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Interview

Lukman Mahfoedz – CEO, Medco, Indonesia

Lukman Mahfoedz, CEO of Medco

The CEO of one of Indonesia’s foremost home-grow success stories speaks out about his company’s achievements in monetizing stranded gas fields and about the Sarulla Power Project in North Sumatra as the largest single-contract geothermal power project in the world.

Medco recently made headlines for its success in bringing the stranded gas of the Senoro field on stream. Can you please elaborate on how this feat was achieved?

Medco succeeded in monetizing the gas field of Senoro,once considered stranded, into a producing asset supplying gas to the Downstream Senoro LNG (DSLNG) complex, an ammonia plant, and to the local branch of the national electricity utility, PLN. Some 15 years ago, this gas field was regarded as uneconomical and was actually abandoned by the previous owner, Arco. Medco, firmly believing in the field’s potential, acquired 50% of Arco’s interest and this paved our entrance in developing oil and gas resources in the Central Sulawesi region. Partnering with PT Pertamina Hulu Energi in the Joint Operating Body “Pertamina-Medco E&P Tomori Sulawesi (JOB-PMTS),” Medco began drilling, and further gas resources were duly discovered.

Considering the resource’s very remote location, we went back to the drawing board for the commercialization strategy and resolved upon a downstream strategy for an LNG facility plant. This downstream scheme is today managed by PT DSLNG which is jointly owned by Medco, Pertamina, Mitsubishi Corporation and Korean Gas (Kogas), with approximate total investment of US$ 2.8 billion.

DSLNG became the fourth LNG Plant in Indonesia and is remarkable for being the first to be developed with a scheme that separates the upstream business and downstream LNG processing. This separation rendered the Senoro Gas Field development possible from a project economics perspective while at the same time actively contributing to state income. The government benefits directly from not having to bear the investment and operational risks and from not having to refund the investment via a cost recovery scheme.

An investment in the upstream segment of roughly US$1.2 billion was required to monetize the 1.9 TCF of gas reserves. The upstream Senoro Central Processing Plant (CPP) comprises two production trains each with a capacity of 310 MMSCFD of gas. Besides producing gas, Senoro CPP also generates 8.500 barrels of condensate per day. On 30th April 2015, train 1 entered full operation with DSLNG producing the first LNG drop on 24 June. The ramping up process progressed with Train 2 enabling DSLNG to fulfill the required gas volume. Within approximately 40 days of operation, the Senoro gas field has produced enough gas for a first shipment of LNG delivering a volume of about 125.000 m³ to an LNG Regasification Facility belonging to Pertamina in Arun, Aceh province. Our plan is also to supply as much as 55 MMSCFD of gas to an ammonia plant operated by PT Panca Amara Utama (PAU) by 2017 and to deliver a further 5 MMSCFD to PLN.

How significant is this breakthrough, for Medco’s future endeavors?

The success in completing these two projects proves Medco’s competence as a national private oil and gas company. We have succeeded in monetizing stranded gas in a way that it can simultaneously be a contributor to state income. This success also reflects Medco’s profound collaboration with its partners and is testament to the reality that, together, we are playing an important role in developing Indonesia’s gas and LNG industry.

We understand that plans are simultaneously underway to monetize an estimated 462 BCF worth of reserves from the Block A PSC in Aceh…

That is correct. Following our success in Lematang, we are confident we have gained the requisite technical know-how and experience for managing Block A, as both projects enjoy similar characteristics with high CO2 and H2S content. Block A has been on Medco’s drawing board for some time as we had foreseen rising gas demand in the surrounding area.

Initially, Block A was to supply gas for a state owned fertilizer company. After several years of development in alignment with the building of nearby gas infrastructure, Block A has now been schemed to supply to Pertamina who will in turn supply to the surrounding areas including the fertilizer company. Medco sees this as a good progress.

Once FID is reached, Medco will be able to supply gas from Block A starting by fall 2017. The recently signed GSA from Block A with Pertamina was priced at $9.45/mmbtu for a contract period of 13 years. This GSA reflects the importance of gas in Indonesia’s future energy identity. Another Block A upside potential is Kuala Langsa whose estimated reserves reach 10 TCF of 80% high CO2 content or 2 TCF Net Co2 gas.

Medco is one of the iconic ‘home-grown’ actors of Indonesia’s oil and gas heritage. This year the company celebrates its 35th anniversary. How would you describe the journey so far?

Medco’s journey started in 1980 as an Indonesian drilling contractor named PT Meta Epsi Pribumi Drilling Company (MEDCO). Back then, the Indonesian oil and gas sector was dominated by foreign drilling contractors. 15 years later, after becoming a publicly listed company, Medco acquired 100% of the shares of PT Stanvac Indonesia for 3 oil and gas blocks in South Sumatra and this marked Medco’s beginning as an upstream oil and gas player. Medco then continued its expansion to cover the international oil and gas arena in 2005 when we were awarded an exploration and production sharing agreement for Area 47 from the Government of Libya. Medco subsequently started petroleum operations in Oman through a service contract awarded in 2006 with a contract lifespan of 10 years. This turned out to be a massive success as we were able to increase oil production threefold in the Karim Field Oman and at a significantly lower cost performance. In May 2012 we achieved peak production of 22,570 BOPD. 

Currently, Medco manages 22 working areas in both domestic and international settings. Our operations span 6 countries and 3 continents. Our recent milestone has been the commercial operation of the Senoro upstream and Downstream Senoro LNG projects of which we maintain 30 percent and 11 percent stakes respectively.

What about your activities in the power sector?

Medco also entered into the power sector back in 2005 through PT Medco Power Indonesia (MPI). MPI has been recognized by PLN for its commitment and capacity to build, supply and operate power plants for the nation.  MPI has been operating PLN’s 2×660 MW coal fired power plant Tanjung Jati B in Central Java for the past 25 years. This plant generates 8 percent of total electricity for the islands of Java and Bali. MPI also operates seven gas-fired power plants in Batam and South Sumatra with a total capacity of 300MW. Medco power plants in Batam supply electricity for some 70 percent of the island’s total demand. Today, MPI operates 1,600 MW and we forecast this capacity to increase to 2,100 MW within the next 3 years, following the completion of Sarulla geothermal and Ijen geothermal projects. As such we have positioned ourselves at the frontline in supporting the government’s 35,000MW program.

The Sarulla Geothermal Power Project in North Sumatra is currently the largest single power contract in the world. With a capacity of 3 x 110 MW and expansion potential for up to 1,000 MW of electricity, the total investment cost is approximately US$ 1.6 billion. The project has secured financing from JBIC, ADB and several commercial banks amounting to 75% of the total investment cost. The Project Finance actually won the PFI Award of Asia-Pacific Power Deal of the Year in 2014. The Commercial Operation Date of Unit-1 is slated for 2016, to be followed by Unit-2 and Unit-3 in 2017 and 2018 respectively.  With the Sarulla project, PLN will save approximately US$ 1 million per day from fuel oil substitution.

How optimistic are you that the new oil and gas law currently being reviewed by parliament will serve to increase investor attractiveness and incentivize E&P activity?

The government is currently drafting an oil and gas law revision, with a view to accelerating national oil and gas production capacity. Since this proposed law is still under review, the community of oil and gas contractors represented by the IPA has offered their help to the Ministry in making additional comments and inputs. The business community as a whole is keen to ensure the new law aligns more with the spirit of promoting investment into the sector. In remains to be seen what the end outcome will be.

What are the main features that you will be looking for in the new legislation?

Nearly half of primary energy needs in 2025 will have to come from petroleum products. To be precise, National Energy Policy allocates 25% to oil and 22% to gas. Present day oil/gas production levels stand at around 2.2 million barrel oil equivalent per day, and this is declining which should alert the government that urgency of action is needed to secure Indonesia’s future energy supply.

Any future development of the remaining resources calls for advanced technology support, higher investment, specialist expertise, as well as a simpler bureaucracy to shorten the reserve monetization process.  Looking at success stories elsewhere across the world, the Indonesia Petroleum Association estimates that exploration activities must increase three fold from the current levels, at a minimum, so as to ensure meeting the widening gap between local supply and demand.

Our suggestion to the government is to step up incentives for investing in exploration activities in both existing and new blocks. Considering the heightened risk, the equity split of the PSCs in frontier areas, marginal fields, those requiring Enhanced Oil Recovery activities and high CO2 gas content fields should be revisited with higher take for investor. Tax and other fiscal incentives are also needed. Investment in initial data acquisition, the establishment of a national data repository, support services and bridging infrastructure will further enable robust exploration activity. Strong legal enforcement and simplification of the bureaucratic process should also be top priorities for the new government as it seeks to provide a more conducive business climate.

One proposal being mooted is to broaden out the PSC model and allow for other regimes such as a tax and royalties system. Is this likely?

At the moment, all sorts of different options remain on the table for discussion. Under the current law in force, the term PSC is not addressed explicitly so it has been very difficult to implement anything different. This is all set to change with the unveiling of the new legislation which should clarify exactly what can and what can’t be done.  Today’s government understands that some oil and gas fields are more complex to develop than others and that E&P activity in difficult arenas such as deep-water entails a much more risky and expensive venture. We therefore all agree that the incentives offered need to be increased for such scenarios and the prevailing idea is to enshrine this logic in the new legislation.

What other issues would Medco like to bring to policymaker’s attention?

Given the current declining production in upstream oil and gas industry and poor reserves replacement ratio, the oil and gas law should promote investment in oil and gas sector through certainty of regulation and attractive fiscal terms. We are keen to see the Ministry of Energy acting as the single point of contact in dealing with various approvals and permitting and in coordinating affairs with other ministries for any regulation pertaining to oil and gas.

The law must also provide certainty to investors that the government will honor cooperation contracts between investors (whether business entities or the permanent establishment) and the business license holders for the entire term. It is essential that the ‘3C’ Principles (of certainty, consistency and clarity) are preserved at all times. Furthermore the law should retain the existing principle in the PSCs relating to “assumption and discharge” and provide the necessary fiscal flexibility to incentivize discovery of new resources irrespective of geographic condition.

We have noticed, for example, that the current draft law does not deliver any specific provision on unconventional resources. This is a concern because of the additional difficulty of monetizing such resources. The law really needs to address the issue of managing unconventionals and should provide sufficient flexibility to ensure their progression.

Finally the law should provide clear separation of the (midstream) gas pipeline transportation business from gas marketing and trading so as to prevent the formation of vertical monopolies. Our recommendation is that lawmakers consider promoting fiscal incentives for downstream scheme activities such as corporate income tax and VAT incentives (especially for mini LNG projects). 

How then do you assess the outlook for Indonesian oil and gas development?

Indonesia still enjoys significant hydrocarbon resources. 2013 studies point to proven oil and gas reserves of some 3.7 Billion barrels along with 103 TCF undeveloped resources, 17.9 billion BOE and unconventional resources amounting to 574 TCF of shale gas and 453 TCF of CBM. However, according to recently published WoodMac analysis, 75 percent of those potential resources are located offshore in shallow and deep water in East Indonesia region, the likes of which will need advanced technical expertise and substantial exploration capability. Furthermore, around 85% of the existing reserves of hydrocarbons constitute gas while only 15% represent oil, which means we need the necessary infrastructure to develop them. In addition, the hydrocarbon sources identified to date in several blocks contain significant amounts of CO2 requiring expensive treating infrastructure. In short, there are no quick and easy solutions to unlocking Indonesia’s remaining hydrocarbon potential.

Looking forwards, are your personal priorities and objectives for developing Medco at home and abroad?

Considering the current market and geopolitical environment, Medco is cautiously allocating expenditures for activities that will yield a “bigger bang for our buck”. Hence, larger funds are allocated to producing fields. With this strategy in mind, Medco is consciously seeking out new opportunities and capable partners who want to join and work hand-in-hand with Medco in monetizing those resources that we already possess and in realizing those prospects and leads that we have previously indicated in various exploration acreages we retain across multiple countries.

We are always on the look out for extending our influence abroad. All but one of Medco’s International portfolios constitute new exploration acreages, development areas or early producing fields. Today, our international operations may be small contributors to Medco’s financial performance, however they are where we see real upside potential residing.

In the electricity sector, Medco will grow further and support the Government’s 35,000MW Electricity Program by participating in Independent Power Producer tenders either through Medco Power Indonesia or Medco Energy International. It is part of Medco’s strong commitment to build and supply electricity for the nation.

Click here to read more articles and interviews from Indonesia, and to download the latest free oil and gas report on the country.

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