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During 2013, United Kingdom (UK) consumed 1.5million bpd of oil. In 2014, 104 wells were drilled in the UK. UK exports oil and gas products and services more than $40 billion a year. United Kingdom Government earns maximum revenue from oil and gas products. United Kingdom is self-sufficient in Oil and Gas industry, supplying maximum of the country’s energy and transport. Some of the oil and gas companies in United Kingdom are JKX oil and Gas, Emerald Energy, Desire Petroleum, Venture Production and soon. In the last four decades, Oil and Gas Industry are showing worst performances. The North Sea of Oil and Gas industry is facing severe challenges. Since July 2014, Oil price has declined for more than 40%. This lead to postponing deepwater projects in North America. The companies related to these sectors facing several risks like economic risks, legal oriented, management failure etc. To avoid the risks and limit the consequences related to the risks, the Host Country and the International Oil Companies (IOCs), have taken precautionary steps and legal actions and joined different contracts. The essay shows the steps taken for the management of risks by the host country and the IOCs in a product sharing agreement and its satisfactory level (Bath, 2012).
Risks related to Oil and Gas management
Both the host country and the IOCs face some of the risks and management of oil and gas industry. The oil and Gas industry face compliance, financial & strategic risks. Due to these several risks, Oil and Gas Industry are declining.
Uncertain risks includes innovation and discovery of resources, Its size, types, economic viability of the innovation, technological requirements for the drilling, future prices, speculative demand and other uncertain risks.
The Oil and Gas industry includes two sector-upstream and downstream. The host deals with upstream sector and the IOCs deals with the downstream sector. Upstream sector includes exploration and production of the resources and downstream includes refining, processing, distribution, and marketing of the oil and crude products. During 1950, the Production Sharing Agreement implemented between the government and the IOCs to control the extraction of oil reserves. The agreement mentioned the total amount of resource that can be extracted (Kubasek and Silverman, 2002).
Due to product sharing agreement the 80% of the profit is distributed in the host country government and 20% in distributed in the IOCs. According to the agreement host country will give the IOCs opportunity to explore and produce the oil and natural gas resources. Companies are permitted to keep profit arising out of cost oil. The remaining money i.e., profit oil is distributed in the ratio 8:2 between the government of the host country and the IOCs. Due to Product Sharing Agreement host countries can able to diminish the huge loss in the demand of oil and gas as the agreement states the profit will be divided between government and the IOCs. Even if the host countries do not produce sufficient amo.unt of crude products However Product sharing agreement has some limitations. The contractors try to extract maximum profit, which leads to financial threat for the oil companies (Odumugbo, 2010).
Host country and the IOCs taken some other implementations, apart from Product sharing agreement. To control the extraction of crude products the host countries and the IOCs added competitive bidding and bilateral negotiation. In competitive bidding, government states that in order to take part the companies need to meet certain standards. On the basis of the competition and sealed bids, the contract is ultimately given to the qualified bidder (Sharafshade, Far and Bordbar, 2014). The contracts include royalties, bonus payments and other factors. To become successful bidder, a company must meet the stated goals of the agreement. For example, UK allows the license of the North Sea explorations on the basis of the ability of the company rather than high bidding rates. High bidding rates may lack the efficiency of the extraction and production of the oil and gas products. Since high bidding rates may lead to misused of the contract, and the efficient company may lose, that is why contract is not solely based on the bid rates (Poulsen, 2012).
In Bilateral negotiations, the IOCs approaches host country government to gain special consideration, exploration and supply of mineral deposit. According to the negotiation, government agrees to the contract in exchange of monetary royalty.MNC needs to pay a certain amount for the duration of agreements against the use and extraction of minerals ('Dow Realigns Mining Business With Oil & Gas Unit').However, government may not acquire good amount of profit, because sometimes the royalty amount can be low in comparison to the profit acquired by the MNC from the sale of the extracted mineral. Private negotiation is modified and the new model considers the basic terms of an agreement and act as an offer according to the contract. This contract becomes fair for both the countries (Shell, PetroChina sign Qatar exploration and production sharing agreement, 2010). The contract must specify some terms, which helps the host country financial and uncertain risks for producing mineral as the MNCs provides the cost of production and human labor. This contract is available to MNCs in all countries and thus highly explosive. Under certain situations, this contract may be associated with the National Oil Companies (NOC) and the Foreign Oil Companies (FOCs). NOCs can control mineral reserves. Due to regulation, NOC has the authority to negotiate. I such cases the power of the NOC is well known due to several factors like it has more knowledge than government, less political involvement, can control extraction and production of minerals. All these contracts make it more desirable for entering into the contract (Sohail and Cavill, 2009).
For the extraction and exploration of petroleum, host companies and the FOCs undertake four types of agreement like concessions, product sharing, joint ventures and service contracts (Weinberg and Reilly, 2008). All these agreements serve same purpose but differ in conceptual nature. Since petroleum is highly extracted and IOCs have maximum advantage, concession contract was often criticized. For example, during 1939, in terms of petroleum extraction, Abu Dhabi concession granted a conglomerate of five major oil companies to explore the entire country for 75 years. Thus the concession agreement was revised, the period of extraction was shortened, and added higher royalty rates and bonus payment clauses (Weinberg and Reilly, 2008).
In 1966 Production Sharing Agreement (PSA) was first introduced in Indonesia to control the inequalities in oil and gas companies. After Indonesia, PSAs spread globally to all oil producing regions. At present they are often used in Middle east and Central Asia. It gives the oil and gas industries an opportunity to maintain cash inflow, thereby beneficial for the government. Taxation is based on the terms of contract. If the posted price is high than the spot price, then government will gain more royalties and large shares of profit oil, thereby limiting the scope of income tax expenses. In addition to this, PSA offers tax holidays. The provision of tax holidays shows that the companies will be exempted from tax on the basis of five years contract period, and tax will acquire only if productions starts. The host country receive bonus through PSA, which is another source of revenue (Zhong, Mol and Fu, 2008). The bonus includes signature bonus, production bonus and discovery bonuses. The signature bonus is one-off payment on contract signature. To extend the domestic oil demands host countries can impose the provisions for DMO.
The UK government updated the petroleum act; make it compulsory for the companies to take into account about the climatic change. The National Oil Companies and the other regulatory bodies are responsible for the management of oil and gas extraction, production and export in different countries. For example, In Venezuelan, Venezuelan National Assembly manages the exploration of oil and gas. Some of the countries adopt Stabilization clause, to reduce potential risks. This clause is inserted between the NOC and FOCs which tackles the issues of change in the regulation and law in the host country. It limits the power of the host country to make any unnecessary changes to the clauses. It mitigates the political issues. It protects the investors from sudden and unaccepted actions taken by the host country. The types of stabilization clause are freezing clauses, economic equilibrium clauses and hybrid clause. However, in practical there is diversity in the legislative frameworks. In order to alleviate, equilibrium stabilization clause is also implemented (Weinberg and Reilly, 2008). For creating co-operative environment for interchanging investment between two states, Bilateral and Multilateral treaties are also formed. Other treaties are also formed like full protection and security acts, fair and equitable treatment act, umbrella clause also operates. All these treaties alleviate the risks in the oil and gas management. By analyzing the data it shows that the current status quo is suitable for the management of risks.
Thus it can be concluded that various factors are responsible for the management of risks in oil and gas industry. For these factors the revenue earned from oil and gas industry in the host country is declining. To alleviate these risks several measurements and steps need to be taken. While researching about the topic in order to reduce these risks, the companies must need to know the reasons behind it, its accuracy and thereby taking the actions accordingly. More or less it is the approach of the companies about how to deal with the upcoming situations. The steps and the solutions taken by the companies should have some objectives. The objectives must involve reduction of the cost with respect to the projects, portfolio in the lifecycle of the project, efficiency of the enterprise. The impact of the policies taken is very beneficial for the host countries and the IOCs. The companies are said to be well developed and organized, if they are able to implement the correct approach and operates in best possible ways so that the risks can be managed properly, it would be cost effective and efficient for the company. It must be beneficial for both the host country and the IOCs.
Bath, D. (2012). India – Legal aspects of oil and gas projects for foreign investors. ac, 1999(21).
Boshoff, M. and Lamberts, D. (2011). Investing in Troubled Territories The Oil and Gas Industry in the Ogaden region of Eastern Ethiopia: An Increasing Political Risk to Foreign Investors. Africa Insight, 41(1).
Dow aligns mining activities with oil and gas business. (2013). Membrane Technology, 2013(3), p.16.
FW undertakes EPCM work for UK fish oil facility. (2012). Pump Industry Analyst, 2012(7), p.4.
Kubasek, N. and Silverman, G. (2002). Environmental law. Upper Saddle River, N.J.: Prentice Hall.
Odumugbo, C. (2010). Natural gas utilisation in Nigeria: Challenges and opportunities. Journal of Natural Gas Science and Engineering, 2(6), pp.310-316.
Poulsen, R. (2012). Book Review: The Official History of North Sea Oil and Gas. International Journal of Maritime History, 24(1), pp.462-465.
Sharafshade, A., Far, K. and Bordbar, B. (2014). Discussing the strategies of encouraging foreign investors to invest in Iran's oil and gas industry. Asia. Jour. of Rese. in Bank. and Fina., 4(9), p.117.
Shell, PetroChina sign Qatar exploration and production sharing agreement. (2010). Pump Industry Analyst, 2010(5), p.3.
Sohail, M. and Cavill, S. (2009). Public–private partnerships in the water and sanitation sector. Proceedings of the ICE - Water Management, 162(4), pp.261-267.
Weinberg, P. and Reilly, K. (2008). Understanding environmental law. Newark NJ: LexisNexis Matthew Bender.
Zhong, L., Mol, A. and Fu, T. (2008). Public-Private Partnerships in China’s Urban Water Sector.Environmental Management, 41(6), pp.863-877.
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