French oil major Total (NYSE:TOT) is gearing up in Africa. That's because Africa holds great potential, thanks to its emerging economy and soaring population. According to a recent press release, Total is going ahead with a massive ultra-deep water oil exploration project off the coast of Africa. Until recently, whether the company would continue with the project was far from certain. Broadly speaking, the current landscape for Big Oil is one marked by capital restriction and reduced spending on huge projects.
That's why Total proceeding with its Kaombo project is a huge bet, and may turn out to be a shrewd move on management's part to fuel the company's future.
Why Africa means so much to Total
Total announced it will go ahead with its $16 billion dollar ultra-deep water Kaombo project in Angola. This is a significant development and somewhat a surprise, given the uncertainty regarding whether Total would proceed. That had to do with the cost of the project, which was originally pegged at $20 billion. However, after what Total calls an 'intensive optimization exercise,' the company was able to reduce the total cost figure, which made it more feasible.
This is a major project with huge potential. Kaombo itself has a total production capacity of 230,000 barrels per day, with a total of 650 million barrels of estimated reserves. If all goes well, the project should start up in 2017.
Total's investment is part of a huge commitment it's made to Africa over the past few years. Total already holds the most operations in Angola among its peers, where its several different fields produce a total of 600,000 barrels of oil per day. It's clear how important Africa is to Total.
Africa now accounts for Total's biggest geography in terms of gross capital expenditure and oil and gas production, as well as its second-biggest in terms of number of service stations. Total currently produces 713,000 barrels of oil equivalent per day in Africa. Based on this, the Kaombo project itself has the potential to increase the company's average daily production in Africa by as much as 32%.
Betting on Africa should pay off
This stands to reason, based on Africa's economic potential as an emerging market. A rapidly growing population and rising standards of living place Africa at the forefront of under-developed geographies on the precipice of an economic boom. When oil and gas peer ExxonMobil (NYSE:XOM) published its lengthy report titled The Outlook for Energy, it gave its forecasts for energy demand and supply across the world over the next 25 years. In it, ExxonMobil laid the foundation for how it sees the energy landscape, as well as the major themes that are set to shape the world's energy future.
One major theme is that demand for energy in the emerging markets is truly startling, and is poised to continue for many years. Africa is at the center of ExxonMobil's findings. It expects Africa's urbanization rate will rise by 25%, and demand for energy for residential purposes will grow by 70% in Africa over its forecast period. Moreover, Africa should see far-above-average economic growth in the decades ahead. While ExxonMobil pegs global growth in gross domestic product at 2.8% annually through 2040, Africa is expected to grow its GDP by 4% annually over the same time frame.
Emerging markets present a tantalizing opportunity
Even though most huge oil and gas companies are cutting capital expenditures and selling off assets to raise cash and strengthen their balance sheets, it's critical to keep investing for future growth. Total has pledged to keep spending at a modest level and return more cash to shareholders, but it still needs to produce growth to keep shareholders happy. Going ahead with the Kaombo project will result in significant costs, but the future growth potential for Africa is too good to ignore.
If the project goes according to plan, Total has the potential to significantly increase production just based on its African operations alone. Emerging markets, including Africa, are exhibiting a seemingly insatiable thirst for oil, which should pay off over the long run for companies like Total that make the necessary investments now.