What are PSC Agreements?
A PSC Contract is an oil and gas development agreement between a government and a business organization under which the company is responsible for the exploration of the oil and gas fields and the production of oil at its own expense. This is for a certain period of time stated in the agreement. The company also has the option to develop and drill on the land in exchange for royalties consisting of a portion of the oil discovered to be paid to the government by the company. A PSC Contract is a contract that goes for a long enough time period that can extend up to a minimum of 25 years.
These are typically found in various places around the world that have oil and gas development or exploration , but they are especially common in countries that have significant supplies of oil and gas reserves. It essentially allows the government to secure a minimum return from the development of the fields by the private company, while leaving the flexibility to adjust those minimum returns later if oil production rises or falls significantly.
PSCs are distinct from joint venture agreements in that they allow the host country to maintain ownership of the oil and gas development sites. However, the joint ventures allow the exploration company to explore the site. They are a more attractive option for the host countries because they can enter the development agreement without giving up their rights to ownership of the developed product.
Key Components of PSC Agreements
The PSC Agreement itself must address all of the issues which relate to the contract area and govern the key terms of the petroleum arrangement. The key elements of a PSC include the cost recovery provisions, profit oil share, profit gas share, the taxation and cost of projects, the delisting as well as the reference prices. It is essential that there be a confidentiality agreement in place as PSCs as a rule are secret arrangements and thus careful drafting is necessary to ensure the documents are kept secret. An additional issue that requires careful attention is the term of the PSC. Other significant items of the PSC are the bidding process, the commercial arrangements including the transportation of change in law and assignment. The relationship between the parties is an important aspect which requires clarification and cannot be ignored. Additionally the issue of dispute resolution and limitation to liability is also a very crucial part of the PSC.
Pros and Cons of PSCs
Advantages and disadvantages of PSCs for governments and companies lie in the economics and potential risks. The primary economic advantages for a host government lie in the income stream created for the government (and its citizens) by cash bonus payments, taxes and profit oil that was previously missed because the government was not involved in the management of its oil and gas industry. Under a PSC, risky expenditures are made by the company which must recoup those expenses before profit oil is distributed. Profit oil is generally divided using a sliding scale based on levels of production. This means that the government will receive a majority of the profit oil, at least until sometime in the future when the company has recouped its expenses.
Many PSCs provide for an allocation of profits to a national oil company with the idea that the company and its citizens will share in the profit. In addition to sharing in the profits (or losses) of the operation, the existence of a NOC also allows the NOC to manage the operations directly. This allows the host government to control not only the terms of the PSC but also to manage the operation of the sector. Existence of an NOC creates job opportunities for its citizens but also creates the opportunity for more corruption. Governments will rely on their NOCs for technical expertise but expecting the NOC to serve as partner to an IOGC could result in mistrust between the IOGC and the host government. Although the relationship between the IOGC and the host government may be changed by the existence of the NOC (and its relationship with the host government), this does not mean that the existence of a NOC will result in negative economic consequences or risks to a company.
In addition to the aforementioned potential advantages to the host government, there are additional reasons PSCs are still being entered into. Many countries, especially in Africa, have natural resources and now want to develop those natural resources in order to meet their economic development goals. Countries like Uganda, Ethiopia and Kenya have become important because these countries are rich in oil (Uganda) and gas (Ethiopia and Kenya) reserves. Although Nigeria does not use a PSC structure, its has large oil deposits and has become an important participant in oil and gas sector.
There are also some obvious advantages for a country in having their citizens participate in the management of their oil and gas industry. Even if the oil and gas reserves are not overwhelming and it takes a long time for the country to begin realizing cash bonuses, taxes, and other payments under a PSC, the fact that the country was able to develop its own governing skills and experience in the oil and gas sector can only be seen as a plus.
Comparison With Other Oil and Gas Agreements
A PSC Agreement is often confused with various other types of oil and gas agreements. In a PSC Agreement, the Investor participates in exploration and production under the overall control of the Contracting Company. In a Joint Venture Contract the contract partners participate equally in the operation of an oil field without the sole control characteristic of the Coordinator established in a PSC Agreement. In Service Contracts, the Investor conducts exploration and production activities on behalf of the Contracting Company, under the technical and economic supervision of the Contracting Company. The key distinction between a PSC Agreement and Service Contracts is that the Investor shares the oil profit with the Contracting Company according to the agreed-to remuneration split, which proportionality is governed by the risk assumed by the Investor; as opposed to a Service Contract whereby the Contractor receives a fixed fee for its services and does not participate in the production of oil.
Legal and Regulatory Issues
PSC Agreements are not only subject to a multitude of local laws and regulations but also to a plethora of international conventions to which the host country is a party. In connection with the prevailing oilfield practice, many PSCs in the region were drafted and signed prior to 2011, when the most recent amendments to the law occurred. As such, these PSCs have limited references to the new legislative framework and vice versa. With regard to older versions of the PSC, the general commitment of the Contractor to comply with all applicable laws is the main legal consideration. While there is no explicit regulation on the arbitrary award of a PSC, a similar commitment is required from the Contractor under the most recent law that governs the activities carried out under the PSC. The need to consider such requirements depends on the nature of the activities under each project . As a general rule, these provisions allow for the possibility that an investor implements certain activities subject to a PSC without any prior public bidding. However, if those activities imply a transfer of rights to third parties, an auction must be held. In addition, other clauses of the mostly standard PSCs could also be considered as pertinent legal and regulatory considerations: Contractors shall also be aware of the following rules, regulations, and conventions to which host countries are party, and which could have a significant economic impact on a project under a PSC: Contractors should also keep in mind other legal provisions that can coincide with the execution of PSCs, such as competition, financial assistance, and environmental protection rules. Such regulations can require different levels of compliance depending on the project.
Future Directions for PSC Agreements
The landscape for PSC Agreements is gaining new features in the wake of the oil price fall and the push for more sustainable practices in the petroleum industry. Countries and companies are in constant negotiations, and as society increasingly demands responsibility and sustainability standards, PSC law in particular is adapting and evolving so as to attract foreign investment.
An example of this evolution is in PSCs used for unconventional resources as opposed to conventional petroleum resources. As unconventional resources have gained popularity as a way to drive forth energy independence in certain countries and regions, PSC Agreements attuned to unconventional extraction practices have emerged. For example, shale oil and gas extraction sharing agreements will differ from those for extraction from traditional onshore or offshore reservoirs. Governments of countries where unconventional oil and gas lies, such as Israel and some of the States of the Eastern Med, have begun to offer PSCs attuned to the appropriate methods of extraction.
Another trend emerging in the PSC world is in recognition of the synergetic effect of cooperation amongst strategic PSAs, such as those for neighboring or mutually beneficial oil fields. This is particularly so for the shared energy security of the Eastern Mediterranean region. As countries explore their own previously unexplored oil and gas resources, namely in Cyprus and Lebanon, the demand for new and mutually beneficial cooperation agreements will likely rise.
Examples of PSC Agreements
Of all the agreements discussed in this article, PSCs have had perhaps the greatest success globally. According to the World Bank, in 2000 the resource sector represented 48% of the total value of exports and 34% of total public revenue in developing countries. The most successful PSCs are long-term and require the IOCs to commit to sustainable development. Transparency is also an important element.
One country that has successfully negotiated PSCs is Myanmar (formerly Burma). In 1998, the Myanmar government floated a tender for deep offshore blocks in the Andaman Sea using "Instructions for Submission of Bids for Production Sharing Contracts." The government again issued a tender in 1999 for shallow water blocks in the same area. In awarding the tenders, the government followed the criteria outlined in the instructions. The government considered the overall cost/benefit to the country as well as other objectives such as production profile, training and technology transfer, local participation, financing, enhancing domestic content and so on. The government invited commentary from local industry in making its evaluation.
The selection process in Myanmar was highly competitive and included several rounds of negotiations. Although the government sought to negotiate with at least three bidders for each block, more than five companies from several countries submitted bids for some areas. The government also was interested in basing its evaluation of bids on the advice of a reputable independent consultant and also relied on the recommendations of its technical advisors. At all times, the government was sensitive to the need to maintain confidentiality in the evaluation process and was clear that the decisions of the government were final. In the end , the government awarded 12 contracts to 7 companies.
Meanwhile, two of the more devastating examples of PSCs gone bad occurred in Angola and Nigeria. In Nigeria, PSA blocks were awarded to several IOC companies prior to the unbundling of OML blocks into OPL blocks and the restructuring of contracts between the government and investors. These contracts were renegotiated after the government was forced to terminate the contracts with the IOC companies due to non-performance. The situation worsened when major oil spills and pollution at twenty sites discovered after further exploration were quickly quashed by the IOC companies with no public accountability under the PSC. General Olusegun Obasanjo, the Nigerian President, noted that the oil spills destroyed huge fish farms and breeding grounds of shrimp and oyster.
In Angola the government, in response to growing anger, sought to buy back the interests of IOC companies in a deal whereby the IOC retained a 25 percent interest in the previously awarded blocks in consideration for new terms that would boost their ownership from 5 percent to 20 percent. As a result of these negotiations, Chevron-Texaco Corporation announced its intention to exit from the PSCs in Angola. The deal included a clause that forbids Angolan government officials and their families from having bank accounts outside of Angola. This was a clear attempt by the Angolan government to curb the practice of laundering illicit funds abroad. Another contract term required that the IOC shall operate the wells solely through Angolan-registered companies, barring their use of foreign firms. The process remains ongoing.