Dow Dives Into A Risky Shale Bet
BMI View: The recently announced joint venture between state-owned YPF and Dow Chemical reinforces the fact that there is growing momentum in Argentine shale investment despite the sector's risks. Indeed, Shell's recent discovery affirms the country 's strong below-ground potential. Nevertheless, we continue to highlight the challenges to operating there, and expect a difficult progression to large-scale unconventional natural gas production. Indeed , we retain our view that rising gas production will fail to keep pace with rising consumption, leading to an increasingly costly import burden over our forecast period .
Dow Chemical has signed a Memorandum of Understanding (MOU) with state-owned YPF to jointly develop the vast Vaca Muerta shale gas reserves. According to YPF, the company will enter into final negotiations with Dow focused on establishing a joint venture (JV) in order to develop the El Orejano block. YPF signed a similar agreement with Chevron at the end of 2012, but its progress has been stymied by an ongoing legal dispute that threatens the company's presence in the country ( see our online service, March 15 2013, 'Risking The Chevron-YPF JV, And The Country's Shale Potential' ).
The El Orejano block covers 41 square kilometres ( sq km) in the Neuquén province, the epicentre of shale gas exploration in Argentina. Estimates of the country's technically recoverable shale gas resources place it third in the world, only behind China and the US. The most recent confirmation of the country's shale potential is the announcement by Royal Dutch Shell that its subsidiary O&G Developments has discovered hydrocarbons in the Sierras Blancas area of the Vaca Muerta formation in Neuquén . According to Shell, the well is producing 465 barrels per day (b/d) of 35-degree API oil, in addition to 85 cubic metres (cm) of natural gas associated with every cm of oil.
For Dow, an investment into Argentine shale production will help to provide a supply of cheap feedstock supporting its downstream operations in the country. The company already works with YPF in the downstream sector, including the Bah í a Blanca petrochemical complex.
Still A Risky Bet, Despite Momentum
|Betting On Shale|
|Argentine Gas Production, Consumption, and & Net Imports, 2002-2022|
We have long highlighted the risks to doing business in Argentina's strategic sectors ( see ' Upside Production Potential But Fundamental Risks Endure', March 6 2013, and 'Is Momentum Picking Up In Argentine Shale E&P?', January 31 2013). The primary challenges include oil and gas price caps (now to be managed by the recently established national hydrocarbon planning commission), currency controls and import restrictions ( see 'YPF's Investment Plan Depends On Risk-Tolerant Foreign Investors', September 3 2012). These are compounded by the fact that Argentina has been largely cut off from global credit markets ever since it suffered the largest sovereign debt default in history.
For foreign companies, the risk lies not in what is below ground, but in difficulties repatriating profits and carrying out efficient business operations. Current government policies, including those previously mentioned, are specifically designed to favour local players over foreign ones.
A Shifting Long-Term Outlook
Should YPF prove successful in unlocking some of its massive shale potential through participation with foreign partners, it could provide the country with an opportunity to stave off or possibly even reverse a decline in gas production - giving the country net importer status over the next decade. We are, however, holding on to our forecasts for now, which reflect a growing gas import burden. We do acknowledge that these developments and investments are generating significant upside risk, but we will only intervene in our forecasts once a credible commitment to large-scale production is made.