Israel Is Noble Energy’s Biggest Bonanza Around the World

The U.S. company is benefiting from long-term contracts at high prices, not to mention chumminess at the top that Americans are well used to.

Off Haifa coast, oil rig at enormous Leviathan natural gas field.
Albatross

Yes, it was pretty interesting — this month’s debate at the Knesset Economic Affairs Committee on the deal the prime minister and the gas monopoly were pushing down the public’s throat at the expense of the democratic process. But the most interesting moment wasn’t any broadside from opposition legislators hoping for headlines.

In the middle of the discussion, Amir Hayek, the director general of the Manufacturers Association, went over to whisper something in the ear of MK Yinon Magal (Habayit Hayehudi). Magal was in the middle of an attack on the antitrust commissioner, the only regulator left standing against the prime minister and the gas monopoly.

The Manufacturers Association should be spearheading the fight against the formation of a huge energy monopoly. After all, the companies it represents will be paying the heaviest price — in terms of profitability and their global competitiveness due to their high energy costs.

But the power coalitions formed have led to a different outcome than what common sense would dictate. The Manufacturers Association silenced the industrialists who hoped to see the monopoly broken and prices lowered. Instead they adopted the monopoly’s rhetoric.

The Manufacturers Association’s support for the gas monopoly was no great surprise. Like the Histadrut labor federation, which serves a small group of workers at the monopolies at the expense of the greater good, the Manufacturers Association represents only a small powerful group of manufacturers.

During his first stint as president of the Manufacturers Association, Shraga Brosh cut an impressive deal with the Histadrut chairman at the time, Ofer Eini. If it hadn’t been clear who exactly Eini and Brosh each represented, one might have thought Israel was a Scandinavian paradise where industry and labor work together for the greater good.

But Brosh and Eini took care of the big monopolies, throwing crumbs to other workers and industries not connected to the power centers. No one was shocked when six months ago Eini and Brosh set up a private company to market the monopoly’s gas to Israeli industry.

The Manufacturers Association is comfortable that its leader is also working for the gas monopoly. The association’s legal counsel, Eldad Koresh, is also legal counsel for the Association of Oil and Gas Exploration Industries in Israel. Anybody wondering about conflicts of interest can relax: Koresh also sits on the Israel Bar Association’s antitrust committee; he’s also a judge on the Labor Party tribunal.

So more than we have conflicts of interest, we have identical interests. No one at the center of power wants competition; everybody wants regulations that block new initiatives and serve the powerful and connected.

The players’ incestuous relationships aren’t really a problem because Israel’s political economy is based on connections between the power centers at the expense of the common man. The Histadrut protects a small group of senior workers at the monopolies, and the top industrialists protect the giant companies that have already struck monopolistic roots. So it’s natural for everybody to support the monopoly that will be the biggest in town — the gas monopoly.

Meanwhile, despite and perhaps because of the humiliating failure to pass the gas grab at the Knesset three weeks ago, the prime minister, his economic advisers and the Finance Ministry’s budget department are spewing propaganda for the gas monopoly: “The gas will stay in the ground,” “We’re chasing foreign investors away from Israel.”

Catchy. If repeated enough, every Israeli who supports a strong business sector starts to believe that this is the only way to encourage investment and development.

Doesn’t the prime minister distinguish between a policy that supports the monopolies and big companies, and a policy that fosters economic development, lower costs and competitiveness? It isn’t clear, though he told TheMarker two weeks ago that he certainly distinguishes between the two and is constantly striving to create competition and break up monopolies.

Annual report’s a good read

A more worrying question is whether the economists at the Finance Ministry and Prime Minister’s Office have read the earnings reports of Noble Energy, the publicly-traded U.S. company that with Isramco and Yitzhak Tshuva’s Delek Group hold a monopoly over gas franchises in Israel.

There were 140 notes to Noble’s 2014 annul report, including forecasts on revenues, costs and profitability from its oil fields around the world, based on existing contracts.

Here are some points the prime minister, government officials and gas companies aren’t mentioning.

1. The net capitalized value of Noble’s drilling efforts in Israel (mainly the Tamar field) is $3.95 million, 26.1% of revenues. The net capitalized value of cash flow from projects in the United States is $7.2 billion, 19.8% of revenues.

Presumably Israel’s contribution to Noble’s value has jumped since that report; global gas and oil prices have dropped, but in Israel Noble has long-term contracts at high prices. So Israel is Noble’s biggest bonanza anywhere around the world.

That triggers thoughts about the price at which the monopoly sells gas to Israelis — today to the Israel Electric Corporation, which buys gas to fuel its power stations, tomorrow to industry.

But more than that, it shows who had the better bargaining position in the negotiations between Noble and the state. Israel isn’t just the sovereign that’s supposed to enact laws for the sake of economic development, it’s a monopoly in buying the gas and Noble’s most important customer.

While Netanyahu and the Finance Ministry created the false impression they had delivered the best deal given Noble’s negotiating power, the truth is quite the opposite. Noble, as a publicly traded company whose managers and directors hold stock options, is heavily dependent on Tamar. Instead of taking advantage of that dependence to reap the best result for Israelis, the government is pretending that Israel is dependent on the American company’s goodwill.

2. Based on Noble’s estimates, Tamar is expected to be extraordinarily lucrative — expected cash flow of $15 billion, drilling operating costs of just 12% (compared with 28% in the United States and Equatorial Guinea), development costs of just 4.7% (compared with 20% in the United States), and therefore net cash flow reaching 26.1% of revenues, compared with 19.8% in the United States.

Noble doesn’t state its annual internal rate of return on Tamar, but it has yet to refute the estimate TheMarker published a month ago: about 23% — double or triple the global norm. Equatorial Guinea, by the way, is one of the more corrupt countries in the world.

3. On the list of Noble’s directors is Edward Cox, not a name Israelis know. He’s a New York lawyer and a key player in Republican politics, chairing the party in New York for the last six years. His wife is Tricia Nixon Cox, the former president’s daughter. Netanyahu’s links to the Republicans have risen a notch the past decade following his alliance with casino magnate Sheldon Adelson, but they have been strong for 30 years.

It’s purely symbolic that Richard Nixon’s son-in-law is on the board of the U.S. energy company that made the Israeli prime minister craft a deal that not only flouts the antitrust commissioner but destroys his authority. When Nixon resigned over Watergate, he was also charged with taking bribes from companies including ITT Corporation to tilt antitrust decisions.

It’s worse in the United States

Don’t be misled by the Noble-GOP-Netanyahu triangle; in America, money and economic interests are bipartisan. Amos Hochstein, a former Israeli now a special envoy and coordinator on international energy affairs at the State Department, is a Democratic appointment and aggressively pushes Noble’s interests in Israel. Before joining State, Hochstein lobbied for Cassidy and Associates, which represents Noble.

In the United States, too, left/right is a smokescreen when it comes to benefits, laws and exemptions for giant companies. “Right-wing” Netanyahu was flanked in recent days by “leftists” Alfred Akirov and Ram Caspi, businessmen associated with the Labor Party, and former Prime Minister Ehud Olmert.

But don’t cluck tongues at Israel: The ties between money and government in America, where this corruption is legal, are much broader than in Israel and firmly established throughout the democracy. Noble, like other American companies, was genuinely surprised at the opposition in this little country in the Middle East.

4. The real cherry of the Israeli gas monopoly hides in the financial reports of the gas partnerships Delek Drilling and Isramco. Some newspapers recently published tables showing the royalties the gas partnerships were expected to pay the state. The reports are designed to show that the gas monopoly was behaving transparently, not to mention the piles of money the state would make from the monopoly.

The tables were derived from cash flow forecasts — leaps in 2016 and mainly in 2017 — ostensibly taxes as mandated by the Sheshinsky Committee that discussed royalties on natural resources. But the Sheshinsky taxes only kick in from 2020, gradually rising each year.

The answer lies in comparing Delek Drilling and Isramco’s financial statements to those of 2011. It turns out that “royalties” encapsulate two elements that had been combined — royalties to the state and super-royalties.

Super-royalties have been an outrage of the Israeli exploration business from day one. When the gas partnerships issue securities to the public, they’ve already determined that the businesspeople behind the exploration will get a royalty of 3% to 13% of revenues, beyond that due from their share in the investment.

These super-royalties are not a management fee — they're a tax that the explorers impose on the partnerships. The royalties that the gas companies present in their statements aren’t just royalties to the state but also reflect a huge withdrawal by the general partners, led by Tshuva’s companies and Isramco.

The jump over the next two years is because the general partners are charging a super-royalty of 3% until their investment in Tamar is returned, then it rises to 13%. The investment in Tamar was supposed to return itself this year, but the partnerships put it off to next year.

The monopoly meanwhile managed to put off the Sheshinsky taxes by four or five years, but next year hundreds of millions of shekels in super-royalties start. The companies don’t break down the numbers in their reports.

TheMarker estimates that the super-royalties will generate more than a billion dollars over the next six years. The public won’t get a cent in Sheshinsky taxes but it will get billions of shekels from royalties and management fees, all stated in the prospectuses and at the expense of small investors in their participation units.

5. It actually isn’t clear when the Sheshinsky taxes will kick in. The gas monopoly is aggressively campaigning in the media to instill the idea that competition, supervision, regulation and low prices aren’t necessary because it will pay 60% of every dollar it produces in tax. Is it really 60%? The monopolies are opaque on this and quote a Bank of Israel report, but it’s hard to find that 60% number in their financial statements.

Under Sheshinsky, the monopoly’s tax rate should rise annually, reaching 60% only toward the end of Tamar’s lifetime. So the effective tax rate will be much lower because that 60% will only arrive in 15 to 20 years.

Oddly, the Finance Ministry’s budget department, which crunches the state’s numbers, hasn’t published its estimate on the state’s royalty income. So the prime minister and his people are pushing an arrangement granting official status to the monopoly before unveiling the state’s real share.

It’s time for the budget department to shake off the gas companies’ thrall, publish the real numbers and present real alternatives to the deal struck behind closed doors. After all, it could be Israel’s biggest monopoly ever.