2 years ago

Opportunity Issue 98

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Opportunity magazine is a niche business-to-business publication that explores various investment opportunities within Southern Africa’s economic sectors and looks to provide its readers with first-hand knowledge about South African business. Opportunity also looks to present South African business to international markets that may have interests in investing in South Africa. The publication is endorsed by the South African Chamber of Commerce and Industry (SACCI).

ENERGY South Africa's

ENERGY South Africa's Petroleum Bill Will it retain and attract investors in the sector? By Callie-Jo Bouman and Nonkululeko Zondo, Bowmans The latest draft of the Upstream Petroleum Resources Development Bill has come under scrutiny since its publication in June 2021. The bill comes at a time when South Africa's upstream oil and gas industry shows promise, as evidenced by the Brulpadda and Luiperd prospects discovered in 2019 and 2020, respectively. Simultaneously, the role of fossil fuels in the future of energy is under question in light of the global aspiration to reach net-zero carbon emissions by 2050. Notwithstanding the mounting pressure to reduce reliance on fossil fuels, the upstream oil and gas sector still plays a vital role in South Africa's energy policy and goals to achieve an “energy mix” that is not reliant on coal. The objectives of the bill include: • expanding opportunities for meaningful black participation • promoting local employment and skills development and • creating an enabling environment for the acceleration of exploration and production of the nation's petroleum resources. Some of the bill's key features include mandated state participation of 20%, 10% participation by black persons, and the empowerment of the Petroleum Agency of South Africa to administer the development of the upstream petroleum industry. Existing rightsholders will perceive the bill differently from those new entrants to the industry who will be governed entirely by the bill once it comes into operation. Existing rightsholders will be guided by the detailed transitional schedule, which will guide current asset holders’ compliance and ensure the security of tenure in respect of existing rights. Credit: Anton Swanepoel The impact of state participation Under the Upstream Petroleum Resources Development Bill (UPRDB), the state has 20% right to a carried interest in petroleum rights, including both the exploration and production phase. The state's participation includes a cost-recovery mechanism, which will allow the exploration company to recover 50% and 100% of the state's proportionate share of exploration and production costs. This cost recovery mechanism is indicative of the state's willingness to accept some of the risks associated with the exploration efforts that involve high sunk costs, which are often upwards of 0-million, and often no guaranteed return. The challenge, however, is that these costs must be recovered from the state's share of production 30 |

ENERGY or revenue generated from the project. Where the project does not move to the production phase and generate revenue, there will be no cost recovery. Even where the project generates revenue, it is debatable whether the entire portion of the state's returns will be capable of being allocated to cost recovery, which will extend the repayment period. National Treasury has not yet commented on the bill and we expect that the exact cost-recovery mechanisms will be detailed in subsequent regulations. Still, it will be interesting to see how these cost-recovery mechanisms will interact with the capital uplift and other tax deduction provisions in the Income Tax Act's Tenth Schedule for oil and gas. The interplay between the Income Tax Act and the cost-recovery mechanisms presents a further opportunity to introduce a more attractive fiscal package to potential investors. A further change proposed by the UPRDB includes giving the state an active role through joint operating agreements (JOAs) that must be entered into with the state. The state is entitled to voting rights corresponding to their 20% participation. Depending on how the voting processes of the JOA are structured, this may encumber the exploration company's interests. While creating more transparency and reducing the asymmetry of geological and commercial information available to the state, this active participation may be perceived as being more cumbersome to the companies' commercial decisionmaking processes. For current rightsholders whose rights do not provide for state participation, these state participation provisions will only kick in when the company applies for approval to progress to the production phase in terms of the new bill. BEE participation In terms of the UPRDB, every petroleum right (which includes the exploration and production phase) must have a minimum of 10% undivided participating interest by black persons. The BEE participation is on full commercial terms, and BEE partners will be expected to fully fund their involvement at both the exploration and production phase. Whilst this is welcome news for investors, there is a limited pool of BEE companies and partners that would be able to field the costs associated with exploration and production. As mentioned, exploration activities are often estimated to be upwards of 0-million, and a BEE company participating on full commercial terms will be expected to fund 10% of those costs (approximately -million). There may be instances where investor companies will have to provide nominal funding to structure their ventures to comply with the BEE provisions. In recognition of some of the funding challenges, the bill permits the dilution of the BEE interest to no less than 5% to raise capital. This dilution will not trigger any requirements to “top up” the BEE participation to 10% leading us to conclude that the “once empowered, always empowered” principle will likely apply to BEE participation. The Upstream Petroleum Resources Development Bill is a welcome intervention in the sector and moves towards creating certainty and clarity in the upstream regulatory environment. The bill also introduces greatly expanded and tightened regulatory processes for the industry. Still, it remains to be seen if investment communities will find this attractive and whether it achieves its objective to create an enabling environment that also meaningfully expands opportunities for black participation in the sector. ABOUT BOWMANS Bowmans helps clients overcome legal complexity and unlock opportunity in Africa. Our track record of providing specialist legal services in the fields of corporate law, banking and finance law and dispute resolution, spans over a century. With eight offices in six African countries and over 400 specialist lawyers, we draw on our unique knowledge of the business and socio-political environment to advise clients on a wide range of legal issues. Our clients include corporates, multinationals and state-owned enterprises across a range of industry sectors as well as financial institutions and governments. Nonkululeko Zondo is an associate in the Corporate M&A practice at Bowmans, and is completing a PhD on oil and gas law at UCT. Callie-Jo Bouman is a candidate attorney in the Corporate M&A practice. Credit: PASA | 31

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