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C O N F I D E N T I A L SECTION 01 OF 03 LONDON 000439

NOFORN
SIPDIS

E.O. 12958: DECL: 02/24/2020
TAGS: EPET ECON ENRG PREL AR UK
SUBJECT: UK DEFENDS OIL EXPLORATION IN FALKLAND ISLANDS
WATERS

LONDON 00000439 001.3 OF 003


Classified By: Economic Minister Counselor Richard Albright for reasons
1.4 b & d

¶1. (SBU) Summary: Tensions between the UK and Argentina
have risen over the past week over a new drilling campaign in
the Falkland Islands Outer Conservation zone following the
arrival of the Ocean Guardian oil rig in the North Falkland
Basin. Argentina contested the right of the Falkland
Island's Government to license drilling for oil off the coast
of the islands, a British Overseas Territory. UK Foreign
Secretary David Miliband firmly defended the oil exploration
as being in accordance with international law. Desire
Petroleum, a UK-headquartered company, started drilling the
first well on February 22 following five years of
preparation, including acquiring production licenses.
Exploration and production licenses are approved by the
Governor of the Falkland Islands, following consultation with
the UK's Foreign Secretary. The new drilling campaign is
expected to last approximately eight months, as at least two
other companies with E&P licenses within the Falklands
Conservation Zone make use of the rig sequentially. Desire
confirmed that Argentina's actions will not disrupt its
activities and said it had worked closely with the UK's
Foreign and Commonwealth Office (FCO) to try to avoid
inflaming tensions. With the exception of the Falklands, HMG
seeks to continue a normal relationship with Argentina. End
summary.

UK Defends Oil Exploration in Falkland Islands
------------------------ ---------------------

¶2. (U) Tensions mounted between the United Kingdom and
Argentina ahead of a drilling operation in the Falkland
Islands conservation zones by a UK company, Desire Petroleum.
Argentina contested the UK's right to drill for oil off the
coast of the Falkland Islands, a British Overseas Territory,
and introduced a requirement that vessels traveling to the
Falklands through Argentine waters obtain permits. Foreign
Secretary David Miliband strongly defended the oil
exploration during a February 18 BBC radio interview, saying
it is being conducted in accordance with international law.
In a statement February 23, Chris Bryant, the UK's Foreign
Office Minister with responsibility for the British Overseas
Territories, reiterated UK support for the oil exploration.
He said the Falkland Islands government is entitled to
develop a hydrocarbon industry within its waters. He said
the UK will continue to support the islands in developing
this "legitimate business in its territory." The Falkland
Islands' Legislative Assembly also asserted its right to
develop a hydrocarbon industry within the Islands' waters in
a February 18 press release.

¶3. (C) Andrew Allen, Head of the Southern Oceans, team in
FCO's Overseas Territories Directorate, told us February 24
that no UK government would negotiate the sovereignty of the
Falklands with Argentina without the approval of the
islanders, who overwhelmingly opposed any such discussions.
He emphasized HMG desire to continue cooperation with
Argentina on all other issues. He said that Argentina
appeared to be taking a similar same stance, noting a GOA
statement that it would proceed in legal, diplomatic ways.
Allen said the Argentine Government had so far applied its
decree requiring permits for shipping between the mainland
and the Falklands only to one ship and that cruise ships were
continuing travel between Argentine ports and the islands.
In any event, he said there was little shipping and air
traffic between the Falklands and Argentina. Allen noted
that the main supply links to the islands were a weekly
flight to Chile and cargo shipping to and from Uruguay and
Brazil. He expressed some concern that these countries could
in the future be tempted to restrict those links out of
solidarity with Argentina.

¶4. (SBU) Desire Petroleum started the new drilling campaign
on February 22. Drilling on the "Liz" well in the North
Falkland Basin is expected to last 30 days. An oil rig
platform, the Ocean Guardian, which is owned by U.S. based
Diamond Drilling, was towed from Scotland and arrived
approximately 62 miles north of the islands in the South
Atlantic on February 19. Desire said the rig is firmly
inside British waters and that Argentine protestations would
not disrupt its activities. (Note: Julia Painting, Head of
the Falkland Islands section within the FCO's Overseas
Territories Directorate, said the Falkland Islands' waters
extend 200 nautical miles off the coast of the islands and
consist of the Falkland Interim Conservation Zone of 100
nautical miles (FICZ) and the Falkland Outer Conservation

LONDON 00000439 002.3 OF 003


Zone of 200 nautical miles (FOCZ). There are several "kinks"
in the conservation zones where they meet the Argentinean
Exclusive Economic Zone. End note.) Another official in the
same office explained to us that the FOCZ is the Falkland's
Exclusive Economic Zone, in all but name. Earlier
governments had decided to use FICZ and FOCZ to avoid
arousing tensions over the term. The official noted that a
drilling rig had operated in the FOCZ in the late 1990s,
provoking no protests from Argentina. According to FCO, this
was a period when then President Menem was seeking
cooperation with the Falklands.

Falkland Islands Oil Licensing System
-------------------------------------

¶5. (SBU) Oil exploration and production within the
Falkland's conservation zones require licenses granted by the
Islands' government. Plans to drill must be approved by the
Governor of the Falkland Islands. The Governor grants
approval having consulted with the UK's Foreign Secretary.
All applications are scrutinized by both the Falkland Islands
and UK authorities. The Falkland Islands' Department of
Mineral Resources advises the Islands' Governor with regard
to local exploration concerns. Officials from the UK's
Department for Energy and Climate Change (DECC) told us DECC
only offers technical advice to the UK's Foreign and
Commonwealth Office (FCO). However, they noted that
decisions regarding the development of the Falkland Islands'
hydrocarbon industry are ultimately a matter for the Falkland
Islands government.

¶6. (U) The licensing system consists of exploration licenses
and production licenses. Exploration licenses allow
companies to gather seismic, gravity, magnetic, geochemical,
and sea-bed data and do not allow drilling deeper than 350
meters below the sea-bed. They are not area-specific and can
apply to all of the designated area ) which covers 400,000
kilometers squared, approximately 50 percent bigger than the
UK's North Sea. Licenses are typically awarded for one year,
but can be renewed for up to three years. Production
licenses are area-specific and provide exclusive rights for
surveying, drilling and production. They are awarded through
occasional competitive rounds or, more typically, under an
open-door system. Bids for open-door production licenses can
be made at any time for any number of whole blocks (12'
longitude by 10' latitude) up to a total of 30 continuous
blocks in any one license. Applicants can determine the size
and shape of the area they bid for and there is no limit to
the number of licenses that can be applied for at any time.

¶7. (U) The Falklands' fiscal system comprises a variable
acreage rental, 9 percent royalty on production, and 26
percent corporation tax on profits. Acreage rentals are
payable annually in advance. Rents vary depending on the
license phase and whether the license was awarded as a result
of a competitive licensing round or as the result of an
open-door invitation. There are no signature bonuses, no
production sharing contracts, no back-rights and no local
market discounts. The Falkland Islands welcome applications
from companies worldwide. However, according to the
Department of Mineral Resources, the Falkland Islands
government is unlikely to grant a license to any applicant in
which Argentine interests hold more than a 49 percent stake.

¶8. (U) Existing production license holders are: Desire
Petroleum, Argos Resources, Falkland Oil and Gas Ltd/BHP
Billiton, Borders and Southern Petroleum, and Rockhopper
Exploration. Previous operators have included Shell, Amerada
Hess, Lasmo and IPC/Lundin Oil. Most of the current license
holders are listed on the London Stock Exchange's Alternative
Investment Market (AIM). All combined, they have raised in
excess of GBP 250 million in recent months to fund drilling
operations.

Desire Petroleum
----------------

¶9. (SBU) Desire Petroleum, which has started the new
drilling campaign, is dedicated to explore for oil and gas in
the North Falkland Basin. It was founded in 1996 and is
listed on the London Stock Exchange's Alternative Investment
Market (AIM). It participated in the first round of drilling
in the North Falkland Basin in 1998 and currently operates
six licenses in the area. It estimates recoverable oil
potential in the region at 3.5 billion barrels, with gas
reserves of over 9 trillion cubic feet. (Note: ExxonMobil
International Chairman Brad Corson told us he does not

LONDON 00000439 003.3 OF 003


believe there is enough oil on the Falkland Islands
Continental Shelf to be profitable, citing Shell's earlier
oil exploration attempts which they abandoned. End note.)

¶10. (SBU) The current drilling campaign is expected to last
approximately eight months, according to Ben Willey, a
spokesman for Desire. Willey told us that if all runs
smoothly, the Ocean Guardian rig will drill between six and
eight wells. The first well, already underway, is for Desire
in the North Falklands Basin. The drilling is expected to
last 30 days. After this, the rig will start on a second
well, also in the North Basin, for Rockhopper Exploration.
The third well will be drilled for the Falkland Oil and
Gas/BHP Billiton joint venture, the fourth for Rockhopper and
the fifth for Desire. Depending on the success of these
wells, Desire may decide to drill up to three additional
wells. Its contract with Diamond Drilling, the rig owner,
allows for up to eight wells.

¶11. (SBU) Willey stressed that Desire worked very closely
with the UK's Foreign and Commonwealth Office (FCO) over the
past five years throughout the planning stages of the
drilling campaign. During the past few weeks, while tensions
with Argentina have mounted, he said Desire has sought
further advice from the FCO and cleared all statements with
the department to ensure the company does not further inflame
the situation. Willey said Desire has also built good
relations with the Falkland Islands government. He confirmed
that the rig passed entirely through international waters on
its journey from Scotland to the North Falkland Basin.

Additional Companies Operating In The Falklands
--------------------- -------------------------

¶12. (U) -- Rockhopper Exploration, also AIM-listed, has
licenses to explore for oil and gas in the North Falkland
Basin. It raised GBP 50 million through an equity placement
in late 2009 to finance its 2010 drilling campaign in the
Falklands.

-- Falkland Oil and Gas, which is also an
AIM-listed UK company, focuses on oil and gas exploration in
the undrilled South and East Falkland Basins. It is involved
in a joint venture with BHP Billiton.

-- BHP Billiton is an Anglo-Australian natural
resources company. It is one of world's largest mining
companies and its products include petroleum, aluminum, iron
ore, diamonds, manganese and coal. BHP Billiton owns a 51
percent stake in its joint venture with Falkland Oil and Gas.
The joint venture was agreed in October 2007.

-- Borders & Southern Petroleum focuses on
emerging hydrocarbon systems. Its first project is based in
an untested basin to the south of the Falkland Islands. The
company was awarded its first exploration license in the
Falkland Islands in 2004 and in 2005 listed on the AIM,
raising GBP 10 million.

-- Argos Resources is a private exploration
company and holds a production license in the North Falkland
Basin.

¶13. (C) Comment: UK government officials have made public
statements asserting the right of the Falkland Islands to
issue exploration and production licenses in its conservation
zones in accordance with international law. However, they
have sought to downplay the row and the impact it could have
on the UK's relationship with Argentina and other Latin
American countries. HMG has attempted to avoid escalating
tensions and has stressed HMG's desire to pursue normal
relations with Argentina in all other matters. FCO hopes
that Argentina will proceed similarly.

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