Ophir Energy (LSE:OPHR) is about to reap a gross fives times gain on its discovery investment in deep water Tanzanian natural gas. Ophir just sold 20% of its interests in a 15 trillion cubic feet (TCF) deepwater natural gas field to Singapore's Pavilion Energy for about $1.4 billion. The Tanzanian government is is now levying a $258 million capital gains tax on this sale.
Ophir is also in talks with India's GAIL to sell another 10% to 40% of its interests. Also affected is Ophir's development partner BG Group (LSE:BG), which also owns production interests in Tanzanian fields.
The question of the day is how will more restrictive developing country fiscal policy impact future gains in energy? One of the key instruments of fiscal policy for energy resources resides in the production sharing agreement.
What is in a production sharing agreement?
This past October, Tanzania promulgated its new model Production Sharing Agreement (PSA), which will apply for bidding on a sixth round of blocks for oil and gas exploration. The previous PSA was issued in 2008. In the 2013-14 version of the PSA, exploration and development (E&P) bidders will extract oil and gas under contract to the Tanzania Petroleum Development Corporation (TPDC), the Tanzanian oil and gas regulator. The job of the TPDC seems to be the administration of bids, PSA compliance, and relationships with E&P companies.
The model PSA will have several provisions that restrict foreign affiliates of transnational companies. Among these are requirements for including local content in operations and sourcing skills transfer and training initiatives. The E&P company will pay royalties to the government of 12.5% for onshore/shelf areas and 7.5% for offshore areas of total crude oil/natural gas production, along with signing bonuses of $2.5 million.
The rest of the Model Production Sharing Agreement looks like so many others. There are standard provisions for recovery of costs in finding, de-risking, and producing oil. There are other provisions for insurance, and the assignment and sale of interests to third parties in Tanzania and offshore. Force majeure clauses complete the text of the contract.
Is this a trend?
During 2012, there were 17 bilateral investment treaties signed by 12 countries. The United National Council on Trade and Development compiles a database on the treaty terms. Some analysis is possible.
Reviewing the 17 treaties, there are four major objectives that developing nation signers want to achieve. Chief among these are the avoidance of future litigation. This goal stems from the freezing of royalties, interest, premiums, bonuses, and other income during a nation's dispute with a foreign affiliate of a transnational company. Instead of litigation, international arbitration is required and usually in the Hague.
Litigation is almost always with state-owned enterprises where the government holds the one shareholder vote. Litigation almost always increases the sovereign risk rating. An increase in sovereign risk ratings almost always curtails a nation's access to global funding markets.
Other objectives include local content and more regulation, both features in the Tanzanian PSA. A local content policy will require offshore companies to source goods and services onshore. This includes everything from food and water, to electricity, logistics, banking, and where feasible equipment.
Other objectives of investment treaties include the funding of sustainable development. For Tanzania, this means reforming its oil and gas regulator TPDC, and resuscitating its national power utility. Last year, Tanzania passed a capital gains tax levy on all mineral, oil, and gas interests in the country regardless of owner.
Prognosis for Ophir, Pavilion, and GAIL?
The market price for an interest in the Tanzania fields has already been set at about $97 per barrel of oil equivalent (boe) in the Pavilion deal. Given the tax levy, a pass through of an additional $20 per boe might have been possible, or it may have been impounded into the asking price already.
This kind of thinking gets us to the crux of the impact of developing nations' fiscal policies for new field development. Upward pressure on oil and gas prices might try to push to the $125 boe mark globally.
We still have to contend with a widening Brent to West Texas Intermediate spread due to the ever-larger Cushing, OK inventory in the U.S. We have to factor in the break-up of the PEMEX Mexican oil monopoly, shale in the Dakotas, and new Canadian gas field finds off the Georgian banks. Let's also not forget the uncertain demand from China and India.
I suspect that all of these issues are on the minds of the GAIL negotiators for Ophir's interests.