Tackling challenge of JV funding in Nigeria’s oil, gas sector

A recurring problem in the upstream sector of the Nigerian oil and gas industry is the inability of the national oil company, the Nigerian National Petroleum Corporation (NNPC) to meet its funding obligations to Joint Venture (JV) operations. Nigeria’s oil and gas production structure is mainly split between JV with NNPC onshore and in shallow water, and production sharing contracts (PSC) in deepwater offshore.

JV operation is the standard agreement between the national oil company (NOC) and international oil companies (IOCs). Under the arrangement, both the NOC and the IOCs contribute to funding oil operations in the proportion of their JV equity holdings and receive crude oil produced in the same ratio.

Companies engaged in this form of arrangement are assessed to tax under the Petroleum Profits Tax Act (PPTA) at the rate of 65.75 percent of chargeable profits for the first five years of operation when the company is yet to fully recover its capitalized pre-production cost and 85 percent thereafter. The tax payable is modified by the provisions of the Memorandum of Understanding (MOU) between the parties. The MOU seeks to guarantee certain profit margins to the IOC, when crude oil market price falls below certain thresholds. Major operators in the JVs with the NNPC are Shell, ExxonMobil, ChevronTexaco, TotalFinaElf and Agip.

In JVs, NNPC owns between 55 percent (for JVs with Shell) and 60 percent (for all others) of the venture. Under PSCs, NNPC is the oil licence holder, but engages oil firms as contractors that bear all risk and recover costs through a share of production at a tax rate of 50 percent.

“Given the fact that there is so much to be done and the amount required in the oil industry is huge, we cannot continue to rely on government to fund the oil sector. This is why we need to find a solution because it is affecting the economy,” Samuel Egube, energy expert and director, corporate banking, Diamond Bank, told BusinessDay.

“Since investments are not going in because of the budget constraints, he continued, it is affecting the industry value chain. Contractors are suffering because contracts will not be signed where investments have not been made.”

Production from JVs, which in the past accounted for about 95 percent of Nigeria’s crude oil output, has continued to decline yearly as international oil companies increasingly shift offshore due to onshore risks including funding, oil theft and sabotage.

Production from PSCs, which in 2003 was a mere 16,718,964 barrels, rose to 320,434,163 barrels in 2012. PSC’s crude oil production per day increased by 1,198 percent from 66,848 barrels per day (bpd) in 2004 to 868,013 bpd in 2013, said BusinessDay Research and Intelligent Unit (BRIU) 2014 Oil and Gas Industry Report.

The report added that the PSC production had been on steady growth since 2004 and recorded its peak production of 875,503 in 2012 due to world-class projects worth over $40 billion in investment into the deepwater production in 2012.

“We have major challenge with JV funding. In PSC, you hardly hear anybody talking about funding problem. There is no issue in PSC because we had to look for the money,” Bayo Ojulari, General Manager, development, Shell Petroleum Development Company (SPDC) told BusinessDay.

It is however important to note that the JV model is currently being phased out in the oil and gas industry, due mainly to the inability of the NNPC to fund its share of JV costs.

In response to this problem, the FGN has explored other models like the Production Sharing Contracts (PSC) terms and Modified Carried Agreement (MCA).

The federal government adopted the PSC model in 1993 as the preferred petroleum arrangement with IOCs. Under this arrangement, the concession is held by NNPC and the state oil company engages the IOC or the indigenous company as contractor to conduct petroleum operations on behalf of itself and NNPC. The contractor takes on the financing risk. If the exploration is successful, the Contractor is entitled to recover its costs on commencement of commercial production. If the operation is not successful, the Contractor bears the loss.

Another model of funding arrangement in the oil and gas sector is the service contract. Under this model, the contractor undertakes exploration, development and production activities for, and on behalf of, NNPC or the concession holder, at its own risk. The concession ownership remains entirely with the NNPC/ holder, and the contractor has no title to the oil produced. The Contractor is reimbursed cost incurred only from proceeds of oil sold and is paid periodical remuneration in accordance with the formulae stipulated in the contract. The Contractor has the first option to buy back the crude oil produced from the concession.

Elizabeth Proust, Managing Director/CEO, Total E&P Nigeria, said recently that lack of adequate JV funding was limiting growth in gas development and production. “Resolving JV funding could increase production by 2.8 billion cubic feet per day by 2020. Government and industry need to implement a sustainable solution to deliver vital funding for gas,” said Proust at a recent conference in Abuja.

Osagie Okunbor, the new Managing Director of Shell Petroleum Development Company (SPDC) and Country Chair for Shell companies in Nigeria, said there was need for the operators and government to negotiate as most of the projects for 2015 had been agreed on before the drop in oil price.

“With all the uncertainties around, this is hardly the time for parties on the government and industry sides to be doing things differently. We need to come together and agree on priorities we have,” Okunbor said.

Recently, the NNPC and Mobil Producing Nigeria (MPN), an affiliate of ExxonMobil made public their intention to access the bond market by 2016, as part of the renewed efforts to address the funding challenges associated with the current relationships between the NNPC and the company. Before then, the joint venture hopes to use external financing options till the end of 2015 to finance its operations.

Thus far, it has recorded some success stories. ExxonMobil has successfully generated about $15 Billion of Alternative Funding capacity through external financing and modified carry agreement). This has accounted for about 70 percent of current JV production.

ExxonMobil’s model of external financing entails that Commercial banks provide funding for approved JV work program at cost-effective, market driven borrowing rates; the lenders have no recourse to JV assets and the loan is secured by revenues from forward sale of incremental production volumes.

The alternative funding/modified carry agreement entails that IOC fund NNPC share of approved JV work program; IOC receives agreed after-tax IRR and the loan is repaid via tax relief and crude oil liftings.

ExxonMobil has recorded success stories in external financing through the $265 million NGL Supplemental funding between 2008 and 2009, $1.1 billion NGL II Upsizing in 2010, $560 million Oso Condensate in 1991amongst others. Although ExxonMobil’s model has been successful, the key driver for driving growth of the Nigerian oil and gas industry especially with regard to JV operations is the NNPC’s ability to meet with its fiscal obligations to the JV partners.

FRANK UZUEGBUNAM