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Trouble flares over oil that lies beneath the Falklands

Argentina's legal move raises fears of battle over natural resources.

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In the latest annual report of Falkland Oil and Gas, published last May, under the heading "Principal risks and uncertainties", the company listed two risks to share-holders investing in the £206 million London-listed company.

Neither of those identified, however, warned investors of the underlying political risk - that the company may be caught up in a legal onslaught from the Argentine -government directed firm and centre at the UK.

But as The Sunday Telegraph reveals today, that is the very real threat facing the industry at large - after a string of British and American banks received legal threats to that effect. The oil companies themselves have been left off the mailing list - at least for now.

The banks however wrote research notes used by investors on how much oil exists in the waters which surround the disputed territory, and, in some cases, have helped the companies to raise funds.

Almost 30 years to the day since the Falklands War began on April 2, 1982, the Argentine government has clearly decided to increase the pressure against those involved in - and those merely on the edges of - the Falkland oil exploration industry.

The latest salvo from an increasingly aggressive Argentina threatens to unseat the multi-billion dollar South Atlantic industry just as it begins to gain traction.

Making money from the Falklands natural resource base is nothing new.

For decades, the islands' economy has been based on farming and fishing, with the Central Intelligence Agency's World Factbook noting that in 1996, 95% of the island's $165 million (£103 million) gross domestic pro-duct came from agriculture - mainly shepherding and fishing - with the rest coming from industry and services.

In the decade-and-a-half since that snapshot, however, much has changed. Much of that development was sparked by the 1987 decision to sell fishing licences to foreign trawlers which boosted the island's economy by approximately $40 million a year.

In addition, tourism, particularly eco-tourism, has grown rapidly, boosting the at times isolated economy yet further. But it is what lies off the islands - indeed what lies beneath the islands - where the real value is hidden.

In 1993, the British Geological Survey announced a 200 mile oil exploration zone around the islands, with early surveys suggesting reserves holding enough oil to produce in the region of 500,000 barrels of oil a day.

Two years later, the UK and Argentine governments reached an agreement in which the UK would receive 66.6% of any earnings on oil and gas discovered in waters to the east of the Falklands, with Argentina receiving the remaining third.

As a result, a small number of exploration companies emerged, including Borders & Southern Petroleum. The firm was floated on the London Stock Exchange's Aim market in May 2005 by Harry Dobson, the Scottish mining tycoon.

It was valued at pounds 25.5m after raising £10 from City investors on the back of licences for 20,000 sq km of exploration in Falkland waters.

Two years after that listing however, the Argentine government ripped up the 1995 agreement, with then foreign minister, Jorge Taiana, saying the UK had failed to respect the original terms.

The tensions between the UK and Argentina have worsened considerably since February 2010, when Desire Petroleum, also listed in London, hired a rig to commence the first drilling in Falkland waters since Shell ended exploration in 1998 amid falling oil prices.

Today, the five exploration companies which the Argentine government appears most concerned with are worth £1.6 billion collectively.

Despite the clear conflict, a recent research note by independent research house Edison Investment Research claimed that the Falklands stood to benefit from a $176 billion tax windfall as the result of oil and gas drilling.

The report, co-authored by Ian McLelland, said that of the four major prospects underway, the largest, Loligo, owned by Falkland Oil and Gas, potentially holds more than 4.7 billion barrels of oil.

The most developed, Sea Lion, owned by Rockhopper Exploration, is forecast to produce 448 million barrels over the 20 years from pumping, which is due to begin in 2016.

Sea Lion is approaching the size of the single largest field - Buzzard - discovered in the North Sea this century.

"With current tax and fishing incomes in the region of $40 million, the islands look set to be transformed by the oil industry," wrote Mr McLelland.

It is that fact that the Argentine leader, Cristina Fernandez de Kirchner, has focused on. She has criticised the UK for "the plundering of our natural resources, our oil".

It is now widening the legal threat to those banks advising the companies, and even those writing research analysis on them.

Legal experts spoken to by The Sunday Telegraph suggest that although the wording of the new legal warning is stark, it does not state exactly what damages or claim is being made, or indeed where any action would be fought.

One lawyer with experience in international trade disputes said that the Argentine -government seems intent on scaring off investors and -damaging the exploration companies' ability to raise finance. "For the research companies and banks, there's no valid claim against them whatsoever," said the lawyer who asked not to be named.

"For the oil companies themselves, it's more circumspect," said the lawyer, noting no letters have been issued to them. "They are pawns in the middle of two big states, and they could end up having their assets taken off them."

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