The production sharing contract issues

When we hear and read about efforts currently under way to rewrite the law on oil and gas several things come to mind.

We recall that in 2001 the old 1960 law on oil and gas was deemed no longer to be in line with national and international developments at that time. The law was consequently revised and a new law — the current law — was promulgated in 2001, allegedly in order to achieve a more competitive, efficient oil and gas industry.

What, in reality, happened was a political decision to move operational control over the oil and gas sector from Pertamina to the Energy and Mineral Resources Ministry. Pertamina was restructured by taking away its management and control of the production sharing contract (PSC), ostensibly to discontinue Pertamina’s dual role of regulator and operator and to make Pertamina focus on its core business.

A new agency was created called the Upstream Oil and Gas Supervisory Agency (BPMIGAS) to manage and control the PSCs, which, at that time, collectively produced about 95 percent of Indonesia’s oil and gas. Pertamina became just “one of the boys” reporting to BPMIGAS along with other contractors.

The industry initially welcomed the new law, as a long list of industry grievances and complaints had accumulated over time against the execution of Pertamina’s management role. A change in operating philosophy and style was eagerly awaited, and was indeed expected, from BPMIGAS in order to bring about a refreshingly new-and-improved investment climate.

For the industry, BPMIGAS turned out not to be a real improvement over Pertamina. It continued to undermanage and overcontrol the PSCs, probably as a result of excessive pressures being brought to bear on the agency by outside interests. The 2001 law fails to address investment climate issues. The industry was asked to be patient because the needed investment climate issues were going to be taken care of in the government regulation implementing the law.

After an extended waiting period, the long-expected 2004 government regulation came along and, again, investors were deeply disappointed as they found no relief in the regulation for the operators in the field.

Today — in the year 2010 — almost 10 years after the 2001 law was enacted, we are about to change the law again. This time, the reason cited in the preamble of the draft revised law is that the law is deemed “not to have fulfilled the mandate of the 1945 Constitution”. Admittedly, the draft we read is just one draft and is still subject to change, as discussions have not entered into a final phase yet.

However, if history may serve as a guide, we suspect that the draft law will go through with only minor changes, none of which may be even remotely associated with the investment climate. It will be no more than a politically motivated document. Political decisions are short term in nature and serve only certain interests. The interests of the investors in the oil and gas sector are not exactly perceived as politically hot selling items.

Herein lies the mistake all of us have made and continue to make. Political and business reasons for making changes use different drivers. The best thing that could happen to the industry is when political forces and business considerations pull parallel in the same direction.

The worst-case scenario is when they work at cross-purposes, as we see happening today. Politicians in our country appear to be focusing on the 2014 legislative and presidential elections and appear insensitive to sound long-term business reasoning if it clashes with 2014 goals.

The question is: what do we want? Do we want to do it ourselves entirely, Hugo Chavez-style or go all out for investment? As a sovereign state, we are free to make that choice. Let us make up our minds, make a wise choice and stick with it. The fact is that the low-hanging fruits have been picked and our country simply does not have funds available to do the future highly capital-intensive kind of work. Where will we find the US$52 billion rumored to be the price tag for developing Natuna D Alpha? Efforts now under way to further regulate cost recovery will make such investments even more impossible.

Nonetheless, we are watching a political process that seems irreversible. Industry executives as well as industry observers have taken turns discussing this very issue with the lawmakers, but the reaction is as if they want to say: “My mind is made up, don’t confuse me with the facts”.

Of course, lawmakers were approached with the usual industry pitch — albeit very correct from a business point of view — namely, make the pie bigger and optimize oil and gas production.

Oil and gas remaining in the belly of the earth will not be to the benefit of anybody. It has to be brought to the surface and be monetized before it becomes useful for anyone, let alone for the greatest number of people.

I am a firm believer in the production sharing system. It did well for the country and for the industry for the past 45 years or so. Indonesia invented the system. It made us proud. It was copied by 40 countries around the world and it still works for them. It was introduced at a time in the late 1960s and early 1970s when Middle Eastern countries were expropriating foreign oil companies’ property.

That is a measure of success that we do not seem to be able to repeat. The usual explanation for that enormous achievement is simple: business and politics were pulling in the same direction and were not working at cross-purposes, like today. We are now even having a hard time jacking up production from its present level of about 930,000 barrel per day (bpd) to a mere 1,000,000 bpd (or even less).

The critics of the PSC are saying that the success of the ‘70s cannot be repeated. These are different times and different conditions prevail. We no longer have visionary leaders like in the past who — anyway — were deemed freewheeling entrepreneurs, adventurers even. Maybe there is an element of truth there, but it is hard to argue with success.

One thing we must remember is that they, the leaders of the ‘70s, applied one of the basics of all business, namely, trust. One of the most important drivers of success in the 1970s was and still is trust. Trust is the cornerstone of all business. Trust is what drives success in Malaysia and in China until today.

In our country, trust seems to have gone. Nobody seems to trust anybody any more. No wonder the likes of Venezuela’s Chavez and Bolivia’s Evo Morales are finding ready followers in this country.

Why is it that after 65 years of independence we are still struggling with the basics whereas we were once a leader in the field? Unfortunately, we are flat out of time. We need out-of-the-box emergency solutions.

We need to face reality. We need a sense of urgency because we are in an energy deficit now. Most solutions do not need a totally new law. Some adjustments to the present law may be sufficient if we have to change something.

Yes, there are problems out there, but there are also solutions. These solutions may be somewhat politically sensitive because they need to be attuned to the business climate. These solutions may call for reintroducing the notion of trust. The question is how does one go about introducing trust. To do so we must first build solid partnerships with proved and bona fide partners and trust will eventually follow.

TN Mahmud, The writer is a former CEO of ARCO Indonesia, taught business subjects at various business schools in Jakarta, is president commissioner of PT PGN (Persero) Tbk, the national gas utility, and is a senior adviser to the Ancora group. Opinions expressed herein are strictly his own and cannot be attributed to any of the organizations with which he is currently associated.
Opini The Jakarta Post 17 September 2010