The crafty con­tract and Guyana’s im­plicit and ex­plicit earn­ings

Stabroek News Sunday - - NEWS -

By now many Guyanese would have heard about the 14.25% ef­fec­tive roy­alty, which com­bines the 2% ac­tual roy­alty en­shrined in the con­tract, the 50-50% profit share and the 75% cost-re­cov­ery cap. Ac­cord­ing to Ar­ti­cle 11 of the Petroleum Agree­ment be­tween the Guyana gov­ern­ment and ExxonMo­bil sub­sidiaries, the cap on cost re­cov­ery is monthly. This means that if monthly unit cost ex­ceeds 75% of mar­ket value, the rest is car­ried for­ward to the next pe­riod.

How­ever, the con­tract does not spec­ify a cut-off year for re­cov­er­ing the pre-pro­duc­tion costs such as ex­plo­ration, de­vel­op­ment and pre-con­tract ex­penses. Is the cut­off year 2024, 2025 or 2026? These costs will be added to the op­er­at­ing costs once pro­duc­tion starts to come up with an over­all av­er­age or unit cost of pro­duc­tion. Stu­dents of cost ac­count­ing and micro­eco­nomics would think of this as an av­er­age fixed and vari­able cost of pro­duc­tion. Since the time when these pre-pro­duc­tion costs are fully re­couped will de­ter­mine the 50-50% profit share for gov­ern­ment, it is sur­pris­ing the gov­ern­ment did not seek clearer lan­guage in the con­tract.

The price of oil is de­ter­mined on the spot mar­ket and it changes each day. How­ever, costs are much less flex­i­ble. Labour, trans­porta­tion and other in­put costs are set by con­tract. They are sticky, while price per bar­rel is flex­i­ble. There­fore, it is pos­si­ble for mar­ket price to fall be­low the over­all unit cost, mak­ing profit oil neg­a­tive. There­fore, the 75% cap of cost sup­pos­edly pre­serves a min­i­mum point for Guyana.

This is im­por­tant be­cause dur­ing the un­spec­i­fied cost re­cov­ery pe­riod the min­i­mum that Guyana can re­ceive is sup­pos­edly 14.25% of the mar­ket price for oil. The IMF re­port for the Min­is­ter of Fi­nance pre­sented one sce­nario. They as­sumed a mar­ket price of US$100. This means that af­ter ac­count­ing for 2% ex­plicit roy­alty and the 75% cap on cost, the cost oil is US$73.50. If you work this out Guyana gets 14.25% of the US$100 per bar­rel. This in­cludes the 12.25% im­plicit roy­alty plus 2% ex­plicit roy­alty.

What hap­pens if the price is now is US$50 per bar­rel and the cost re­cov­ery limit is bind­ing or en­forced? Tak­ing into ac­count the 2% roy­alty and the 75% of mar­ket price cost cap, cost oil now be­comes US$36.75. Again af­ter profit share, this leaves Guyana with 14.25% of the US$50 per bar­rel. If we keep do­ing this us­ing the pre­scribed for­mula, Guyana is pos­si­bly guar­an­teed 14.25% through­out the pro­duc­tion pe­riod.

I find it in­ter­est­ing that all the av­er­age cost es­ti­mates, in­clud­ing the US$20.8 per bar­rel which the IMF uses in its cal­cu­la­tions, are way be­low the av­er­age mar­ket price of oil since 2005. This im­plies that profit oil is most likely to be pos­i­tive and there­fore Guyana is ex­pected to earn an amount in ex­cess of 14.25% even from 2020. In my pre­vi­ous col­umn, I used the unit cost of US$35 per bar­rel. The unit cost is al­most non-bind­ing since 2005. I said al­most since only on one oc­ca­sion West Texas In­ter­me­di­ate oil price breached the US$35 per bar­rel. This oc­curred in Fe­bru­ary 2016 when the price fell to US$32.32.

The chart pre­sented shows that Guyana’s per­cent­age take in any month ex­ceeds the min­i­mum of 14.25% once the mar­ket price rises to US$48 per bar­rel, at which point the coun­try earns 14.54% of the mar­ket price. At US$60 per bar­rel, the earn­ing is 21.83% of mar­ket price and at US$70 per bar­rel the earn­ing is 26%. If the price jumps to US$100 per bar­rel, Guyana would earn 33.5% of that price. At a price of US$110, the take will be 35.09%.

How­ever, all these per­cent­ages have to be dis­counted by the monthly trans­port cost and mar­ket­ing fees since Guyana is be­ing paid in profit oil and not US$. The Guyana gov­ern­ment will most likely ask ExxonMo­bil to pur­chase and mar­ket the oil. There­fore, sub­tract about two per­cent­age points for trans­port and mar­ket­ing fees from each num­ber in the chart to get an ap­prox­i­ma­tion of the monthly take for Guyana over var­i­ous price pos­si­bil­i­ties.

If the over­all av­er­age cost in­clud­ing pre-pro­duc­tion and op­er­at­ing costs is al­most non-bind­ing, why not clearly spec­ify a num­ber of pe­ri­ods for re­coup­ing the costs? Why leave the con­tract open? Since no time pe­riod is

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