By John Kemp
LONDON, Aug 9 (Reuters) - The balance of power between hostcountries and petroleum companies has shifted decisively as aresult of the shale revolution and the push into deepwater oiland gas fields off the coast of Latin America and Africa.
The first decade of the 21st century was dominated by talkabout increasing "resource nationalism" as governments demandeda greater share of the revenues from natural resources locatedon their territory.
But in the past three years, resource nationalism hasdisappeared from the agenda. Rather than trying to imposetougher terms on oil and gas companies, most countries are nowcompeting to attract investment by offering reductions inroyalties and lower tax rates.
Countries as diverse as the United Kingdom, Argentina,Ukraine and Poland want to attract explorers and developers toexploit shale deposits. And countries along the east and westcoasts of Africa, as well as Latin America, are all vying toattract spending on offshore oil and gas discoveries.
Faced with so many competing opportunities, oil and gascompanies are pushing for a better bargain.
"We are not an opportunity-constrained company, we are acapital-constrained company," Shell Chief Executive Peter Vosertold Reuters in an interview, a position he has stressed toinvestors several times over the course of this year.
The underlying message from Shell and other oil companies toresource owners is clear: if you want us to invest time, moneyand technology developing your resource rather than somewhereelse, you must offer us competitive and attractive terms.
EQUITY OR SERVICE
Under the traditional model in the oil and gas industry,producers paid semi-fixed fees in the form of royalty paymentsand bonuses to the resource owner, normally the government. Inreturn they got to keep any residual revenue from selling theoil and paid taxes on the profits in the normal way.
By the late 1990s, however, that model had been replaced inmost emerging markets by production-sharing arrangements andservice contracts, under which the oil and gas company receiveda largely fixed fee for investment in exploration anddevelopment, and the host government kept the residual revenue.
Service companies such as Halliburton andSchlumberger were happy to work as contractors on fixedfees. But most international oil and gas majors such as Shell, BP, Total and Exxon Mobil resisted and continued to press for access to oil and gas asequity owners.
PLUCKING THE GOOSE
In the 1990s and through the 2000s as China boomed and thecommodity super-cycle pushed prices for oil and othercommodities to record highs, resource owners pushed for eventougher deals, and for the most part they were successful.
Resource owners such as Iraq insisted on service contractswith exceptionally tough terms, and the international oilcompanies eventually agreed, mostly to get a foot in the doorand hope the terms could be renegotiated to something morefavourable later.
Even countries such as the United Kingdom, which continuedto offer traditional royalty-and-tax terms, hiked tax rates, inmany cases retrospectively to capture the "windfall profits"from higher oil and gas prices.
By 2008 as commodity prices were peaking, governmentsappeared to have won. Whether oil was produced under aroyalty-and-tax system or some form of production-sharing orservice contract, host governments had succeeded in capturingmost of the upside from oil and gas prices.
Oil and gas companies were left to accept defeat andwhatever terms were offered to them.
PORTFOLIO PERSPECTIVE
Petroleum leases are complicated, but most of the seeminglyarcane disputes boil to down to a simple question of who gets tokeep the benefits from periods of high prices.
For the oil majors, exceptional profits produced from somefields during periods of high prices are needed to compensatefor the enormous risks they undertake in exploration andproduction and making long-term capital investments. Theextraordinary profits pay for all the wells that come up dry andfor the poor returns in years of low prices.
For resource owners, however, exceptional profits can looklike an unearned windfall, a gift of nature, which should bekept by the people of the host country.
It is mostly a matter of perspective. Resource ownersevaluate profits on a well-by-well, field-by-field or at mostcountry-wide level and usually at only one point in time.
Exploration and production companies evaluate profits on aportfolio basis across the whole set of their assets and overthe entire price cycle.
So what to a resource owner appears to be unjustifiedwindfall profits may appear to an operator to be merely ahigh-performing element in an average-performing portfolio.
COMPETING FOR CAPITAL
The last three years have seen a remarkable shift.References to resource nationalism have declined markedly, andinstead a race is on to offer better terms and attractinvestment.
The United Kingdom has eased taxes to reverse declininginvestment and production of offshore oil and gas and isoffering generous terms for onshore shale exploration. Russia isseeking foreign technology and companies to help develop itsSiberian and Arctic fields. Even hyper-nationalist Argentina isoffering more generous pricing and taxation to attractinvestment in its giant Vaca Muerta shale formation.
In the late 1990s and 2000s, numerous oil companies werechasing a handful of new opportunities. Now thanks to the shalerevolution as well as advances in offshore drilling, the set ofpotential investments has widened dramatically, outpacing thenumber of international companies pursuing them and the amountof capital available to be employed. The result is a noticeableshift in the balance of negotiating power.
FISCAL TERMS AND RISK
Fiscal terms and resource nationalism tend to follow afairly well defined cycle.
In the early phases of the development of a new oil field orprovince, host countries are keen to attract investment andoffer attractive terms, especially if a field requires verylarge amounts of capital and complex technology to exploit.
Later once a province is more mature, the infrastructure isbuilt and the technology problems have been solved, thebargaining position of operating companies weakens, andgovernments impose tougher terms as well as revising existingcontracts.
Nationalism and fiscal terms tend to be stiffer when pricesare high and rising and governments are confident they cancapture future revenue windfalls. They fade when prices are lowor falling and governments become anxious about the need toattract investment to maintain production and revenues.
Both shale and deepwater exploration have changed industrydynamics, although in different ways.
Shale is a low-cost, low risk and relatively straightforwardtechnology, so it should favour resource owners. But it remainsuntested in most countries, needs a large number of new wells tobe drilled, and the gas which is often produced needs expensiveliquefaction facilities to make it transportable and realise thevalue.
Shale production has also lowered oil and gas prices andthreatens to push them down further. Resource owners need to beable to offer favourable terms to attract investment in anenvironment where rising prices are no longer guaranteed.
By contrast, deepwater is a complex and enormously expensivetechnology that most host governments cannot hope to master ontheir own, leaving them dependent on the international majors ifthey want the resource developed at all.
Little wonder petroleum companies can now afford to be muchmore choosy in which projects they pursue and drive a far harderbargain with resource owners.
BP (BP.)
