Types of International Petroleum Fiscal Regimes
Posted by D Nathan Meehan May 7, 2011

Types of International Petroleum Fiscal Regimes

I am continuing to defer the petroleum economics section updates based on questions from blog readers. I am now commencing a series on International Petroleum Fiscal Regimes that will go for nine blog entries. In this series I will describe the issues in different oil and gas fiscal regimes generally and discuss concessions, joint ventures, tax-royalty schemes, production sharing, ring fencing and other topics of interest. I will then describe the fiscal regimes in several different countries as illustrations. I want to extend my appreciation to Bob George of Gaffney-Cline & Associates (part of Baker Hughes’ broad reservoir capabilities) for not only correcting the many shortfalls of my first efforts in this area but for adding significant content.

Background
In most countries, including the United States on Federal, State and Bureau lands, the rights to explore for and produce hydrocarbons and other minerals belong to the state or occasionally its sovereigns.  Historically the IOCs provided several things that independent nations determined to be worth giving producers significant rights and share of the profits from exploration and production.  These included:

  1. A willingness to take large risks and expose significant capital searching for hydrocarbons,
  2. Technical expertise in exploration and production including technology not available to the country,
  3. Massive capital required to develop large fields and a willingness to invest those funds years in advance of revenues,
  4. Highly trained and experienced people capable of managing such major projects, and
  5. Access to refineries and distribution systems to refine, upgrade and market oil and gas produced.

However, it became apparent that simply turning over rights to an IOC in return for just cash (and in many cases, a minor share of the cash being generated), did nothing for the host nation.  Their staff remained inexperienced and with the oil or gas being exported no industry was being created locally either.  While the share of profitability began to be changed in the 1950s, issues of control, involvement of citizens in more than just low-level roles and development of local industry and infrastructure did not really develop until the 1960s.  At this point sovereign nations usually established one or more NOCs with the goal of addressing all these issues, and changed the way that IOCs were allowed to operate in their country.

Generic Contract Styles
There are a host of alternative contractual bases for IOCs to explore for and/or produce the hydrocarbons in a sovereign country.  These are generally described in this blog entry and the specifics of a few countries’ current or recent systems will be compared in subsequent entries.  I debated which countries to use as examples and whether or not to even try to use specific countries.  The laws and details of these agreements vary on a frequent basis so any such summary is likely to be out of date at any time. Please realize that the primary purpose of these examples is to illustrate the concepts rather than to be a definitive guide to Brazilian or Iraqi petroleum law. While there are many general types of agreements, the basic differences can be summarized by their approaches in the four following areas:

  • Ownership: Are the hydrocarbons owned by the oil company in the ground or at the wellhead or elsewhere, or are they owned by the state throughout?
  • Payment: Is payment made by companies receiving hydrocarbons/by lifting hydrocarbons they own, or in lieu of payment for cost and profit recovery?
  • Profit Drivers: Is the contract structured such that the oil companies are fully exposed to price risk, or are their returns fundamentally driven by payments based on the amount of money invested?
  • Operational Freedom: How do all contractual and administrative terms combine to affect the degrees of freedom with which companies can operate and vary their investment decisions within the country?

It should also be noted that there is no one best approach. None of the specific approaches discussed is necessarily more or less generous than the others as the specific levels of payments and handling of risk can and do vary greatly from country to country and contract to contract.

Although this section is entitled Types of International Petroleum Fiscal Regime, it might also be entitled simply Types of International Petroleum Regime; the point being that it is not always easy to separate the fiscal terms from the legal and contractual structure under which they exist.

Typically there are taken to be three “headline” styles of petroleum regimes:  concessions, production sharing contracts (PSCs) and service contracts.  A discussion of the general features of each of these follows, but typically under a concession arrangement the fiscal components are handled separately from the award of rights to explore and produce, while under PSAs and service contracts the fiscal structure is usually tightly interwoven with the underlying contracts specifying each party’s rights.

However, as with any generalization, care must be taken as it is possible to construct any of the headline regime styles to look and act very much like another; in particular the financial returns from each may be very similar notwithstanding more obvious differences. Indeed, when countries look to update or modify their petroleum contractual or fiscal regime, they are always “benchmarking” it against those of other countries, and aspects are “borrowed” from one to another regardless of the headline contract style involved.

4 responses | Add Yours

Responses

Nathan Meehan says:

I particularly want to express my appreciation to Bob George (with Baker Hughes Reservoir Development Services group Gaffney, Cline & Associates) for his enormous help in this series.

Rodolfo Galecio says:

I find this topic not only interesting but also a place suitable for innovation, indeed it is a complex issue to deal simultaneously with all the aspects involved in the design of a real contract but at least we have reliable tools capable to handle risk exposure and other issues, I would like to think that our static legal contracts will evolve into dynamics entities in the near future.

Hans Vandersloot says:

Will you be covering the Iraqi contract style? I think that would be very interesting since it is new and somewhat different

D Nathan Meehan says:

Yes, I have examples covering Iraq in the queue. Thanks for the interest.

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