* Medco E&P Indonesia IPA16-25-BC PROCEEDINGS, INDONESIAN PETROLEUM ASSOCIATION Fortieth Annual Convention & Exhibition, May 2016 PSC SLIDING SCALE AS A FISCAL MODEL FOR MARGINAL FIELDS IN INDONESIA Trian Hendro Asmoro* ABSTRACT The Production sharing contract (PSC) system has been applied in the oil and gas upstream business in Indonesia since 1966. The contract between the oil and gas companies as contractors and the government as the owner of the country’s oil and gas fields relies on a risk sharing principle. Nevertheless, the companies are actually exposed to further uncertainties, particularly related to risks in exploration activities. Furthermore, economic analysis needs to be performed once hydrocarbons have been discovered. At this stage, oil and gas companies are faced with investment decisions that have to allow for both the upside and downside of the related risks. In fact, it is now more challenging to find economic levels of hydrocarbon reserves in place. More flexible fiscal terms are therefore required to balance the risk between investors and the government. This paper demonstrates a model of dynamic fiscal terms that incorporates a risk-balancing principle. The PSC is used as a basic model combined with a sliding scale that is derived from a r-factor (ratio- factor) of company revenue and investment costs. As a result, it concludes that the PSC sliding scale model could be implemented in a way that balances the risks and rewards between government and investors and leads to the development of marginal fields in addition to attracting more oil and gas investment in Indonesia. Keywords: Fiscal System, Production Sharing Contract (PSC), Sliding Scale, R-Factor, Marginal Fields. INTRODUCTION Production Sharing Contract The Production sharing contract (PSC) system has been applied in the oil and gas upstream business in Indonesia for the last sixty years. The contract between the oil and gas companies as contractors and the government as the owner of oil and gas fields relies on a risk sharing principle. There are two main principles of a PSC; firstly, the state has the resource rights and has a share in production. This implies that the government legally conducts a monopoly practice on the exploration and production of oil and gas, while oil companies act as providers or contractors. Secondly, the government still has the bulk of net production sharing (profit from oil), although the government relies on the technical capabilities and financial resources from oil companies. In addition, all costs borne by the contractor will be recovered using a cost recovery system. Cost recovery enables contractor to receive a refund for the costs including depreciation that do not exceed a certain percentage of annual production, called the cost recovery ceiling. It may differ between countries and even within a country depending on the agreement in the contract. This proportion is known as cost oil. Deficiencies that have not been obtained in a current year will be carried forward for recovery in the following year. Subsequently, the same principle of cost oil will be rated using the actual market price of crude oil, and compared again with the recoverable costs. If there is no discovery made in an exploration project, it will be to the company’s own costs and cannot be recovered. A mechanism to calculate profit oil in Indonesia’s PSC is shown in Figure 1. Sliding Scale with R-Factor Sliding scale is a mechanism with a more flexible share depending on one key parameter, which is the function of field size. There are some terms which can be used to trigger the sliding scales automatically such as production rates, water depth, cumulative production, oil prices, remote location, and rate of return (Johnston 2003). Nevertheless, Kemp (2012) emphasized that since field profitability is mainly directly related to economics, e.g. field costs and oil (gas) prices, then a flexible mechanism should relate to economic variables rather than physical ones such as reservoir size. The