Petronas's Pandora's Box

With local oil and gas reserves diminishing and armed with close to RM30 billion (US$9.1 billion) in cash, Malaysia's national oil company, Petroliam Nasional Bhd (Petronas), is seeking to expand aggressively overseas. The company has little choice.

A top Ministry of Finance official told Asia Sentinel in November that Malaysia is expected to become a net importer of energy as early as 2011 – and it can look for stiff competition for additional supplies from China and India, which are roaming the planet tying up tracts in countries that include pariahs like Burma and Somalia. Malaysia’s domestic crude oil and condensate reserves are officially estimated at about 4.8 billion barrels, a 19-year reserve. But falling production means imports will surpass exports in just three years. Total gas reserves are expected to last about 33 years.

While Petronas's long-term foreign currency rating was confirmed at “A” in December by Fitch, the international rating agency also said the company "would need to further demonstrate successful geographical diversification to be rated in the 'AA' category" and that its earnings would fluctuate because of its "less diversified and less developed international operations compared to global oil majors."

Petronas, according to an industry analyst who spoke to Asia Sentinel, “is highly regarded among the national oil companies because it operates on the same discipline and principles as an international oil company. That is, it is well run and is known to have quality management and engineers. However, a key problem in the last few months is that they have been losing a lot of staff to the Middle East, which offers doubling of salaries. This is worrying because Petronas’s highly trained and experienced staff is one of its strengths.”

In the last year alone, the company has embarked on a slew of overseas investments, including acquiring United Kingdom gas production and storage company Star Energy Group Plc, which was valued at about US$700 million. Hassan Marican, Petronas chief executive, told the Financial Times the group spent RM12 billion last year on exploration and development.

The company signed three agreements with Uzbekistan on production-sharing, exploration and petrochemical projects, and purchased FL Selenia, Europe's largest independent producer and marketer of branded automotive lubricants, for about US$4 billion. It also bought Woodside Energy Ltd's Mauritanian subsidiaries for US$418 million, gaining significant interests in eight upstream units in the country. It has flirted with doing business itself with rights abusers like Sudan and Burma and in 2006 bought US$1.1 billion worth of shares in the IPO of the troubled Russian oil giant Rosneft.

But it’s the one that got away – a proven Iranian gas field – that is raising questions. On Dec. 24, the Iranian government signed a US$16 billion gas development transaction with a privately held Malaysian firm, SKS Ventures, for the development of Iran’s Golshan and Ferdowski gas fields. SKS Ventures is an offshoot of SKS Group Bhd, which is wholly owned by Syed Mokhtar Al-Bukhary and Zainal Hatim Ambia Bukhary.

Malaysia’s richest individual, with a fortune estimated at US$2 billion, Al-Bukhary is actually an ethnic Arab whose father came from Yemen. A longtime favorite of politicians of the United Malays National Organisation, the country’s leading ethnic political party, he has benefited from a long succession of supplier contracts from government-linked corporations as a partner with Zainal, according to the online encyclopedia Wikipedia. He controls Malaysia Mining Corporation as well as Seaport Terminal Sdh., which in turn owns 70 percent of Tanjung Pelapas, the Johor seaport that faces the Straits of Malacca and has been winning business from Singapore’s terminals.

Al-Bukhary also controls Malakoff, Malaysia’s biggest independent power producer, as well as Gas Malaysia, an independent gas distribution company. It is unknown what relationship SKS has with Petronas. But SKS will have 50 percent of the LNG produced by the two Iranian gas fields, which are estimated to contain an estimated 60 trillion cubic feet of gas. Under the agreement, US$11 billion is to be spent on LNG facilities, with another US$5 billion to be spent on upstream development.

The state-owned energy company has also raised eyebrows due to a series of contracts let through Scomi Group Bhd, a listed company whose leading shareholder is Prime Minister Abdullah Badawi’s only son, Kamaluddin. The company provides oilfield drilling lubricants, engineering services, and other petroleum-related services. Scomi’s shares more than quintupled after it was listed in 2003, the same year Abdullah Badawi became prime minister. Scomi has repeatedly denied allegations of nepotism and insists that the contracts were awarded in open tender.

Mahathir Mohamad, the former prime minister, has charged publicly that Scomi has received RM1 billion worth of government contracts since Abdullah Badawi became prime minister. Most recently, Scomi secured a contract from Petronas that was valued at approximately RM157 million in Turkmenistan. Having first entered the landlocked country at the end of 2005, according to one local report, “it has made major inroads into the country with a total of approximately RM201 million worth of contracts secured in 2007 up to date."

Getting to the bottom of Petronas's foreign ventures is daunting. Because the company is wholly owned by the Ministry of Finance and invests overseas via private limited subsidiaries, it is exempt from public disclosures of its financial statements. Financial analysts contacted by Asia Sentinel generally agree that assessing the company's overseas investments is a mystery, but they point out that Petronas is not legally required to tell all.

And while Petronas has long been regarded as Malaysia’s best-run government-linked company, its investment policies also must conform to its duty as a government-owned company, which gives some indication why the government would rather not divulge its financials. At one point in the 1980s, for instance, Petronas was forced to purchase a Boeing 747 jumbo jetliner and lease it to the government-owned Malaysian Airline System because MAS had signed a letter of intent to use only Rolls-Royce engines on its 747s. The aircraft purchased by Petronas was equipped with Pratt & Whitney engines produced by the US firm United Technologies, thus giving rise to allegations that someone in the government was cozy with agents for United Technologies.

In 1998, the oil company was forced to use its shipping arm, Malaysian International Shipping Corp Bhd, which has made a fortune through its gas tanker business, to acquire a debt-laden shipping concern, Konsortium Perkapalan Bhd (KPB), controlled by Mirzan Mahathir, a son of the former prime minister, which faced debts estimated at about RM1.7 billion. It also became the anchor tenant in Petronas Towers, the two iconic buildings in central Kuala Lumpur that for a time were the world’s tallest – and that were also critically short of tenants in the years after they were completed.

In the 1990s, Syed Mochtar al-Bukhary benefited from Petronas’s help, along with three other of the country‘s richest families, when the energy company was required by the government to provide subsidies to ensure the viability of new independent power producers and Tenaga Nasional, a government-owned national energy corporation.

Those subsidies amounted to RM14 billion for the independents alone, according to Aliran, a Penang-based reform organization, In addition to Malakoff Bhd, controlled by Mochtar Al-Bukhary, they included Genting Sanyen Power, controlled by the family of Lim Goh Tong; YTL Power, controlled by Yeoh Tiong Lay and Tanjong Plc/Powertek Bhd, controlled by Ananda Krishnan, a close associate of Mahathir and other top Malaysian political figures.

As the company spreads its wings beyond Malaysia shores, Hassan Merican told local media that cost increases are the industry’s major challenge. A Petronas official said in an interview that oil exploration and production costs vary greatly depending on factors like location, size and geology. “Sometimes we hit oil, sometimes we drill and the wells dry up,” he said, adding that to mitigate this risk, “detailed studies” are carried out based on available data.

"This (cost) increase has gone way ahead of the actual price increase of crude oil,” Merican told local reporters. “If you look at drilling rigs, the cost increase is about 200 percent. And how much longer can the activities be sustained at these high prices?"

Echoing these woes is Ernst & Young's 2008 Global Oil and Gas Industry Forecast, which said: "The cost of exploration and production continues to rise sharply. Heightened resource nationalism and geopolitical issues are increasing costs and decreasing access to reserves for international oil companies. Investment opportunities are becoming less lucrative, and returns are decreasing... Ernst & Young anticipates that companies will take a slower, more cautious approach to upstream spending in 2008."

"An increase in revenue may be caused by many things, including high crude prices. But what we really need to know is the profitability of each investment. What are the returns? In the current scenario, it's possible that one profitable investment is funding other loss-making ventures," a senior oil and gas analyst in a global investment bank said. "At this point, it's unclear whether revenue has increased because of high crude prices, operational efficiency or sound investment policy."

As Petronas comes to grips with globalization, the question remains whether it can shed its nationalistic goals and truly behave like a global corporate citizen. For a company with corporate practices that include employing mostly ethnic Malays in a country whose government promotes Malay supremacy, it remains to be seen how it can reconcile its international and local identities. Its success may ultimately depend on embracing meritocracy.

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