NIGERIA - Violence & NNPC Payment Problems.

The foreign operators in Nigeria face two major problems: violence worsened by a state of lawlessness in the oil producing areas and NNPC's inability to meet continuously declining cash calls. When the civilian government of President Obasanjo took over from the military in early June 1999, arrears to be paid by NNPC for the six main JVs to maintain their capacity and expand exceeded $2 bn. By then, violence in the south had forced the foreign operators to cut productions temporarily. At times even before the death of military dictator Gen. Sani Abacha in June 1998 total Nigerian oil production has fallen by a third.

The causes of violence in the oil producing areas are very complicated. Ethnic rivalry has plagued Nigeria since 1914 when the British official in charge, Lord Lugard, decided to forge a single nation out of the largely Muslim protectorate of Northern Nigeria and its mostly Christian counterpart in the south. Sometimes a bad incident can escalate and threaten the whole nation. In 1966 the massacre of Christian Igbos in Kano by Muslims was one of the sparks which ignited the civil war and led to the Biafran secession movement in the south-east. Now there is a war between the Hausa Muslims of the north and the Yorubas of the south, among the many ethnic conflicts raging in the country. There is violence in and around the oil refining areas of Kaduna and Warri (see DT of this week). Communities in the oil-rich south never gained much

from their oil wealth, while most governments in Nigeria have been dominated by the Muslim north.

What complicates issues in Nigeria is the state of lawlessness of which many gangs often take advantage by looting or trading in stolen fuels. For example the Yandaba (sons of evil) street thugs have long monopolised the distribution of stolen fuels in the black market and have flourished during chronic fuel shortages under former military governments.

President Obasanjo and his top aides last month met with the foreign partners in the six main JVs. They discussed NNPC's arrears, which the government did not help resolve, and the combination of violence and state of lawlessness in the oil producing areas. The talks did not result in much. Shell, the worst affected by the violence and lack of payment by NNPC, has cut its staff considerably. Mobil has done the same. The others have scaled down their operations as well (see Gas Market Trends No. 5).

Background Of JV Terms: The JV partners had their agreements improved in July 1991, when they signed a new Memorandum of Understanding (MoU) replacing the MoU of 1986. The new MoU restored the real value of their profit margins. It guaranteed a minimum after-tax profit of $2.3/b provided that technical operating costs did not exceed $2.5/b. But the minimum guaranteed margin rises to $2.5/b if capital investment exceeds $1.5/b with total operating costs of less than $3.5/b. (The 1986 MoU guaranteed a minimum margin of $2/b in exchange for stipulated exploration commitments. That margin was subject to NNPC's operating partners keeping to minimum standards of cost efficiency; when costs rose above a notional level of $2/b, the guaranteed margin was reduced. It also obliged the foreign partners to buy NNPC's crude oil share at 45 days' notice if it was unable or unwilling to sell it because of adverse market conditions).

In addition, the 1991 MoU provided bonuses for companies which increased their reserves by more than the amount they produced in any given year, thereby adding to net reserves. It reduced the required notice period for purchasing unsold government crude oil to 15 days. It also put in place a series of further fiscal incentives for new investment and mapped out a five-year plan for exploration and capital investment designed to increase the companies' production capacities and oil reserves as well as invest in new gas utilisation projects. This MoU did not affect the then new PSAs.

The MoU made relations between NNPC and its foreign partners clearer. The partners were each required to sign a Joint Operating Agreement (JOA). For the first time in most cases, the JOA documented in precise detail the rights and obligations of each party. It spelled out procedures for funding decisions, their obligations to train Nigerians, and NNPC's right to become the operator of certain fields if and when it chose to do so.

It was understood after the 1991 MoU that, to maintain a total production capacity of 2m b/d, NNPC and its partners must spend $4 bn/year. It was also estimated that another $5 bn/year would be required to expand this capacity to 2.5m b/d by 2000. The Shell-led group then pledged to increase capital spending from $500m/year to $1.5 bn/year - with NNPC to provide 55% of this - in order to expand its capacity from 950,000 b/d to 1.3m b/d in 1996. Relatively big outlays were pledged by the foreign partners in the other JVs.

But NNPC failed to pay its majority share of the capital on time, causing the foreign companies to delay work on their fields, and Shell's target for expansion was put off till the late 1990s.

In October 1994 Shell - often acting as leader on behalf of the other companies - declared NNPC in default. This was partly to cover itself against legal action by sub-contractors for money owed by the JV and partly to add pressure on the government. Shell lifted the default notice in the following month. A few months later NNPC began paying parts of its share of the funding to the main JV partners. But in the subsequent there was confusion about NNPC's naira denominated arrears to its partners because of disagreement over the exchange rate. Confusion has continued since then over both dollar and naira denominated arrears.