“To hold successful tenders for production on production share agreement in political instability is quite a challenge” – Roman Storozhev

If the auctions for the purchase of licenses for the development of hydrocarbon deposits have already passed quite successfully, then the tenders for production sharing agreements (PSAs) will only be known to the participants at the end of May (if they are, of course).

Roman Storozhev, the President of the Association Subsoil Users of Ukraine

At the end of 2018 – the beginning of 2019, the mining industry of Ukraine entered a more transparent era of auctions and open competitions.

If the auctions for the purchase of licenses for the development of hydrocarbon deposits have already passed quite successfully, then the tenders for production sharing agreements (PSAs) will only be known to the participants at the end of May (if they are, of course).

What benefits and risks for investors arise when concluding a PSA with Ukraine, and how likely it is that the tenders will take place in general, Kosatka.Media talked to Roman Storozhev, the President of the Association Subsoil Users of Ukraine.

 

How has the process of issuing licenses for the production of hydrocarbons changed since the beginning of the year? How does the procedure for obtaining a special license during an auction differ from the PSA agreement?

Today we already have some kind of auction program in Ukraine for the provision of license areas. From December 2018, Prozzoro conducted three rounds of electronic auctions in the system, which showed quite good results. The auction mechanism was as transparent as possible – everyone could watch the bidding online, and the amounts that were obtained from the sale of license areas were impressive. And as long as the public or experts have no questions for these auctions, there is no suspicion of collusion or scheme. And in general, they suit the majority of market participants interested in purchasing licenses. This we can determine by their direct activity in these auctions.

As for production sharing agreements (PSAs), in February, 9 sites were put for the tender, and in April, a site called “Dolphin”, which is located on the continental shelf of the Black Sea and unites three fields.

The tender mechanism is different. The winner will be determined by the Interdepartmental Commission. This is not an auction, according to which the company that offered the highest amount for a special license wins. Tender has criteria, and each criterion has an equivalent in the final classification. This is the best work program, rationality of conditions for the use of natural resources in this area, environmental impact assessment, the level of financial support for the program, the level of financial stability of the investor, experience in finding/exploration/production of hydrocarbons in some similar conditions (if we are talking also about offshore mining, for example). All these criteria make up the maximum number – 270 points. And the company that gains the most points wins. This is the fundamental difference that these are not auctions, but contests.

In general, Ukraine is trying to apply all the available mechanisms for the provision of special licenses that are used in the world. 

The question of the Interdepartmental Commission is not only “who are they?” But will it be a legitimate decision in such a unique situation, when we have both parliamentary elections and all are retiring and the presidential vertical is completely changing.

If during the tender everything is decided by the Interdepartmental Commission, does any questions arise about its fairness? How open is the PSA competition?

The tender is being held by the commission, which consists of 15 people, including representatives of the Cabinet of Ministers, the Parliament, the Ministry of Energy and Coal mining, and the Ministry of Environment, as well as independent experts who are not associated with any of the tender participants.

Decision will be made by people who will be guided by their inner convictions and experience. And it will be a subjective assessment of each of the members of the commission, therefore, naturally, it is important who it is. In open sources, we have not yet seen this information.

But in today's realities another question is important. The question of the Interdepartmental Commission is not only “who are they?” Within a month after the deadline for filing applications, the winner of the tender must be determined. In the context of the fact that the Prime Minister is resigning now, the Verkhovna Rada is dissolved and, accordingly, all members of the government are also likely to resign. Question: who will determine the winner? Will it be a legitimate decision in such a unique situation, when we have both parliamentary elections and everybody resigns and the presidential vertical is completely changing? The results of the tender must be approved by someone, and the decision should not raise any doubts regarding its legitimacy for 50 years.

Given this situation, what investors should do? What could motivate them to participate in the PSA tenser? And in general, what mechanism for obtaining licenses now attracts more investors – auctions or tender?

It depends on the investor, his potential and his plans. For medium and small investor, auctions that are conducted through Prozzoro are more acceptable. If the investor has great resources, then, of course, he is interested in a production sharing agreement.

Nowadays, smaller fields that were put up for the first three auctions are in the greatest demand. During auctions, small and medium-sized fields are usually acquired by Ukrainian investors of average or above average level. But investments in licenses during auctions are not commensurate with what is offered under production sharing agreements.

This is a completely different approach and a different concept. Because the scale, the category of fields (with an area of, for example, 1.5 thousand sq. km.) put up for tenders on PSA require very serious investments. For example, the minimum amount of investment provided for the Balakliisky site was 800 million UAH. At today's rate, this is about $30 million – the minimum amount of investment in the first five years (and this is only the first stage, which includes exploration work). Naturally, all such conditions presuppose or suggest that a competitor, a potential winner, should be a very serious company, which should have vast experience and a large, fairly powerful financial potential.

 

“The very idea of ​​production sharing agreements entails the idea that the investor should be a global corporation or it should be powerful financial funds that will subcontract exploration companies that will close the technical part”.

The PSA mechanism provides promising conditions for the investor – generally, most of the production (up to 90%) during production goes to his favor. He is also exempt from taxes, receives priority – his expenses for the search, the creation of infrastructure and the extraction of mineral resources are first compensated. That is, first all the funds received from the sale of products go to compensate for investments, and then the production section begins. Therefore, PSA is interesting for big investors. However, it carries with it serious risks. This is a commitment for 50 years, and large amounts of investment, as well as the fact that the probability of success of this project does not exceed 60%. The risk is high enough, but the one, who is willing to risk such money, if successful, will receive the greatest bonus. In case of failure, the losses will also be enormous.

How willingly will the world oil and gas companies go to Ukraine, given that in the past the state had not very successful experience in PSA cooperation with Shell, Chevron? Especially if it is as long as 50 years.

 Yes, there was such a story, these contracts did not work out. But most of the failure, I believe, was associated with the military-political risks that, unfortunately, occurred in that period in Ukraine. At the moment, interest is here again, and it is growing.

Under the PSA, the state does not invest in the project, but it creates the conditions and gives the right to use license areas. And it is responsible for this right for investors for 50 years. Moreover, if we take the situation ideally, the state should also guarantee the land servitude. But in Ukraine, we know that it works very badly. Therefore, in any case, the investor will have to deal with amalgamated territorial community and agree on the spot about the conditions under which the investor will take the necessary land for exploration and then for production.

I think that if we evaluate the areas of the Black Sea shelf, then an international large company or international financial funds may be interested in them. As for the 9 sites on land, then there may be different applicants. I do not exclude that among them will be national companies. The same DTEK-Neftegaz, Geo Alliance, Burisma, and Ukrnaftoburinya are companies that are in the TOP-5 Ukrainian mining companies. I think that they have sufficient experience and technical potential, and I hope financially, too, to carry out work at these fields.

Is there a possibility that Ukrainian investors will unite in a consortium to develop large fields under PSA?

You know, this is quite a sensible and interesting idea. An example of such cooperation can be found among financial funds. Thus, one fund may not have enough funds for such investments, and then several funds join forces and create a company for a specific project, where all participants contribute funds.

If Ukrainian companies could come to such kind of agreements and jointly invest some project, this would be an unprecedented experience for Ukraine. And there would be a much lower risk that investors would refuse to participate in such a project if they already started it. After all, these are still local companies that are already working in the conditions that exist in Ukraine, and in general do not refuse projects that have begun.

There is a risk that the tender will be postponed, or at least the determination of the winner will be postponed.

If the pool of investors is limited, then how crucial is competition in the tender. If only one application has been submitted for participation in the tender, is it considered as having taken place?

There is no rule in the law that there should be “at least two participants” in the tender. Of course, in such conditions a biased situation arises: there is only one applicant, his proposal is unique, and there is nothing to compare with.

“The tender is considered to be failed in the case when none of the applications submitted meets the conditions of the tender”, says the Law “On Production Sharing Agreements”. And if the application was only one and it meets the conditions of the tender, then the competition is held:

Article 6, part 4 of the law states that “the tender is considered to be held when at least one participant applied and all of conditions of the tender are met”.

What is your forecast for the upcoming PSA tender? Will it be on time or will it be rescheduled? Will be there interested applicants?  

There is a risk that the tender will be postponed, or at least the determination of the winner will be postponed especially regarding the shelf. There is a very subtle point, which is connected precisely with the political situation in the country.

I think we should wait for the deadline, see if there were any applications, how many, from whom, and then figure out what to do with them. Then the question of the composition of the Interdepartmental Commission will be particularly relevant. The Commission consists of 4 people's deputies, despite the fact that they are now dissolving the parliament. At the time of the decision, they will be in the status of people's deputies (their status is maintained until the new elections, even if they are early). In what extend their decision will be objective in a situation when it is not known whether they will fall into the next convocation...

 

Kosatka.Media

Tags: hydrocarbon production, PSA, Roman Storozhev

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