Govt. must consider pros and cons of continuing with Production Sharing Agreements – Ram urges

Dec 15, 2018 News

---

By Kiana Wilburg

Chartered Accountant Christopher Ram is of the firm view that the government needs to carefully examine the pros and cons of Production Sharing Agreements (PSA) before moving to design a model that would be used in the future.
His comment in this regard, comes on the heels of a US$11.64M loan that was granted to Guyana by the Inter-American Development Bank (IDB) so that the authorities here can improve its governance systems for the oil sector. One of the terms of the loans, however, is for Guyana to design a model contract for future Production Sharing Agreements (PSA).
Ram stated that the government, by accepting this term from the IDB, makes itself appear unthinking and unwilling to learn.

In his recent writings, Ram said, “After months of rambling that now that Guyana has been de-risked in oil and gas, (and) a new approach to the development of the upstream oil and gas sector is necessary, we return to the same concept that will see us lose at the very least, hundreds of millions of real dollars annually.”
Ram continued, “It ought to be reasonably evident that there are about 12 key variable elements in the profit oil model of PSAs and that this so-called exercise for which part of the loan is to be expended, can be done by way of a desk exercise in a matter of days, by any reasonably competent person.”
The Chartered Accountant reminded that several countries are moving away from this type of profit oil production sharing agreement into a gross production sharing agreement. He stressed, however, that Guyana seems committed to a backward model.
Ram said, “And there are other models as well, such as the concession type of agreements, which would be consistent with the statutory type of ownership of petroleum resources. I had on more than one occasion accused the PPP/C Government of taking any loan on offer. This Government is showing how similar to the PPP/C it really is.”

INDONESIA ABANDONS PSAs
Indonesia is said to be the nation that gave the world Production Sharing Agreements. This arrangement stipulates that the host country will receive its profits after the oil company deducts its operating expenses.
The Government of Indonesia thought that this was a wise move in the beginning. But with each passing year, it soon noticed that its cut of the spoils got smaller, the taxes from the oil sector began to shrink and the operators’ claims of deductable expenses was increasing by the millions.
The aforementioned convinced the Government that petroleum companies were inflating costs. The Government tried everything they could to keep oil companies from exploiting this loophole in the Production Sharing Agreement. But every accounting or auditing effort proved futile against the oil giants. Earlier this year, the country took the decision to move away from the very agreement it piloted.
Ram, who also studied the case of Indonesia, recently wrote that Guyana may find lessons from that country in relation to Production Sharing Agreements to be a serious wake-up call.
It was in January last, that the Indonesian Government actually walked away from the Production Sharing Agreement approach. It is now using the “gross-split” method.
The gross split rules make contractors bear all the costs in turn for a higher share of the output. The base split for oil blocks is 57% to 43% for the government and contractors, respectively, and 52% to 48% for natural gas fields.
This is in contrast to the conventional cost recovery PSAs which caters for the sharing of profits after deduction of the exploration and production costs.
The economic benefit from the gross split PSA is that it awards the share of production, bonuses, income taxes and indirect taxes to the state, while contractors receive a share of the production according to the percentage agreed on in the contract.

INFLATED COSTS
Indonesia’s move from Production Sharing Agreements to the new model in January last was long in the pipeline.
In several media reports in that country, the Government said that under cost recovery, contractors inflated costs to increase their share of production, the result being that Government’s share is reduced. In fact, the Supreme Audit Agency of Indonesia found that several oil and gas production sharing contractors inflated their operating costs claims to US$300M. The Agency also noted that many of the costs claimed by the company were not even in keeping with the rules and regulations of Indonesia.
By moving to a gross-split, the Government argued that contractors are forced to bear the costs of operating themselves. The Government believes that the new method will encourage the oil operators to spend more efficiently since there is no way to recover them.
The Government of Indonesia feels justified in doing away with a cost recovery mechanism for oil operators. The citizens there also believe that for too long, they have been abused by oil operators. In this regard, the Government revealed that in 2016 alone, cost recovery by oil operators climbed up to $13.9B. This was more than the sector even contributed in revenues for that year.
Additionally, the Government bemoaned the administrative challenges that came with addressing cost recovery as claimed by companies. In fact, the Government said that the problem with cost recovery is there have been endless debates as to how much exactly the production costs should be. The Government said it is not easy to calculate technology costs, especially in cases where only one company has a particular technology.
It was also noted in the Indonesian media that SKK Migas, a government-owned entity that manages the oil sector, has a staff of 750 professionals. Approximately 80% of that staff is involved in the arduous task of ensuring that cost recovery claims by the company are fair and accurate.
Anticorruption advocates in Indonesia are of the firm view that given its limited audit resources and benchmarks to evaluate cost claims, the Government’s response to move away from cost recovery as a basis for production sharing is, perhaps, a sensible move.

---

---