Growing energy demand and manufacturing activities are creating investment opportunities in Indonesia’s downstream oil and gas sector. While in the past most oil and gas would be exported, strong economic growth and rapidly rising household spending mean the sector is increasingly focused on the home market. The Indonesian government is pushing to expedite the industry’s reorientation, which presents challenges and opportunities for businesses.
Business success in the sector, however, hinges on the ability of Indonesia’s upstream producers to provide sufficiently large and sufficiently reliable supplies of crude oil and natural gas
A draft assessment by the Ministry of Energy and Mineral Resources published in February 2013 projects that Indonesia’s national electricity demand will grow at an annual rate of 10.1% until 2031 (See Indonesia’s Electricity and Power Generation Sector). The government’s plan to rely more on cleaner-burning gas and less on coal to fire new power plants is set to create stronger and stronger demand for gas. Vehicle ownership in Indonesia is also rising fast, with a record 1.1 million cars sold in 2012 (GAIKINDO). Together with the need for hydrocarbon feedstock in the country’s growing petrochemical and fertilizer industries, this provides a compelling case for downstream investment in petroleum and natural gas.
Business success in the sector, however, hinges on the ability of Indonesia’s upstream producers to provide sufficiently large and sufficiently reliable supplies of crude oil and natural gas (See Indonesia’s Oil and Gas Sector – Upstream Challenges). More money has gone into exploration and production in recent years, but it remains to be seen whether this is enough to reverse the trend of falling oil production and fluctuating gas output. Assuming downstream companies can secure a dependable stream of oil and gas, business opportunities are plentiful. Easier access to financing can give foreign companies an edge over local ones on capital-intensive projects, with the following areas meriting particular attention:
Indonesia’s oil and gas sector is regulated by Oil and Gas Law No. 22 of 2001, with Government Regulation 36 of 2004 outlining further rules for downstream businesses. Energy and Mineral Resources Ministry Regulation 7 of 2005 provides more specific guidance on permits. Separate licenses are required for core activities in processing, transportation, storage and trading. Gas pipeline projects generally need to conform to the government’s gas transmission policy. BPH Migas is the downstream regulator, but in some cases approval needs to be sought separately from the Ministry’s Directorate General of Oil and Gas. Specific rules allow BPH Migas to intervene in operations to support competition and distribution across the archipelago. For example, the agency may require storage or gas pipeline operators to allow other parties to use their facilities. Local services companies and suppliers enjoy priority over foreign ones, and companies are obliged to employ local staff wherever feasible.
The Indonesian government aims to spur downstream development through so-called clusters; industrial estates that facilitate close integration of related processes. The cluster strategy is part of the government’s economic development roadmap, with a view to accelerating growth particularly outside Java. The Industry Ministry is tasked with ensuring clusters have access to electricity, water and transport infrastructure. A petrochemical and fertilizer cluster is in the early stages of development in West Papua’s Bintuni Bay, near the BP-operated Tangguh LNG plant, which is currently undergoing a $12 billion USD expansion. New projects in the downstream hydrocarbon sector are often considered strategically important and therefore qualify for income tax holidays. This includes oil refineries and petrochemical projects worth 1 trillion RP or more. In addition, tax allowances are granted for projects upwards of 50 billion RP, while import duties on capital goods may also be waived.
The fact that specific incentives and conditions are negotiated on a case-by-case basis means discussions are long and their outcome uncertain. This is particularly true for large-scale projects and adds to a number of more general complaints investors have when doing business in Indonesia, such as a cumbersome bureaucracy and problems with land acquisition.
Investment concerns also pertain to uncertainly about future policies. The downstream oil and gas sector has not so far drawn the nationalistic sentiment seen upstream, but the sudden disbanding of upstream regulator BP Migas after nationalistic-minded groups pushed for a Constitutional Court review in 2012 is not forgotten. While there are no signs that BPH Migas is headed for the same fate as its upstream counterpart, investors may be cautious about committing large sums before the 2014 general elections.
As the only Indonesian oil company with substantial experience in the downstream sector, Pertamina runs all of the country's refineries. This monopolistic market structure may be one of the reasons private investors have been slow to embrace opportunities in refining. Cooperation with Pertamina is virtually a precondition in the refining business, and the national company’s strong presence could be intimidating for private players, with Pertamina also dominating the retail market. State-controlled Perusahaan Gas Negara (PGN), meanwhile, has a commanding position in gas transmission and distribution.
Uncertainty about future pricing in the heavily regulated petroleum and natural gas markets complicates long-term planning. Since pricing is intertwined with controversial subsidies, more guidance is needed as to how the government seeks to exit the policy of artificially cheap energy. LNG producers must understand how this might affect tariffs paid by utility company PLN. Policies to secure supplies for domestic power plants and industries, specifically in remote areas, also need to be transparent and consistent, as does the government’s grand design of the country’s LNG infrastructure. Without clarity on these matters, entering the market entails significant demand risks for operators of plants, terminals or pipelines.
Fortunately, political and regulatory risks are constrained by market forces. Demand is increasing for the whole range of downstream products, such as gas for power stations and plastics for the packaging industry. As it strives to maintain strong GDP growth and foreign direct investment to support the Rupiah, the Indonesian government has little choice but to ensure a sufficiently attractive investment climate in the downstream oil and gas sector.
Global Business Guide Indonesia - 2014
Contribution to GDP: 11% (Q3 2015)
Oil & Gas Imports: $22.8 billion USD (Jan-Nov 2015)
Proven Oil Reserves: 3.7 billion barrels (2015)
Proven Gas Reserves: 101 trillion cubic feet (2015)
Proven Coal Reserves: 28 billion tonnes total reserves (2015)
Proven Potential in Geothermal Energy: 29 GW
Proven Potential in Hydropower: 75 GW
Other Energy Sources: Coal Bed Methane, Biomass, Waste, Ocean Current, Solar, Wind.
Current Energy Mix: Petroleum 41%, Coal 30%, Natural Gas 23%, Renewables 6% (2014).