UNIVERSITY OF CAPECOAST

SCHOOL OF BUSINESS
ACCOUNTING AND FINANCE

BUS 407: OIL AND GAS FINANCE AND

MANAGEMENT
By
John G. GATSI

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JOHN GATSI 2011 OIL and GAS FINANCE,

UCC

Crude Oil and Natural Gas Prices

(2007-2009)

Source: US Department of Energy and Natural Gas Week

 It also deals with factors determining the demand and

supply of energy resources and commodities.

Let us remember that energy is neither created nor
destroyed but can be converted from one form to
another.- Wind energy, solar energy, Hydro related energy
, energy from the burning of coal and fire wood.
Note that the demand for energy resources is derived
demand and may be influenced by cost of conversion,
available technologies and possible alternatives
Thus human beings are key in discussing energy in
general and oil and gas in particular

Storage and Depletion of Energy

Resources
Energy resources can be depletable
Energy resources can be stored
Some energy resources may be non

storable
Some energy resources may be renewed
Thus extraction and use of energy
resources for domestic and industrial
purposes must be driven by forward
looking policies to save future
generations

Energy Commodities
Energy commodities are those commodities
which can provide or are capable of
providing energy services for human
activities, such as lighting,water heating,
cooking, automotive power, etc.
Example:
Gasoline, diesel fuel, natural gas,
propane, coal, or electricity , aviation
fuel , Kerosine, Liquified natural gas ( LPG)

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Energy Resources
They are the resources from which energy

commodities are generated

Example
Crude oil, natural gas, coal, biomass, hydro,
uranium, wind, sunlight, or geothermal
deposits

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JOHN G. GATSI 2011

Types of Energy
Chemical energy (e.g., oil, natural gas,

coal, biomass),
Mechanical energy (e.g., wind, falling
water),
Thermal energy (geothermal deposits),
Radiation energy (sunlight, infrared
radiation),
Electrical energy (electricity),
Nuclear reactions (uranium, plutonium.)

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John G. Gatsi 2011

Derived Demand for Energy

Commodities
Is the demand for energy commodities

derived demand? - YES

Why? Do you buy gasoline and keep in your
house because you want it? Then why?
Because you need it for your car or vehicle
to travel. Thus demand for gasoline is
derived demand

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GATSI 2011 JOHN G. GATSI

Are energy commodities

substitutes?
Yes, because one can use natural gas to

power an automobile or gasoline, diesel

even alcohol etc
The level of substitution depends on
technology
Thus some vehicles use both gasoline
and natural gas but others do not

Are energy commodities

necessity

To a large extent yes because human life

and human economic activities depend

perfectly on one form of energy or the
other.
It is now clear that oil and gas is part of
energy resources
So what is the difference?

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History of Global oil and gas

Industry
We could trace the emergence of oil and

gas even before the birth of Christ

In the primitive ages in the Middle East
especially
We can also trace oil and gas to the time of
Herodotus, in 450 BC, 347 AD in China

However, the focus is on when we have a

vibrant oil and gas industry in which prices

are determined, demand and supply
conditions guide the market
Also where trading transactions are
arranged in an organised manner
Where oil drilling companies emerged and
oil marketing companies serve as
distribution channels to the consumers

The global oil and gas industry is based on

non-renewable energy resources

Modern Oil and Gas Industry

The modern oil industry started 1859 with

the first oil drilling in Titusville,

Pennsylvania, in the US .
In 1901, drilling of huge quantity of oil
started in East Texas.
In 1870, John D. Rockefeller established the
Standard Oil Company in Cleveland, Ohio, to
compete with the existing competitors
In 1911, Standard Oil was spinned -off into
smaller companies monopoly was made
illegal under the Sherman Anti-trust Act of
1890

 Three oil companies,

Exxon, Mobil and

Chevron were formed
as a result
In 1890s Royal Dutch

started producing oil

in Indonesia Shell
Transport and Trading
distributed and sold
kerosene in Russia
and the Far East.
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John Gatsi @ Oil and Gas Finance & Mgt 2011

School of Business, UCC

In 1907, Shell and

Royal Dutch merged

become the Royal
Dutch ( Shell Group)
Due to fall in oil prices
in the 1920s after World
War I, Standard Oil of
New Jersey (Exxon),
Royal Dutch Shell and
Anglo-Persian (BP) met
in Scotland, in 1928
with plans to share the
world markets

 The cartel agreement

became the Red

Line Agreement or
Achnacarry
Agreement.
Four companies ;
Chevron, Gulf, Mobil,
Texaco) later joined
them and the seven
companies came to
be known as the
Seven Sisters,.
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They were also

called the Majors.

The purpose of the
cartel agreement
was to tabilise
world oil prices and
supply

In the late

1940s(1948)
Venezuela
succeeded in
revising 50:50
sharing
agreements with
the IOCs

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. Falling demand

from the European

recession and the
rising world supply
caused a major
plunge in oil prices
in the late 1950s

This led to reduction in oil producing

countries tax revenue, which was already

low due to the transfer pricing system
implemented by the IOCs within their
concession agreements with the host
nations
Venezuela, Iran, Iraq, Kuwait and Saudi
Arabia formed OPEC (Organisation of
Petroleum Exporting Countries) in 1960 as
a result.
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Nationalisation by OPEC
OPEC countries nationalised the producing

assets of the Seven Sisters in their

countries and broke down the integrated
system that the IOCs had created.

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Spot and Futures Markets for

oil
The current spot transactions have their

origin in the first and second oil crises. The

oil embargo of 1973 and the Iranian
revolution of 1979 sparked fears of a
shortage in crude supply.

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Oil and Gas as International

Commodities
International commodities are traded in the

international markets either on the

exchange or over-the counter (OTC)
Priced in international currencies such as
the dollar, pound sterling , euro etc
Prices are determined by factors which are
outside national markets

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Example :
Crude oil prices are determined sometimes

by considering demand and supply from

the US
The strength of the dollar
OPEC supply quotas and non- OPEC supply
Geopolitical developments etc

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These non-Arabian oil companies were informally called

"The Seven Sisters". They control what is shipped to

the United States and how much is refined into gas and
heating oil. Originally [the group included:]
Exxon (was Standard Oil of New Jersey, then Esso)
Mobil (was Standard Oil of New York, which merged
with Vacuum Oil)
Chevron (was Standard Oil of California)
Texaco
Gulf Oil (controlled by the Mellons)
Shell (Royal Dutch Petroleum)
British Petroleum (Anglo-Iranian)

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Copyright 2009 Pearson Prentice Hall. All rights

reserved.

Upstream Oil and Gas Sector

Three main sectors- Upstream , Midstream and

Downstream
Some say two main sectors- Upstream and Downstream
Upstream deals with exploration and production
(E&P) activities
It includes investment in upstream infrastructure through
foreign direct investment (FDI) and indirect investment
Investment in the sector is capital intensive and risky
such that only few IOCs and financiers engage in the
upstream
Cartel like investors in joint operating agreements with
NOCs/ Governments

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John Gatsi 2011 Oil and Gas Finance, School of

Business , UCC

 Most developing countries in Africa depend

heavily on FDI to develop the upstream sector

Midstream sector:
Deals with refinery of crude oil into various

petroleum products- gasoline , kerosene,

diesel , aviation oil etc
Transport of crude oil from producing countries

Downstream sector :
Involves the distribution and marketing of

petroleum products

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Example of products include:

LPG
Gasoline, Aviation Fuel, Diesel ,Bitumen,

Lubricants
Support Services:
Security, Logistics & Communication,

procurement, storage systems

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What is Oil and Gas Finance

About?
Raising of huge long term capital to invest

in the upstream, midstream and

downstream operations to generate profit
and value for shareholders, product
availability to consumers and for
governments to generate revenue for
national development
This definition clearly reflects the thinking
of OPEC in September, 1960 in Iraq when
they set out the objective of OPEC
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Objectives of OPEC
to coordinate and unify petroleum
policies among Member Countries, in
order to secure a steady income to the
producing countries; an efficient
economic system and regular supply of
petroleum to consuming nations; and a
fair return on capital to those investing
in the petroleum industry

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Foreign Direct Investment (FDI)

and Oil and Gas
Until the 2000s foreign direct investment inflow to most

African countries was insignificant due to less attractive

policies which prohibited or placed quotas on FDI inflows.
Lack of democracy, poor infrastructure, weak
governance institutions, uncompetitive markets and
questionable legal regimes also accounted for the low
level of FDI into Africa.
International Trade and Finance literature indicate that
when appropriate domestic policies drive FDI, the impact
on the economy reflects improve competition, efficiency,
diversified products and services.
It is therefore not surprising when African governments
spend time to attract FDI so as to improve growth of
specific sectors to ensure balanced economic
development.

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Recent Reforms in Sub-Sahara

Africa
The recent reforms in Sub-Saharan African countries including

Ghana resulting in democratic governance, accountability and

transparency institutions, improved social and economic
infrastructure such as telecommunication, national and
personal security, openness of markets and deregulation of
investment laws have accounted for the surge in FDI inflows.
Privatisation is clear product of liberalisation of African
economies.
Privatisation though questioned by most socialist driven
experts, have resulted in mergers and acquisitions of stateowned enterprises(SOEs) which formed the first phase of
improved FDI into Ghana.
The current phase of FDI into Ghana is driven by democratic
governance, macroeconomic stability, stable political
environment, rule of law, improved infrastructure and
exploitation of natural resources including oil and gas.
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What Drives Foreign Direct

Investment Inflows To Ghana?
Foreign direct investment deals with cross-border

investment into real assets and real economic activities of

the recipient nation. Thus buying into the stock of shares of
companies listed on an exchange could be described as
portfolio investment and not FDI. Multinational or
Transnational Corporations are motivated by the following
to invest in cross-border direct economic activities:
Market- Seeking FDI- This is explained by the market
attractiveness of the recipient country due to the size of
the economy, current growth rate and prospect for stable
growth. The economic indicators of Ghana over the past
two decades have been remarkable though not the best.
The recent rebasing of the gross domestic product of the
country with per capita income in excess of $1,300 thereby
admitting the country into the club of lower end middle
income nations provides a better prospect to attract more
FDI.
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 Efficiency Seeking FDI- This is explained by the

availability of quality infrastructure that makes cost of

production competitive. The quality of transport and
telecommunication infrastructure, administrative cost of
doing business and availability of finances. Thus the cost
of bribery and corruption can negatively affect FDI
inflows since they have the potential of increasing cost of
doing business.
Natural Resource Seeking FDI- African countries with
natural resources especially oil and gas tend to attract
more FDI than the rest. Since the start of commercial oil
production in Ghana FDI activities have increase and
promises to improve. This implies oil and gas exploration
and development will attract more FDI to Ghana.
Exchange of critical technology and skills development
are considered to be the main benefit of FDI since
nations aspire to engage in outward FDI in the future.
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The OLI Paradigm

O- Owner specific or home market such that a

Multinational firm will engage in FDI when it

established home competitive advantage
L- Location specific ie foreign market thus the
firm must be attracted by specific
characteristics of the foreign market that makes
it possible to take competitive advantage;
technological, financial, human capital
I-internationalisation
How does it apply to investment in oil and gas
industry in Ghana?
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The Gravity Model and

Investment in oil and Gas
Derived from Newtons Law of gravity
That places with dense population tend to

attract commodities, resources, people and

finance than less populated areas.
Thus new oil finds in Africa in large
commercial quantities, with flexible
investment climates and regulations
May serve as incentives in attracting FDI into
these countries in general and to their oil
and gas industry in particular.
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Copyright 2009 Pearson Prentice Hall. All rights

reserved.

Some FDI Strategies

Greenfield investment
Mergers and Acquisitions
Joint Ventures
Strategic Alliances
Franchise and Licensing

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