A rational and egalitarian approach to our local content policy

Overview

With the fast approaching date for ‘first oil”, our local content policy, still to be announced, is urgently required. The sense of urgency arises not only because of the limited timeframe, but because of the national imperative of maximizing the contribution of the oil and gas (O&G) sector to our economy and the well-being of our country. How the nation spends its income from the sector is, of course, also of much importance, and that discussion, will be a continuing one for our people and Parliament in the years ahead. However, the immediate priority is putting in place a Local Content policy that seeks to garner the most from the sector.

To highlight the importance of our local content policy, we can look at the metric of the “national income” from the O&G sector. Many commentators, making assumptions on the future price of oil, have estimated the direct “government take” to be in the region of 10% of the gross revenue generated by the sector. The challenge faced by the country is therefore how to obtain a share of the remaining 90% , which is where local content policy is relevant. The “90%” will be going primarily to the main contractor (Exxon-Mobil and partners), the sub-contractors who will supply the major services to the contractor, and many minor sub-contractors providing necessary services such as housing, ground transportation, brokerage, food, etc. The Production Sharing Agreement with the main contractor having been signed, means that our local content policy will effectively determine the further benefits accruing to the nation.

Local Content Policy Target

Areas of Interest

In general, to increase the contribution of the O&G sector to an economy, local content policies normally encourage companies in the sector to:

(a) Employ as many local personnel in their operation as feasible.

(b) Purchase as far as possible their material input requirements from local suppliers.

(c)  Establish joint ventures with local companies.

A common approach, used by many countries, is to legislate levels of “local” participation in these three areas. Another approach commonly used is to encourage, through moral persuasion, companies to aim at particular levels of local content. Both approaches have their drawbacks as evidenced by the mixed results in their application in different countries.

On the one hand, legislating levels of local content can result in significant decline in company efficiency by forcing companies in the sector to utilize under-trained employees or over-priced inputs. This could result in reduced investment in the sector and a loss in contribution to the economy. On the other hand, leaving it up to the goodwill of the companies in the sector, will often result in minimal local content levels.

Hence, whether our LCP “legislates” or “encourages” in each of the three main areas, requires  careful analysis to estimate, firstly, the future resource requirements of companies in the sector, secondly, the ability of the national economy to supply the resources required in these three areas, and, thirdly the likely impact on the efficiency and profitability of companies in the sector of various possible levels of mandated local content levels.

Factoring in the realities of the O&G Sector

While these studies are necessary and hopefully ongoing, certain realities of the O&G sector are well known  and will go a far way in guiding an outline of our local content policy. These realities are known to be:

(1)  Relatively low employment generation,

(2)  Complex technological requirements, and,

(3)  High capital investment.

These “realities” suggest firstly that even “high” local content policy legislative directives in the area of employment would not be expected to generate a dramatically improved contribution of the O&G sector to the economy. Secondly, the main material supply requirements of the sector being of a complex technological nature means that the local economy would not be able to manufacture and supply  them directly.

This leaves the area of “investment” as the critical local content policy tool, and would require legislation mandating that all sub-contractors in the sector, with expected sales above a certain level, must form a local subsidiary and, must offer a prescribed amount of the shares to local investors. 

Implementing the Investment Option

The “investment” option conceives of “local” funds invested in the sector. However, the objective should be to so source these local funds that the returns on the investments accrue as directly as possible to all Guyanese, otherwise the benefits will be concentrated in a few hands. This requires that the Government supplies the bulk of these local funds. However, the investment vehicle devised to manage the investments should be structured in such a way as to maintain rational investment decision-making devoid of political or special interest interference. The investment vehicle suggested is described shortly.

Advantages of the Investment Option

There are numerous advantages and spin-off benefits of the investment option including:

(1  Minimal effect on the efficiency of the companies in the sector.

(2) Creating an opportunity for every working Guyanese to further share directly in the profits of the sector, through the investment of their pension funds in companies in the sector.

(3)  An Opportunity for the government to leverage its huge collateral possibilities opened up by the O&G discoveries.  

(4) The likely continuing attractiveness of the O&G investment opportunities to international companies due to the size of the discoveries, even if their projected earnings are reduced by having to form joint ventures rather than having total ownership of their Guyana operation.

(5)The additional security of their investment since future governments would not likely view the international companies involvement in the country as rapacious.

(6) A part of the business risk associated with the international company’s investment would be undertaken by local investors.

Considerations in Implementing the Investment Option

Some considerations that need to be addressed in implementing the investment option include:

(1)  Defining “local” investment: Taking into account our treaty obligations under the CSME, as well as the moral obligation on our country to our CARICOM neighbours who extended a helping hand in our time of grave need over the past 40 and more years, we could in turn, with our windfall, extend a fraternal hand to them. We could consider setting up a special category of “local” reserved for CARICOM investors.

(2) Ensuring that material “transfer prices” of the Guyana subsidiaries of international companies be controlled in the range of international prices.

(3)  Disallowing “management fees” or keeping them to a small percentage of revenues.

(4) Encouraging companies in the O&G sector to list their shares on the local stock exchange.

(5) Mandating that the initial public offering of shares of the subsidiaries of the companies in the sector be vetted and approved by a public/private institution.

“Investment” Option Infrastructure Requirements

In implementing the investment option, a National Investment Company (NIC) is required, whose purpose would include:

(1) To take up a minimum of 75% of the local content shares nationally mandated for the local subsidiaries of international companies providing sub-contractor services in the sector.

(2) To have the power to ensure that transfer prices and management fees of companies whose shares are held by the NIC are within the established guidelines.

(3) To operate under the direction of a Board of Directors appointed by a Parliamentary Committee comprising equal membership of government and opposition parliamentarians, with a method devised to quickly break any gridlock in the appointment process. The Parliamentary Committee would exercise general oversight of the National Investment Company.

(4)  The NIC would have an investment decision structure involving separate internal committees to ensure transparency and drastically reduce opportunities for corruption.

(5)  The NIC would have an initial portfolio objective of G$400 Billion approximately structured as follows:

(a)  Government/State funds :        G$250 Billion.

(b)  Guyana Pension Funds:           G$ 60 Billion

(c)  CARICOM Pension Funds:     G$ 60  Billion

(d) Other Guyana and CARICOM Investors: G$30 Billion

  These amounts are likely to be over-subscribed since the return on investment in the shares of the NIC are expected to be high, and the associated risk low due to the established track record of the sub-contractors in the sector, as well as, the diversified portfolio of the NIC.

Boosting O&G Linkages with Other Sectors

I conclude these comments on Local Content Policy with a suggestion to directly utilize some O&G revenues to boost development in other sectors of the economy, especially agriculture. The Caribbean Agri-Business Association (CABA), has analyzed and determined that Research and Development (R&D) must be a priority emphasis for agri-business development in CARICOM. Serious consideration should be given, therefore to allocating at least 10% of the annual earnings of the Government/State shares held in the proposed NIC, to R&D in agriculture. CABA has also made recommendations on efficiently utilizing R&D funds to effectively boost profitability in both traditional agri-business, such as sugar, as well as “non-traditional” crops.

Taken together, our local content policies, and the opportunities to boost growth in the other sectors of the economy, provide our country with the opportunity to dramatically enhance national development.

 Fitzroy Fletcher, CABA Guyana Director.

 

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