Kenyan Model Production Sharing Contract

In order to conduct any exploration activity, potential investors have to enter into a contract with the Kenyan government. In Kenya's case, this contract is a Production Sharing Contract (PSC) where the oil company and the government share the oil and gas profits produced. The general terms of the PSC are set out within Kenya's model PSC while the specificities of each agreement are set out within the individual contracts. The legal framework of Kenya's model PSC is constituted by Kenya's Petroleum Act, regulations made thereunder and the Income Tax Act. However, the Kenya's legislative framework is currently under review and will also lead to change of the model PSCs in the short-term.

As of November 2013, there are two version of the model PSC available on the homepage of Kenya's state-owened company. One version is openly displayed and appears to be frequently referenced in legal analysis. The other version is not directly referenced on the homepage of the government and seems to have only one major difference to the former version by allowing the government to charge windfall profits.

Prior to the Kenyan Petroleum Act of 1982, explorations were carried out under a Royalty/Tax based system. The current model PSC doesn't stipulate any different guidelines for sharing gas production.

=Model contractural terms as of November 2013=

Duration of development and exploration
Oil and gas exploration can take place during an initial exploration period. A company can continue exploration during two additional exploration periods, the duration of which has to be negotiated with the government. The duration of the contract can be extended if a discovery is made.

Fiscal terms
According to Barrow (cited in a paper by Karembu Antony Njeru) Kenya is considered to have one of the toughest fiscal regimes in Africa because of its high government take despite the absence of commercially viable oil. A research paper by Karembu Antony Njeru analyses Kenya's fiscal regime under scenarios of low and high oil prices and costs and concludes that the system is fiscally regressive.

Profit and cost oil

The division of profits is based on a daily production-based sliding scale system which assumes the first tranche at 20 000 bbl/day and the last tranche at 100 000 bbl/day. The profit splits are negotiable at each tranche, and the state may demand its share in cash or kind. According to the less frequently cited version of the model contract, the government is allowed to demand a larger share (or `Second Tier Amount´ or 'Windfall Profits') of the profits if the international oil price exceeds a certain amount. This threshold oil price, is $50 per barrel (FOB Mombasa, escalated by reference to changes in the US Consumer Price Index since November 2007) and the government is allowed to receive 26 percent of the contractor's share of profit oil for the relevant quarter multiplied by the value received in that quarter less the threshold price.

The cost recovery limit is negotiable under Kenya's model PSC. According to a research paper by Kerembu Antony Njeru some of the PSCs have been signed at a cost recovery limit of 75 percent. Capital expenditure is recoverable at a rate of 20 per cent per annum. Costs unrecovered in any fiscal year can be carried forward.

Speaking in an interview with Oil in Uganda in January 2013, Kenya’s Commissioner for Petroleum Energy, Martin Mwaisakenyi Heya, stated that the new regulatory terms drafted by the government would allow oil companies to recover sixty percent in ‘cost oil’ for crude produced both off shore and onshore. He also stated that the ‘profit oil’ would be split between the government of Kenya and the oil company starting at a fifty-fifty percentage for production for 0 to 30,000 barrels of crude oil per day onshore, but "eventually rising in favour of the government". With a peak production of more than 100,000 barrely per day, the government’s share would be 78 percent. He added that the terms would be fair taken that “the world average is 67 percent for the government” and that they would also hold for offshore production starting at the minimum of 40,000 barrels per day.

Income Tax

The income tax is set out in the Income Tax Act. Accordingly, the government charges an income tax from IOCs based on their profit oil share. As of November 2013, the income tax for non-resident companies amounts to 37.5 percent and for resident companies to 30 percent.

Surface fees

According to the model contract, surface and other fees are negotiable. . Surface fees are payable on an annual basis per square kilometre of the relevant block during exploration and production.

Training fund

The oil company is obliged to provide a an annual levy for a training programme to be established in consultation with the Minister of Energy.

Bonuses and royalties

The model PSC makes no provisions for bonuses or royalties.

Excemption from import duties

Import duties do not apply if a contractor or subcontractor brings goods or equipment into the country.

Land rights
According to article 17 (Part IV) of the model PSC, the government "may at the request of the contractor, make available to the contractor such land as the contractor may reasonably require for the conduct of petroleum operations." If the land is "Trust Land" (pieces of land that belong to the community and which include ancestral land, or land traditionally held by hunter gatherer communities ), the model contract states that the government has to set aside land for the contract in line with the Trust Land Act and Chapter IX of the Constitution. However, the contractor has to pay a "reasonable" reimbursement to the government for the setting apart, the use or acquisition of any land for petroleum operations. The model PSC stipulates that an agreed proportion of the contract area is to be surrendered after the exploration period.

Local content requirements
According to article 13 (Part III) of the model contract, IOCs and their sub-contractors have to employ Kenyan citizens in the petroleum operations "where possible" and train these citizens until expiry or termination of the individual contract. Moreover, according to the model PSC the contractors and sub-contractors should give preference to Kenyan materials and supplies for use in petroleum operations "as long as their prices, quantities and timeliness of delivery are comparable with the prices, quality, quantities and timeliness of delivery of non-Kenyan materials and supplies".

Domestic supply obligation
According to the model PSC, a contractor may be required to supply crude oil to the government for domestic consumption. The maximum amount that a contractor would have to supply is, according to Freshfields Bruckhaus Deringer, "the difference between the amount of the government’s share of crude oil from the contract area less the amount of the domestic supply required multiplied by a fraction, the numerator of which is average crude oil production from the contract area and the denominator of which is total crude oil production in Kenya." The price paid by the government would be a "weighted average price per unit price paid for arm’s-length sales from the contract area during a calendar quarter" or "an average price paid for arm’s-length sales for export for crude produced in Kenya and in major crude oil producing countries, adjusted for grade, gravity and quality and otherwise as necessary".

Confidentiality
According to clause 37.1 of the model contract "all the information which the contractor may supply to the Government under this contract shall be supplied at the expense of the contractor and the Government shall keep that information confidential". According to Sustainable Integrity, this is in conflict with provisions under the current consitution of 2010 which requires the ratification of concession agreements by parliament and thereby implies the publication of contracts. However, the contract can be also interpretated in a way as to not imply contract confidentiality. This is, firstly, because not all information provided in a contract necessarily belongs to the contractor. Secondly, even if the contract fell under the category of information supplied by the contractor, clause 37.2 of the model contract, allows the Minister to use contract information "for the purpose of preparing and publishing reports and returns required by law".

=Proposed changes to the model PSC=

According to draft regulations that were handed over to the government in Summer 2013 by two consultants (US-based Hunton & Williams and British firm Challenge Energy) hired by the government and World Bank, a new model PSC would include:


 * a capital gains tax
 * tougher rules on transfer-pricing
 * a witholding tax of 10 percent

=Individual contracts=

Terms of the Production Sharing Contract for Block 12B

Terms of the Production Sharing Contract for Block 10BB

Terms of the Production Sharing Contract for Block 10A

Terms of the Production Sharing Contract for Block 10BA

Terms of the Production Sharing Contract for Block 9

Terms of the Production Sharing Contract for Block 12A

=External links=

National Oil Corporation of Kenya (NOCK): Frequently referenced and openly displayed Model Production Sharing Contract Version

NOCK: Model Production Sharing Contract Version Draft of 2008

=References=