The Agalas Oil Company has entered into a Production Sharing Contract with the government of East Enders for the offshore Shallow Waters concession. The contract is for a 25-year period and the Shallow Waters concession is in a Shallow sea location. The concession must be relinquished if no declaration of commerciality has been made by the end of the fifth year after the start of the contract period.

The contract specifies that Agalas Oil will be entitled to recover all expenditures on the Shallow Waters Concession in exploration, appraisal, development, and production activities by receiving a share of the production in any calendar year. If the block is uncommercial and Agalas Oil relinquishes the license, Agalas Oil will not be entitled to make any claims on the government of East Enders.

The value of oil won and saved on the concession shall be calculated by reference to an independent marker crude price, which shall be based on the daily price, averaged in order to calculate the official monthly price.

The Government will take a royalty on gross sales revenues from the field in accordance with the following agreed rates.

Crude Oil Production (BOPD) Royalty Rate

Up to 50,000 7.5% of Crude Oil Production

50,001 to 75,000 10% of Crude Oil Production

75,001 to 100,000 12.5% of Crude Oil Production

100,001 to 125,000 15% of Crude Oil Production

Over 125,000 20% of Crude Oil Production

NOTE: BOPD is barrels of oil per day

The revenues remaining after deduction of royalty and any applicable production bonuses is defined as 'Distributable Oil'.

Cost recovery shall be restricted to a maximum of 45% of the Distributable Oil in any year and the oil so calculated shall be referred to as Cost Oil. Any shortfall in cost recovery, i.e. an unrecovered balance, will be carried forward to the next calendar year.

The balance of revenue remaining as Distributable Oil after the deduction of cost oil is defined as Profit Oil and will be apportioned based on the agreed percentages in the table below:

Crude Oil Production (BOPD) ContractorGovernment

Up to 75,000 40% 60%

Exceeds 75,000 but up to 100,000 35%65%

Exceeds 100,000 but up to 150,000 30% 70%

Over 150,000 25% 75%

In addition, where production in a particular year exceeds fifty million barrels, the contractor shall be entitled to pay to the government a production bonus equivalent to 20% of the excess. As the profit oil take by the government is so high, Agalas Oil will have no liability for the payment of any taxes on the profits they make on the Shallow Waters Concession.

Should Agalas Oil not recover all of the expenditures made on the Shallow Waters Concession by the end of the contract period, it will not be entitled to make any claim on the government of East Enders for the unrecovered amount.

Agalas Oil undertakes an intensive work programme and discovers a significant oil field, which results in a development. Production from the field starts on 1ST January in year 9.

Data relating to the discovery and development of the field is as follows:

Exploration expenditures $ 67.3 million

Appraisal expenditures$ 96.1 million

Development $ 919.5 million

The forecast of production, operating costs, and oil price for the field is as follows:

Year 9 Year 10 Year 11 Year 12 Year 13

Opex $(000) 178,530 193,270 207,240 265,650 217,910

Annual Production

Thousands Barrels (000)43,120 51,870 54,230 61,160 62,150

Oil Price$ 44.00 46.00 52.00 48.00 45.00

The contractor agreed to employ enhanced recovery mechanisms to increase production in the field. In line with this, the government has approved for the contractor to spend $655 million in year 11. This would be allowed for cost recovery purposes. Any amount spent will be classified as capital expenditure and will be subject to the normal cost recovery procedures.

Required:

a) Calculate the share of the revenues arising from the production from the Shallow Water Concession for both the government and the Agalas Oil Company and express these as a percentage of the total field revenues. [20 Marks]

b) Calculate the split of profit between the government and the contractor at the end of years 9 to 13. [5 Marks]