EL-RUFAI ON FRIDAY
On Oil and Gas (2)
Nasir Ahmad El-Rufai
elrufai@aol.com
Upstream activities - the exploration, production and export of crude oil
are what Nigeria has become addicted to as the main source of its
revenues. These activities provide three revenue streams - royalties,
petroleum profit taxes (PPT) and sale of our share of crude. This week, we
will look at upstream aspects and explain the jargon of the industry so we
can understand this sector that has become a source of joy and sadness in
our national lives.
Most Nigerians including those with only the most fleeting interest on the
oil industry would have heard of the Bonga Fields and the massive reserves
of crude oil and gas they produce. What most people do not know however,
is that Nigeria earns no royalties from these wells because back in 1991,
we signed an MOU with international oil companies (IOCs) forfeiting such
royalties. So today, except from Petroleum Profit Tax (PPT), Nigeria earns
little from Bonga and other deep offshore oil wells with a depth of more
than 1,000 metres. This anomaly is just one of many in the oil industry
that defy common sense. What have our regulatory bodies and legislature
been doing?
Unlike other national oil companies like Petrobras of Brazil and Aramco of
Saudi Arabia, the Nigerian National Petroleum Corporation (NNPC) and the
Department of Petroleum Resources (DPR) have limited themselves to merely
regulating the industry – and failing. For instance, what the IOCs do in
Nigeria is in reality project coordination and management – by contracting
out, outsourcing and subcontracting virtually all aspects of oil
production from exploration to ‘fiscalization’. In return for these tasks,
they repatriate billions of dollars in profit every year – money that
would have helped to develop our human capital, infrastructure and create
jobs.
And speaking of jobs, the relatively few Nigerians employed by oil
services and related companies are engaged mostly through foreign
companies who end up bringing in more expatriates than Nigerians – even in
areas where there are many qualified Nigerians. Is this to say that the
NNPC and the Petroleum Technology Development Fund (PTDF) cannot find or
train Nigerian geologists, engineers, project managers and other skilled
personnel required to ensure that at least 80 percent of workers in the
oil and gas sector, like others, are Nigerians? Perhaps, we should not be
too surprised, considering that until about 10 years ago, oil services
companies operating in Nigeria were not even required to register in the
country, and therefore paid no taxes to the Nigerian government despite
the billions of dollars worth of contracts they have executed over the
decades.
The Nigerian oil industry has been rendered unnecessarily complex, but in
reality has less than 10 ‘major’ players – including Shell Exxon Mobil,
Chevron, Texaco and Total. These IOCs only have a few thousand Nigerian
employees, but produce millions of barrels of crude oil daily for export.
Our oil exploration policy appears to be designed in the belief – or maybe
the hope – that government will only regulate the industry while
everything else should go to the IOCs since crude oil export was its main
thrust. This environment means that our oil industry is skewed towards the
dictatorship of the IOCs, including all kind of incentives, policies,
agreements and MOUs with little or no positive impact on job creation and
growth in the real sector in Nigeria.
To understand the workings of the sector requires an overview of the
entire process – from exploration to exportation of crude and the meanings
of some common and technical terms – the 'black box' of the sector. At the
moment, the entire process is shrouded in secrecy and open to a wide range
of interpretations, mostly to the detriment of our economy and
environment.
Although oil and gas deposits are found in many areas of Nigeria, the
process of exploration to production go through a similar sequence of
activities. The differences lie primarily in the technology and
sophistication of the process of the oil exploration/production companies
involved. Our Constitution states that all minerals, including oil and gas
legally belong to the Federal Government, so all oil exploration and
production require licenses and approval of government. The Nigerian
National Petroleum Corporation (NNPC) and the Department of Petroleum
Resources (DPR) represent and coordinate government activities in the oil
and gas industry. The standard process has some basic components.
The initial step is to ascertain whether there is commercial quantity of
oil in a particular oil field. During this phase, the Department of
Petroleum Resources (DPR) will issue an Oil Prospecting License (OPL) to a
prospecting company. The second component comes when the quantity of crude
oil in a particular oilfield is projected, and an Oil Mining License (OML)
is issued to the company. The final step is when an Oil Mining and Leasing
license is issued. At this stage, all relevant MOUs are signed between the
Government and the oil companies. Bidding fees and signature bonuses in
hundreds of millions of dollars are earned in the pre-exploration stages.
Petroleum production and exploration are covered under the auspices of
Joint Ventures (JVs), Production Sharing Contracts (PSCs) between oil
companies and the Federal Government, Service Contracts (SCs) or the
Marginal Field Development agreements. Joint Ventures and Production
Sharing Contracts account for approximately 95 percent of all crude oil
output, while local independent companies operating in marginal fields
account for the remaining 5 percent. As at 2007, JVs accounted for about
72 percent of oil production, PSCs nearly 24 percent while Independent
Producers and Service contracts had 3.1 and 0.49 percent respectively.
There is another operational mechanism tagged ‘Alternative Funding’
whereby the joint venture partners make no direct funding contribution,
but instead incorporate an entity that raises the funds so bears the
direct financial burden of the production and exploration.
Joint Venture oil exploration and production arrangements are modelled
after partnership agreements. It operates as a form of partnership between
the joint venture partners, which spells out the participatory interest of
each of the partners and also designates one of the partners as the
operator of the venture. The NNPC represents the interest of the
Government in the joint ventures arrangements that are currently ongoing,
whereas the respective oil exploration and production companies operate
the different ventures with varying participatory interests. The NNPC owns
55% of Shell’s production JV and 60% of other IOCs' JVs. Between $4-5
billion is spent each year as FGN's contribution to JV financing.
The Joint Venture agreement (JVA) governs the relationships between the
parties, including budget approval and supervision, crude oil lifting and
sale in proportion to equity, and funding by the partners. In addition to
the agreement, a Memorandum of Understanding (MOU) governs the manner in
which revenues from the venture are allocated between the partners,
including payment of taxes, royalties and industry margin. The income
derived from the operation is also shared in proportion to the equity
interests of the parties to the venture, with each party bearing the cost
of its royalty and tax obligations in the same proportion. Allocations are
also made from the revenue to take care of operating and technical costs.
In the case of PSC, the IOC bears all the technical and financial risks of
exploration of the field which remains the property of the government.
This form is modelled along the lines of share cropping in agriculture,
where the owner of the land grants a farmer the rights to grow crops on
his land and shares the proceeds with the farmer in agreed proportions
after the harvest.
Under the PSC, the contractor bears the entire cost and risk of
exploration activities, and only reaps the rewards after a commercial
find. In the event of a commercial discovery, the contractor recovers its
costs fully from allocation of oil, referred to as ‘Cost Oil’. Allowance
is also made from production for royalties, after which the remainder of
the production, called ‘Profit Oil’, is shared in agreed proportions
between the company and the government. The Oil Company thereafter pays
income tax on its profits from the venture. The oil and all the
installations remain the property of the government throughout the
duration of the contract.
The major operators in Nigeria are still largely the holders of the PSCs
but there have also been new entrants, made up of independent foreign oil
companies, which enter into partnerships with indigenous companies to bid
for oil blocks, and thereafter operate it in line with predetermined
contractual arrangements. In Nigeria, this form of contractual arrangement
is relatively new but growing, and covers mostly acreages in the shallow
and deep offshore areas and the inland basins.
Marginal Fields comprise small and abandoned fields which have remained
undeveloped by their joint venture operators. Such fields contain reserves
that are considered uneconomic when produced by the multinationals but
might be profitable if operated by indigenous entrepreneurs due to their
low overhead and operating costs. There are over 100 such fields with
collective estimated reserves of about 1.3 billion barrels. The interested
parties in the development of marginal oilfields are the Federal
Government, the indigenous entrepreneurs and the major oil companies that
were originally allocated the oilfield. The standard method that is
adopted for marginal fields is by government acquiring such fields from
the major oil companies and reallocating them to intending indigenous
investors.
Analysing the Nigerian oil and gas industry invariably leads to the
conclusion that our existing policies have hampered the optimal
development of these vital resources and limited our ability to use it to
develop Nigeria and reposition our economy, with adverse effects on our
environment and the lives and livelihoods of people in oil producing
areas. Incidentally, one of the commendable efforts of late President
Umaru Yar’Adua was the initiation of the Petroleum Industry Bill (PIB)
which would have completely structured and reformed the oil and gas
sector.
It is no surprise that the IOCs are so vehemently against it, with reports
of massive ‘lobbying’ of members of the National Assembly to dilute its
key provisions and even block its passage. If there is no truth in this,
how come the National Assembly is yet to pass such an important Bill – one
that borders on our national economic security – nearly three years after
it was first submitted? Nigerians are watching. And waiting!
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