The Beginning of the End?

Jim Brown
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Rebel forces could be days away from overthrowing Omar Gadhafi with forces capturing additional parts of the capital city of Tripoli as each hour passes. The closer they get the more aggressively they are fighting as they sense victory in their grasp.

Gadhafi's son, Seif al-Islam, has been captured by the rebels suggesting the battle may soon be over. Rebel forces overran a major military base that defended the capital and without much resistance. Government forces appear to be melting into the civilian population to avoid being captured or killed. When government forces evaporate ahead of determined opposition the end of the story has already been written and everyone is just waiting for it to play out.

Libya exported 1.5 mbpd of extra light crude before the war began. That production has come to an almost complete halt with only about 100,000 bpd currently in operation in rebel held territory. Government forces attacked oil facilities throughout the conflict in order to prevent the rebels from selling oil to fund their war.

In the last couple weeks government forces took refuge around critical oil installation in hopes the rebel forces would not attack for fear of damaging the facilities. That tactic did not work and more damage ensued.

If we assume Gadhafi is captured, killed or forced out of the country next week nobody should assume the oil will begin to flow again. Oil prices may trend lower on those expectations but nothing could be further from the truth.

Not only do existing facilities have to be repaired, which will require bringing the foreign workers back into the country but parts will have to be ordered and in many cases they will have to be manufactured to fit the application. These facilities are oil and many of the parts are no longer in production. In some cases the application may need to be reengineered to current standards rather than building parts for 40-50 year old infrastructure.

Before damage can be assessed and a parts list generated there has to be some way for the new government to pay for the parts. The cost could be in the billions. I used the term new government loosely. The current rag-tag band of rebels and their freedom council will have to change from an attacking force into an actual government that manages things like water, electricity, food and fuel. Just taking over the Gadhafi compound and proclaiming Libya a free country is only the first of thousands of steps necessary to get the country back up and running again.

A new government will have to be created, officials and administrators appointed, elections held, etc. Starting a government from scratch in a war torn country is not an easy task. It is not like Steve Jobs, Bill Gates and Warren Buffet just jet in and take over with unlimited funds and citizens bowing at their feet.

There will be problems forming the government. There will be problems delegating authority. Libyan is a tribal country. This is how Gadhafi remained in power so long. He played the tribes against each other. Those tribal conflicts will continue to exist and they will make forming an actual government very difficult.

If we assume they get past the initial challenges and three months from now they have a general idea what needs to be done to restart oil production. They will have to order parts and lead times could be 12-18 months in many cases. In most cases this stuff is not sitting on a shelf somewhere. They will also have to come up with a way to pay for it. Gadhafi has plundered the royal coffers to pay for the thousands of mercenaries employed in the battles, acquire fuel and ammunition and make emergency repairs during the conflict. In the early days there were chartered flights with family members taking suitcases of cash to other countries. One plane had eight family members and over 200 large suitcases with a large contingent of armed guards. I suspect it was not designer shoes and the family china.

All of these problems will have to be solved before the majority of production can be restarted. Some of the production is managed by U.S. companies like Hess, Occidental, Chevron, Apache, etc. That production should be able to restart soon after the fighting ends. Those companies have the money and resources to acquire the parts they need and have them expedited to Libya fairly quickly. However, just getting the oil fields restarted does not get the production onto a tanker headed to market. The production has to be transported over pipelines that have been bombed to oil storage facilities that have been bombed and offloaded onto tankers from ports that have been shelled. Every stage in the process will have to be repaired before a single drop of new oil will flow.

There are some facilities that are undamaged. Analysts believe 300-500,000 bpd could be restarted in the next 3-6 months. The remaining 1.0 million barrels could come online in stages between 2012 and 2015. There is almost no possibility of all 1.5 mbpd coming back online in 2012 according to analysts with reports on existing damage. The IEA believes full production will not be resumed until 2015.

The capture of Tripoli may be the beginning of the end but it is also the beginning of a very long and difficult recovery process that will take years before Libya is a fully functioning oil economy. On the bright side the absence of Gadhafi and the serious need for rebuilding funds could open the door to new oil deals and new exploration that will benefit Libya and the world in the years to come. Hopefully the government that is formed will be pro business and not filled with corrupt politicians bent on lining their own pockets rather than building a democracy with a rule of law. That could take years to decipher but the opportunity is there if they want to pursue it.

Bottom line, I would expect oil prices to dip slightly on news of a Gadhafi exit but that dip should be short lived once the reality of the new task becomes known.

Jim Brown

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