The case could be made that no other state in Malaysia is of as much current and historical importance to the country’s on and offshore hydrocarbons industry than Sarawak. The Sarawak basin is one of Malaysia’s richest geological areas for hydrocarbons development, particularly natural gas. It was here that Malaysia’s first oil well, the Canada Hill Well, an onshore field near Miri, was discovered and drilled in 1910. A half-century later, in 1960, Sarawak’s waters became the host for the country’s first ever mobile drilling rig that led to the discovery the offshore Baram field.

According to the Malaysia Energy Information Hub, the state accounts for half of the country’s proven natural gas reserves and possesses around 30% of its known 5.85bn barrels of oil reserves. It is estimated that Sarawak’s waters, along with Sabah’s, also contain the most undiscovered reserves for the country. In January 2015 Iain Lo, the chairman of Shell Malaysia, told Borneo Post, “Up until three or four years ago, the prospect of finding new [oil and gas] discoveries in Malaysia appeared limited, but the discoveries in the past 12 months, particularly in Sarawak, indicate that there may still be a lot more discoveries out there.”

LONG-TIME PARTNERSHIP: Royal Dutch Shell, along with ExxonMobil and Murphy Oil, is one of the largest foreign oil companies operating in Malaysia today by local production volume. Sarawak has played an especially prominent role in the international oil giant’s regional and global portfolio and has been the base for a number of its milestone historic achievements. Shell’s presence in the state dates back over a century to the first discovery of oil in Miri in 1910. In 2004 Miri was designated as a regional technical hub for the firm, with the city also serving as the national decision-making centre for Shell Malaysia’s upstream operations. Bintulu, meanwhile, was the location for the company’s first-ever major foray into gas-to-liquids (GTL) technology. The Shell Middle Distillate Synthesis Plant in Bintulu was constructed in 1993 and was the world’s first commercial GTL facility, as well as the model on which the Pearl GTL in Qatar, the largest GTL plant in the world delivering 8% of Shell’s production worldwide, was based.

RECOVERY MODE: In 2011 Shell, in partnership with Malaysia’s national oil company Petroliam Nasional (Petronas), committed to put up $12bn over the next 30-year period towards two enhanced oil recovery (EOR) projects covering nine fields in Sarawak’s Baram Delta, as well as three fields in the North Sabah development area. According to the International Energy Agency, the project will mark the first attempt in the world to apply the use of chemical injection for resource recovery. If successful, the development should bolster the recovery rates in the two production-sharing contract (PSC) areas from the current level of 36% up to 50% production, leading to the recovery of more than 750m additional barrels of oil and added production volumes of around 90,000 barrels per day (bpd).

CHANGING DYNAMICS: Much of Malaysia’s future production activity will be concentrated within Sabah and Sarawak’s offshore basins. Sabah, through the Shell-operated offshore Gumusut-Kakap and Malikai fields, is set to be responsible for a significant portion of added oil volumes. Sarawak is expected to be responsible for the majority of added gas output due to the Newfield Exploration Company lead discovery of what initial estimates reveal to be between 1.5trn standard cu feet (scf) and 3trn scf of gas found in the B-14 well of Block SK 310 situated 80 km offshore.

In 2013 energy consultancy Wood Mackenzie predicted Malaysia’s natural gas output would rise to a record 7bn standard cu feet per day (scfd) in 2018, up from about 6bn scfd. However, according to Petronas, recent discoveries in east Malaysia should push the country’s gas output to a record high by 2020. Most of the newly found offshore fields are too costly and technically challenging to develop, as they are deepwater, contain high temperatures and have high levels of CO and sulphur. Accordingly, the level of investment and activity received will depend on the degree to which an attractive operating environment can be maintained, as well as the direction in which global oil and gas prices are expected to swing over the medium term.

INCENTIVES APLENTY: It appears that Malaysia’s regulatory authorities are cognizant of the fact that the projects related to new discoveries are less commercially viable than their predecessors due to technological complexity. They simultaneously recognise that many of Sarawak’s active offshore hydrocarbons fields have reached a level of maturity where the prospects of primary and secondary oil recovery have diminished and EOR is now required to bolster production. The government, accordingly, has unveiled a series of new tax and investment incentives within the Petroleum Income Tax Act to encourage development projects. In 2010 the income tax rate applied to marginal fields was reduced from 38% to 25%, while export duties on total oil production from smaller fields were waived entirely. In late 2012 a series of additional tax incentives for oil and gas trading companies were introduced.

COST CONSCIOUS: These and other reforms have helped Malaysia to reach a rank of 18th place out of 189 countries ranked in the World Bank’s “Doing Business 2015” report, and overall the amended incentive package has been well received and applauded as a proactive intervention to improve the oil and gas industry’s investment proposition. Despite these advances in terms of regulation and the country’s legal environment, something beyond the government’s direct control that trumps reform and tax reduction as a key investment criteria has been the recent drop in global oil prices that took effect at the end of 2014.

In late 2014 the Brent Crude Oil price slipped below $50 per barrel, and The Wall Street Journal noted that the dramatic decline had led to investors withdrawing $2.5bn from the country in December 2014. By March 2015 Brent crude had settled at around $60.55 per barrel. According to a January 2015 article in The Borneo Post, market uncertainty has contributed to a decision by Petronas to reduce its capital expenditure programme for the 2015 financial year by 15% to 20%.

While it is difficult to predict when and by what degree prices might recover, with no clear signs from US shale gas producers that they intend to slow down rigging activity, and no indications from OPEC member states that they will cut supply, most analysts believe the poor run should continue until at least the mid-2015, potentially slamming the brakes on EOR activity across the globe. According to a 2010 report by Saudi Aramco’s Expec Advanced Research Centre, many EOR technologies, depending on reservoir characteristics and the technologies used, produce oil at a cost in the range of $20-80 per barrel, allowing little in the way for viable profit margins under current market prices.

STAYING THE COURSE: Despite the recent price hiccup, Malaysia’s long-term fundamentals remain solid, and the country does not risk losing its lustre as a key regional exploration base. Shell predicts global LNG demand to grow from 250m tonnes per annum (tpa) to 450m tpa over the next 10 years, and by 2035 Asia is expected to account for 22% of global gas demand. Malaysia, with 98.31trn scf of proven natural gas reserves, as per Petronas figures, holds the third-largest reserves in the Asia-Pacific region, trailing only China and Indonesia. When combining its considerable reserves with the fact that the country is seen as an easy place to do business and has a competent workforce that is technology adept, Malaysia remains one of Asia’s most attractive destinations for upstream activity, much of which is taking place in the eastern portion of the country in Sabah and Sarawak.

In November 2012 Shell Malaysia announced the signing of a new PSC with Petronas to commence an initial three-year exploration programme in Block SK319, a 2727-sq-km area in Central Luconia off the Sarawak coast. In the same month as this announcement, Petronas made two new discoveries in Sarawak’s Block SK316 in the Kuang North Gas Field and in Block SK307 in Tukau Timur East Field. In January 2013 the first onshore find in Malaysia for 24 years was discovered near Miri and will be operated by Nippon Oil and Gas Exploration in partnership with Petronas. The test well achieved flow rates of 440 bpd of crude oil and 11.5m scfd of natural gas. In 2014 SapuraKencana Petroleum, announced the discovery of gas within the SK408 offshore PSC area. The firm has disclosed that it has the potential for 3trn scf from five wells in the area, potentially making its Sarawak-based discovery one of the largest to have taken place in Malaysia that year.

INVESTING IN THE FUTURE: Malaysia is also aspiring to attain the status of Asia’s prime location for LNG storage and the adoption of innovative processing technologies. It finds itself competing with neighbouring Singapore, which is leveraging its geographic position and maritime capacity to try and secure a position as the region’s LNG trade hub – a lucrative ambition when considering that by 2035 Asia is expected to account for 22% of global gas demand. With the Bintulu LNG complex set to receive additional capacity through the construction of a ninth train, among several other projects, Sarawak is at the forefront of all of the major LNG enhancement projects that the country is completing.