Administration of marginal fields under the PIA: Assessing the legal and commercial impact on farm-out arrangements

Introduction

One of the key changes introduced to the Nigerian petroleum industry (the “Industry”) by the Petroleum Industry Act, 2021 (the “PIA” or “Act”) is the complete overhaul of the administration of marginal fields. Importantly, the PIA has categorized existing marginal fields under 2 transitional structures based on whether the marginal field is a producing field or a non-producing field. The new framework introduced by the PIA raises pertinent issues that require clarity. In this edition of our Newsletter, we discuss the new transitional framework and its impact on existing farm-out arrangements.

Transitional Framework for Marginal Fields under the PIA

The PIA seeks to create a more direct relationship between the marginal field holder (“Farmee”) and the Nigerian government (“Government”) by the mandatory conversion of the marginal field1 to either a petroleum prospecting license (“PPL”) or a petroleum mining lease (“PML”), depending on whether the marginal field is producing or not. The PIA also provides that no new marginal fields will be declared under the Act2 and that existing marginal fields will be transitioned under 2 main categories namely: (a) producing marginal fields; and (b) non-producing marginal fields – which have been further classified into non-producing marginal fields declared before 1 January 2021 which have been transferred to the Government, and non–producing marginal fields which have not been transferred to the Government by the holder of an oil mining lease (“OML”) within 3 years of the effective date of the PIA3 (“Effective Date”). 

A. Producing Marginal Fields

Under this category, a holder of a producing marginal field is permitted to continue operations based on the original royalty rates and terms of the existing farm-out agreements (“FOA”) entered with the farmor of the marginal field (“Farmor”) but is mandatorily required to convert to a PML4 (“Conversion”) within 18 months of the Effective Date (“Conversion Period”) to benefit from the new fiscal regime5.

A Farmee may, therefore, elect to convert to a PML at any time within the Conversion Period. However, in the absence of such election to convert during the Conversion Period, the marginal field will automatically be converted to a PML upon the expiration of the Conversion Period. Interestingly, the early Conversion to a PML is likely to be driven by the more favourable economics introduced under the new fiscal regime, as the reduced headline tax rates from 85%6 to around 47.5%7

Essentially, a producing marginal field that is converted to a PML appears to have been given special status as it stands to benefit from a lower hydrocarbon tax rate (i.e.,15%) compared to the 30% applicable to OMLs converted to PMLs. Nevertheless, while the tax changes seem clear, the applicable royalty rates require further scrutiny as the PIA allows producing marginal fields to retain the existing royalty rates.8

Furthermore, it is pertinent to note that the PIA has not provided a clear direction in relation to the cut-off period for which the terms of the FOA will cease to apply upon Conversion to a PML. It, therefore, seems that the operations of marginal fields under this category (i.e., marginal fields converted to PMLs) may be governed by a dual regime under the existing terms of the FOA and the provisions of the PML Model Lease9 embodying the relevant terms and conditions pursuant to the PIA10. Should this be the case, it will give rise to several regulatory and commercial issues and would beg the question of how any conflict between the terms of the FOA and the PIA will be resolved and, where applicable, to what extent the PIA provisions will supersede the commercial arrangements of the parties which had been agreed prior to the enactment of the Act.

B. Non-Producing Marginal Fields

i. Non-Producing Marginal Fields declared before 1 January 2021

The PIA provides that non-producing marginal fields declared as such prior to 1 January 2021 shall be converted to a PPL and shall benefit from the fiscal terms for new acreage under the Act. Effectively, the recent 2020 Marginal Filed Bid Round (“MFBR”) awardees will fall under this category and the Nigerian Upstream Petroleum Regulatory Commission (the “Commission“) has the authority to issue a PPL to such awardees (“PPL Awardees”)11.

Amongst other constitutional documentation requirements, the Guidelines for Farm Out and Operations of Marginal Fields – 2020 (“Guidelines”) and the award letter12, require an awardee to execute a FOA with the Farmor. While this has been the usual practice, the validity or relevance of the FOA to marginal fields under this category (i.e., non-producing marginal fields declared before 1 January 2021) has generated ongoing conversations among stakeholders. At this stage, it is important to examine the implication of the provisions of the PIA in relation to FOAs executed pursuant to the Guidelines and the award letter, particularly in relation to obligations that have been captured under the PIA.

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