Ill-Advised Backwards Lurch Will Undo 15 Years of Work

IN LATE 1998, our firm advised on excising the Petroleum Licensing Unit, then housed in Soekor, and separating it from the clutches of the state-owned upstream company. This established Petroleum Agency SA (Pasa) as an independent entity that was formed to manage the licensing and marketing of local acreage and assets to the international oil industry.

Now, under the proposed Mineral and Petroleum Resource Amendment Bill, the government proposes to abolish Pasa (based in Cape Town), divest its functions to the Department of Energy (in Pretoria), place its key roles in the hands of minister-appointed regional managers and give extra commercial obligations to companies that are involved in SA’s offshore and onshore exploration industry.

No more regressive and damaging initiative could be imagined, except by those without knowledge of the global oil industry, best practice for investor solicitation and the role of independent licensing worldwide, or even of its virtues for SA.
Meanwhile, other states in Africa have adopted this model (Mozambique, Sao Tome and Principe, Mali and Algeria in more diluted form), with world-class agencies found today in Brazil, Colombia and elsewhere, with which our firm has worked over the past decade. SA now proposes to take a backwards lurch.

To add to this pending fiasco, the government also wants the state to obtain free “carried interest” in both exploration and production rights, plus an extra option to secure additional production interest on terms as yet unspecified, with the state to then hold special shares in the companies involved (two directors summarily placed on their boards), while also introducing a restraint on acreage or asset-holders’ rights to farm out or divest equity interests (the most common aspect of shared joint risk, almost universal in the oil patch), making this long-standing industry practice contingent on the discretion of ministerial approval.

No upstream company in SA’s exploration milieu (and there are many quality players of late resulting from Pasa’s recent success, such as Shell, BHP Billiton and ExxonMobil, as well as Sasol, Total, Canadian Natural Resources, Impact Oil, Cairn India and Anadarko, among others) will be slightly amused at this summary encroachment on established legal rights with radical realignment of future operating rules and investment conditions.

In effect, SA wants to take a far-reaching step in the direction of resource nationalism inside the competitive oil game with this illadvised legal manoeuvre. It could pay a heavy price for this retrograde lunge into adopting some of the worst ideas that littered oil landscapes in the 20th century and which hamper oil development in countries that have gone the resource nationalism route.

Independent licensing typically brings several varied benefits to the industry and the government, as Pasa has demonstrated: professional oil/gas resource management; a more level playing field for competitors, including the state company, an interface for companies with the state outside of the department’s often ill-equipped bureaucracy; a repository for important public-managed geological data; an entity with geoscience savvy to match that of the varied competitors and bidders for blocks and interests; the ability to define, package and market acreage on the world stage and so meet growing competition; the ability to judge the qualifications of serious suitors for assets; and branding on an equal footing with licensing peers to separate the country from those where all critical functions are vested in a department, inevitably politicised, typically controlled by an incumbent party and often prone to putative corruption and lobbying by special groups.

Pasa’s arbitrary abolition will in essence reinvent the perverse classic conflict of interest so long eschewed by investors in which state policy, licensing and the sound management of natural resources are institutionally intermingled, usually with long term costs, greater inefficiencies and lower rates of effective monetisation of the natural capital embodied in the oil/gas opportunities bestowed by nature. In the mooted regime, SA will, at a stroke, undo 15 years of effort to differentiate itself from the “also-rans”.
Its reputation in the oil industry will be badly tarnished. It will inevitably lose management and technical talent from Pasa’s demise. So-called regional managers will most likely not have the requisite knowledge base, geotechnical skills or direct industry relationships with varied oil company executives built up by Pasa in recent years. Most such past gains will be mortgaged.

The idea that “carried interest” (someone else paying your costs) should extend beyond high-risk exploration (then usually done on a limited basis) to include production assets (which arises only after major capital spending on discovery, appraisals and development — a
hugely costly exercise) is barking mad. To establish powers in law to force companies to cede even more equity — decided upon on so-called special terms, suitably ill defined — is frankly insane.

No new investor will wish to enter SA (a rank frontier in almost all its exploration areas) under these Draconian constraints, to be held hostage to ministerial or state whim and edict on matters so vital as investment, asset control, cost and return, or company strategy, and having to bear the insult of alien directors thrust upon them (undoubtedly political apparatchiks) sitting in on private and usually confidential board decisions.

The notion that farm-outs or shared risk partnerships struck with other players might also need sanction from the government is likewise contrary to widespread industry norms. It will create blockages to the efficient functioning of the primary and secondary acreage and asset markets. Without these mechanisms in good working order, the oil game and investment inflows typically close up.

Companies seek new pastures. In the amendment bill, the suggestion is made that “other state entities” might be allocated what should be the portfolio preserve of private oil industry investors. It does not take a crystal ball to imagine that the designated beneficiary would likely be state-owned PetroSA. This would make the initiatives mooted no better for such a reason.

These moves could set back SA’s exploration business a decade or more, to compromise future oil and gas development, while it would open the door wider for countries elsewhere searching for scarce riskprone equity and oil exploration dollars. It is a fact that the already-tested Pasa model has worked, bar a few years’ lull, when the act was in gestation.

Recent success is now to be punished. SA will be taking a huge gamble on a home-grown mishmash of ill-designed resource control and unpredictable edicts, with barely concealed measures to appropriate the potential fruits of others’ capital and oil exploration risk. The strategy will not enhance the state in investors’ eyes: it is already one that has grown in perceived strategic weakness and energy incompetence.