SPE 84852 Development of a Petroleum Contractual Strategy Model

N.B. Ramadan, Agip Oil Co., & Abdulrazag Y. Zekri, SPE, United Arab Emirates University
Copyright 2003, Society of Petroleum Engineers Inc. This paper was prepared for presentation at the SPE International Improved Oil Recovery Conference in Asia Pacific held in Kuala Lumpur, Malaysia, 2021 October 2003. This paper was selected for presentation by an SPE Program Committee following review of information contained in an abstract submitted by the author(s). Contents of the paper, as presented, have not been reviewed by the Society of Petroleum Engineers and are subject to correction by the author(s). The material, as presented, does not necessarily reflect any position of the Society of Petroleum Engineers, its officers, or members. Papers presented at SPE meetings are subject to publication review by Editorial Committees of the Society of Petroleum Engineers. Electronic reproduction, distribution, or storage of any part of this paper for commercial purposes without the written consent of the Society of Petroleum Engineers is prohibited. Permission to reproduce in print is restricted to an abstract of not more than 300 words; illustrations may not be copied. The abstract must contain conspicuous acknowledgment of where and by whom the paper was presented. Write Librarian, SPE, P.O. Box 833836, Richardson, TX 75083-3836 U.S.A., fax 01-972-952-9435.

development of the future Middle East petroleum exploitation strategies. Introduction Over almost a century and a half, oil has brought the best and the worst out of our civilization. Of all energy sources, oil has loomed the largest and the most problematic because of its central role, its strategic character, and its geographic distribution. The Petroleum industry has fueled the global struggles for political and economic primacy in the twentieth century The Century of Oil and it will continue to do so as long as oil holds its important place in the world economy of energy. World energy demand forecasts show that oil will continue to play a major role in the development of the world economy, at least in the foreseeable future. The total world energy demand in year 2010, under an energy savings scenario as reported by the International Energy Agency1 (IEA) is 10,861 million tons of oil equivalent , out of which , 41 % is from oil as shown in Fig. 1. The main objective of this project is as follows: The first objective of this project is to undertake a comparative analysis of the contemporary international and Libyan petroleum exploitation agreements and assess their suitability for the future in view of the rapidly changing worldwide petroleum industry trends, as shown in Fig. 2. The second objective of the research project is to analyze the process of the petroleum exploitation strategy development and apply the principles learned to formulate a petroleum contractual strategy model for Libya. Throughout the development of the research project, an extensive Literature review has been undertaken. The review covered three integrated circles: the international petroleum environment on the macro level, the Libyan petroleum environment on the micro level and the petroleum exploitation strategy development process. The historical research on the development of the petroleum industry worldwide and in Libya has been extremely useful in identifying the past and future petroleum industry trends as recognized by number experts who researched and wrote on the multitude of related topics. The research done by Fee1 on the development of a general exploitation strategy model has been referenced extensively in the development of the Libyan exploitation strategy model. The development of the Libyan petroleum contractual strategy model involved the review and analysis of the frame work of the petroleum strategy development process, the definition of the set of the strategic key factors which have the

Abstract The development of a petroleum exploitation strategy is essential for any country, which needs to develop its indigenous petroleum resources. A petroleum exploitation strategy is the series of policies relating to licensing, taxation, royalty, and general legal instruments i.e. contractual agreements. Contractual agreements developed by the state in order to ensure the orderly development of petroleum exploration and production. In the absence of a clear petroleum exploitation strategy, the international oil companies would not be able to assess the political and economic risks involved in any petroleum exploitation venture, no matter how low the technical risks are. Since the International Oil Companies are major sources of the intensive capital, and sophisticated technologies needed for exploration and development of petroleum resources, it is essential for a country to formulate a coherent and wellbalanced petroleum exploitation strategy. This should be consistent with its social and economic goals and at the same time allow the international oil companies to generate economic profits that in some way relate to the level of risk involved in obtaining these profits. This research project has focused on the study of the different petroleum contractual agreements between host countries and international oil companies worldwide, and has culminated by the development of a contractual strategy model for the exploitation of the petroleum resources. The development of the model has been preceded by a comparative and evaluative analysis of the international and host country petroleum agreements. The main features, advantages and disadvantages of each type have been summarized and tabulated. The suitability of the different agreements, in the view of the rapidly changing environment of the petroleum industry, has been evaluated. The Model required the development of eight different strategies, which relate to the possible combinations of three strategic factors that were found to be of the greatest importance. It has been proposed to use this model to evaluate and guide the

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greatest influence on the strategy formulation and then relating the different combinations of these strategic key factors to selected strategies. The strategies were developed based on the recommendations of the Fee model , modified to conform with the latest world petroleum industry trends , taking into account the effect of the local social and economic environment constraints. This development process has been broken down into two major steps : 1. Review and analysis of the International and Libyan petroleum industry in respect of: Historical development of major industry events and future trends. Petroleum arrangements: Contracts and fiscal terms (Table 1). 2. Development of the Libyan petroleum contractual strategy model. Identifying the goals and objectives of the future Libyan petroleum exploitation strategy. Defining the key strategic factors, Table 2. Developing strategy options that relate to the different combinations of the key strategic factors. The research draws on the large body of knowledge in international literature written on the development of the petroleum industry and also the Libyan petroleum publications, legislation and petroleum agreements and the Libyan National Corporation reports and publications. Through the review and the evaluative analysis of the collected data and information, the conclusions and recommendations have been formulated and presented. The International Petroleum Arrangements Arrangements between host countries and International petroleum companies have evolved over many decades towards increasing host country involvement in petroleum operations (often through a Government Petroleum Company). In addition, host countries have tended to take increasingly large shares of gross profits; a trend especially noticeable after the dramatic price rises of 1973 and 1979. In some countries, state oil companies are involved directly in the exploration and exploitation operations. However, following the oil price collapse of 1986 there have been improvements in many contracts to encourage a lower gross profit environment. Among the advantages obtained by host countries in dealing with International Oil Companies are: 1. 2. 3. 4. Avoiding the financial risks of petroleum exploration. Obtaining the use of highly sophisticated technology (often transferred to host country nationals). Financing of all phases of exploration and production. Obtaining marketing arrangements for produced hydrocarbons.

when successful, may produce larger volumes at lower unit cost. The Concerns and Objectives of the Host Country The objective of the host countries is to maximize the benefits of the state in terms of: The maximization of revenue from petroleum exploitation operations for the state while ensuring that the Oil Companies earn return on their investments. The maximization of control over the operations of the Company to ensure that the exploration and development programs entered into by the companies are carried out to the best oil field practice. The maximization of direct participation in petroleum operational activities. The full exploitation of the local petroleum production to the advantage of the country's evelopment. The assessment of importance of petroleum within an overall policy framework The Concerns and Objectives of the International Oil Company The International Oil Companies need to be satisfied that certain conditions prevail and have some constrains, Fig. 3, suchs: -There must be a good probability of locating sufficient reserves or warrant production. -The levels of political risk should be acceptable. -The legal framework by which the search for petroleum is regulated should be firmly based. -There should be a good possibility that any oil surplus to local demand will be available for export. -The situation with regard to repatriation of eventual profits should be clear. The main objective of the International Oil Company can be translated into one corporate goal, i.e. the creation of wealth. To create wealth in the oil industry, the oil company must earn more than its capital, therefore, it must meet the following conditions: The net present value (NPV) of all the companys exploration and production ventures should be greater than zero and should be maximized. (The net present value is the combined value of future exploration and production cash outlays and profits from production discounted to the present, the discount factor used is normally the cost of capital). The NPV is normally related to the probability of success (Ps) by the formula: Ps (discounted profit on exploration and development) > (1-Ps)(Discounted cost of failure). The rate of return (ROR) it obtains on any particular project should be maximized (greater than 15% normally) adjusted for inflation. (The rate of return is the rate of interest for the discounted values of the net revenues from the future exploration and production such that the present worth of the discounted values is equal to investments) 1,3.

These advantages are obtained while the host country still receives the lion`s share of gross profits. The International companies in turn obtain exploration rights to large areas and,

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Types of Petroleum Agreements Two basic types of petroleum exploitation agreements are widely used around the world; Concession and Contract. The traditional concession is now considered outdated, but some developing countries still adopt variations of the old agreement. The new version of the concession has been made more flexible than the traditional one by introducing legislation to accommodate fluctuations of oil prices such as petroleum revenue taxes (PRT), as was done in the UK and Norway. Participation in Concessions, by host governments through partial nationalization as in the case of Libya or as a part of the initial arrangement, as in the case of Indonesia, led to the emergence of participation agreements or Joint Ventures. Contracts can be divided into three categories: -Production Sharing Contracts (Exploration and Production Sharing Agreement - EPSA / Development Production Sharing Agreement - DPSA). -Pure Service Contracts. -Risk Service Contracts. Participation in production sharing agreements is also possible and is found in some countries. A Hybrid Agreement resulting from the amalgamation of various elements of two or more of the above can be formulated2,3. Figure 4 shows the evolution of petroleum agreements. Table 3 presents comparative analysis of the international petroleum agreements.

Agreement. . Through this agreement the host country shares with the oil company the risk and expense of the development and exploitation phases. Generally, the oil company will carry the project solely through the exploration phase and may carry the state oil company through the development phase, in which case the risks become higher on the international oil company. The joint venture agreement evolved as a means to address some of the deficiency inherent in the concession agreement. The primary aspect was to have a managerial say in the day-to-day operations of the producing fields, therefore, exercising control on a vital sector of their economy .The main characteristic of the Joint Venture Agreements are: -The governments authority as a government and the government` rights as a participant in the venture are clearly separated. -The joint venture company is assigned a concession on the same terms as any other company, therefore it becomes a concessionaire through the joint venture ( This is if the joint venture is in a concession). -The government oil company (participating in the agreement) is usually 100% owned by the government. -The joint venture company's risk is reduced , compared to a concession , through the principle of carried interest -The government oil company shares the costs in the equity proportion. Exploration costs may not be reimbursed to the oil company, i.e., as it is the case in Libya and Norway . But when commercial discoveries are made, the Government owned company has to contribute in cash its share of the operating cost .The state may be carried through the development phase , in which case the oil company assumes the financial risks of the evelopment and it is paid later either in cash or in oil for its expenses with interest . Normally, the farther the state is carried the lower its share would be in the joint venture. -The Government owned Company takes its share of production in crude and may then sell the crude to its partners or market the crude on its own5,6. Production Sharing Contract The concept of the production sharing contract evolved in Indonesia in 1960 and since then it spread widely all over the world. Production sharing is carried out with the government, usually, through its state oil company. This appears to give a greater degree of control over operation of the private contractor but in fact production-sharing contracts usually operate under the management of the risk-taking partner. The basic features of the contract are as follows: -The International Oil Company is appointed by the host country as the contractor for a certain area. -The Oil Company operates at its sole risk and expense under the control of the host country (normally through an operating agreement). -Any production belongs to the host country. -The state oil company gets a predetermined share of the produced oil .The oil company is entitled to recovery of its costs out of the remaining production from the contractual area. Cost recovery is not allowed in some earlier versions of this contract (EPSA-I & EPSA-II, in Libya).

Concession Agreement
This is the oldest type of host country - oil company agreement. The basis of a concession is that the state grants to an Oil Company or a group of companies the right to carry out various types of petroleum operations including exploration and development of indigenous oil resources within a given geographical area for a specified period of time. The main features of the Concession Agreements are: -The oil company, at its own risk and expense, generally has the exclusive right to explore for and exploit petroleum reserves in the concession area. -The oil company owns the production from within the concession area (as it is produced at the well head since reserves in the ground are traditionally owned by the state except in the USA where, The legislation allows private ownership of reserves in some states). -The oil company is free to dispose of it subject to its contractual obligation to supply the host countrys domestic market. -During the exploration and exploitation phases, the Oil Company is subject to pay surface rentals to the host country. -The Oil Company, at the election of the host country, pays a royalty either in cash, production or combination of the two. -The Oil Company pays taxes to the host country on profits it derives from the production. -The Oil Company owns the equipment and installations used in the operations3,4. Joint Venture Agreement The state may participate in the concession directly or through its own oil company through what is known as Joint Venture

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-After cost recovery, the balance of production profit oil is shared between the host country and Oil Company. Through an formula which incorporates allowances for oil price fluctuations and unexpected increase in production rates (EPSA- III, in Libya ). -The income of the Oil Company is liable to taxation. In some countries such as, Libya, the oil company is exempted from payment of oil taxes. -Equipment and installation are the property of the host country, either at the outset of production or progressively in accordance with agreed upon amortization schedules. Service Contracts The term Service Contract encompasses those various contracts in which the host country contracts with a service company or an International Oil Company for the performance of services related to the exploitation of petroleum resources. The two main types of service contracts are: Pure Service Contract. This is a simple arrangement whereby the Oil Company acts as a contractor in the performance of the service to the host country to explore, develop and produce petroleum resources at an agreed fee. This type of contract is only used by countries with wellestablished and large resource base. There are two categories of pure service contracts: -The service running parallel to but contractually unconnected with a purchase contract for part of the oil being produced from the area of operations to which the service contract relates. -The service contract not accompanied by any access to the oil being produced under such a contract. Risk Service Contract. The risk service contract shares the usual elements of duration, work obligation, etc. with concessions and production sharing contracts, but it differs in that it pays the Oil Company in cash not in crude oil, placing the risk of investment on the Contractor who provides the capital for exploration and production. If a commercial discovery is made the Contractor places the well on stream, therefore, the Contractor may operate it by the state, or in some cases. Capital is reimbursed with interest and a risk fee. The government monitors closely the operations of the contractor. Hybrid Agreement This is a new development that is created from the amalgamation of various elements of the previous agreements to suit the state's interests; negotiators of this type of contract must be freed from the legislative restrictions9. Worldwide Distribution of Petroleum Agreement The distribution of the different types of contract is not a function of increasing or decreasing benefit to the state ,but in my opinion it is a function of maturity of the state petroleum policies. Each petroleum province passes through several stages during its productive life. In the embryonic state exploration risk is high and it may not be in the state` s interest to employ its available, and usually severely restricted capital in high risk

ventures. Since the concession represents the lowest risk to the state, this form of agreement is generally applied during the embryonic period. As the province matures resulting in a consequent reduction in exploration risk, the operating companies can envisage levels of state participation consistent with profit maintenance. The state is in a position either to increase its direct involvement in the petroleum exploitation process through participation or conversely it may decide to employ solely fiscal means to ensure optimum state benefit from resource exploitation. While there seem to be a logical progression from the Concession to Production Sharing and thence to one of the more active types of Participation Agreement, This is not always the case. For example, the United kingdom now operates quite successfully a highly regulated Concession system after flirting with Participation, Joint Ventures, and direct exploitation through the national oil company. There is no reason why the state should be constrained to offer only one specific type of agreement when it may be faced with a whole series of possible petroleum prospective properties. Where as a Concession Agreement may be ideal for one prospect, another prospect may be more consistent with a production sharing or Participation type Agreement .In selecting a particular type of petroleum agreement, the state should attempt to choose a series of mechanisms which will implement as fully as possible the goals and objectives of the state. The economic benefit to the state may be equal under different types of agreements. Concession and Production Sharing, although dissimilar in concept and philosophy, could be made to produce exactly the same net economic benefit to the state under a specific combination of royalty, tax and production share levels. The Development of a Petroleum Exploitation Strategy Model for Libya The first step towards the development of the petroleum exploitation model is to clearly identify the goals and objectives of the Libyan petroleum strategy and then proceed with the development of the different strategies associated with the different combinations of the key strategic factors. The goals and objectives of the future Libyan petroleum exploitation strategy should include the following essential points: 1. Increasing petroleum reserves by Intensifying exploration activities in the areas which are under explored or in frontier areas that were not covered by serious exploration in the past. 2. Development of discovered reserves, which have not been put on production yet. 3. Optimization of production from existing fields. 4. Maximization of the economic returns from the present and future petroleum exploitation projects and operations. 5. Development of a local petroleum service industry. 6. Reducing barriers to entry in front of International petroleum service industry and enhancing competition through deregulation and liberalization.

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7. Establishing good contacts with the Libyan financial institutions. 8. Establishing good contacts with the international world financial institutions. 9. Development of efficient management information systems. 10.Technology transfer through training and involvement in the petroleum operations. The model Assumptions, Inputs, and Outputs - The model divides Libya into units, which can vary in size depending on the contract area. The model treats each unit separately in terms of the appropriate strategy selection .For every unit the model assumes that the petroleum reserve potential, and the technical, economic and political risks have been evaluated through the utilization of standard industry evaluation techniques and are available to be used as inputs for the model. - The model assumes that a proper economic evaluation of the exploitation venture has been done and the values of the associated economic parameters are known, i.e. CAPEX, OPEX, IRR, NPV, PAYOUT, P / I, etc. - The model also assumes that the exploitation project has been presented to the NOC/ MINISTRY OF ENERGY / THE GENERAL PEOPLE COMMITTEE and a decision has been made concerning the allocation of the necessary investment funds i.e. whether the government is willing to finance the project or not. If it is not intending to finance the project, it will need to give the go ahead to NOC to negotiate with International Oil Companies for the realization of the project. The Inputs of the model are the values assigned to the following strategic key factors: The level of petroleum resources in the unit area. (High or Low) The level of technology needed for the project. (High or Low) The level of access to capital. (High or Low) The output is the selection of the strategy option that is considered by the model to best suite the given combination of key strategic factors given as inputs . Redefining the Key Strategic Factors The three key strategic factors need to be defined to better relate to and reflect the Libyan petroleum industry environment, but without losing their essence in the overall framework of the general model. The three key strategic factors can be redefined as follows: Level of Petroleum Resources: The level of petroleum resources in the area unit is the most important key strategic factors since the attitude towards the International Oil companies is very much dependent on the value assigned to this factor, in the sense of aggressiveness, willingness to offer incentives and other negotiation strategy concern. The model requires that the level of petroleum resources of an area be assigned a binary value (High or Low). This value can be assigned based on a proper technical property evaluation work, i.e. if it is located in a good part of one of the well known sedimentary basins such as the Sirte basin where

tremendous successful exploration and exploitation activities have taken place. The rating of this factor is expected to be High, but if the area is in the Kufra basin where little available, the factor is expected to have a Low value. In order to properly evaluate the resources potential of an area, different types of information must be available to the exploration specialists, such as: Geological information about the basin, such as basin development, source rock and reservoir rock, structural elements, migration, tectonics, etc. Geological information about the interest area and its location in the basin. Biogenetic information to assess possible types of hydrocarbons. Analogies derived from similar locations. Exploration history and statistical evaluations about the basin. Range of possible sizes of recoverable reserves. Range of well productivity. Quality of the crude oil and the gas oil ratio. Subsurface depth of the reservoir. Water depth for offshore reservoirs. Rate of production decline. These different types of information are then processed through specialized techniques to give the best estimates of reserves in that area or unit. Level of Technology The search for and exploitation of petroleum resources involves the application of many disparate technological skills. Geologists, geophysicists and specialized computer personnel are required for prospect evaluation through geological and seismic surveys. The full range of engineering skills, both oil related and general are used in the exploration and exploitation phases of the petroleum developments. The total technology i.e. the process, equipment and personnel skills, associated with petroleum exploitation has been increasing in complexity especially since the advent of offshore petroleum exploitation. Future technologies such as enhanced oil recovery, require the services of highly skilled chemists and engineers and at present are in the hands of the few rather than the many. The level of technological advancement of a country plays a significant role in the development of a petroleum exploitation strategy. Technology acts as a restriction on the options available to a government in deciding the optimal policy. In a country like Libya the level of technology in general is quite low and the reliance is high on foreign expertise to support the highly technical projects of the petroleum industry. Foreign technical support is not always available even if enough financial resources are allocated to pay for the services, due to the US embargo and UN sanctions, Therefore the type of the technology, which is needed for the specific project, dictates the strategy which the country can adopt. If the technical know how needed for the specific project does not fall into the domain of embargo, the alternatives available are more. But if the type of technology falls under embargo, then the options would be either limited or none existent. Therefore, the value assigned to this factor depends on

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whether it is possible to import the technology at affordable cost or develop it in the country or not. The model requires that a binary value (High or Low) is assigned to this factor depending on the level of the most important technology needed for the project. A classification of some technologies used in the production of petroleum should be developed by the specialists to categorize the different technologies. The value low would apply to those technologies, which cannot be developed in Libya and are difficult to acquire from the international market due to sanctions or extremely high costs. High would mean that the technology can easily be acquired from international suppliers or developed locally. The meaning given here to this factor has been modified a little as compared to the definition given to this factor in the FEE model, but the implication on the strategy is the same. (if the country` s level of technology is too low to handle the project = the technology needed for the project can be considered High as seen by the local industry.) Access to Capital Since no meaningful relationships exist between the Libyan government and the major international financial institutions, which are the source of investment capital around the world, Libya has no choice but to rely on its own resources for financing its exploration and exploitation projects. Therefore, the value given to this factor can be either high or low depending on whether or not the government allocates sufficient funds for the project. If the government changes its economic policies in the future and its relationships with the world financial institution such as the world bank are again reestablished the value given to this factor will also depend on the response of these organizations to the needs of the individual project. The ability of the government to allocate funds for investment in the local petroleum exploitation project is effected by the following factors:The International Oil Prices: Depressed oil prices at present and low price forecasts for the next years, make it inevitable for the government to reduce its funding of the petroleum sector projects in order to sustain its ability to support the rest of the economy. This fact limits the number of available exploitation strategy options. Under this economic environment, the state oil companies will only be able to undertake low investment projects directly. The Capital Costs of the Project: The size of investment needed for the development of a field may be very high and therefore, prohibitive to government participation in its development. There are different factors which lead to high capital project costs, some of which are attributed to the project nature itself such as the case of development of reservoirs which contain very corrosive fluids or reservoirs which require highly sophisticated production technologies such as secondary and enhanced oil recovery techniques. The other very important factor is location of the project, which may require a very expensive production and transportation infrastructure especially if the location of the field is in deep offshore waters or very remote frontier desert areas. Governments Investment Priorities: Since the governments responsibilities cover a wide range of activities in all walks of life such as health service, education, industry, defense, etc.,

the competition of these sectors is at its most especially when the funds available to the government from oil sales is reduced due to low international oil prices or declining production. The oil sector unfortunately finds itself competing with some very powerful sectors even to secure the most essential funds needed to cope with its absolute minimum commitments not to mention high investment projects, which are needed to fully exploit the national petroleum resources. The effectiveness of the oil sector through the Ministry of Energy in convincing the government to invest in the oil industry is a detrimental factor in the shaping up of the future Libyan petroleum exploiting strategy. The Development of the Strategy Options The possible combinations of the key strategic factors can be related to similar strategies recommended by the FEE Model specifically tailored to suit the Libyan petroleum industry environment considering the extensive analysis, which has been undertaken in the course of this research. Libya is a mature petroleum state, since extensive petroleum resources have already been established, but because of declining production and low oil prices, Libya does not have good access to capital. Since The main policy objective of the country is to insure that the maximum benefit is derived from the exploitation of a limited resource. The exploitation policy must, therefore, be aimed at maximizing the revenues to the state and ensuring that petroleum exploitation acts like an engine in developing a local industry. Since Libya does not have a well-developed industrial sector, According to the general model, A Production Sharing Agreement will satisfy many of the state ` s socioeconomic and political objectives. The EPSA model has been implemented in Libya since 1974, but it has not been as successful in finding sizable reserves and bringing them on production as the concession agreement has been in the Sirte basin during the 1950 `s and 1960 ` s. The main reason for this unimpressive performance of the EPSA is its lack of enough incentives to justify the high risks involved in the exploration and development of the other areas . The problem now lies in the fact that Libya is a big country and previous exploitation activities have been con The possible combinations of the key strategic factors can be related to similar strategies recommended by the FEE Model specifically tailored to suit the Libyan petroleum industry environment considering the extensive analysis which has been undertaken in the course of this research. Libya is a mature petroleum state, since extensive petroleum resources have already been established, but because of declining production and low oil prices, Libya does not have good access to capital since the main policy objective of the country is to insure that the maximum benefit is derived from the exploitation of a limited resource. The exploitation policy must, therefore, be aimed at maximizing the revenues to the state and ensuring that petroleum exploitation acts like an engine in developing a local industry. Since Libya does not have a well-developed industrial sector, According to the general model, A Production Sharing Agreement will satisfy many of the states socioeconomic and political objectives. The EPSA model has been implemented in Libya since 1974, but it has not been as successful in finding sizable reserves

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and bringing them on production as the concession agreement has been in the Sirte basin during the 1950s and 1960s. The main reason for this unimpressive performance of the EPSA is its lack of enough incentives to justify the high risks involved in the exploration and development of the other areas. The problem now lies in the fact that Libya is a big country and previous exploitation activities have been concentrated mainly in the Sirte basin, and to a less extent in the Ghadames and Murzuk basins leaving the rest of the country under explored. The latent high exploration risks and high development costs associated with these areas require a completely different approach. The other major problem is that the mature fields in the Sirte basin have now reached a stage where secondary and enhanced oil recovery methods are essential to optimize their productivity and increase their recovery .These elaborate schemes require high technology which is very costly , The EPSA III model in this case can still be useful , but it may give too much benefit to the International Oil Company since exploration risks are not there anymore. The fact that all the big fields in the Sirte Basin are operated by National Oil Companies ads to the problem, in the sense that the investment capital has to come from the NOC. The other problem with using the EPSA Model in these fields is that the majority of them are originally operated through joint ventures with US companies that departed in 1986, but are still in contract with NOC under a Stand Still Agreement. These agreements have tied up these areas and prevented NOC from adopting more aggressive exploitation strategies because of legal and political reasons. The following strategy options have been developed to deal with these different problems and support the decision makers in selecting the appropriate exploitation strategy:
Strategy

NOC to accept a production share which is lower than the level they are used to get in higher potential areas. The NOC negotiators would be in a very difficult position later if the International Oil Company finds larger reserves than those estimated by the specialists during the time of negotiations . They may even be subject to prosecution if the key issue of high risk is not well perceived by the authorities. This attitude may either cause the competent International Oil Company to decline leaving the stage to mediocre companies or if they accept , they may recalculate at later time the viability of the venture after only meeting a small part of their commitment , and withdraw or ask for renegotiating to improve their returns. In this regard the concession would give a sense of security since the agreement is based on the petroleum law, and therefore they will be concentrating more on negotiating extra benefits to the state in terms of bonuses, technical transfer, etc. Strategy B Level of Resources Low Level of Technology Low Access to Capital High

Level of Resources Low

Level of Technology Low

Access to Capital Low

This situation is the worst possible one since it is associated with an area with a low level of resources that requires a high level of technology, in addition to the low availability of sufficient investment funds. This situation applies to most of the new unexplored areas, or areas of negative previous exploration results. The government in this case has no option but to involve an international oil company to bare the financial and technical risks. Since the risks are high for the international oil companies, the government` s strategy should provide incentives that will attract these companies into investing in the development of the petroleum resources in these areas. The recommended agreement model in this case is a Concession with Royalty that would be based on profit or Sliding scale or related to production and a rate of return based taxation system. Some tax breaks and exemptions would be very useful in reducing the financial risk of the International Petroleum Companies during the exploration phase. The EPSA agreement would not be a suitable strategy option in this situation. Negotiating an EPSA agreement for an area with low resource potential and high technical risks would be very hard because of the difficulty the International Oil Company would face in convincing the negotiators of the

This situation is not very much different from strategy (A) except in terms of availability of investment funds, but the risk is still too high for the government to do the job alone. The most suitable strategy in this case is for the government to share some of the risks to encourage international company participation through a Joint Venture Agreement. The objective here is to get access to the technology and share the high exploration risk with a competent partner. The terms should still be generous enough in a similar way as in the case of strategy (A) above because of high risk. Since the priority of the government investment policies in the foreseeable future is not expected to be directed towards this type of high risk areas due to already discussed reasons , this scenario is just a hypothetical one under the present petroleum industry environment but if the economic environment changes to the better this is may be a viable. Strategy C Level of Resources Low Level of Technology High Access to Capital Low

This situation is still not favorable for the government because of low potential and lack of funds. Therefore , despite the availability of the needed technology locally there is still a need for foreign capital. The most convenient contractual arrangement in this case would be a Concession and an ultimate Production Sharing in a later phase when oil is discovered. This type of contract is called Hybrid contract. The Kufra basin can be taken as example for this case . Similar incentives as in the previous two cases need to be incorporated. Strategy D Level of Resources Low Level of Technology High Access to Capital High

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In this situation the funds are available and the technology is either locally available or can be easily acquired, but the risk of low resources is still there. Although for a country in this situation (combination D in the general model) a highly regulated Concession agreement would be recommended , but considering the Libyan situation the recommended arrangement would be a Joint Venture Agreement , because of the same reasons discussed in B above the geological risk is still high for the government to work alone but risk can be shared with the International Oil Company to encourage them to participate , since the government have in this case the funds needed to at least finance its share of the joint venture. Since the priority of the government investment policies in the foreseeable future is not expected to be directed towards this type of high risk areas , as in the case of strategy - B above , this scenario is just a hypothetical one under the present petroleum industry environment. Strategy E Level of Resources High Level of Technology Low Access to Capital Low

invest some of its financial resources into economically viable projects of the local oil industry. This type of contract has not been used in Libya, but there is a great potential for using it in the development of discovered fields with low technical risks . Strategy G Level of Resources High Level of Technology High Access to Capital Low

This situation is associated with an area of high potential but the technology needed is not available and the necessary funds are not available to the government. A Production Sharing Agreement with a carried state investment in the development and exploitation phases designed primarily to maximize economic returns to the state and transfer technology to the local staff would be appropriate. The Murzuk basin area would be an example of this case. This strategy is primarily recommended for exploration ventures. A risk service agreement would be very suitable for enhancing the production of existing mature fields or for the development of discovered and not developed reserves, especially those under a stand still agreement. These risk service agreement can be between the operator and an International oil company on behalf of the parties to the joint venture (meaning, the US companies) assuming that this is legally viable and acceptable to all parties . Strategy F Level of Resources High Level of Technology Low Access to Capital High

This situation applies to an area with a high level of petroleum resources and for which the technology is available but the funds needed to undertake the project are limited or can not be allocated by the government. The low access to capital is a severe restriction on the country `s ability to pursue the exploitation of the petroleum resources alone or pay for the services. Seeking financial assistance from International Financial Institutions and then undertaking the project directly through the national oil company would be a viable solution to the problem, but this may not be possible under the prevailing circumstances. The state in this case may benefit from a Risk Service contract with an international Oil Company which may be willing to provide the investment and take the risk in return for access to crude oil supplies. For the projects within the financial capability of the state, the national oil company may undertake the project alone. Strategy H Level of Resources High Level of Technology High Access to Capital High

This is the best available situation where the national oil companies should undertake the exploitation activities alone and bare all the risks to benefit from the high rewards. A highly regulated concession can be an option, as an alternative but this option has to be carefully evaluated in terms of economic returns to the state since technology transfer is not a priority objective, because the technology is already available or can be made available at reasonable costs, locally. Conclusions 1. The EPSA-III contractual model seems to be an acceptable form of petroleum exploitation agreement in terms of flexibility since it incorporates mechanisms which react well to the changing crude oil prices and level of production. It is recommended for high resource potential areas with high technical risks. (Scenario E) 2. The concession is still considered a viable model, it is recommended for low potential high-risk areas (scenario A). This would require amendment of the petroleum law no.25 of 1955 to again permit the concession agreement under a new more flexible fiscal regime which includes profit related Royalty and Taxes, and other risk level related incentives. The concession is also a possible option for the situations when the primary objective is to maximize the economic returns without much importance given to technology transfer and control. (Scenarios: H).

This situation is associated with an area with high level of resources that requires the incorporation of high technology which is not locally available but the government in this case can allocate the necessary funds to undertake the project. The best strategy in this case would be a Pure Service Contract with an international oil company that would import the needed technology and utilize it to develop the petroleum resources for the National Oil Company. The government in this case will gain the full access of the petroleum products and will pay the International Company the cost of its services. All the exploration, Technical, and financial risks are born by the National Oil Company. Economically, this strategy yields the maximum economic return for the country as long as the government is willing to

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The risk service agreement is seen to have a good potential in the enhancement of productivity of existing productive reservoirs, especially in areas operated by the National Oil Companies. This type of contracts is believed to be compatible with the Stand still Agreements between the departed US companies and NOC, which of course needs to be investigated and confirmed from a legal point of view .

Refrences 1. Fees, D., Petroleum Exploitation Strategy, Belhaven Press, 1988. 2. S.B. Katz, Types of Petroleum Contracts: Their History and Development, (The Business of Petroleum Exploration - Ch.24), AAPG, 1992, pp.297-305. 3. Gordon H. Barrows, Worldwide Concession Contracts and Petroleum Legislation, Pennwell Publishing Co, 1983, pp.1-33. 4. Barrows, Trends in Petroleum E & P Contracts Worldwide, OGLTR 7, 1992, pp.1-4. 5. Sidney Moran, Analysis of International Oil and Gas Contracts, (The Business of Petroleum Exploration Ch.25), AAPG, 1992, PP.307-309. 6. C. L. McMichael, and E. Young, Effect of Production Sharing and Service Contracts on Reserve Reporting, SPE 37959, 1997, pp. 55-59. 7. G.K. Kellas, and Susan Hodgshon, Risk Sharing in Exploration and Production Contracts, SPE 28209, 1994. 8. H.E. Lechner and R.F. Altenberger, Comparative Economics of Exploration and Production Contracts and Tax Regimes Applied to Expected Oil Prospects, SPE 28208, 1994. 9. Dr. K. Malik, International Petroleum Agreements and Negotiations, AGIP Executive Course (Not published), 1990.

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TABLE 1- THE VARIOUS TYPES OF AGREEMENTS IN OPERATION IN VARIOUS COUNTRIES

Region

Concession (Royalty & Income Tax)

Production Sharing

Risk Service

North America

Canada / USA

Latin America

Argentina , Bahamas Barbados , Costa Rica Paraguay , Surinam Trinidad

Bolivia , Guatemala Guyana , Honduras Panama , Uruguay

Brazil , Chile Colombia Ecuador Peru

Europe

Austria , Bulgaria Denmark , France Germany , Greece Greenland , Ireland Italy , Malta Netherlands , Norway Poland , Portugal Spain , Sweden Turkey , UK

Albania CIS Rumania Yugoslavia

Africa

Cameroon , Chad Congo , Gambia Ghana , Guinea Bissau Mali , Morocco Namibia , Niger Nigeria , Senegal Seychelles , Sierra Leone Somalia , South Africa Tunisia , Zaire

Algeria , Angola Benin , Burundi Ivory Coast , Egypt Eq. Guinea , Ethiopia Gabon , Guinea Mauritania , Kenya Libya , Mozambique Sudan , Tanzania Togo , Zambia

Middle East

UAE Palestine

Bahrain , Jordan Oman , Qatar Syria , Yemen

Far East/Australia

Australia , Brunei Cambodia , Fiji New Zealand , Pakistan Papua New Guinea South Korea , Thailand

Bangladesh , China India , Indonesia Laos , Malaysia Mongolia , Myanmar Nepal , Sri Lanka Vietnam

Philippines

TABLE 2- THE POSSIBLE COMBINATIONS OF THE KEY STRATEGIC FACTORS

Combination A B C D E F G H Level of Resources Low Low Low Low High High High High Level of Technology Low Low High High Low Low High High Access to Capital Low High Low High Low High Low High

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Others

Type of Energy

Solid Hydro Nuclear Oil Gas

0%

10%

20%

30%

40%

50%

Percentage

Fig. 1-IEA energy demand outlook in year 2010.

Enviromental

Markets

Petroleum Industry

Technical
Fig. 2-A changing world.

Institutional

Competition

Week Oil Prices

Environmental Cost

Inadquate Contact

Customer quality

Oil Company

Fig. 3- Constraints on the international oil companies.

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Oil Concession Concessions/JV

EPSA EPSA/JV

New Concession

Figure 4- Evolution of petroleum agreements

Goals & Objectives

Petroleum Industry Environment

Elements Of Exploitation Strategy Level Of Royalty Level Of Taxation Type Of Exploration Agreement Licensing Policy

Criteria For Strategy Selection Historical Performance Level Of Technology Level Of Resources Access To Capital International And Institution Lending Policy Oil Price Oil Company Exploitation Strategy

Figure 5- Petroleum exploitation strategy development process