Background materials for UN workshop on oil and gas in Iraq Dead Sea Marriott Resort, Jordan (April 4-6, 2006)

1. Module 2
Oil and gas fiscal regimes around the world
Prepared by David Péloquin
Background materials for
UN workshop on oil and gas in Iraq
Dead Sea Marriott Resort, Jordan
April 4-6, 2006

2. Key challenge for (public) owners of oil & gas:
• Rents from oil & gas invite “rent-seeking behaviour”…
… and the greater the rents, the more intense the behaviour
• Public ownership alone is NO guarantee of ability to
maximize public benefits from oil & gas revenues
• Key challenge is how to minimize revenue leakages:
– to corruption / other private benefits from use of public funds
– to private / foreign oil & gas firms (e.g. above-normal profits)
– to private end users of oil & gas (e.g. excessive fuel subsidies)
How to maximize public benefits
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3. The problem of uncertainty
Significant uncertainty surrounds the value of oil & gas wealth
• In most cases, (public) owners cannot readily assess the
magnitude of potential revenues from oil & gas
• Governments have typically limited technical expertise:
– limited geological and other expertise relating to exploration
– limited access to advanced extraction technologies required to
increase recovery and prolong life of maturing deposits
• Resulting “asymmetry of information” regarding likelihood
of finding new deposits, their extent and production lives
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4. The problem of uncertainty
As a result, joint public-private involvement is usually desirable
• Private sector brings technical expertise (including cutting-
edge technologies) and can also be:
– significant sources of capital (to fund oil & gas development)
– a source of expertise for local capacity-building (in private sector
and even for governmental activities)
– a force for increased transparency in government management
of the oil & gas sector (and in governance generally)
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5. Risk-sharing under oil & gas fiscal regimes
Need to strike right balance in public / private risk and rewards
• A wide variety of mechanisms is used in different countries
to generate oil & gas revenues
– e.g. various types of taxes, royalties, production sharing, equity
stakes, sales of rights to explore, develop and produce, etc.
• Used in different combinations, these mechanisms result in
different patterns of public and private risk and reward…
… and different incentives for investments in oil & gas
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6. (Non-exhaustive) list of mechanisms
for generating revenues from oil & gas
General taxes (including “excess profits taxes”)
Limited ability to effectively target rents (though high risk of unilateral
revision may impede private involvement)
ex post public
Sale / auction of rights (at front-end)
Especially if auctioned, maximizes capture of ex ante rents and
may reduce other leakages through relatively high transparency
ex ante private
Royalties / production sharing (pre-“payout”)
Low public share required to secure private involvement (and risk of
further leakages to private sector if “pay-out” poorly defined)
ex ante private
Price-sensitive royalties / production shares
Reduced risk (especially pre-payout) may prompt private involvement
Public revenues maximized when prices are high
ex post public
Service contracts for exploration / development
High risk limits private involvement (and resulting gross revenues)
and relatively low transparency may facilitate leakages
ex post private
Oil & gas-specific (e.g. export / environmental) taxes
Close substitutes for value-based royalties (pre- and post-payout), but
higher risk of unilateral revision may impede private involvement
ex ante private
Royalties / production sharing (post-“payout”)
Public revenues maximized by relatively high post-payout shares
– but only if projects are profitable
ex post public
State / SOC equity stakes (e.g. joint ventures)
Depends on size of public share (and corresponding leakages through
private share), but relatively high transparency limits other leakages
ex post shared
Profits from state or state oil company (SOC)
production
Over-reliance on SOCs may limit access to capital and production /
revenue-maximizing technology. Net revenues also depend on
extent of leakages resulting from relatively low transparency
ex post public
Risk-sharing under oil & gas fiscal regimes
Need to strike right balance in public / private risk and rewards
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Main
risk
bearer
Ex ante or
ex post rents
targeted?
Implications for overall ability to generate
net public revenues from oil & gas

7. Combinations of fiscal mechanisms work best
But: Need the right “mix” to maximize public benefits
• Higher net revenues likely to result from:
– predictable fiscal/regulatory regimes (minimal case-by-case
negotiation of terms, low risk of unilateral changes ex post facto)
– substantial sharing of risk by governments (with resulting increase
in private exploration and subsequent production)
– high degree of transparency (with fewer resulting opportunities for
corruption / other leakages to public sector agents)…
…with especially significant benefits from open auctions with
multiple bidders when rules are known in advance
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8. Combinations of fiscal mechanisms work best
Illustration of “front-end” bids and “back-end” royalties / taxes
Start of production End of production
Rising
production costs
Production costs
Auction of
exploration /
development /
production
rights
(front-end loaded)
Gross revenue
generated
Royalties /
tax es /
production
sharing
(back-end loaded)
Exploration and
development costs
$
“Pay-out”
Volatile prices
“Normal” return to firms
“Excess” profits
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9. Legend
dominant contribution
major contribution
minor contribution to revenues
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+ =
General taxes (including “excess profits taxes”)
Sale / auction of rights (at front-end)
Royalties / production sharing (pre-“payout”)
Price / production-sensitive royalties / production shares
Service contracts for exploration / development
Oil & gas-specific taxes
Royalties / production sharing (post-“payout”)
State / SOC equity stakes (e.g. joint ventures)
Profits from state / SOC oil & gas production
Combinations of fiscal mechanisms work best
A wide variety of common practices around the world
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Canada
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Mexico
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SaudiArabia
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Venezuela
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Norway
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Indonesia
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Nigeria
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USA
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Malaysia
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Australia
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Brazil
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UAE
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