Best maritime transportation option for the Arctic crude oil: A profit decision model

https://doi.org/10.1016/j.tre.2020.101865Get rights and content

Highlights

  • Sailing though the NSR versus the SCR saves distance, but not always time.

  • OW, 1A and 1AS ice-class vessels do not have the same level of revenue.

  • Ice thickness impacts directly the navigability of the NSR.

  • Brent value and bunker cost impact the choice of the vessel.

  • The best option depends on the strategy based on climate and economic factors.

Abstract

Navigation via the Northern Sea Route (NSR) requires specific vessels in comparison with the Suez Canal Route (SCR). We develop a profit decision model that defines the best option mixing the shipping lane (NSR or SCR) and the ice-class of the vessel (1A, 1AS, and Open Water (OW)) for oil producers operating in the Russian Arctic zone. The effects of the Brent barrel price, bunker cost and ice-thickness are analyzed. The best option depends in fact on the strategy implemented by the shipper. For instance, the solutions of a profit focused strategy or of a cost-oriented strategy are different.

Introduction

From an economic point of view the Arctic represents a twofold benefit. First, from a maritime point of view, the potential distance reduction of 40% represented by the Northern Sea Route (NSR) along the Russian shore, between Europe and Asia teases the interest of numerous maritime stakeholders. Second, the oil and gas reserves exploited or on the verge of being exploited attract the attention of the oil and gas industry.

Yet the navigation along the Russian shore and the exploitation of these energy resources, due to the harsh climate conditions and the remoteness of oil and gas fields, require the use of specific vessels and may increase the cost of energy production and transportation compared to more conventional oil and gas fields and sea trade.

First, shipping through the NSR means dealing with an area that is comprised between Novaya Zemlya islands and the Bering Strait within the Exclusive Economic Zone. This area includes four seas (Kara, Laptev, East-Siberian and Chukchi seas) with each of them having specific ice conditions. The NSR is part of the North-East Passage (NEP), which links the Atlantic to the Pacific Ocean. Currently, most of the cargo transported using the NSR are hydrocarbon products coming from Sabetta (LNG) and Novy (Crude oil) and transshipped in Murmansk.

The sailing difficulties on the NSR require the use of vessels specifically prepared for the Arctic navigation, called ice-class vessels. This requirement may be enforced by the underwriters which closes the doors of this area to ships without a minimum ice-call, also named open-water vessels (OW).

Notwithstanding, the use of ice-class vessels implies additional costs at various layers and does not necessarily mean avoiding the technical limitations. Among the additional expenditures, we could mention the voyage, capital and operational premiums. Part of the additional voyage cost is related to the use of specific fuel that is required by the extreme cold. Moreover, part of the additional capital cost is related to the reinforced hull and increased engine power that are needed to face the harsh ice conditions. In addition, the underwriters may impose the assistance of an icebreaker to render safer the navigation and therefore the ship-owners have to deal with additional expenditure. All these additional costs, although they are compulsory for a safe navigation within the NSR, could freeze the will of investment.

The presence of ice in the waters is the main reason behind such premiums. Even if the ice is getting thinner, it still represents a risk for navigation, especially because the fact that its conditions are barely predictable on a daily basis. Another result of the presence of ice on the NSR is that these ice conditions impose a limited sailing speed on the vessel that depends on ice thickness and on the ice-class of the vessel.

At the same time, oil companies producing in the Arctic zone have to deal with productions cost that are higher than in other regions of the globe. They have also to consider the high variability of the crude oil barrel price and have to provide a safe means of transportation that may avoid the risk of an oil spill.

Aware of these issues, the decision by the Arctic oil producers and transporters to invest in ice-class vessels is paramount. For instance, the decision of Novatek to invest in ARC 7 LNG carriers provides the possibility to avoid the use of an icebreaker but implies a significant investment cost of 120 million USD (Novatek, 2014). Another example of such decisions is the case of Gazprom that has invested via its subsidiary Gazpromneft in a 1AS ice-class tanker to be used as a shuttle between the platform of Prirazlomnoye in Pechora Sea and Murmansk (Pechora, 2011). These vessels are dedicated to Arctic navigation. As an example, Novatek is implementing two hubs, one in the Kola peninsula and the other one in the Kamchatka peninsula1.

As demonstrated by Notteboom and Vernimmen (2008), the Brent barrel price and the bunker price are strongly correlated. This correlation means that the main revenue parameter and the main cost parameter of the operations of Arctic oil producers are linked. Still, the profit that can be generated by a vessel in a year depends on its capacity to load a defined quantity of crude oil during the year and at the same time on its cost structure. Therefore, we decided to analyze, in this paper, the profit that can be generated by three different classes of vessels with different technical and economic parameters. An OW vessel that is not able to sail along the NSR and two ice-class vessels, a 1A and a 1AS that have different ice resistance capacities. For these vessels, two routes are possible to ship the oil from the Arctic region, and precisely from Murmansk to Asia (Daesan): the NSR or the Suez Canal Route (SCR). The fact that the OW vessel cannot sail through the NSR means that it can only sail along the SCR.

To achieve the paper’s objectives, the following section reviews the relevant literature with the aim of highlighting the way the main parameters of the issue have been analyzed by academics. The third section develops the methodology used including the model parameters and the cost and profit calculation. The fourth section develops the business case and the data used while the fifth section details the results obtained. The sixth section is dedicated to conclusions

Section snippets

Literature review

The economic potential of the NSR is a topic that has been deeply analyzed by scholars (Lasserre, 2014, Lee and Song, 2014, Lin and Chang, 2017, Meng et al., 2017, Schøyen and Brathen, 2011, Shibasaki et al., 2018, Cho, 2012, Falck, 2012, Furuichi and Otsuka, 2013, Ragner, 2000) and with very different results (Theocharis et al., 2017). Yet, the exploitation of its full potential is hampered by exogenous factors such as climate conditions.

The impact of the climate conditions upon the navigation

Methodology

We address in this paper the problem of determining the profitability of different maritime options available to ship the oil produced in the northern part of Russia to the Asian market. The profitability is calculated from the perspective of oil producers who contemplate the profitability of producing, transporting and selling this oil. We therefore consider that oil producers want to decide on the type of vessels, i.e. tankers, and the route that should be used by these vessels to transport

Business case

The objective of the business case is to show the applicability of the suggested methodology for ice-class and route preferences depending on the specific parameters that were used in the model developed and that influence the operating profit of oil producers, i.e. global warming, seasonal climate, technical and economic conditions.

The business case is based on an annual trade between Russia (Murmansk) and South Korea (Daesan) as shown in Fig. 1. In fact, Prirazlomnoye has been subject to

Results and analysis

The findings emphasize three main points: the impact of the navigation conditions upon the cost of transit and potential additional turnover, the best shipping lane according to economic and climate parameters, and vessel choice depending on the ship-owner's strategy.

Conclusions

The NSR provides a potential 40% shortcut compared to the SCR which itself provides a 20% shortcut compared to the Cape of Good Hope Route. The preference to use such shortcuts is not always obvious because of constraints that counterbalance the expected gain in transit time and therefore affect profitability. The use of the SCR imposes fees and requirements on vessel dimensions. The use of the NSR requires more stringent restrictions because of the climatic conditions that may also affect the

CRediT authorship contribution statement

Olivier Faury: Conceptualization, Data curation, Formal analysis, Investigation, Methodology, Project administration, Resources, Software, Validation, Visualization, Writing - original draft, Writing - review & editing. Ali Cheaitou: Conceptualization, Formal analysis, Investigation, Methodology, Resources, Software, Validation, Visualization, Writing - original draft, Writing - review & editing. Philippe Givry: Conceptualization, Formal analysis, Investigation, Methodology, Resources,

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