  THE  VOIDS     Pipeline  Capacity     Operational   Mitigation    -­‐-­‐  Chevron  is  working  with  a    consortium  of  IOCs   and  NOCs  to  expand  the  capacity  of  the  CPC  pipeline  by  nearly   100%.    The  total  cost  of  the  pipeline  expansion  will  be  roughly   $5.4  billion.   Shortage  of   Engineers     Operational   Mitigation/Transfer  -­‐-­‐  Chevron  spent  $40  million  over  the  past   few  years  in  Kazakhstan  to  help  universities  better  trained   managers  and  engineers  for  the  oil  industry.    However,  the   company  increasingly  relies  on  operating  contractors  in  its  TCO   operations  (largest  oil  field  in  Kazakhstan)   Shortage  of  Quality   Operational   Suppliers  in  the   Country     Mitigation  -­‐-­‐  Since  2005  Chevron  has  actively  supported  the   development  of  Kazakhstan  suppliers  by    establishing  preferred   local  supplier  programs  that  encourage  quality  production  and   then  rewarding  them  over  $1.6  billion  in  business  a  year.   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   16  
  17. 17. Analysis  of  Chad   17  
  18. 18. Overview of Chevron in Chad Chad  is  a  central  African  state  comprised   of  Saharan  desert  in  the  north  and  Sahel   in  the  south   Current  regime  is  a  military  government   that  has  ruled  since  1979   Chevron  has  two  major  projects  in  Chad:   The  Doba  oil  fields   Chad-­‐Cameroon  oil  pipeline   With  ExxonMobil,  Petronas,  and  the   World  Bank,  Chevron  has  invested  $7   billion  since  2000  in  the  Doba  oil-­‐field   Consists  of  2  pumping  stations,  a   pressure  reduction  station,  and  a  floating   storage  and  offloading  vessel   Crude  pumped  in  Chad  is  transported   through  a  665-­‐mi  pipeline  to  the  Atlantic   coast  off  Cameroon   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   18  
  19. 19. Institutional Void Matrix for Chad  As  a  failed  state,  Chad  has  a  dearth  of  physical  and  institutional  infrastructure  that  has  exacerbated  its   status  as  one  of  the  most  difficult  places  in  the  world  to  do  business.  Underdeveloped  capital  markets  in   particular  prove  to  be  an  obstacle  to  doing  business.     Capital  Markets   Product  Markets   Labor  Markets     Credibility   Enhancement   None;  there  is  zero  coverage  of   private  bureaus     Void Virtually  no  local  product   standards   Technical  certification  from  abroad  is   available   Information   Analysis     Limited no  major  credit  rating   agencies   Aggregation  and   Distribution   Severely  Limited the  World   Bank  financed  portion  of  major   pipeline   Void Product  market  is   fragmented  and  is  focused  on   basic  subsistence  goods   Vocational  Center  of     opened  in  2011     Union  of  Trade  Unions  is  a  center   Transaction   Facilitation   Void underdeveloped  financial   intermediaries   Lack  of  banking  infrastructure.   Little  physical  infrastructure,  less   than  400  mi  of  paved  roads   Void skilled  labor  must  be   imported;  unskilled  labor  market   opaque   Regulation  and   Public  Institutions   Void Public  banks  have  negative   equity  and     Limited College  de  Control  et  de   Surveillance  des  Resources is   nearly  powerless   Void Government  has  limited   capacity  to  track  workforce  or   conditions   Adjudication   Direct  conflict  resolution  through   the  executive  branch  with  no   independent  judiciary   Poor,  contract  enforcement  costs   on-­‐average  45%  of  the  total  claim   Little  judicial  infrastructure   Business    Case   Limited product  markets  are  not   developed  but  there  are  cell   Void Majority  of  workforce  is  in   subsistence  agriculture.  Semi-­‐skilled     press   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   19  
  20. 20. Political System & Openness in Chad Chad  is  a  failed  state  under  the  control  of  the  autocratic  Idris  Deby  since  1979.  The  development  of  its  oil  resources  in   a  joint-­‐venture  with  ExxonMobile,  Petronas  and  the  World  Bank  was  supposed  to  grant  the  government  revenues   with  which  it  could  pay  for  human  development  projects  that  have  not  materialized.   OPENNESS     +  A  member  of  the  African  Union  and  the  government   was  amenable  to  stipulations  formulated  by  the  World   Bank  on  how  oil  production  revenues  were  to  be  spent   on  development   -­‐    The  government    has  ignored  the  milestones  and  has   been  stabilized  by  the  influx  of  weapons  and  armed   soldiers  from  the  Arab  Spring.   POLITICAL  SYSTEM   +  Presidential  elections  for  a  presidential  term  of  five-­‐ years  have  been  held  since  1996     -­‐    Corruption  is  endemic  to  the  system  and  Deby  has   been  the  only  winner.  The  entire  judiciary  is  appointed  by   the  president  and  in  2006  he  had  to  fend  off  an   attempted  coup  by  rival  military  leaders.     Chad  by  International  Rankings   183rd     168th  out  of  182  on  Transparency     163rd  out  of  169  on  the  Human  Development  Index   4  out  of  10  on    Foreign  Investment  Index  (China  is  7.5)   Source:  Roy  May  and  Simon  Massey  (March,  1999)  Chad:  Social,  Political  and  Economic  Situation  WriteNet  Country  Papers,  Refworld,  UNHCR.     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   20  
  21. 21. Major voids in Chad While  Chevron  is  forced  to  deal  with  numerous  institutional  and  infrastructural  voids  in  Chad,  three  of  the  voids     VOID   POTENTIAL  IMPACT  ON   OPERATIONS   IMPACT  ON  TOTAL  VALUE   OF  CHAD  OPERATIONS   Product  Market  Aggregation  and   Pipeline  infrastructure   $1.3  Billion  w/  a  25%   Distribution Deterioration  of  product   deterioration  reduces  the  amount   increase  in  operating  costs   distribution  network       of  commercially  viable  oil  shipped   through  Cameroon  to  the  Atlantic   Coast.     Capital  Markets  Adjudication No   formal  method  of  resolving  financial   contract  disputes   Inability  to  settle  financial  disputes   $245  Million  to  settle  a   with  government  has  led  to   2006  claim  for  windfall   unverifiable  charges  in  the  form  of   taxes  of  40%  of  operating   income   oil  producers.     Capital  Markets  Aggregation  and   Distribution Inefficient  local  banking   sector         Insolvency  of  local  banks  could   increase  capital  costs  by  forcing   Chevron  to  finance  through  other   intermediaries  farther  afield.     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   $861  Million  w/  a  200   basis  point  increase  in  cost   of  capital   Recommendation   21  
  22. 22. How Chevron address Chad voids Chevron  has  actively  worked  to  address  the  voids  described  on  the  previous  slide  by  typically  trying  to  mitigate  the   potential  for  future  disruptions  to  its  operations,  although  in  some  cases  Chevron  appears  to  retain  the  risk.   VOID   TYPE  OF  RISK     Product  Market   Aggregation  and   Distribution     Operational   Capitals  Market   Adjudication     Company  Specific   Mitigation In  a  2006  tax  dispute  with  the  central   government  Chevron  at  first  chose  withdrawal,  then  paid  a   reduced  sum  of  $280  MM  USD  for  its  tax  charge.  How  the   tax  accrued  in  the  first  place  and  regular  payment   mechanisms  are  not  readily  available.     Capital  Markets   Aggregation  and   Distribution     Financial   Business    Case   Kazakhstan  Analysis   Transfer Activity  in  Chad  by  the  China  National  Petroleum   Corporation  is  expected  to  produce  60,000  b/d  of  crude   and  is  building  a  refinery  at   .     Mitigation/Transfer Used  World  Bank  and  IFC  loans  for   the  initial  capital  construction  and  sources  capex  and   working  capital  needs  from  outside  the  country.     Chad  Analysis   South  Sudan  Analysis   Recommendation   22  
  23. 23. Analysis  of  South  Sudan   23  
  24. 24. Business case for South Sudan  In  September  of  2011  the  US  Treasury  eased  restrictions  on  US  oil  companies  seeking  to  do  business  in  South  Sudan    sanctions  placed  on  Sudan  for  terrorist  activities  in  1997  previously  kept  US  firms  from  operating  in  the  region.      The  South  Sudanese  government  has  indicated  its  desire  to  lure  Western  oil  companies  into  the  country  in  order  to   diversify  from  its  dependence  on  Chinese  NOCs  and  capital  and  to  help  with  future  exploration.       Sud  Province  which  spans  Chad,  Central   African  Republic,  Sudan  and  South  Sudan  has  7  billion  barrels  of  unexplored  oil  reserves.    Approximately  40%  of  the     Financial  Opportunity  for  Chevron   2.8bil  reserves  x   15%  =       420mil  barrels  x   $100/barrel  =   south 420mil  barrels   $42bil  in  Revenue   $42bil  in  Revenue  x   $11.4bil  in  Net   27%  profit  margin  =     Income   The  area  highlighted  in  blue  represents  the  Suds  Province,  a  geographical   region  that  spans  Chad,  Sudan,  South  Sudan,  and  CAR.    Approximately   40%  of  this  region  lies  in  the  newly  formed  state  of  South  Sudan   Business    Case   Kazakhstan  Analysis   Chad  Analysis   Assumptions:    $100/barrel  spot  price,  similar  market  share  for  new  oil   production  in  S.  Sudan  as  current  market  share  in  Chad    15%,  profit   margin  on  par  with  data  provided  in  2010  10k   South  Sudan  Analysis   Recommendation   24    
  25. 25. Institutional void matrix for South Sudan  Since  becoming  independent  in  2011  the  newly  formed  South  Sudanese  government  has  been  working  with   numerous  governments  and  NGOs  to  try  and  develop  the  functioning  institutions  and  infrastructure  and  attract  FDI.   Capital  Markets1   Credibility   Enhancement   Information   Analysis     Aggregation  and   Distribution   Product  Markets   Void must  use  outside  resources   There  are  no  government  or  3rd  party  Virtually  no  certification  schemes  currently   entities  that  certify  local  suppliers   in  place  independent  of  Sudan   Existent a  South  Sudan  Statistical   There  are  no  government  or  3rd  party   Virtually  no  internal  higher  or  vocational   Body  tracks  inflation  and  other   entities  that  promoted  transparency   education  programs  outside  of  companies.     metrics   in  oil  production   Limited-­‐-­‐Banks  exist  and  trade  the   The  two  active  pipelines  in  S.  Sudan   83%  of  the  population  is  illiterate  and   currency,  but  there  are    not  many   run  through  Sudan  which  keeps  a   technical  training  is  virtually  non-­‐existent   financial  intermediaries   tight  control  over  exports.   Very  limited the  currency  (South   Sudan  Pound)  does  not  have  a  set   exchange  rate  with  the  Sudanese   pound   Due  to  control  of  pipelines  ,  Sudan   controls  the  sales  of  oil  from  the   South.   Independent  Commission  of  Fiscal   Transaction   Facilitation   Regulatory  bodies  to  oversee  oil   Regulation  and   Allocation,  central  bank,  and  Ministry   production  were  only  formed  in  late   Public  Institutions   of  Finance  backed  by  World  Bank   2011  and  have  little  experience   Adjudication   Business    Case   Labor  Markets     Strongly-­‐worded  protection  for   foreign  investors  and  operators,   enforcement  capabilities  are   unknown   Kazakhstan  Analysis   Ministry  of  Human  Resources  established   to  develop  capability  within  other   ministries    and  the  public.  Includes   Directorate  of  Development  and  Training   Ministry  of  Labor  exists  with  mandates  for   capacity  building,  worker  training,  and   worker  protection  among  others.     Standards  and  a  petroleum  regulator   Ministries  of  labor  and  justice  exist,   exist,  enforcement  capabilities  are   enforcement  capabilities  are  unknown   unknown     Chad  Analysis   South  Sudan  Analysis   Recommendation   25  
  26. 26. Political System & Openness in South Sudan  Since  becoming  independent  in  2011  the  newly  formed  South  Sudanese  government  has  been  working  with   numerous  governments  and  NGOs  to  try  and  develop  the  functioning  institutions  and  infrastructure  and  attract  FDI.   OPENNESS     +  Policy  of  non-­‐discrimination  against  foreign  investors   +  Government  allows  full  repatriation  of  earnings  and   dividends  and  allows  freely  convertible  currency.   -­‐  Ability  and  willingness  to  adjudicate  is  unknown   POLITICAL  SYSTEM   +  The  government  launched  an  Anti-­‐Corruption   Commission  to  weed  out  corrupt  politicians.   -­‐    The  government  is  forced  to  spend  more  than  31%  of   its  budget  on  security  to  internal  struggles  with  rebel   groups  and  border  attacks  by  the  Sudanese  military.   Recent  attacks  by  Sudan  on  South  Sudan  Cities   and  Oil  Fields     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   26  
  27. 27. Major Voids in South Sudan   VOID   POTENTIAL  IMPACT  ON  OPERATIONS   POTENTIAL  REDUCTION  IN   GROSS  INCOME   Capital  Markets  Aggregation  and   Drives  up  capex  and  operating  costs  by   Distribution Lack  of  institutional   requiring  Chevron  to  take  a  greater   investors   ownership  stake  of  a  risky  project  in  S.   Sudan,  reducing  profitability   Product  Markets  Aggregation  and   An  unreliable  distribution  network    to   Distribution Existing  pipelines  run   through  Sudan   market  share  in  the  field   Product  Markets  Adjudication Public  institutions  are  new  and   weak     Business    Case   $4.2  Billion  w/a  10%   reduction  in  profit  margin   $3.8  Billion  w/a   5%reduction  in  market   share   With  no  formal  conflict  resolution   $6.8  Billion  assuming  a   process  that  has  been  established  with   40%  payout  after   precedent,  Chevron  faces  risk  of   confiscation  of  oil  reserves   Respol  in   Argentina   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   27  
  28. 28. Dealing with Voids in South Sudan Based on Experiences in Chad and Kazakhstan VOID   UNIQUE?   HOW  CHEVRON    SHOULD  ADDRESS  THE  VOIDS     Product  Markets   Aggregation  and   Distribution   Little   control  over  pipeline   capacity   No    Chevron   transferred  pipeline   risk  in  Chad  and   expanded  pipes  in   Kazakhstan   Capital  Markets   Aggregation  and   Distribution Lack  of   institutional  investors   Transfer  -­‐  Since  2005  South  Sudan  has  received  over  $4billion  in   No    Chevron  worked   International  AID,  much  of  it  coming  from  the  World  Bank  which  has   with  Global   pledged  to  support  infrastructure  development.    Chevron  can  partner   Organizations  to  fund   Capex  in  Chad   needs.   Product  Markets   Adjudication    No   track  record  on  the   government  ability  to   enforce  contracts   Yes    South  Sudan   Mitigate/Transfer    South  Sudan  is  so  new  that  its  ability  to  adjudicate   younger  and  less   contracts  is  virtually  unknown.    Chevron  could  buy  insurance  to   established  then  other   mitigate  lengthy  disputes  with  the  government  or  local  suppliers.    It   markets  Chevron  has   could  partner  with  other  IOCs  and  NOCs  to  transfer    risk  of  broken  or   entered.   disputed  contracts.   Business    Case   Kazakhstan  Analysis   Mitigate/Transfer  -­‐  Chevron  could  use  its  expertise  in  upstream   development  banks  as  they  did  in  Chad  and  Kazakhstan  to  help  build  a   suitable  pipeline  through  neighboring  Kenya.   Chad  Analysis   South  Sudan  Analysis   Recommendation   28  
  29. 29. Potential Value of South Sudan after Risk Mitigation Investment  projections  when  drawing  on   best  practices  from  Kazakhstan  and  Chad   Investment  projections  in  a  vacuum   Total  Value  of  20  Years  of   Income  in  South  Sudan   $11.4bn   Total  Value  of  20  Years  of   Income  in  South  Sudan   $11.4bn   Voids   Unique?   Less  Costs   Voids  Addressed   Unique?   Less  Costs   Limited  Pipeline   Capacity   No   $4.2bn   New  Pipeline   Capacity   No   Lack  of  Financial   Intermediaries   No   $3.8bn   World  Bank  and  IFC   No   Loans   $0.0bn   Nascent/Unproven   Legal  Systems   Yes   $6.8bn   Political  Risk   Insurance   $0.3bn   Value  of  Entering  S.  Sudan   ($3.4bn)   Yes   Value  of  Entering  S.  Sudan   $3.0bn   $8.1bn    Note:    The  above  quantifies  the  potential  value  to  Chevron  by  entering  South  Sudan,  after  removing  the  reduction  in     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   29  
  30. 30. Without  using  the  risk  mitigation  tools  learned  from  experience  in  Kazakhstan   and  Chad the  value  of  entering  South  Sudan  is    ($3.4bn)  <  $0       Chevron  should  not  enter  under  these  circumstances.         Using  the  risk  mitigation  tools  learned  from  experience  in  Kazakhstan  and   Chad the  value  of  entering  South  Sudan  is  $8.1bn    >  $0.       If  Chevron  entered  South  Sudan,  there  would  still  be  at  least  $8.1  billion  in   value  using  risk  mitigation  strategies  learned  from  other  emerging  markets.     Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   30  
  31. 31. Go/ No Go and Next Steps for Chevron in South Sudan NO  GO   WHY?   South  Sudan  presents  Chevron  with  some  excellent  future  opportunities  for  oil   production.    As  showed  on  the  previous  slide  utilizing  previous  risk  mitigation  and  transfer   techniques,  over  $8  billion  in  potential  income  exists  for  Chevron  in  South  Sudan.     However,  many  of  the  risk  mitigation  techniques  are  predicated  on  the  assistance  of   multiple  NOC  and  IOCs.  Further  the  political  instability  and  conflict  with  Sudan  will  likely   hinder  the  ability  of  Chevron  to  mitigate  the  most  severe  voids  at  this  time.       NEXT  STEPS   the  political  situation  becomes  more  stable  with  Chevron  should  enter  South  Sudan.   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   31  
  32. 32. APPENDIX Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   32  
  33. 33. Assumptions  for  Chad  Valuation   Estimated  reserves  of  5  billion  barrels   25%  Chevron  stake   Ordinary  cost  of  $20/barrel   Ordinary  cost  of  capital  of  10%   At  a  cost  of  $20/barrel  and  r=10% At  a  cost  of  $25/barrel  and  r=10% $              13,042,954,773   $              11,750,641,101   At  a  cost  of  $30/barrel  and  r=15% At  a  cost  of  $20/barrel  and  r=12% $                  8,846,408,036   $              12,181,966,641   VaR  with Capital  Cost  increase  of  2% $                             860,988,132 VaR  with Operating  Cost  increase  of  25% $                  1,292,313,671   33  
  34. 34. Kazakhstan Net Income Impact Calculations Pipeline  Capacity   Chevron  is  working  with  a  consortium  to  expand  pipeline  capacity,  which  is  expected  to  finish  in  2015,  the  expansion  of  the  pipeline  is   expected  to  take  place  around  the  same  time  as  expansion  of  the  Tengiz  Oil  Field  which  should  provide  250k-­‐300k  barrels  of  oil  per  day   ional   production  output.     150k  /  day  x  $100  per  barrel  -­‐  $12  per  operating  cost  per  barrel  x  365  days  in  a  year  =  ~  $4.9  billion  /year     Shortage  of  Engineers   According  to  a  report  by  BAH  executives  in  the  oil  and  gas  industry   estimate  that  due  to  current  shortages  in  engineers  and  other  qualified  workers  traditional  contractors  can  managed  70%  of  planned   future  production.    Another  report  by  Time  magazine  says  the  shortage  of  engineers  global  and  in  the  US  is  approximately  10%,   however,  Kazakhstan  is  likely  much  worse  due  to  the  tertiary  %  of  gross  population  being  2.23x  less  than  the  United  States  (World  Bank   Data)  .    Using  the  above  data  we  can  estimate  the  potential  cost  to  Chevron  due  to  a  lack  of  qualified  engineers.       A  30%  reduction  in  planned  future  activities  x    1.223  (  assumes  the  30%  reduction  is  based    on  a  10%  shortage  in  the  US  which  when   3)  x    150k   (future  production  expansion  in  the  Tengiz  Oil  field)  x  $  100  per  barrel  -­‐  $12  in  operating  costs  =  ~$1.8  billion/year.     Lack  of  quality  suppliers   When  S.  Sudan  broke  away  from  Sudan  supplies  and  equipment  for  upstream  production  were  stranded  at  the  border  and  oil   production  in  S.  Sudan  decline  by  5%  immediately.    We  assume  a  similar  decline  is  possible  in  Kazakhstan  due  to  the  fact  that  most   equipment  and  suppliers  are  imported  by  Chevron.     291k  barrels/day  (currently  extracted)  x  .05  x  $88  (see  above  calculation)  x  365  =    $.47  Billion   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   34  
  35. 35. Sources Chad Financial Stability Report: Chevron in Chad Fact Sheet: Chevron 2011 10k Chevron 2011 Annual Report Supplements Petronas,com_zine/Itemid,123/id,593/lang,en /view,article/ World Bank Doing Business in Chad 2012 Report: Local Employees in Chad and Cameroon EssonChad:‐ English/PA/Files/31_ch9.pdf Economist Intelligence Unit 2011 Chad Country Report Economist Intelligence Unit 2012 Chad Country Report Government of South Sudan webside:‐changing-‐role-‐of-‐national-‐oil-‐companies-‐in-‐international-‐ energy-‐markets Google Finance Reuters  International  Energy  Study   Business    Case   Kazakhstan  Analysis   Chad  Analysis   South  Sudan  Analysis   Recommendation   35