Economic Stability in Production Sharing Contracts (PSC)

Economic Stability and Change of Law provisions in a PSC

The use of stabilization clauses is a direct response to material changes in legislation that altered the economic positions of foreign companies under previously concluded long term investment agreements. Investors rely on stabilization clauses to ensure relative stability of the main investment conditions needed for the successful performance of their investment ventures.

For the foreign investors and their bankers, stabilization concerns among other things, the stability of the fiscal regime to ensure investment recovery, security of tenure over property and title, the ability to sell, the ability to retain and repatriate foreign exchange earned and the ability to operate the project under reasonably foreseeable conditions. Foreign Investors would also be concerned about non financial matters like changes in labour and environmental law or changes in the interpretation of the existing law to the extent that it affects their interests adversely.

In the period between the first and second world war, American companies began to include stabilization clauses in the concession contracts to prevent acts of nationalization by Latin American governments.

Stabilization Clause can be primarily of 2 types:

1.       Freezing provision

2.       Economic Balance provision

1.       Freezing Clause :

It stipulates that neither the fiscal, nor the non-fiscal elements (social & environmental  issues)  of  the  contract  may  be  changed  by  the  host government during life of the contract  without the two parties consent (Angola, Tunisia, Mozambique etc) .

Examples:

a.       Cl 30.7(d) Mozambique PSC Model (2001) :

The Government shall not revoke or amend the Autorisation granted to ENH to explore for and produce Petroleum from the contract Area without taking effective measures to ensure that such revocation or amendment does not affect the rights granted to the Contractor hereunder

CL 30.7(e) The Government will not without the agreement of the contractor exercise its legislative authority to amend or modify the provisions of this Agreement and will not take or permit any of its political subdivisions, agencies and instrumentalies to take any administrative or other action to prevent or hinder the contractor from enjoying the rights accorded to it hereunder.

b.      Cl. 18(m) Ivory Coast 1996 Petroleum Code

The petroleum contract in particular must set…. The legal conditions concerning the applicable law, the stability of conditions, the cases of force majeure and the regulation of disagreements

c.       Cl. 24.1 Tunisia 1989 PSC Model

The contractor shall be subject to the provisions of this Contract as well as to all laws and regulations duly enacted by the Granting Authority and which are not incompatible or conflicting with the Convention and/or this Agreement. It is also agreed that no new regulations, modifications or interpretation which could be conflicting or incompatible with the provisions of this Agreement and/or the Convention shall be applicable

2.       Economic Balancing Clause:

Essentially, the provision stipulates that if the host government adopts a measure subsequent to the conclusion of the petroleum contract in which the fiscal terms are stated, that is likely to have damaging consequences to the economic benefits for one or both parties, a re-balancing will take place in order to restore the economic balance of the contract.

Two (2) ways to achieve the economic balance:

         i.            Adjustment may be automatic or achieved in a manner stipulated in the contract.

       ii.            Make express provision for the parties to negotiate how amendments should be handled

Examples of this are Vietnam, India, Indonesia, Egypt etc.

a.       Vietnam PSC Cl 18.1.3

If after the Effective Date, existing law(s) and regulation(s) are amended or annulled or new law(s) and regulation(s) are introduced in Vietnam, or an official interpretation or application of changes of regulations of a law, or licence is cancelled, not renewed, or the conditions therefore are revised adversely affecting the economic interest of the CONTRACTOR under this Contract, then upon notice from the CONTRACTOR the Parties shall consult promptly with each other and make such changes to this Contract as are necessary both to maintain the CONTRACTOR’s rights, benefits and interests hereunder, including CONTRACTOR’s share of Profit Oil or Profit Gas, as at the Effective Date and to ensure that any revenues or incomes or profits, including any one or more of the foregoing, derived or to be derived to the CONTRACTOR under this Contract, shall not in any way be diminished in comparison to that which was originally contemplated as a result of such changes of laws or annulment therefrom or their interpretation or application or as a result of such changes, cancellation or non-renewal of approvals or licences.  

b.      Egypt

Exploration, Development and Production of Petroleum, which take place after the Effective Date, and which significantly affect the economic interest of this Agreement to the detriment of CONTRACTOR or which imposes on CONTRACTOR an obligation to remit to the Arab Republic of Egypt the proceeds from sales of CONTRACTOR’s  Petroleum, CONTRACTOR shall notify EGPC (the NOC) of the subject legislative or regulatory measure. 

c.       Indonesian PSC Cl 15.4.3

It is agreed further in this CONTRACT that in the event that a new prevailing Indonesia Income Tax Law comes into effect, or the Indonesia Income Tax Law is changed, and CONTRACTOR becomes subject to the provisions of such new or changed law, all  the percentages appearing in Section VI of this CONTRACT as applicable to the portions of CONTRACTOR and GOI’s share so affected by such new or changed law shall be revised in order to maintain the same net income after tax for CONTRACTOR or all  Participating Interest Holders in this CONTRACT.  

d.      Indian PSC Cl 17.10.

If any change in or to any Indian law, rule or regulation dealing with income tax or other corporate tax, export/import tax, excise, customs duty or any other levies, duties or taxes imposed on Petroleum or dependent upon the value of Petroleum results in a material change to the expected economic benefits accruing to any of the Parties after the date of execution of the Contract, the Parties shall consult promptly in good faith to make necessary revisions and adjustments to the Contract in order to maintain such expected economic benefits to each of the Parties, provided, however, that the expected economic benefits to the Parties shall not be reduced as a result of the operation of this Article.

In the early 1980s, revision of petroleum contracts and nationalisation of petroleum industry assets triggered confrontational  arbitration procedures:  a few cases:

·         Saudi Arabia v. Arabian American Oil company (Aramco)
·         Kuwait v. American Independent Oil Company (Aminoil)
·         Agip Company v. People’s Republic of the Congo
·         Amoco International Finance Corporation v. Islamic Republic of Iran.


It is important to note however that there are many petroleum rich host countries that do not offer clauses designed to provide STABILIZATION and that IOCs have no difficulty living with such a legal regime, as the legal and political risks are low in those host countries (UK, Norway are few examples).

In other countries, while the legal and political risks may be high, the perception of the geological risk is so low that IOCs accept a contract without stabilization provisions (Saudi Arabia, Brazil are some examples).
 

Is India really responsible for this rise in crude prices..??

The one thing that consistently recurs across ions of human existence is the burning need of mankind to find an opportune punching bag.

One, on which, we can conveniently pass on our burden of pain, guilt, fear, hurt or offence. Such visibly “soft targets” have been chosen with remarkable impunity throughout the history of mankind whenever are faced with a crisis- big or small.

Undoubtedly, one of the biggest catastrophes facing us today is the meteoric rise of that one precious barrel of crude. And, true to character, we have found a poor soul on whose Door we can easily lay the blame and, for good measure, also through some brickbats and rotten eggs, at that very Door.

Agreed, that for this particular problem, we have, in our ingenuity, found a number of such Doors but the biggest and by far the most (un) popular belongs to that of India and China, and their mammoth population.

I recently heard a man quote his grandfather and he said “They need to have a course in college called common sense and everyone should take it. Problem is there aren’t too many people that could pass…. or teach it."

Maybe I would'nt need to write a whole lot more if all we could do was just understand and learn from Gramps!


I agree that India has had an increased consumption of Crude but a look at statistics above gives a totally different picture:

I may be wrong, but from what I can see above, the US consumes (and imports) 8 times more crude oil than India, for a human populace that is one third that of India.

In effect, one American consumes 27 times more oil than a single Indian!!

How’s that for finding a Door to lay blame on…??

I do agree that Indian’s have been consuming more oil than their father or grandfathers did, but there are other factors also that need to be discussed. The first is time. These high prices have not been around all that long and development of new supplies takes many years. The second is access to new resources. And the third factor is what is happening to costs. The public focuses on the price at the pump, but the oil industry is preoccupied, and indeed somewhat stymied, by how rapidly their own costs are rising - far exceeding the rate of general inflation. The latest IHS/Cambridge Energy Research Associates (Cera) Upstream Capital Cost Index - the consumer price index for the oil field - shows that costs for developing a new oil or natural gas field have more than doubled in four years. Some costs have risen even more: a deep-water drill ship might have cost $125,000 per day to rent four years ago. Today it goes for more than $600,000 per day - if you can find one.

Everything is in short supply - people, equipment, engineering skills. Be-cause of the contractions that came with the price collapses of 1986 and 1998, there is a missing generation in the oil industry. More than half the petroprofessionals are less than 10 years away from retirement. A petroleum engineer graduating this year is likely to receive a higher starting salary than an Ivy League graduate going to Wall Street. This competition for people and equipment has driven up costs dramatically. These costs and shortages are now causing delays to new projects.

Demand is already responding to the new prices except in those parts of the world where retail fuel prices are controlled or subsidised. What can be done to improve the supply picture? The International Energy Agency's work on future supply is getting attention. But the IEA's message is not that the resources are not there. Rather it is the likely risk that the required investment will be "deferred" - will not take place in a timely way - because of these rising costs and because governments restrict access or postpone decisions.

So maybe we can stop driving big fuel guzzling SUV’s, or maybe stop driving at all and walk a lot more. I guess that will have a much greater impact on the crude oil prices.

Think about it before we go searching for another Door….