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Upstream Natural Gas

Some Considerations in

Accelerating Exploration

Objectives
1. Strategies for Increasing Natural Gas Reserves 2. Balancing Country Perspective with the Need to Attract Investors 3. Role of Natural Gas in National Development 4. Approaches used (Examples from Other Countries)
1. Petroleum Agreements 2. Fiscal Regimes

Key Strategic Questions


1. Is there more gas to be found? If so, where will it come from?
Are there attractive areas that are yet to be explored? How can production and reserves be increased in existing areas?

2. Do we have the capacity to do it all by ourselves?

Capital, Technology, Experience


How can gas help Bolivia? What are the most important national goals for the gas sector? What are the investors objectives? How do they fit with the countrys objectives? How do we attract the right ones?

3. Why do we want this gas?

4. How do we get others to help us find the gas?

Where will the gas come from?


Gas growth potential
New Exploration areas Enhanced production from existing fields
Compression Small Reservoirs/Fields (e.g. near existing infrastructure)

Linking exploration acreage with existing production or proven reserves


To reduce revenue risk and provide early cash flow

Converting Potential to Reality


Geology of the area and the Maturity of the province Amount of Exploration/Capital being conducted/spent, Technology, its availability and application in the identification and development of oil and gas pools, Access to Markets, particularly for developing and tropical countries, in the case of natural gas Taxation levels and the system of taxation

Attracting Investment - Some Key Questions


1. How good is the geology?

o o
2.

What are the chances of making hydrocarbon discoveries, large enough to be commercially exploited? Does this fit my capability?

What are the technical challenges? o o o Do I have access to the technology needed to discover, evaluate and produce the resource economically? Are these affordable in the given environment? What is the level of skills and services available?

3.

Does the petroleum agreement give the freedom to operate efficiently ?


o o License terms and commitments Capacity of the Regulator/State Company Partner

4.

Do the fiscal terms give an adequate return on capital in a success case? o o o Development and operating costs Timing of returns Government take

5.

What are the political risks? o o o o Expropriation risk, disruption to operations, security and safety, Stability of the contract, legislation, government policies Is corruption a significant factor?

Reducing Key Risks

Reducing Technical Risk


Improve Data Quality
Seismic Data Geological Modeling

Access to Infrastructure Access to Services


Drilling, Engineering, Construction

Reducing Commercial Risk


Lower Costs
Local Availability of Goods and Services

Improved Access to Market


Access to Off-Takers Access to infrastructure

Clarity of Pricing
Pricing Models and Different Markets Domestic vs. Export?

Fiscal Terms
Suitable to make the economics of the specific field or set of fields attractive Flexible to address changing circumstances,

Strategic Business Links


Tying Exploration Risk to Preferred Access to Off-take or Market/Pricing Access to Existing Production/Cash Flow

Reducing Social and Administrative Risk


Transparency
Strong reporting produces stability

Administrative Roles and Oversight


Clear roles and responsibility of actors; Rule-bound and accountable oversight; Strong and capable regulator; Consistency of policies

Avoiding Social Upheaval

Regular consultation with affected communities; Strong environmental protection

Why does Bolivia want this gas?


Meeting Current Needs
Satisfying Contractual Agreements Budgetary Needs

Growth
Increasing reserves and production Maximizing Value from Existing Infrastructure and Assets

National Development
Revenue for Development and Poverty Reduction Technology and Capacity Development Industrialization

Get more value out of the resource

Oil & Gas Value Chain

10

Natural Gas Utilization Options


Syncrude LNG DME Hydrog en Acetic Acid Methanol
Natural Gas Production

Ammonia Urea

MTBE Olefins Gasolin e Formaldehy de Formaldehyde Resins


(e.g. UFC)

Power Reducin g Agent Fuel Metal Ore Extraction Aluminum Iron

Other Chemical Derivatives

Converting Natural gas to Products


Technologies are available to convert natural gas into products to reduce imports or get new export markets

Small to mid-scale LNG is viable despite land deliveries


Key elements:

Xinjiang LNG Project , P.R. China

- Remote gas deposit in Shan Shan region, NW China, with >20 years gas reserve. - Gas Pre-treatment & Liquefaction plant located next to gas field - Liquefaction operational since 2004, proving MRC technology at 400,000tpa - LNG distributed by road in containers ~2000km, to satellite vaporization stations for industrial and residential consumers

Selecting the Right Partner - Some considerations


1.
2.
Similar geological basins In country or region

Companies who operate in:

Companies who want access to product For mid- or downstream use, including power To service existing markets To grow existing or new markets, including locally 3. Companies who want to deploy new technologies or approaches: Exploration or production (upstream) Downstream 4. Companies for one of many strategic reasons, such as: they have lots of cash They want to diversify into a new country/region They have a strategy to add natural gas to their portfolio

Exploration Contractor Profiles How do they fit with the country?


Less complex technology

Shallow
Simple geology
L M S Majors, large integrated companies Medium sized independents Smaller independents/ Late Field Life

High

Deep drilling

Investment

Complex geology Complex technology

M
S
Low Risk High

Low Shallow Simple technology

Attracting Investors - Critical Consideration

In attracting investors, there are always trade-offs, and the choice of incentives offered should be linked to the primary national goals for the sector. This requires a strategic look at the entire industry value chain.

Example of Value-Trade Off: Local Content and Participation


Local Participation Local Content Local Capability Development These things have short-term costs, but may confer long-term benefits

Petroleum Agreements & Fiscal Regimes

The Purpose of a Petroleum Agreement


A petroleum agreement is the instrument by which the State grants the right to exploit oil and gas and codifies the rights and responsibilities of the parties to the agreement. Forms part of the legal framework including laws, regulations and sometimes court decisions. In countries with parliamentary approval and oversight of petroleum agreements, they form part of the legislative framework In countries with a strong executive, i.e. Peru, much of the legal framework comes from executive orders.

Types of Petroleum Agreements

e.g. UK, US, Peru, Australia

e.g. Indonesia, Colombia, Angola, Trinidad y Tobago

e.g. Iran, Iraq, Mexico, Ecuador, Bolivia

Types of Agreements
Concession (Royalty/Tax System) Right to produce and sell petroleum from a license area with a fixed royalty on production and tax on profit Production Sharing Contract Right to produce and sell sufficient petroleum to recover costs and an agreed share of profit oil. Government has right to lift and sell its own share of production Service contract Companies are paid a fixed fee per barrel (or cost recovery fee) to cover costs and an agreed margin

Fiscal Instruments Common in Extractives


Revenue From Hydrocarbons or Mining Gross Revenue To Investor
Production Cost
Royalty

Profit After-Tax Profit


Profit Tax

[WPT = Windfall Profit Tax]

After-WPT Profit
Investors Dividend
Govt. Equity

WPT

[W/H = withholding]

Dividend (minus W/H)

W/H tax

Investor Return

Government Revenue

Angola PSA Structure


Total Oil Extracted

Cost Oil

Profit Oil

Sales by Private Companies

Sales by Sonangol

Profit Tax: 50% of their Profits

Sonangol Keeps 10% of its Revenues

90% of Revenues Go to Treasury

Bolivia Operating Contract (2006)


Crude Gas Sales by YPFB After-Royalty Net (50%)
Recoverable Costs [C/F = Contractor Fee (Retribucin al Titular)] [P/T = Company Profits Tax (25%)]
* YPFB Share in Profits ranges from 1 72%, based on a formula incorporating profitability, production levels, and price

IDH (32%) + Royalty (18%)

Distributable Profits

C/F
AfterTax Profit Investor Return P/T

YPFB Share*

Government Revenue

Source: Daniel Johnston (1994)

Government Take changes are a function of design


Government Take @ $20/BBL & $60/BBL
Participation % 90% 80% 70% 60% 50% 40% ERR %

US OCS Deepwater 0 New Zealand 0 UK 0 Trinidad Deepwater 0-25 Philippines 0 World Average 30 Gabon 10 Azerbaijan AIOC 10 Malaysia Deepwater 15 Indonesia 3rd Gen 10 Russia Sakhalin II 0 Egypt Onshore 0 Nigeria Shelf 0 UAE OPEC Terms 60 Libya Avg 2005 81.5 Venezuela 1996 35 Libya Block 124 89

Few systems are progressive today

$20 $60 Oil Price

R/T
PSC SA World Avg

0 5 0 25+ 13.5 20 22 0 13 5 6 38 18 12.5 81.5 35 89

Petroleum Agreements Key Elements vary depending on local laws and regulations
Duration and extensions Work programme obligations Contract area and relinquishments Contractor rights, obligations and liabilities Discovery and appraisal Development and production Cost recovery, Fiscal terms/production sharing Measurement and valuation of petroleum Natural gas Management of Operations Approval of work programmes Confidentiality Change of ownership Environmental protection and safety Training Local content Bonus payments Abandonment of wells and installations Accounting procedures Company Guarantees Termination Governing law and arbitration Stabilisation

Best practice is to include as much as possible in statutory regulation that apply across all licenses

Incentives & Disincentives

GOVERNMENT CAN INFLUENCE THE RISK REWARD EQUATION

Minimising the risk premium maximises the value for the State Government policy can impact the perception of risk and therefore the required return from providers of capital
1. 2. 3. 4. Reduce Technical Risk Reduce Commercial Risk Fiscal Incentives (and awareness of disincentives) Reduced Social and Administrative Risk

Reducing Commercial Risk


Some Fiscal/Taxation Considerations
The Total Picture Matters Reduced Tax Rates can Serve as Incentive Investors want share of Upside Benefits can be linked to Risk Investors want Flexibility Regimes Should Be Robust for Different Economic and Field Characteristics

Service Contract Incentives in International Comparison

Country Case Study: Ecuador


State Benefits
Physical ownership of subsoil rights Margin of sovereignty (Royalty) 25%; Corporate tax 25%; Contractor must develop project with own economic resources; Strong provisions on domestic content/training; Guaranteed investment obligations; Environmental remediation fund & best technology and methods

Company Incentives
Buy-Back clause; Lowered corporate tax (from 44.4%); Pipeline rate fixed by regulation, considering costs, spending, and a reasonable profit; Two-tiered tariff rate: lowrisk and another for highrisk;

Background: Onshore heavy crude oil Long-term decline in production; halted investment and fall in private production since 2007 Existing/captive IOC presence (PetroOriental/CNPC, Petrobras, Repsol y Agip) Heavily subsidized domestic gasoline market Goals: Increase private production; Increase investment, both exploration & exploitation; Decrease environmental risk from activities Maintain sovereign control of sector Results: 66% of contracts renegotiated, complete Feb 2011, increase in planned investment Petrobras, CNPC, EDC (USA), Canada Grande returned contracts Contract Forms: Hybrid Service Contract

Country Case Study: Iraq


State Benefits
Competitive and transparent auctions to pick partners 3 parameters: -Enhanced Production; -Service Fee; -Supplemental Fee; NOC controls transport, delivery; Incremental remuneration goes down as profitability rises (R-Factor); 25 % state interest

Company Incentives
Company gets higher fee for production above baseline; Contractor can choose to receive payment in Export Oil Full cost recovery quarterly; 20-year contract term (longer than previous Iraqi contracts)

Background:
Onshore Oil and Gas Very Fertile Fields, Low Technical/Geographic Risk Extremely High Political Risk

Goals:
Reversing Decline in Production at Major Fields; Revenues from Production Led by Private Partners; Develop State Capacity

Contract Form:
Risk Service Contract

Country Case Study: Mexico


Government Benefits Company Incentives
Physical ownership of subsoil rights and production; Strong and integrated National Oil Company; Revenues collected via taxes on Pemex 79% annual tax + special taxes for Scientific Fund and Auditora Superior; Two windfall profits tax (one determined by base price and one determined by percentage); Minimum local content 25% of JV control; Penalties for negative environmental impact. Payment for services, determined through formulas via unit pricing, variable pricing, or a mix); For multi-year contracts, annual revisions in the remuneration for technological advances, variations in market prices, other changes that improve efficiency, adjusting according to prices and costs; Additional compensation for faster execution, appropriation of new technologies or profit; Annual buy-outs of SMEs.

Background: On & offshore oil; Pemex w/ exclusive control across the value chain (incl. petrochemicals). Diminishing production and reserves; maturity of fields. Federal Budget dependency on oil income >30% Goals: Increase oil and gas reserves. Reinvigorate marginal fields and increase exploration. Meet the high requirements for investment capital needed for deepwater & complex new fields. Contract Forms: Pure Service Contracts

SUMMARY OF FISCAL INCENTIVES AND DISINCENTIVES


Incentives
Risk-Remuneration Iraqs progressive remuneration Ecuadors two-tier remuneration

Neutral
Rent-Skimming devices Progressive Remuneration Fee

Types of Service Fee Fee-per-barrel Cost Remuneration Fee


Buy-back clause Variable fees Philippines FPIC paid out of Gross Revenue

Equity participation (from a purely fiscal


perspective)

Disincentives
Equity Participation (from an operational control and operational efficiency perspective)

Capital Allowances High Royalties Accelerated v. non-accelerated depreciation Uplift Ring Fencing

Preguntas

Muchas Gracias
Tony Paul tony1paul@gmail.com Todd Arena tarena@revenuewatch.org Arena.todd@gmail.com Patrick Heller pheller@revenuewatch.org