local content policies in the oil and gas sector

W O R L D B A N K P U B L I C A T I O N

Local Content in the Oil and Gas

Sector: Case Studies

Silvana Tordo and Yahya Anouti

Copyright © 2013

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iii

Contents

Acknowledgments ............................................................................................................................................. xii

Abbreviations and Acronyms ........................................................................................................................... 13

1. Angola ....................................................................................................................................................... 14

1.1 Structural Context ............................................................................................................................... 15

1.1.1 Economy ....................................................................................................................................... 15

1.1.2 Taxation ........................................................................................................................................ 16

1.1.3 Population and Labor Force ...................................................................................................... 16

1.1.4 Education ..................................................................................................................................... 17

1.1.5 Business Environment ................................................................................................................ 18

1.2 The Petroleum Sector .......................................................................................................................... 20

1.2.1 The Petroleum Sector in the Economy ..................................................................................... 20

1.2.2 Petroleum Geography ................................................................................................................ 22

1.2.3 Reserves, Production, and Consumption ................................................................................ 22

1.2.4 Sector Institutional Framework ................................................................................................. 23

1.2.5 Market Structure and Local Capabilities ................................................................................. 24

1.2.6 Management of Petroleum Wealth ........................................................................................... 25

1.3 Local Content Policies ........................................................................................................................ 26

1.3.1 Policy Objectives ......................................................................................................................... 26

1.3.2 Policy Tools .................................................................................................................................. 27

Angolanization of the Workforce ......................................................................................................... 27

Domestic Sourcing of Goods and Services .......................................................................................... 29

Preferential Treatment ............................................................................................................................ 31

1.3.3 Legislative Channels ................................................................................................................... 31

1.3.4 Institutional Responsibilities ..................................................................................................... 32

1.3.5 Interlinks ...................................................................................................................................... 32

1.3.6 Monitoring and Measuring Tools ............................................................................................. 32

1.3.7 Policy Impact on Local Content Levels .................................................................................... 33

Angolanization ........................................................................................................................................ 33

Domestic Sourcing and Preferential Treatment .................................................................................. 35

2. Brazil ......................................................................................................................................................... 40


2.1.1 Economy ....................................................................................................................................... 42

2.1.2 Taxation ........................................................................................................................................ 43


2.1.4 Education ..................................................................................................................................... 46









iv



2.3.2 Policy Tools .................................................................................................................................. 55

Regulatory Requirements ...................................................................................................................... 55

Fiscal Incentives ...................................................................................................................................... 57

Program for the Mobilization of the Oil and Gas Industry (PROMINP) ........................................ 57

2.3.3 Legislative Channels ................................................................................................................... 60

2.3.4 Institutional Responsibility for Policy Design and Monitoring of Implementation .......... 60

2.3.5 Interlinks ...................................................................................................................................... 62



3. Indonesia .................................................................................................................................................... 69


3.1.1 Economy ....................................................................................................................................... 70

3.1.2 Taxation ........................................................................................................................................ 72


3.1.4 Education ..................................................................................................................................... 75











3.3.2 Policy Tools .................................................................................................................................. 84

Local Content in the Labor Force .......................................................................................................... 84

Domestic Procurement of Goods and Services ................................................................................... 85

3.3.3 Policy Channels ........................................................................................................................... 90

3.3.4 Institutional Responsibilities ..................................................................................................... 90

3.3.5 Interlinks ...................................................................................................................................... 91



4. Kazakhstan ............................................................................................................................................... 101

4.1 Structural Context ............................................................................................................................. 102

4.1.1 Economy ..................................................................................................................................... 102

4.1.2 Taxation ...................................................................................................................................... 103

4.1.3 Population and Labor Force .................................................................................................... 104

4.1.4 Education ................................................................................................................................... 105

4.1.5 Business Environment .............................................................................................................. 106

4.2 The Petroleum Sector ........................................................................................................................ 108

4.2.1 The Petroleum Sector in the Economy ................................................................................... 108

4.2.2 Petroleum Geography and Geology ....................................................................................... 109

4.2.3 Reserves, Production, and Consumption .............................................................................. 109

v

4.2.4 Sector Institutional Framework ............................................................................................... 111

4.2.5 Evolution of Local Capabilities and Market Structure ......................................................... 111

4.2.6 Management of Oil Wealth ...................................................................................................... 113

4.3 Local Content Policies ...................................................................................................................... 113

4.3.1 Policy Objectives ....................................................................................................................... 113

4.3.2 Policy Tools ................................................................................................................................ 115

Localization of Petroleum Workforce ................................................................................................ 115

Target Quotas for Foreign Staff Employed by Subsoil Users ...................................................... 115

Limitations on Granting of Work Permits ..................................................................................... 116

Minimum Budget Dedicated to Training of Local Workforce .................................................... 116

Domestic Sourcing of Goods, Works, and Services .......................................................................... 116

Goods, Works, and Services Procurement Rules .......................................................................... 116

Ministry of Oil and Gas KC Development Programs .................................................................. 117

KMG (National Oil Company) Local Content Development Efforts ......................................... 117

4.3.3 Legislative Channels ................................................................................................................. 119

4.3.4 Institutional Responsibility for Policy Design and Monitoring of Implementation ........ 119

4.3.5 Interlinks .................................................................................................................................... 120

4.3.6 Monitoring and Measuring Tools ........................................................................................... 120

Local Content in the Labor Force ........................................................................................................ 121

Local Content in the Procurement of Goods, Works, and Services ................................................ 121

4.3.7 Policy Impact on Local Content Levels .................................................................................. 122

5. Malaysia .................................................................................................................................................. 131


5.1.1 Economy ..................................................................................................................................... 132

5.1.2 Taxation ...................................................................................................................................... 133


5.1.4 Education ................................................................................................................................... 136




5.2.2 Petroleum Geography .............................................................................................................. 140



5.2.5 Market Structure and Local Capabilities ............................................................................... 142

5.2.6 Management of Petroleum Wealth ......................................................................................... 144



5.3.2 Policy Tools ................................................................................................................................ 145

Building Local Capabilities in the Petroleum Sector ........................................................................ 145

Domestic Sourcing of Goods and Services ........................................................................................ 147

Incentives for the Manufacturing Sector ............................................................................................ 147

Developing a Domestic OFSE Industry ............................................................................................. 148

5.3.3 Policy Channels ......................................................................................................................... 150

5.3.4 Institutional Responsibilities ................................................................................................... 150

5.3.5 Interlinks .................................................................................................................................... 150



vi

6. Trinidad and Tobago ................................................................................................................................ 156


6.1.1 Economy ..................................................................................................................................... 157

6.1.2 Taxation ...................................................................................................................................... 158


6.1.4 Education ................................................................................................................................... 160




6.2.2 Petroleum Geography .............................................................................................................. 163



6.2.5 Market Structure and Local Capabilities ............................................................................... 165

6.2.6 Management of Petroleum Wealth ......................................................................................... 166



6.3.2 Policy Tools ................................................................................................................................ 168

6.3.3 Legislative Channels ................................................................................................................. 170

6.3.4 Institutional Responsibilities ................................................................................................... 170

6.3.5 Interlinks .................................................................................................................................... 171



Tables

Table 1.1 Key Economic Indicators of PostCivil War Angola, 1985–2010 ________________________ 15

Table 1.2 Angola’s Labor Force Indicators Compared to Select Countries, 2010 ___________________ 17

Table 1.3 Angola’s Educational Indicators Compared to Select Countries, 2010 ___________________ 18

Table 1.4 Indicators for Doing Business in Angola, 2011_______________________________________ 19

Table 1.5 Snapshot of Angola’s Oil Sector Reserves and Production (2010) _______________________ 23

Table 1.6 Angola: Company Share and Operator (in Gray), by Producing Blocks (%) ______________ 25

Table 1.7 Domestic Sourcing of Goods and Services in Angola: Objectives, Rationale, and Instruments

__________________________________________________________________________________ 26

Table 1.8 Angolanization Targets Outlined by the Decree of 1982 ______________________________ 27

Table 1.9 Angola: Annual Contributions to the Training and Development Fund _________________ 28

Table 1.10 Key Angolanization Regulatory Requirements and Fines in Case of Noncompliance ____ 29

Table 1.11 Angola: List of Goods and Services by Mode of Preferential Treatment ________________ 30

Table 1.12 Angola: Tendering Rules as per Decree No. 48/06 ___________________________________ 30

Table 1.13 Summary of Local Content Policy Tools in Angola __________________________________ 31

Table 1.14 Labor Distribution and Angolanization Rate by Occupation along the Oil Value Chain, 2002

__________________________________________________________________________________ 34

Table 1.15 Angolanization Rate in Administrative versus Technical Occupations, 2002 ____________ 35

Table 1.16 Number of Graduates from High-Skilled Programs at the INP, 19832008 _____________ 35

Table 1.17 Angola: A Selection of Sonangol Joint Ventures in Upstream Oil and Gas Services, 1984–

2002 ______________________________________________________________________________ 36

Table 2.1 Key Economic Indicators of Brazil, 1980 –2010 _______________________________________ 42

Table 2.2 Snapshot of Taxes in Brazil (2010) _________________________________________________ 44

vii

Table 2.3 Brazil’s Labor Force Indicators Compared to Select Countries, 2010 ____________________ 45

Table 2.4 Brazil’s Educational Indicators Compared to Select Countries, 2010 ____________________ 46

Table 2.5 Indicators for Doing Business in Brazil in Comparison to OECD Average, 2012 __________ 47

Table 2.6 Snapshot of the Brazilian Petroleum Sector in 2010 __________________________________ 50

Table 2.7 Brazil: Local Content in the Bidding Process, 1999–2007 ______________________________ 56

Table 2.8 Brazil: Schedule of Fines in Case of Noncompliance with Local Content Requirements ____ 56

Table 2.9 Brazil: An Activity Map of PROMINP’s Local Content Stakeholders ___________________ 62

Table 2.10 Brazil: PROMINP’s Methodology for Calculating Local Content ______________________ 63

Table 2.11 Brazil: PROMINP Targets Versus Achieved Participation of Domestic Industry in

Investments, 2003–10 _______________________________________________________________ 64

Table 2.12 Brazil: Cumulative Total and Local Investment (in $ million) and Percentage Local Content,

2011 ______________________________________________________________________________ 64

Table 3.1 Key Economic Indicators for Indonesia, 1980–2010 ___________________________________ 71

Table 3.2 Indonesia’s Labor Force Indicators Compared to Select Countries, 2010 _________________ 74

Table 3.3 Indonesia’s Educational Indicators Compared to Select Countries (2010) ________________ 75

Table 3.4 Indicators for Doing Business in Indonesia Compared to OECD Average _______________ 76

Table 3.5 Snapshot of the Oil and Gas Industry in Indonesia 2011 ______________________________ 81

Table 3.6 Indonesia: Definition of Goods and Respective Procurement Strategy __________________ 86

Table 3.7 Indonesia: Procurement Requirements for Services __________________________________ 87

Table 3.8 Indonesia: Summary of Price Preferences Based on Local Content (LC) Level and Company

Status ____________________________________________________________________________ 88

Table 3.9 Indonesia: Example of Calculating a Bid Evaluation Price for the Supply of a Good ______ 88

Table 3.10 Indonesia: Activities, Criteria, and Weights for the Local Content Level Achieved _______ 89

Table 3.11 Indonesia: Calculating the Penalty Given for Unachieved Local Content, and Rank Changes

__________________________________________________________________________________ 89

Table 3.12 Indonesia: Local Content Levels for Work Tools ____________________________________ 92

Table 3.13 Indonesia: Local Content of Value of Service of Equipment Use in Implementation of

Physical Work and Other Services ____________________________________________________ 93

Table 3.14 Indonesia: APDN Distribution of Goods by Category _______________________________ 94

Table 3.15 Indonesia: Snapshot of Domestic Suppliers of Compressors and Vacuum Pumps _______ 95

Table 4.1 Key Economic Indicators of Kazakhstan, 1990–2010 _________________________________ 102

Table 4.2 Kazakhstan’s Labor Force Indicators Compared to Select Countries, 2010 ______________ 104

Table 4.3 Kazakhstan’s Educational Indicators Compared to Select Countries, 2010 ______________ 106

Table 4.4 Indicators for Doing Business in Kazakhstan in Comparison to OECD Average, 2012 ____ 107

Table 4.5 Tengiz and Kashagan: A Comparison _____________________________________________ 109

Table 4.6 Snapshot of the Oil and Gas Sector in Kazakhstan (2011) ____________________________ 110

Table 4.7 Kazakhstan: Quotas for Foreign Staff Employed by Subsoil Users _____________________ 115

Table 4.8 Kazakhstan: Local Content Targets and Attained Levels in 2011 ______________________ 117

Table 4.9 Kazakhstan: Breakdown of the Planned KMG Agreements by Value (million KZT) ______ 118

Table 4.10 KMG’s Kazakh Content in Purchased Goods, Works, and Services: 2010 and 2011______ 119

Table 4.11 Kazakh Content in Subsoil Personnel ____________________________________________ 122

Table 4.12 Kazakh Content in Goods, Works, and Services: 2010–11 ___________________________ 123

Table 4.13 Kazakh Content by Product Group and Local Suppliers, 2011 _______________________ 126

Table 5.1 Key Economic Indicators for Malaysia, 1980–2010 __________________________________ 133

Table 5.2 Malaysia Labor Force Indicators Compared to Select Countries, 2010 __________________ 135

Table 5.3 Malaysia’s Educational Indicators ________________________________________________ 137

Table 5.4 Indicators for Doing Business in Malaysia _________________________________________ 138

viii

Table 5.5 Snapshot of the Oil and Gas Industry in Malaysia (2010) _____________________________ 141

Table 5.6 Companies and Universities Engaged in the Malaysian Government’s Internship Program

_________________________________________________________________________________ 147

Table 5.7 Malaysia: Industry Strategy, Expected Contribution to GNI, and Jobs to be Created _____ 148

Table 5.8 Malaysia: OFSE EPPs, KPIs, and Targets for 2011 ___________________________________ 152

Table 5.9 Malaysia: OFSE-related EPP Progress over 2011, and Target for 2012 __________________ 152

Table 6.1 Key Economic Indicators for T&T, 1980–2010 ______________________________________ 158

Table 6.2 T&T Labor Force Indicators Compared to Select Countries, 2010 ______________________ 160

Table 6.3 T&T Educational Indicators, 2010 ________________________________________________ 160

Table 6.4 Indicators for Doing Business in T&T in Comparison to OECD Average, 2012 __________ 162

Table 6.5 Snapshot of the Oil and Gas Industry in T&T 2011 __________________________________ 164

Table 6.6 T&T: Capacities and Shareholders of LNG Plants (1999, 2002, 2003, 2006) ______________ 165

Table 6.7 T&T: Energy-Intensive Industrial Base by Company ________________________________ 166

Table 6.8 T&T: Vision 2020, Goal 1 for the Energy Sector _____________________________________ 167

Table 6.9 Total and Local Content Expenditure on Platform Fabrication in T&T _________________ 172

Figures

Figure 1.1 Angola’s Exports by Commodity, 1980–2010 ($ billion) ............................................................ 15

Figure 1.2 Comparison of Angola’s Tax Revenues and Corporate Tax Rate to Other Countries, 2009

and 2010 ..................................................................................................................................................... 16

Figure 1.3 Evolution of the Angolan Population and Labor Force over Time (in millions of people) ... 17

Figure 1.4 Governanced Indicators in Angola Compared to the OECD Average ..................................... 20

Figure 1.5 Contribution of Angola’s Extractive Sector to Value-Added, 1970–2010 (in $ billion and as

share of GDP) ............................................................................................................................................ 20

Figure 1.6 Breakdown of Value-Added in Angola by Economic Activity, 2010 ($ billion) ...................... 21

Figure 1.7 Angola: Percentage of Oil’s Contribution to GDP, Oil Export Revenues ($), and Total

Government Revenues, 2002–10 ............................................................................................................. 21

Figure 1.8 Employment in the Angolan Oil and Oil Services Sector, 2004–09 ........................................... 22

Figure 1.9 Angola: Actual and Estimated Oil Production According to Field Depth, 19902020 ........... 23

Figure 1.10 Achieved Angolanization Rate versus Target, 1990 .................................................................. 33

Figure 1.11 Angola: Production ........................................................................................................................ 34

Figure 1.12 Angola: Framework and Initiatives for Approaching Domestic Sourcing Challenges ......... 36

Figure 2.1 Key Challenges for Brazilian Companies, Percentage of Respondents (total = 77) ................. 42

Figure 2.2 Brazil’s Exports by Commodity, 1980–2010 ($ billion) ................................................................ 43

Figure 2.3 Comparison of Brazil’s Tax Revenues and Corporate Tax Rate to Other Countries, 2009 and

2010 (%) ...................................................................................................................................................... 43

Figure 2.4 Evolution of the Brazilian Population and Labor Force over Time, 1950–2050 (in millions of

people) ........................................................................................................................................................ 44

Figure 2.5 Breakdown of Labor Force by Category, 2000 and 2007 (in millions of people)...................... 45

Figure 2.6 Governance Indicators in Brazil Compared to the OECD Average .......................................... 48

ix

Figure 2.7 Brazil: Breakdown of Value-added by Economic Activity, 2010 ($ billion) .............................. 48

Figure 2.8 Brazil: Contribution of Mining, Manufacturing, and Utilities to Value-added, 1970–2010 .... 49

Figure 2.9 Brazil: Geographical Distribution of Main Oil and Gas Reserves – 2010 (Number in

Parentheses Indicates Percentage Onshore) .......................................................................................... 49

Figure 2.10 Brazil: Evolution of Production by Water Depth (in billion boe) ............................................. 50

Figure 2.11 Brazil: Forecasted Domestic Oil Demand and Supply, mmbpd .............................................. 51

Figure 2.12 Brazil: Evolution of Petrobas’ R&D Spending (to the left) in Comparison to IOCs and

NOCs (to the right), 1998–2008 ............................................................................................................... 53

Figure 2.13 Brazil: Forecasted Investment, 2010–20 ($ billion) ..................................................................... 54

Figure 2.14 Brazil: Number of Jobs to be Created in the Oil And Gas Value Chain, in Thousands ........ 55

Figure 2.15 Brazil: Progredir Program Workflow .......................................................................................... 59

Figure 2.16 Brazil: Gaps and Challenges in Domestic Supply (Red Cells Indicate Areas of

Challenges/Gaps) ...................................................................................................................................... 59

Figure 2.17 Brazil: PROMINP Strategic Subjects, Areas, and Projects ......................................................... 60

Figure 2.18 Brazil: PROMINP Governance Structure .................................................................................... 61

Figure 2.19 Brazil: Average Local Content Commitment Resulting from Bidding Rounds, 1999–2008 . 64

Figure 2.20 Brazil: Local Content in the Procurement of Goods (left) and Services (right) Sourced by

Petrobras, 2005–08 .................................................................................................................................... 65

Figure 3.1 Indonesia’s Exports by Commodity, 1980–2010 ($ billion) ......................................................... 72

Figure 3.2 Comparison of Indonesia’s Tax Revenues as Percentage of GDP and Corporate Tax Rate to

Other Countries, 2009 and 2010 .............................................................................................................. 72

Figure 3.3 Evolution of the Malaysian Population and Labor Force over Time, 1950–2050 (in millions of

people) ........................................................................................................................................................ 73

Figure 3.4 Breakdown of Indonesia’s Labor Force by Sector, 2000–08 ........................................................ 74

Figure 3.5 Governance Indicators in Indonesia Compared to OECD Average .......................................... 77

Figure 3.6 Indonesia Compared to Select Countries: Breakdown of Value-added by Economic Activity

in 2010 ($ billion) ....................................................................................................................................... 78

Figure 3.7 Indonesia: Contribution of Mining, Manufacturing and Utilities to Value-added, 1970–2010

..................................................................................................................................................................... 78

Figure 3.8 Oil and Gas Production and Consumption in Indonesia, 1990–2011 ........................................ 80

Figure 3.9 Indonesia: Evolution of Upstream Investments and Local Content Levels, 2006–11 .............. 93

Figure 3.10 Indonesia: Local Content Procurement of Goods and Services, 2006–11 ($ billion) .............. 94

Figure 3.11 Indonesia: Distribution of Companies by Local Content Value Achieved ............................. 95

Figure 3.12 Indonesia: Distribution of Local Content Value by Segment of Activities ............................. 96

Figure 3.13 Indonesia: Distribution of Companies by Category of Certificate of Business Ability ......... 96

Figure 3.14 Evolution of Indonesianization in Exploration (left) and Production (right) Activities (in

thousand workers) .................................................................................................................................... 97

x

Figure 3.15 Number of Indonesians Engaged in Capability Development Programs, 2008–11............... 97

Figure 4.1 Kazakhstan’s Exports by Commodity, 1995–2010 ($ billion) .................................................... 103

Figure 4.2 Comparison of Kazakhstan’s Corporate Tax Rate to Other Countries, 2009 and 2010 (%) .. 103

Figure 4.3 Kazakhstan: Population by Age Group from 1950 to 2050 ....................................................... 104

Figure 4.4 Kazakhstan: Breakdown of Labor Force by Sector, 2001–07 ..................................................... 105

Figure 4.5 Governance Indicators in Kazakhstan Compared to the OECD Average .............................. 106

Figure 4.6 Kazakhstan: Contribution of Mining, Manufacturing, and Utilities to Value-added, 1990–

2010 ........................................................................................................................................................... 108

Figure 4.7 Kazakhstan: Breakdown of Value-added by Economic Activity in 2010 ($ billion) .............. 108

Figure 4.8 Evolution of Oil and Gas Production and Consumption in Kazakhstan, 1991–2011 ............ 110

Figure 4.9 Kazakhstan: Reports Filed by Subsoil Companies, 2008–11 ..................................................... 123

Figure 4.10 Evolution of Kazakh Content in Monetary Presentation for the Purchase of Goods, Works,

and Services, 2009–11 (in KZT billion) ................................................................................................. 123

Figure 4.11 Kazakh Content in Goods Purchased for Offshore Operations, 2011 ................................... 124

Figure 4.12 Kazakh Content in Goods Purchased for Onshore Operations by Depth, 2011 .................. 124

Figure 4.13 Kazakh Content in Works and Services Purchased for Offshore Operations, 2011 ............ 125

Figure 4.14 Kazakh Content in Works and Services Purchased for Onshore Operations by Depth, 2011

................................................................................................................................................................... 125

Figure 5.1 Malaysia’s Exports by Commodity, 1980–2010 ($ billion) ........................................................ 133

Figure 5.2 Malaysia’s Tax Revenues and Corporate Tax Rate Compared to Select Countries, 2009 and

2010 ........................................................................................................................................................... 134

Figure 5.3 Evolution of the Malaysian Population and Labor Force over Time, 1950–2050 (in millions of

people) ...................................................................................................................................................... 135

Figure 5.4 Malaysia: Breakdown of Labor Force by Sector, 2000–08 (millions) ....................................... 136

Figure 5.5 Governance Indicators in Malaysia Compared to OECD Average ......................................... 138

Figure 5.6 Malaysia and Select Countries: Breakdown of GDP by Economic Activity in 2010 ($ billion)

................................................................................................................................................................... 139

Figure 5.7 Malaysia: Contribution of Mining, Manufacturing, and Utilities to GDP, 19702010 .......... 140

Figure 5.8 Evolution of Oil and Gas Production and Consumption in Malaysia, 19912011................. 141

Figure 5.9 Malaysia: Forecasted Contribution of the Energy Sector to the 2020 Gross National Income

(RM billion) .............................................................................................................................................. 145

Figure 5.10 Malaysia: Number of Scholars Sponsored by Petronas, 1975–2005 ....................................... 146

Figure 5.11 Malaysia: Skills Gap in the OFSE Industry ............................................................................... 149

Figure 6.1 T&T’s Exports by Commodity, 1980–2010 ($ billion) ................................................................ 158

Figure 6.2 T&T’s Tax Revenues and Corporate Tax Rate Compared to Other Countries, 2009 and 2010

................................................................................................................................................................... 159

Figure 6.3 Evolution of the T&T Population and Labor Force over Time)................................................ 159

xi

Figure 6.4 Governance Indicators in T&T Compared to the OECD Average ........................................... 161

Figure 6.5 T&T: Contribution of Mining, Manufacturing, and Utilities to Value-added, 1970–2010 .... 163

Figure 6.6 T&T and Select Countries: Breakdown of Value-added by Economic Activity in 2010 ($

billion) ...................................................................................................................................................... 163

Figure 6.7 T&T: Evolution of Oil and Gas Production, 1970–2010 (in million tons of oil equivalent) .. 164

Figure 6.8 T&T: Evolution of Petrotrin .......................................................................................................... 165

Figure 6.9 T&T: Evolution of Funds, September 2001–September 2010 ($ billion) .................................. 167

Figure 6.10 T&T: Approach to Maximizing Local Content and Participation .......................................... 169

Figure 6.11 T&T: Survey of Domestic Services Companies ........................................................................ 172

xii

Acknowledgments Local Content Policies in the Oil and Gas Sector is part of a wider research effort

aimed at gathering existing knowledge and data on local content policies, with a

view to develop guidelines for the design and monitoring of implementation of

local content policies. This paper contains detailed case studies on the local content

policies in selected countries and is intended as background document for the

paper on Local Content Policies in the Oil and Gas Sector, World Bank Studies,

2013.

The case studies were coordinated by Silvana Tordo (lead energy economist,

Sustainable Energy Department, World Bank). The main author was Yahya Anouti

(consultant).

The comments of peer reviewers Maria Vagliasindi (lead economist, Sustainable

Energy Department, World Bank), Graham Davis (professor, Division of

Economics and Business, Colorado School of Mines), Fredric Manuel Cegarra

Escolano (senior adviser, Sustainable Energy Department, World Bank) and Gary

McMahon (senior mining specialist, Sustainable Energy Department, World Bank)

are gratefully acknowledged. Helpful comments were also received from

Alexander Huurdeman, David Santley, and Kristina Svennson, all from the

Sustainable Energy Department, World Bank, and Havard Halland, from the

Poverty Reduction and Economic Management Department, World Bank. Special

thanks go to Dino Andrian (BP MIGAS) for his assistance with the preparation of

the Indonesia case study, and Fayre Makeig, who edited the paper.

13

Abbreviations and Acronyms ASEAN Association of Southeast Asian Nations

CAGR compound annual growth rate

CAs concession agreements

E&P exploration and production

EOR enhanced oil recovery

FDI foreign direct investment

GATS General Agreement on Trade in Services

GATT General Agreement on Tariffs and Trade

GDP gross domestic product

GWS goods, works, and services

HSE health, safety, and the environment

HRW Human Rights Watch

IMF International Monetary Fund

IOC international oil company

KPI key performance indicator

LCP local content policy

LNG liquefied natural gas

MNC multinational company

NAFTA North American Free Trade Agreement

NCO national oil company

NGO nongovernmental organization

OECD Organisation for Economic Co-operation and Development

OFSE oil field services and equipment

OPEC Organization of the Petroleum Exporting Countries

PPPs public-private partnerships

PSA production sharing agreement or similar contractual arrangement

R&D research and development

SADC Southern African Development Community

SMEs small- and medium-sized enterprises

TRIMs Trade-Related Investment Measures

UN United Nations

WEF World Economic Forum

WTO World Trade Organization

14

1. Angola

Oil has been the lifeblood of the Angolan economy since its independence from Portugal in 1975. In 2009 the oil

sector constituted over 44 percent of Angola’s gross domestic product (GDP), over 95 percent of exports value,

and around 65 percent of government revenues (World Bank 2012). Shortly after independence, the political

administration instigated local content policies (LCPs) in the country’s petroleum sector. At the end of the 27-

year civil war, a socioeconomic development agenda renewed these policies.

Upon the nation’s independence in 1975, the Popular Liberation Movement of Angola (MPLA) led the

political and economic scene. Supported by Cuba, the MPLA had a Marxist outlook with a strong presence in

Luanda and the oil-rich urban coastal areas. The MPLA president Agostinho Neto nationalized colonial

properties in Angola and introduced a centralized planning economy in the capital and the coastal areas that

were controlled by the MPLA (Oliveira 2007; Warner 1991). The nationalization agenda had a different path in

the oil sector. As a starting point, there was a smooth appropriation of the colonial oil company, Angol,

followed by the creation of the state oil company, Sonangol. The company was granted sole concessionaire

rights over petroleum resources and mandated with regulatory and operational activities (CRES 2008). Aware

that international oil companies, vital for the transfer of knowledge and for future production, would be

discouraged to invest in Angola should Sonangol follow the socialist agenda, Sonangol was allowed to partner

with international companies (Oliveira 2007). Albeit, the government introduced a local content agenda, calling

for transfer of knowledge and Angolanization of the petroleum sector workforce. Institutionally this was

mainly championed by Sonangol (Council of Ministers 1982).

Shortly after independence, the country underwent a 27-year civil war that engaged three main political

parties,1 neighboring countries, and international allies. The battles took place mostly in the underdeveloped

areas, causing the migration of the local population and the destruction of the country’s infrastructure (Cihlar

2010; Oliveira 2007). During this period, Sonangol appeared to operate in isolation, unaffected by the overall

destitute situation of the economy and its institutions (Morais 2012). By the end of the civil war the Angolan

society was shattered, the country’s human capital was lost, and the non-oil economy was almost nonexistent

(Oliveira 2007). In response to these socioeconomic conditions, the government revived the Angolanization of

the workforce and launched new policies directed toward the domestic sourcing of goods and services, which

were extended beyond the petroleum sector (National Assembly 2003).

Today Angola remains an oil economy, with Sonangol establishing itself on the international oil scene by

branching outward into many countries and ventures. The country consists of 18 provinces that are governed

by a centralized pyramid structural hierarchy. The MPLA’s José Eduardo dos Santos, who took office in 1979,

still exerts a strong grip on the ministries under his constitutional rule (Morais 2012), and particularly on the

oil sector through the Ministry of Petroleum, and Sonangol by proxy (Cihlar 2010). In this context, LCPs are

expected to be pursued across most of the country’s sectors.

1 The MPLA and two other parties: (i) the National Union for the Total Independence of Angola, supported by South Africa, which

controlled the majority of inland areas that were dependent on diamond extraction and agriculture; and (ii) the National Front for

Liberation of Angola, a more ethnic-based party drawing the majority of its supporters from local tribes and ethnicities, backed by

neighbouring Zaire.

15

1.1 Structural Context

As previously noted, the 27-year-long civil war destroyed the country’s infrastructure and human capital—

apart from the petroleum sector, the Angolan economy was left barely functioning. In its Global Competitiveness

Report 2011, the World Economic Forum (WEF) placed Angola 139th out of a total of 142 countries, dropping

one position from the previous year’s report. The country joins the bottom 10 of the list with 7 other Sub-

Saharan African countries (WEF 2011). In addition, the country is ranked near the bottom of the United

Nations (UN) Human Development Index. Today, Angola suffers from several structural problems including

inequality in income distribution, a noneducated growing labor force, lack of infrastructure, high bureaucracy,

and corruption.

1.1.1 Economy

Backed by high oil prices, Angola’s GDP and per capita income have been growing since the end of the civil

war. Today, the country is the second-largest economy among the Southern African Development Community

(SADC) countries. This performance is mixed with high inequality in income distribution and poverty levels.

In 2010 the country’s GINI index was 58.6, and 54.3 percent of the population lived below $1.25 per day

(UNDP 2010).

Angola’s real interest rate has been always among the lowest in the world. By the end of the civil war the

government started controlling the inflation rate that reached 14.5 percent in 2010, still among the highest in

the world. The country’s currency, Kwanza, has been depreciating against the U.S. dollar. Table 1.1 provides a

brief overview of Angola’s key economic indicators. The country’s overall exports have been on an increase. As

shown in Figure 1.1, the basket of exports is increasingly dominated by petroleum and mining products.

Table 1.1 Key Economic Indicators of PostCivil War Angola, 1985–2010

1985 1990 1995 2000 2005 2006 2007 2008 2009 2010

GDP (constant 2000 $, billion) 3.3 3.9 3.0 4.2 6.7 8.0 9.9 11.2 11.5 11.9

GDP per capita (constant 2000 $) 362.5 372.8 251.9 298.4 404.3 473.1 563.0 622.6 619.8 623.2

Inflation, CPI (%) 2,671.8 325.0 23.0 13.3 12.2 12.5 13.7 14.5

Real interest rate (%) -84.7 -60.8 25.2 4.2 13.0 -6.0 22.8 -0.5

Exchange rate (LCU per $) 0.0 0.0 0.0 10.0 87.2 80.4 76.7 75.0 79.3 91.9

Trade (% of GDP) 61.1 59.8 152.5 128.7 109.9 117.5 127.5 98.5 100.2

Source: World Bank 2012.

Note: CPI = consumer price index; GDP = gross domestic product; LCU = local currency unit.

Figure 1.1 Angola’s Exports by Commodity, 1980–2010 ($ billion)

Source: Adapted from WTO 2012b.

8%

13%

1%1%9%

1995

3.6

97%

2%

1990

3.9

100%

1985

2.2

97%

100%

91%

1%

Fuels and

mining products

Manufactures

Agricultural

products

2010

53.4

99%

2005

24.1

97%

3%

2000

7.8

3%

1980

1.9

78%

16

1.1.2 Taxation

Compared to other Sub-Saharan African countries, such as Tanzania and Uganda, Angola leads the pack in

levying the highest corporate tax. For a select group of companies, the rate is in line with that of the United

States. The tax “is levied on all profits derived from Angola, [and] all the income obtained by an Angolan

company operating overseas” (PKF 2011). In addition, Angola levies high taxes on the mining and petroleum

sectors. For instance, Angola’s petroleum industry tax regime taxes—on “the income obtained from the

exercise of petroleum transactions and any other income derived from other activities of a non-commercial or

industrial nature”—can reach 65.75 percent for joint ventures (PKF 2011). As shown in Figure 1.2, tax revenues

in Angola as a percentage of GDP are among the highest in the world.

Figure 1.2 Comparison of Angola’s Tax Revenues and Corporate Tax Rate to Other Countries, 2009 and 2010

Source: based on data from CIA 2012; Deloitte 2012; World Bank 2011.

Note: For Angola and Tanzania, tax revenues reflect 2011 levels and include social contributions (such as payments for social security and hospital insurance), grants, and net revenues from public enterprises. OECD = Organisation for Economic Co-operation and Development.

1.1.3 Population and Labor Force

Population has been growing at a double-digit pace since the 1980s, totaling 19 million in 2010. This trend is

expected to continue for the coming decade, but at a slower rate. As a result, the country is characterized by a

young population—more than half of the labor force aged 15 to 64. By 2030 the youth share of the working-age

group is projected to increase to around 60 percent (UN 2010). Figure 1.3 presents the evolution of Angola’s

population by age group and expected growth.

OECD 14%

Kazakhstan 8%

India 10%

Indonesia 11%

Uganda 12%

Canada 12%

Russia 13%

Brazil 16%

Chile 16%

Malaysia 16%

Australia 22%

Netherlands 23%

South Africa 26%

United Kingdom 26%

Trinidad and Tobago 26%

Norway 27%

Angola 43%

Corporate Tax Rate, 2010

20%

Kazakhstan 20%

Chile 20%

UK 24%


Netherlands 25%

Malaysia 25%

South Africa 28%

Norway 28%

Canada 28%

Uganda 30%

India 30%

Australia 30%

Brazil 34%

Angola 35%

Russia

Indonesia 25%

Tax Revenues as % of GDP, 2009

17

Figure 1.3 Evolution of the Angolan Population and Labor Force over Time (in millions of people)

Source: Adapted from UN 2010.

While the overall unemployment rate is at 25 percent, Angola’s skilled-labor market is very tight; the labor

force’s mean years of education is 4.4 years, in line with that of other countries with low human development

(4.2 years). Minimum wage is $127 a month, and the average wage is $211 per month in a country whose

capital is the second-most expensive city in the world (Mercer 2012). Table 1.2 presents a snapshot of Angola’s

labor market in comparison to select countries.

Table 1.2 Angola’s Labor Force Indicators Compared to Select Countries, 2010

Labor force (million)

Educational attainment (% of total) Mean years of education

Minimum wage ($ per month)

Unemployment, total (% of total

labor force) Primary Secondary Tertiary

Angola 7.1 — — — 4.4 127 25

Australia 11.8 27.3 38.9 33.8 12 1,597 5.2

Brazil 101.6 — — — 7.2 300 8.3

Canada 19.0 13.5 40 46.5 12.1 1,903 8

Kazakhstan 8.8 — — — 10.4 — 6.6

Malaysia 12.0 18.3 56 21.1 9.5 — 3.7

Norway 2.6 19.9 43.5 35.8 12.6 3,609 3.6

South Africa 18.2 15.8 74.2 5.2 8.5 543 23.8

Tanzania 22.1 — — — 5.1 59 10.7

Trinidad and Tobago

0.7 25.3 63 11.1 9.2 — 5.38

Uganda 13.4 — — — 4.7 3 4.2

United Kingdom 31.8 19.2 44.4 35.4 9.3 1,655 7.8

Source: Based on data from World Bank Group 2012; UNDP 2010.

Note: Educational attainment data for Australia, Canada, Malaysia, South Africa, and Trinidad and Tobago are from 2008; unemployment data for Brazil, Kazakhstan, Malaysia, South Africa, and Uganda from 2009.

— Not available.

1.1.4 Education

Finding a skilled workforce is a challenge in Angola, partly due to a weak educational system that suffers from

low enrollment rates. While enrollment in primary education is relatively low, enrollment in tertiary education

0%

10%

20%

30%

40%

50%

60%

70%

0

5

10

15

20

25

30

35

40

45

Mill

ion

Pe

op

le

60+

50 to 59

40 to 49

30 to 39

20 to 29

10 to 19

0 to 9

% 15 to 64

18

is among the lowest in the world. In addition, the literacy rate among adults and youth is near 70 percent, and

government expenditure on education is well below the Organisation for Economic Co-operation and

Development (OECD) average of 5 percent. As per the 2011 budget, primary and preprimary education

constitutes over two-thirds of spending on education. Table 1.3 summarizes key educational indicators in

Angola in comparison to select countries.

Table 1.3 Angola’s Educational Indicators Compared to Select Countries, 2010

Literacy rate (%) School enrollment (%) Public expenditure on education (% of GDP) Adult (15+)

Youth (1524)

Primary Secondary Tertiary

Angola 70.1 73.1 85.7 11.5(a) 3.7 3.6 Australia — — 97.1 85.5 79.9 5.1(a) Brazil 90.3(1) 98.1(a) 94.1(b) 82.0(b) 36.1(a) 5.4(b)

Canada — — — — — 4.8(b)

Kazakhstan 99.7 99.8 89.5 88.2 38.5 3.1(a) Malaysia 93.1 98.4 — 67.9(a) 40.2(a) 5.8(a) Norway — — 99.1 93.9 74.4 6.5(b) South Africa 88.7(c) — 85.1(a) — 6.0 Tanzania 73.2 77.3 98.0(b) — 2.1 6.2 Trinidad and Tobago 98.8 99.6 93.9 — 3.8(d)

Uganda 73.2 87.4 90.9 — 4.2(a) 3.2(a)

UK — — 99.6(a) 96(a) 58.5(a) 5.4(b)

Source: Based on data from Gomes and Weimer 2011; UNDP 2010; World Bank 2012.

Note: (a) year 2009; (b) year 2008; (c) year 2007; and (d) year 2006 data.

The situation is exacerbated by the low quality of secondary and higher education, and the restricted entry

to vocational and specialized engineering education. Among multiple factors, absenteeism of faculty, lack of

libraries, and nonexistence of an accreditation system contribute to the weakness of university-level

educational. As stated by Gomes and Weimer (2011), universities in Angola do not adequately prepare their

students—a situation acknowledged by Sonangol, which established its own university. The national company

education plan has still not been approved by the Ministry of Education. To close the educational gap, most

international companies operating in Angola have established internal programs and rely on partnerships and

external support, in-country and abroad, to train their local staff (Gomes and Weimer 2011).

1.1.5 Business Environment

Bureaucracy and corruption remain key issues in Angola, and the centralized bureaucratic system suffers from

low capabilities and regulations from the colonial era (Kirk 2011). In fact, it takes 68 days and up to 8

procedures across different government bodies to start a business in Angola. The World Bank has ranked

Angola as one of the most difficult countries in the world to do business in. Further indicators on doing

business in Angola in comparison to the OECD average are presented in Table 1.4.

19

Table 1.4 Indicators for Doing Business in Angola, 2011


Note: Ranking is out of 183 countries. OECD = Organisation for Economic Co-operation and Development.

Despite some efforts to improve the situation, corruption and weak governance remain major hurdles in

Angola (as shown in Figure 1.4). In fact, the country is perceived to have one of the highest levels of corruption

in the world (CRES 2008). In relation to domestic sourcing policies in the petroleum sector, many questions are

being raised around the conflict of interest arising from Sonangol’s role as operator and shareholder in oil-

service companies (IEA 2006).

Angola OECD Angola OECD1. Starting a business 6. Protecting InvestorsProcedures (#) 8 5 Extent of disclosure index (0-10) 5 6

Time (days) 68 12 Extent of director liability index (0- 6 5

Cost (% of income per capita) 118.9 4.7 Ease of shareholder suits index (0- 6 7

Paid-in min capital (% income per cap) 25.3 14.1 Investor protection strength (0-10) 5.7 6

Rank (Change in rank from 2011) 167 (-3) Rank (Change in rank from 2011) 65 (-5)

2. Dealing with Construction Permits 7. Paying TaxesProcedures (number) 11 14 Payments (number per year) 31 13

Time (days) 321 152 Time (hours per year) 282 186

Cost (% of income per capita) 180.3 45.7 Profit tax (%) 24.6 15.4

Rank (Change in rank from 2011) 115 (+4) Labor tax and contributions (%) 9 24

Other taxes (%) 19.5 3.2

3. Getting electricity Total tax rate (% profit) 53.2 42.7

Procedures (number) 8 5 Rank (Change in rank from 2011) 149 (-4)

Time (days) 48 103

Cost (% of income per capita) 890.5 92.8 8. Trading across bordersRank (Change in rank from 2011) 120 (+5) Documents to export (#) 11 4

Time to export (days) 48 10

4. Registering Property Cost to export (US$ per container) 1850 1032

Procedures (number) 7 5 Documents to import (#) 8 5

Time (days) 184 31 Time to import (days) 45 11

Cost (% of property value) 3.2 4.4 Cost to import (US$ per container) 2690 1085

Rank (Change in rank from 2011) 129 (+45) Rank (Change in rank from 2011) 163 (-1)

5. Getting Credit 9. Enforcing ContractsStrength of legal rights index (0-10) 3 7 Time (days) 1011 518

Depth of credit information index (0-6) 4 5 Cost (% of claim) 44.4 19.7

Public registry coverage (% of adults) 2.4 9.5 Procedures (number) 46 31

Private bureau coverage (% of adults) 0 63.9 Rank (Change in rank from 2011) 181 (0)

Rank (Change in rank from 2011) 126 (+4)

10. Resolving InsolvencyTime (years) 6.2 1.7

Cost (% of estate) 22 9

Recovery rate (cents on the dollar0 6.9 68.2


20

Figure 1.4 Governanced Indicators in Angola Compared to the OECD Average

Source: Adapted from Kaufmann, Kraay, and Mastruzzi 2011.

1.2 The Petroleum Sector

1.2.1 The Petroleum Sector in the Economy

The later pre-independence days of Angola were characterized by a relatively diversified economy with strong

agricultural and manufacturing sectors. Since independence in 1975, the country gradually increased its

economic reliance on extractive industries, particularly oil and diamonds—with extractive industries

contributing around 35 percent of GDP. In 2010 that share increased to over 50 percent, most of which came

from oil. Figure 1.5 presents the evolution of the extractive industry value-added and its share of GDP.

Angola’s oil intensity in GDP is among the highest in the club of the resource-rich and Organization of the

Petroleum Exporting Countries (OPEC) countries Figure 1.6).

Figure 1.5 Contribution of Angola’s Extractive Sector to Value-Added, 1970–2010 (in $ billion and as share of

GDP)

Source: UN Statistics 2010.

Note: GDP = gross domestic product.

0

20

40

60

80

100

Voice andAccountability

PoliticalStability/Absence

of Violence

GovernmentEffectiveness

RegulatoryQuality

Rule of Law

Control ofCorruption

Angola 2010

Angola 2000

OECD 2010

0%

10%

20%

30%

40%

50%

60%

70%

80%

0

10

20

30

40

50

60

70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10

Shar

e o

f G

DP

GD

P (

Bn

$)

Contribution to GDP Percentage Share

21

Figure 1.6 Breakdown of Value-Added in Angola by Economic Activity, 2010 ($ billion)

Source: Based on data from UN Statistics 2010.

Note: UK = United Kingdom.

During the past decade, Angola shifted from its dual resource dependency to a predominantly oil economy. In

fact, the diamond sector’s contribution to GDP diminished from 5.7 percent in 2005 to 1.2 percent in 2008 (Teka

2011). In 2008 oil constituted over 56 percent of GDP, over 96 percent of exports value, and around 80 percent

of government revenues, as a result of upward trending prices and increased production. Oil export revenues

increased from $7.57 billion in 2002 to a peak of $67.12 billion in 2008 (Cihlar 2010). Figure 1.7 shows the

percentage of oil’s value-added contribution to the country’s main economic indicators.

Figure 1.7 Angola: Percentage of Oil’s Contribution to GDP, Oil Export Revenues ($), and Total Government

Revenues, 2002–10

Source: Based on data from BP 2011; Morris, Kaplinsky, and Kaplan 2011.

Note: bbl = barrel; GDP = gross domestic product; mmbpd = million barrels per day.

5%

8%

8%

6%

10%

5%

6%

8%

5%

6%

6%

7%

15%

11%

18%

13%

13%

11%

8% 12%

12%

19%

12%

14%

7%

45%

33%

43%

25%20%

39% 38%

22% 23%

51%

23%

1%

2%

1%

1,637

20%

1%

100%

Tanzania

22

14%

27%

8%

8%

UK

2,236

14%

6%

10%

Uganda

17

12%

21%

12%

7%

Trinidad

& Tobago

24

36%

0%

8%

16%

South

Africa

377

24%

3%

13%

Norway

402

33%

4%

8%

Malaysia

304

32%

8%

3%

20%

Kazakhstan

159

30%

4%

7%

11%

Canada

6%

10%

Brazil

2,066

19%

5%

5%

14%

Australia

1,296

19%

2%

7%

9%

Angola

85

50%

9%

8%

6%

Mining, Manufacturing, Utilities

Agriculture, hunting, forestry, fishing

Construction

Manufacturing

Transport, storage and communication

Wholesale, retail trade, restaurants and hotels

Other Activities

0

10

20

30

40

50

60

70

80

90

100

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

2002 2003 2004 2005 2006 2007 2008 2009 2010

$/b

bl

mm

bp

d

Production (mmbpd) Oil Price (Brent $/bbl)

Export. Rev.

($ Bn)7.57 8.76 13.24 22.37 30.72 43.07 67.12 41.85 -

Share in GDP

(%)54.2 54.7 62.9 55.7 55.8 56.9 44.4 - -

22

In 2004 the oil industry employed 12,296 people directly through operators and 12,886 people indirectly

through supporting service companies. Fueled by exploration and development activities, the workforce in the

oil services sector almost tripled in 2009, increasing the total workforce over 1.5 times. As shown in Figure 1.8,

overall employment in the oil sector reached 64,677 workers in 2009, which included the 5,174 registered

expatriates working in oil services (Skills Shortages II).

Figure 1.8 Employment in the Angolan Oil and Oil Services Sector, 2004–09

Source: Based on data from CRES 2008.

Note: CAGR = compound annual growth rate.

1.2.2 Petroleum Geography

Angola has a 1,980-kilometer (km) coastline on the Atlantic Ocean stretching from Cabinda, a small separate

province north of the general borders of Angola, to the Namibian borders in the south. Along the coastline are

three major sedimentary basins: the northern Lower Congo Basin, the Kwanza Basin, and the southern Namibe

Basin.

The Lower Congo Basin has the largest proven reserves and the most-developed base for production,

particularly in Cabinda (CRES 2008). It is divided into onshore and offshore blocks that are in their exploration

and production phases. The Kwanza Basin was the first discovered in Angola (CRES 2008) and constituted the

majority of production before the 1990s. It is also divided into onshore and offshore blocks. The onshore blocks

have mostly matured and their production was highly affected by the civil war; the offshore blocks are in both

production and exploration phases. The third basin, Namibe, is located in the south and has identified reserves

that remain largely untested by drilling. Exploration efforts there have been discouraged after several failures

in that area.

Overall, Angola’s petroleum resources extend from onshore to ultra-deep waters. To date, most

exploration efforts have primarily focused on offshore areas (CRES 2008). The offshore formation is divided

into 51 blocks, of which only 9 are currently in production. The blocks are distributed as follows: 14 in shallow

waters with depths below 500 meters; 17 in deep waters between 500 meters and 1,500 meters; and 20 ultra-

deep blocks below 2,500 meters.

1.2.3 Reserves, Production, and Consumption

Angola experienced significant exploration activities after the 1990s, when Sonangol opened up the country’s

deep-water areas. Proven oil reserves increased from 1.6 billion barrels in 1990 to 13.5 billion barrels by 2010.

Proven reserves in 2010 constituted 1 percent of the world reserves, positioning the country in 16th position

27,17374%

26%

48,818

2007 2008 20092004

64,808 64,677

74%

26%

77%

23%

76%

24%

2005 2006

Service

Provider

Operator

51%

49%

25,182

52%

48%

55,061

CAGR

2004 - 2009

31%

5%

23

worldwide and in 3rd position among African countries, behind Nigeria (37.2 billion barrels) and Libya (46.4

billion barrels) (UN Statistics 2010). In 2007 Angola became a member of the OPEC (Cihlar 2010).

The majority of recent discoveries were made in deeper waters. The first of these discoveries was made by

French ELF in 1996 (CRES 2008). Since then, deep-water exploration efforts ramped up. Between 2004 and 2011,

subsea spending on infrastructure and equipment more than tripled, from $1.27 billion to $4 billion. In 2011

cumulative offshore EPC spending reached $21.4 billion (Rystad Energy 2010).

Angola was a small player in the oil market, with moderate and stagnant production figures, between 1970

and 2002, as the civil war hindered production from onshore fields. Additionally, prior to 1990, offshore

reserves were not discovered and did not surface on the government’s agenda until 1996. Since the end of the

civil war in 2002 daily production picked up, doubling from 0.9 million barrels per day (bpd) in 2002 to over

1.8 million bpd in 2010 (BP 2011) to constitute 2.3 percent of the world production. Oil production in Angola

peaked in 2012, with future discoveries coming onstream to replace depleting reserves. Table 1.5 provides a

snapshot of the oil sector with annual productions and estimates, and Figure 1.9 shows oil production since

1990 and the estimated production until 2020 as reported by Sonagol.

Table 1.5 Snapshot of Angola’s Oil Sector Reserves and Production (2010)

2010 Level

Share of world

%

Global rank

Percentage change

1 yr %

3 yrs %

5 yrs %

10 yrs %

Oil proven reserves, billion boe

13.5 1.00 16 0.0 0.0 49.4 107.7

Oil production, mmbpd 1,851 2.32 15 3.78 -1.3 30.3 149.5

Source: Based on data from BP 2011.

Note: boe = barrel of oil equivalent; mmbpd = million barrels per day.

Figure 1.9 Angola: Actual and Estimated Oil Production According to Field Depth, 19902020

Source:Based on data from Sonangol 2012.

Angola’s oil consumption remains low; the country exports most of its oil. In 2009 the country exported 98

percent of its production, the main export markets being China and the United States.

1.2.4 Sector Institutional Framework

Although the Council of Ministers and the Ministry of Petroleum are the constitutional overarching bodies

overseeing the oil sector (Teka 2011), Sonangol retains the upper hand in decision making within this structure

(Oliveira 2007). Upon its establishment in 1976, Sonangol was granted sole concessionary rights and mandated

to manage the exploration of Angolan hydrocarbon resources. Today, the company:

o Identifies exploration areas

o Negotiates and manages production contracts

o Collects, validates, monitors, and archives all petroleum activity data in Angola (CRES 2008).

0.0

0.5

1.0

1.5

2.0

2.5

3.0

1990 1995 2000 2005 2010 2015 2020

Ultra-deep Water Deep Water

24

As per the law of 2004, petroleum activities can be only carried out under a prospecting license or a

concession. Historically, Sonangol has engaged foreign companies through production sharing agreements

(PSAs). Operationally, Sonangol’s influence over its upstream joint ventures is translated through venture-

specific operating committees. A joint-venture operating committee advises, supervises, and oversees

exploration, development, and production activities. The committee, constituting four members (two

appointed by Sonangol and two by the contractor), approves work programs and budgets. Decisions within

the committee are taken by a simple majority, and the tie-breaking vote is reserved for the Sonangol-nominated

committee chairman. Provisions for the operating committees are established in the PSAs.

Sonangol was established prior to the ministry, and its top executives are closely affiliated with the ruling

elite, providing more power and control for Sonangol (Oliveira 2007). Furthermore, some argue that Sonangol

reports directly to the president (Lwanda 2011). Nevertheless, the Ministry of Petroleum is mandated with

policy development and some regulatory activities, including:

o Issuance of exploration permits

o Formulation of sectoral policies

o Approval of work plans

o Regulation of production levels

o Design and enforcement of the petroleum tax regime in coordination with the central bank

and the Ministry of Finance.

The mandate extended Sonangol’s activities to export crude oil and identify exploration areas.

Furthermore, Sonangol manages the bidding process, and negotiates for new concessions and ventures in

partnership with operators. In practice, Sonangol's participation has taken a variety of forms. In many contracts

signed to date, Sonangol holds a working interest through exploration and concession agreements (CAs); in

others, it only participates in the development of commercial discoveries in PSAs (CRES 2008).

1.2.5 Market Structure and Local Capabilities

Historically, before independence, the major oil company operating in Angola was Cabinda Gulf Oil, an

American subsidiary of Gulf Oil. When the Marxist MPLA took power in 1975, Gulf Oil closed its operations

out of fear of nationalization, and the MPLA was not able to secure the transfer of the company’s technology

and knowledge acumen (Oliveira 2007). But this was not the case for another oil company operating in Angola

called Angol, a subsidiary of Sacor of Portugal. In 1975 the MPLA took over Angol, but did not nationalize it.

Instead the existing Portuguese employees were preserved (Oliveira 2007), and new cadres of Angolan2

executives were introduced. Since then, Sonangol has developed its capabilities through external training of its

personnel, reliance on consultants, and partnerships with international oil companies.

Upon its establishment, Sonangol was the sole concessionaire, regulator, and tax collector of the oil

industry. Since then, the company has relied on external consultants to complement its capacities in all its

operations (Oliveira 2007). The company received close guidance and advice from the Italian oil company, ENI.

A first wave of Sonangol-sponsored employees who received training at ENI’s facilities in Milan took on

leadership positions when they returned to Angola by the end of 1970s (Sonangol 2012). A second, larger

group went to Algeria and received training from the Algerian state company, Sonatrach (Sonangol 2012),

which had the trust and confidence of the MPLA leaders (Oliveira 2007). Moreover, the former colonial

advisors and auditors of the Angolan oil sector, the U.S. consulting firm Arthur D. Little, played a role in the

shaping and development of Sonangol (Oliveira 2007), by handling Angola’s negotiations with international oil

companies from 1977 (Neigus 1981).

On another front, Sonangol relied on the capabilities of international operators to carry out upstream

2 The key figures in Sonangol’s core team were well-networked MPLA party members who enjoyed the confidence of President

Neto (Oliveira 2007).

25

activities, by partnering with leading international oil companies through PSAs. Table 1.6 presents the

shareholders and operators by producing block.

With time, Sonangol began expanding its activities beyond Angola. The first subsidiary was established in

London in 1983; Sonangol Limited was responsible for direct trading of nearly 40 percent of the production

(Oliveira 2007). In 1991 the company undertook a restructuring of its growing business. A holding was created,

and the principal line of business became subsidiaries.

Overall, Sonangol has emerged from a postcolonial era and a 27-year-long civil war to drive the country’s

oil sector economy into 29 joint ventures and multiple subsidiaries (Lwanda 2011), with more than 8,000

employees across the globe in 2008 (CRES 2008). The company has ventured into drilling, fabrication,

transportation, industrial supplies and infrastructure, distribution, storage services; banking, food retail, and

catering; and civil engineering and real estate development.

Table 1.6 Angola: Company Share and Operator (in Gray), by Producing Blocks (%)

Block 0

Block 2

Block 3 Block

14 Block

15 Block

17 Block

18 3/05 3/85 and

3/91 Canuku

Sonangol Sonangol P&P 41.00 25.00 25.00 6.25 100.00 20.00

IOCs

Total 10.00 50.00 20.00 40.00

BP 26.67 16.67 50.00

Chevron 39.20 20.00 31.00

ENI 9.80 12.00 15.00 20.00 20.00

Esso 40.00 20.00

NOCs

Sonangol Sinopec 50.00

China Sonangol 25.00

STATOIL 13.33 23.33

PETROBRAS 27.50

Ind

ep

en

de

nts

AJOCO 20.00 12.50

SOMOIL 9.30 10.00

POLIEDRO, S.A. 9.10

KOTOIL, S.A. 9.10

NATGAS 4.00 5.00

INA-NAFTA 4.00 5.00

GALP 9.00

SVENSKA 6.25

Source:Based on data from Sonangol 2012.

Note: IOCs = international oil companies; NOCs = national oil companies.

1.2.6 Management of Petroleum Wealth

Angola’s oil wealth has not been efficiently managed to the benefit of the economy and the population at large.

The country has so far not instituted an oil fund, nor has it publicly designated a methodology for the

management of oil revenues. In fact, the management of oil revenues has been characterized as illusive, lacking

transparency, often fraudulent, and endowed with a certain degree of political motivation. High poverty levels

in addition to the country’s overall poor infrastructure are visible proof of the poor management of oil

revenues.

Over the years, several issues have been brought to the limelight by international economic and

monitoring bodies such as the International Monetary Fund (IMF) and Human Rights Watch (HRW), which

claim the unlawful appropriation of oil revenues. Issues include Sonangol’s unaccounted-for sums between

1996 and 2001, which totaled $10 billion, and unlawful donations by oil companies to the Fundacao Eduardo

dos Santos (Foundation of Eduardo Santos) to maintain a good relationship with the authorities (Andre 2010).

26

In addition, Sonangol did not have to publicly disclose receipts from oil companies as per Tax Law 13 of 2004

(Republic of Angola 2004), thus increasing the possibility of shadow operations to take place unnoticed.

1.3 Local Content Policies

1.3.1 Policy Objectives

The Angolan government has been following two routes to achieve its local content objectives: (i)

Angolanization of the workforce and (ii) domestic sourcing of goods and services. These are primarily

legislated through a series of official decrees. In addition, the PSA administered by Sonangol includes local

content rules and regulations that build on the governmental legislations.

Angolanization of the workforce started in 1979, with Law10/79 giving Sonangol exclusivity over the

country’s petroleum rights. The law mandated that the national oil company must employ locals and provide

them with the necessary technical-professional training, allowing it to hire foreign workers only in case of a

shortage of qualified Angolan workers. Three years later, an official decree was issued on the Angolanization

of the petroleum industry workforce. As it appears in the introduction of the decree 20/82 of 1982, the objective

was “to endow the People's Republic of Angola with national personnel able to assure the functioning of the

economic key sectors” (Council of Ministers 1982). This objective remained unchanged 27 years later in the law

of 2009. Angolanization of the workforce was stated as a government priority with the necessity “to provide

the Republic of Angola with national workers capable of ensuring the functioning of this sector of national

economy” (Council of Ministers 2009).

In 2003 a backward link was introduced to Angola’s local content strategy in the oil and gas sector as well

as other sectors.3 Decree 13/03 promoted the sourcing of domestic goods and services in petroleum-related

activities. The introductory notes of the decree imply that there are two overarching objectives behind such

policies: (i) achieving socioeconomic development and (ii) fairness in the distribution of national wealth. Here,

the government argues that the first objective can be only achieved by development that is led by an Angolan

citizen. Operationally, this can be through direct economic activity or through ownership of rights to

production of goods. Achieving the second overarching objective is a consequence of such a development.

Building on that, the government offers a rationale for its intervention through LCPs: (i) to reduce

inequalities faced by domestic investors when competing against foreigners; and (ii) to encourage synergies

between these agents. An analysis of the introduction to the decree of 2003 is presented in Table 1.7.

Table 1.7 Domestic Sourcing of Goods and Services in Angola: Objectives, Rationale, and Instruments

Overarching objective

The economic and social development and fair distribution of well-being and quality of life in a market economy can never be complete until that development is carried out and led predominantly by Angolan citizens’ families and public and private institutions, either in terms of economic initiatives or the ownership of the right to produce goods.

Strategy Therefore, one of the pillars of development shall be based on national free private initiative of Angolan citizens’ families and institutions.

Rationale for state intervention

For that purpose it shall be the duty of the State, according to the principle of more favorable priority or preferential treatment.

Local content policies and objectives

Contribute toward reducing inequalities in competition with foreign investors and encouraging synergies between national and foreign private investors.

Instruments Create and offer the legal, material, and institutional conditions.

Source: Based on data from National Assembly 2003.

3 The decree specifically covers the following activities: crops and livestock, extraction and processing, commerce, finance, fishing,

food industry, public works, civil construction, transport, and services.

27

1.3.2 Policy Tools

Angolanization of the Workforce

Decree 20/82 of 1982 laid out the foundation for local content in Angola’s oil and gas workforce. Policy

instruments outlined by the decree covered the recruitment, training, and career progression of the local

workforce. On recruitment, any company operating in the Angolan petroleum sector must:

o Hire locals whenever their qualification and experience meet the requirements

o Submit annual recruitment plans to be approved by the Ministry of Petroleum

o Get the ministry’s approval for hiring any foreigner.

In addition, Angolans and foreign workers of the same grade must enjoy equality in compensation and

benefits.4

On training, the law mandated the provision of capacity-building programs by operating companies. To

this end, companies had to develop annual training plans and get the Ministry of Petroleum’s approval before

implementation. In addition, companies had to contribute annually to a training fund accessed by the Ministry

of Petroleum, to the tune of 15 cents for every dollar per barrel produced. Appraisal and exploration

companies had to pay $200,000 yearly; for companies engaged in other activities, the amount was decided by

the ministries of petroleum and finance on a case-by-case basis. Funds could be used by the Ministry of

Petroleum for the provision of training programs, research activities, and purchase of books and equipment for

training purposes.

On career progression and replacement of the foreign workforce, the law set out Angolanization targets

specific to groups of job grades for the years 1985, 1987, and 1990 (outlined in Table 1.8). The targets were

reviewed in 2002 and new ones set for the year 2010.

Table 1.8 Angolanization Targets Outlined by the Decree of 1982

Example of occupations 1985

%

1987

%

1990

%

2010

%

Unskilled staff (up to grade VI) Drivers, janitors 100 100 100 100

Midlevel staff (grades VII to XI) Technicians, accountants 50 60 70 80

Upper-level staff (grades XII and XIII) Managers, geologists, engineers — 50 80 70

Source: Based on data from Council of Ministers 1982; MENAS, Angola 2008.

— Not available.

Noncompliance with the plan of recruitment and training could result in cancellation of the contract. In

addition, the Ministry of Petroleum could impose monetary fees that were double the value of what would

have been spent to comply with the plan. In case companies could not achieve the Angolanization target, they

had to pay a monetary fine for every percentage point missed from the target. On January 1, 1980, the value of

the fine was the U.S. dollar equivalent of 3 million kwanzas. The fine was to be updated every quarter based on

the UN index of the prices of manufactured products exported by developed countries.

Driven by technological developments in the industry and new policy options for the use of human

resources, Angola launched a new system of the recruitment, integration, training, and development of

Angolan personnel and the regulation of the hiring of foreign personnel in 2009, 27 years after the initial law.

The new system reformulated aspects of the 1982 law and included a new regulatory framework.

On recruitment, the law reinforced the need to hire Angolan citizens at all job grades. Equity between local

and foreign workers was reiterated. In 2010 decree No. 13/10 gave Angolans “legal protection against

4 Any kind of discrimination between national and foreign workers with respect to the conditions of employment (including

accommodation and other benefits) is prohibited by law, without prejudice to the right of the employer to provide compensatory

measures for foreign workers to defray the cost of their presence in a foreign country, including periodic trips to their home country

(Council of Ministers 1982).

28

discrimination in employment and working conditions, salary, allowances and social benefits, embodied in

perks and benefits granted by companies as an additional increment to the salary and of medical care,

medication and others” (Ministry of Petroleum 2010). Foreign workers could still be admitted only upon

authorization of the Ministry of Petroleum. Albeit, getting the approval required companies to submit evidence

that no qualified Angolan was found for the vacant position.

On training and development, every operating company must conclude an annual contract with the Ministry

of Petroleum, which includes the:

o Organizational structure of the company and foreseen evolution

o Roles, responsibilities, and wages of personnel

o Career development plans for Angolan workers

o Goals to be achieved in terms of integration of the Angolan workforce (Council of Ministers

2009).

As part of the annual contract, the Ministry of Petroleum must approve a plan for training and

development, which includes:

o A definition of the knowledge and expertise to be transferred to the Angolan workforce

o A detailed manpower plan

o A career path and succession plans

o Training plans.

An additional modification to the 1982 law was the amendment of the training and development

contributions, accessed by the Ministry of Petroleum (outlined in Table 1.9). These contributions became tax-

deductible5 and their spending channels were expanded to include benefits to the National Petroleum Institute

and other educational institutions, internship-related expenses, and funds committed for projects in higher and

vocational education.

Table 1.9 Angola: Annual Contributions to the Training and Development Fund

Company’s scope of activities Annual contribution

Holding a prospecting license $100,000

Appraisal or exploration $300,000

Production, processing, or refining 15 cents per barrel produced

Storage, transmission, distribution, and marketing of petroleum products 0.5% of annual revenues

Services 0.5% of the value of the contract

Source: Based on data from Council of Ministers 2009.

Typically, 9 of the 15 cents per barrel received from oil companies go to the Ministry of Industry and

Petroleum (MINPET), while the rest are used by operators on training their staff. Of the 9 cents, 3 cents go to

local universities (Gomes and Weimer 2011).

The new law does not mention Angolanization targets, but companies not complying with Angolanization

regulatory requirements become subject to the monetary fines outlined in Table 1.10. In addition,

noncomplying companies are banned from entering into new contracts relating to the petroleum sector in

Angola. A second offense to the regulatory requirements is punishable by three times the value of the fine.

Collected fines are equally distributed between the state budget and the Social Fund of the Ministry of

Petroleum.

5 For the purpose of calculating profit taxes.

29

Table 1.10 Key Angolanization Regulatory Requirements and Fines in Case of Noncompliance

Regulatory requirement Category Fine in case of noncompliance

Get the approval of the Ministry of Petroleum for hiring any foreign worker.

Recruitment 25 percent of the annual contribution to training and development.

Offer local and foreign workers equal rights.

Recruitment 2.5 percent of the annual contribution to training and development. Immediate repatriation of workers improperly admitted.

Submit a list of service providers. General 10 percent of the annual contribution to training and development. Immediate repatriation of workers improperly admitted.

Conclude a training and development contract with the Ministry of Petroleum.

Training and development

25 percent of the annual contribution for training and development.

Get approval from the Ministry of Petroleum on the annual human resources development plan.



Get authorization from the Ministry of Petroleum for any modification on the training and development plan.



Submit a training and development status update report.



Contribute annually to a training and development fund at the Ministry of Petroleum.


10 percent of the annual contribution for training.

Source: Based on data from Council of Ministers 2009.

Finally, the decree recognizes temporary workers in the industry, and requests the Ministry of Petroleum to

create a database of these workers to facilitate their integration into future projects.

A secondary source for the Angolanization of the workforce is the PSA entered by any contractor group with

Sonangol. A specific article in the agreement refers to the above legislations and adds the following:

o The contractor group shall train its Angolan personnel to reach the level of knowledge and

qualifications enjoyed by foreign personnel.

o The training shall enable Angolan personnel to use the latest technologies, including

proprietary and patent technologies.6

o The subcontractors offering services to the contractor group for more than one year shall be

required to comply with the training requirements of their personnel. The contractor group

shall be responsible for monitoring their compliance.

o Recruitment, training, and integration plans for Angolan personnel shall have a span of three

years, and be submitted to Sonangol for approval by the Ministry of Petroleum.

o Contracting external specialists for the delivery of training programs shall be approved by

Sonangol.

o The contractor group shall incur all costs associated with training of Angolan personnel it

employs.

o Training costs shall be recovered as production expenditures.

Domestic Sourcing of Goods and Services

As per the Order 127/03 of 2003, national, private (that have at least 51 percent of their capital being owned by

Angolan citizens), or state companies enjoy preferential rights over foreign companies for sourcing of goods

and services. As per the law, exclusivity to Angolan businesses is given for the sourcing of goods and services

that require limited capital and nonspecialized know-how. Activities requiring a reasonable level of capital and

limited level of specialized capabilities fall under semi-compliance preferential treatment and require joint

ventures between domestic and international companies. Other activities are open for competition. The decree

6 Here the terms of the PSA mention that this shall happen to the extent permitted by applicable laws and agreements, subject to

appropriate confidentiality agreements

30

does not outline capital and skill-level triggers for preferential treatments, but outlines the list of goods and

services under exclusivity and semi-compliance treatments (Table 1.11).

Table 1.11 Angola: List of Goods and Services by Mode of Preferential Treatment Group I

(Nonspecialized, low CAPEX) Group II

(Higher level of know-how, not necessarily specialized, moderate CAPEX)

Pressure tests for storage tanks and oil and/or gas pipelines

Acquisition and/or processing of geographical data

Drilling production materials and equipment

Transport of equipment, materials, or drilling and production platforms

Geographical or geodesic surveys Well cleaning and maintenance work

Supply of industrial and drinking water Vertical, directional, and/or horizontal drilling of wells

Well cementing and/or completion work

Catering and foodstuffs Geological control of drilling (mud logging) Transport of crude oil to the refinery

Supply of technical materials Production tests Electricity and instrumentation

General cleaning and gardening Laboratories for geological, geochemical, and fluid analysis

Terminal operators and managers

General maintenance of equipment and vehicles

Specialized consultancy services Pressure tests on storage tanks and measuring equipment

Supply post operators and managers (airports, ports, and service stations)

Operation and maintenance of production facilities, including oil and gas pipelines

Maintenance engineering for terminals and supply posts

Retail sales of kerosene, gas, and lubricants Calibration of storage tanks and measuring equipment

Inspection of distribution and supply facilities

Quality inspection of products distributed and marketed (oil products and derivatives)

Construction and assembly of mechanical and electrical structures, and production and drilling facilities

Manufacture and assembly of ovens and lighting

Transport of products from terminals to supply posts

Inspection and supervision of the loading of petroleum or natural gas

Manufacture and assembly of electric generators

Transport in tankers of petroleum or natural gas

Assembly of selected makes of vehicle for the oil industry

Cement and conventional (drilling) mud products

Manufacture of plastic for the petroleum industry, as well as synthetic fibers and rubber

Supply of conventional (drilling) mud Manufacture of fertilizers

Supply of seismic materials, including explosives

Production of detergents

Source: Based on data from Ministry of Petroleum 2003.

Note: CAPEX = capital expenditure.

In addition, national private or state companies receive preferential rights if their proposal is no more than

10 percent higher than what is proposed by other companies.7 The law mandates all companies operating in

the oil sector to launch public tendering for contracting and subcontracting the provision of goods and services.

A subsequent decree in 2006, No. 48/06 on Petroleum Tenders Rules and Procedures, specified tendering rules

(outlined in Table 1.12). Here it must be noted that the state company has a strong influence over the final

contract award decision. These rules are reiterated in the terms of the PSAs entered into with Sonangol.

Table 1.12 Angola: Tendering Rules as per Decree No. 48/06 Contract value Tendering process

Below $250,000 o Sole sourcing is allowed as long as operators inform Sonangol of the

contracts they enter into on a quarterly basis.

Exceeding $250,000 and below $750,000

o Operators must hold public tenders.

o Sonangol must be informed of the results of the tender. Subsequently, the

state company can object to the results within 30 days

Exceeding $750,000 o In addition to the above, operators must obtain the approval of Sonangol of

the prequalified firms invited to bid.

Source: Based on Decree No. 48/06.

Note: Direct contracting can only take place in case of technical urgency or lack of local suppliers after approval of the Ministry of Petroleum.

7 This provision existed in PSAs prior to the law of 2003.

31

To facilitate the engagement of local suppliers in any bidding process, the Ministry of Industry annually

publishes a list of domestic suppliers of goods used in oil activities, and the Chamber of Commerce and

Industry publishes a list of service providers contracted by oil operators (Ministry of Petroleum 2003).

Preferential Treatment

As per the law passed by the National Assembly in 2003, preferential treatment must be given to national

private companies. In the case of the petroleum sector, Sonangol is mandated to grant local companies:

o Fiscal incentives including the exemption from or reduction of industrial, income, import, and

other taxes

o Financial support in the form of subsidies, loans, promotional venture capital, access to

agreed private management funds, and financial guarantees

o Technical support

o Special rights privileges in awarding concessions.

In addition Sonangol is mandated to support the creation of professional training centers (National

Assembly 2003). Here it must be noted that the government offers exemptions from customs duties on goods8

used in petroleum operations in case the good supplied in the Angolan market cannot ensure “similar” quality,

timely delivery, or a price of not more than 10 percent above the cost of the imported good before customs

duties. A summary of the local content policy tools adopted in Angola is presented in Table 1.13.

Table 1.13 Summary of Local Content Policy Tools in Angola

An

gola

niz

atio

n

Recruitment Ministry of Petroleum to approve the recruitment of any foreign worker.

Ministry of Petroleum to approve annual recruitment plans.

Training Companies to offer capability-building programs, to be approved by Ministry of Petroleum

Companies to contribute to a training and development fund managed by the Ministry of Petroleum.

Replacement of foreign workforce

Companies to meet Angolanization targets by job grade set by the Ministry of Petroleum.

Domestic sourcing of goods and services

Exclusivity to Angolan businesses for sourcing of goods and services that require limited capital and nonspecialized know-how.

Semi-compliance for goods and services requiring a reasonable level of capital and limited level of specialized capabilities, requiring joint ventures between domestic and international companies.

National private or state companies receive preferential rights if their proposal is no more than 10 percent higher than what is proposed by foreign companies

Local companies, with at least 51 percent of the capital being owned by Angolan citizens, to be offered:

Fiscal incentives including the exemption from or reduction of industrial, income, import, and other taxes.

Financial support in the form of subsidies, loans, promotional venture capital, access to agreed private management funds, and financial guarantees.

Technical support.

Special rights privileges in awarding concessions.

Source: Authors’ compilation.

1.3.3 Legislative Channels

In Angola LCPs are mainly legislated through:

o Law 10/79 mandating Sonangol to employ and train nationals

o Decree 20/82 on the Angolanization of the petroleum industry workforce

8 A list has been attached to the 2004 Law on the Customs Regime for the Petroleum Sector,

http://www.sonangol.co.ao/wps/wcm/connect/e1c39000455a61ebb93aff8cae8691b3/law_petroleumCustoms_en.pdf?MOD=AJPERES

andCACHEID=e1c39000455a61ebb93aff8cae8691b3.

http://www.sonangol.co.ao/wps/wcm/connect/e1c39000455a61ebb93aff8cae8691b3/law_petroleumCustoms_en.pdf?MOD=AJPERES&CACHEID=e1c39000455a61ebb93aff8cae8691b3

http://www.sonangol.co.ao/wps/wcm/connect/e1c39000455a61ebb93aff8cae8691b3/law_petroleumCustoms_en.pdf?MOD=AJPERES&CACHEID=e1c39000455a61ebb93aff8cae8691b3

32

o Law 14/03 establishing a framework for the promotion of Angolan private enterprises in all

sectors of the economy

o Decree 127/03 on domestic sourcing of goods and services in petroleum-related activities

o Local content provisions in PSAs

o Decree 13/10 granting protection to nationals against discriminatory hiring and remuneration

practices

o Petroleum-sharing agreements that set forth specific requirements in terms of level and area

of training for Angolan workers, and extends training requirements to subcontractors

providing services to the contractor for more than one year.

1.3.4 Institutional Responsibilities

Institutional responsibilities for LCPs are mainly split between the Ministry of Petroleum and Sonangol. The

ministry is responsible for the formulation of LCPs and regulation of their Angolanization aspects, as detailed

above. Meanwhile, Sonangol:

o Provides input to the Ministry of Petroleum on policy design. Teka (2011) argues that the

Sonangol’s Local Content Department is currently in the process of defining a new local

content plan in coordination with the ministry.

o Negotiates PSA terms in relation to local content, led by the Negotiations Directorate of the

state company.

o Manages the procurement aspects of local content through the approval of sourcing activities

and influence over the selection of sourcing companies.

Annually, the Ministry of Industry publishes a list of domestic goods suppliers, and the Chamber of

Commerce and Industry of Angola publishes a list of service providers.

1.3.5 Interlinks

LCPs in the Angolan petroleum sector are part of a national industrial plan. In fact the law of 2003 on

preferential treatment of domestic suppliers covers “all sectors of economic activity in particular crops and

livestock, the extraction and processing industry, commerce, finance, fishing, food industry, public works and

civil construction, transport, and services.”

As for international trade, Angola has been a member of the World Trade Organization (WTO) since 1996.

Considered as a least-developed country, Angola’s grace period of seven years of domestic market

protectionism, under the Trade-related Investment Measures (TRIMs), has expired. Angola’s policies on the

domestic sourcing of goods thus violate TRIMs’ provisions that ban measures requiring enterprises to purchase

domestic products. It must be noted that under the General Agreement on Trade in Services (GATS) Schedule,

Angola has specific commitments in the areas of banking, money lending, and money-transfer services; hotels

and restaurants; and recreational and sporting services. Angola is not a signatory to the Plurilateral WTO

Agreement on Government Procurement, and no complaints have been filed against the country (WTO 2012a).

On another front, the country had signed a trade protocol with the SADC in 2003, which calls for the

facilitation of trade among member countries through reduction of tariffs and harmonization of trade policies.

Implementation of this protocol is expected to harm Angola’s non-oil exports and increase the country’s

imports, especially from South Africa. As such, Angola has been delaying the implementation of this protocol

in the hope of reviving its local industries.

1.3.6 Monitoring and Measuring Tools

Monitoring of local content regulations is done through approval processes by the Ministry of Petroleum for

Angolanization of the workforce and direct control of Sonangol for the sourcing of domestic goods and

services.

33

Regarding the recruitment of foreign workers, it was not until 2010 that a well-established monitoring system

was laid out. Under the new monitoring system, companies wishing to hire foreign workers must submit

evidence to the Ministry of Petroleum that no qualified Angolan was found for the vacant position. Support

documents include a detailed job description, public announcements on the job vacancy, and an official letter

from the Centers for Employment and Vocational Training of the Ministry of Public Administration,

Employment and Social Security stating that no Angolan citizen is available for the position (Ministry of

Petroleum 2010).

As for recruitment plans and training programs, these have to be approved on a yearly basis by the

Ministry of Petroleum. Monitoring of these plans is done through the review of an annual implementation

report submitted to the Ministry of Petroleum,9 which documents progress against the plan, the challenges

faced, and proposed solutions to overcome these challenges. Upon review, the Ministry of Petroleum informs

the operating companies in case of noncompliance, and the appropriate measures to be taken to overcome

reported challenges (Council of Ministers 2009). Usually these plans are approved by the Ministry of Petroleum

without comments. The budgets and effectiveness of training funds allocated to universities, however, are not

monitored by the Ministry of Petroleum (Gomes and Weimer 2011).

Monitoring of domestic sourcing of goods and services is carried out through the direct involvement of

Sonangol in the procurement process of any operator, as outlined earlier in Table 1.12. No evidence has been

found of a formalized system measuring local content in goods and services procured by operators.

1.3.7 Policy Impact on Local Content Levels

Angolanization

In 2002 the Advisory Council of the Ministry of Petroleum carried out a review of the Angolanization efforts

against set targets across all operators. As shown in Figure 1.10, the review revealed that the 1990 targets were

met for unskilled workers, exceeded for midlevel staff, and came short by 46 percentage points for higher-

skilled staff. Overall, the Angolanization rate was 77 percent. In 1999 the total number of workers increased to

10,061, and Angolanization rates remained similar to the 1990 levels. In 2002 the total number of workers

increased by around 35 percentage points from the 1999 levels. Compared with 1990, the overall

Angolanization rate increased to 88 percent (Mangueira 2004). The highest increase occurred with reference to

upper level staff, likely as a result of the increased level of investment and raising production levels (Figure

1.11).

Figure 1.10 Achieved Angolanization Rate versus Target, 1990

Source: Based on data from Mangueira 2004.

9 It used to be on quarterly basis as per the decree of 1982.

1,167

2002

93%

7%

1990

3,107

+166%

8,099

+323%

2002

86%

14%

1990

1,913

80%

20%

1990

34%

715

2,427

2002

46%

+239%

54%

66%

Unskilled staff (up to grade VI) Mid-level staff (grades VII to XI) Upper level staff (grades XII and XIII)

34

Figure 1.11 Angola: Production

Source: Based on data from BP 2011;.

Note: mmbpd = million barrels per day.

One problem with the above targets and measurement mechanism is that it does not consider the

Angolanization rate by occupation. Triggered by that and upcoming petroleum developments, in 2002 the

Ministry of Petroleum launched the first study in the country that looked at the labor demand across the oil

value chain by occupation. Findings from the study showed that Angolanization rates are lower in upstream

engineering occupations, and that the overall rate was 91 percent (Table 1.14).

Table 1.14 Labor Distribution and Angolanization Rate by Occupation along the Oil Value Chain, 2002

Upstream Downstream Total % Angolan

Angolan Expatriates Angolan Expatriates

Technical 5,373 1,147 570 15 7,105 84

Operations 1,550 273 338 5 2,166 87

Marine operations 327 214 23 o 564 62

Mechanical 563 138 119 4 824 83

Electrical/Instruments. 434 154 90 6 684 77

Welding/Piping 2,023 348 0 0 2,371 85

Construction 476 20 0 0 496 96

Engineering 695 783 86 6 1,570 50

Operations 71 190 59 3 323 40

Marine operations 7 85 3 0 95 11

Mechanical 62 77 11 1 151 48

Electrical/Instruments. 97 81 13 2 193 57

Engineering 171 94 265 65

Geology/Geoscience 187 111 298 63

Surveying 100 145 245 41

Finance and administration 1,631 183 336 2 2,152 91

Other 3,427 394 932 16 4,769 91

Total 11,126 2,507 1,924 39 15,596 84

Source:Adapted from Mangueira 2004.

A view of the Angolanization rates in upstream operations between administrative and technical

occupations by job grade, presented in Table 1.15, shows that administrative occupations achieved higher

rates.10 The rates across the various administrative occupations are consistent with the average by job grade.

10 For details on Angolanization rates by occupation, refer to Mangueira (2004).

0.0

0.5

1.0

1.5

2.0

19…

19…

19…

19…

19…

19…

19…

19…

19…

19…

20…

20…

20…

20…

20…

20…

mm

bp

d

35

Table 1.15 Angolanization Rate in Administrative versus Technical Occupations, 2002

Total Administrative staff Technical staff

Workforce % Angolan Workforce % Angolan Workforce % Angolan

Unskilled staff (up to grade VI) 3,107 93 350 100 2,757 92

Midlevel staff (grades VII to XI) 8,099 86 1,404 98 6,695 83

Upper-level staff (grades XII and XIII) 2,427 54 725 64 1,702 49

Total 13,633 82 2,479 89 11,154 80

Source: Based on data from Mangueira 2004.

In 1983 the National Petroleum Institute (INP) was instituted to promote the educational and skill levels of

the national working force in the oil industry. The INP cooperated with the Norwegian RKK center for

vocational and professional training and the Stavanger Offshore Technical College (SOTS), mainly in the

training of instructors for the INP itself. It offered three training programs:

o The Technical Training Program (high skilled) is a three-year program provided at the

secondary level with courses in technical industrial maintenance, geology and mining,

drilling, and production as well as petroleum operations.

o The Professional Training Program (medium skilled) is for candidates with secondary-level

qualifications. It has additional 12-month and 18-month courses in electrical engineering,

production operations, mechanics and maintenance, refrigeration, instrumentation, English,

and information technology.

o The Petroleum Engineering Program (PEP), established in 2002, is a continuing specialized

postgraduate program of mining, steel, chemistry, and civil engineering and graduates

around 20 engineers annually (Teka 2011).

Between 1990 and 2003 the INP trained 1,581 high-skilled professionals and 1,111 medium-skilled

professionals through its programs (CRES 2008); by 2008 the number of high-skilled graduates reached 1,790

(Teka 2011). Table 1.16 presents the INP’s training programs and the number of Angolans who graduated

between 1983 and 2009.

Table 1.16 Number of Graduates from High-Skilled Programs at the INP, 19832008 Study program Number of graduates

Geology and prospection 33 Drilling and production 705 Mechanical engineering 395 Geology and mining 425 Subsea technology 100 Other 132 Total 1,790

Source: Teka 2011.

Among oil companies, training and development efforts were diversified and varied according to the level

of the beneficiaries and the spending value. For instance, Chevron concentrated on students and provided

outstanding ones with scholarship grants in engineering, information technology, and health and safety

studies, whereas Total E&P concentrated its efforts on training existing staff through tailored programs and

rotations, often on projects outside Angola. ExxonMobil also provided on-the-job and off-the-job training to

existing employees, although mostly to improve soft skills. In addition, the company funded Angolans to

study in the United States (Skills Shortage II). British Petroleum (BP) developed trainings within the company

and implemented the leadership programs used in other countries to Angola, to identify and develop

leadership potential within its ranks.

Domestic Sourcing and Preferential Treatment

Driven by the preferential treatment legislated in the decree of 2003, Sonangol developed over 20 joint ventures

with international companies to supply core and noncore goods and services to the oil and gas industry. An

36

overview of a selection of these joint ventures is presented in Table 1.17. In 2003 the Ministry of Finance

commissioned KPMG to audit the activities and roles of the key stakeholders in the petroleum sector. In

relation to local content, the auditor’s report raised the issue of conflict of interest since Sonangol acts as a

concessionaire and contractor at the same time. No evidence was found on work being awarded to any of

Sonangol’s joint ventures without being the lowest in price, as demanded by the tendering process. But the

report highlighted that “the possibility for Sonangol to exert pressure on operators to award contracts to a

Sonangol Joint Venture must exist.” In addition, the report recommended that payments to “Sonangol's joint

venture companies should be made in local currency into bank accounts in Angola. Any foreign exchange

payments made by the joint venture should be made through the Bank of Angola in the normal way,”

suggesting that it was not the case at present (MENAS, Angola, 2008).

Table 1.17 Angola: A Selection of Sonangol Joint Ventures in Upstream Oil and Gas Services, 1984–2002

Company Sonangol

shares (%)

Partners (shares) Year Key activities

Sonamer 49 Pride International (51%) 1998 Drilling

Petromar 30 Saipem (70%) 1984 Construction of facilities

Sonamet 40 Acergy (55%) and Wapo International (5%) 1998 Fabrication

Sonadiets 30 Dietsmann (70%) 1999

Project management, technical assistance, and professional training

Sonaid 30 FORAID (55%) and KITONA (15%) 2002

Supply, storage, and management of tubular equipment

Angoflex 30 Technip (70%) 2002

Manufacturing of umbilicals and pipelines for underwater production

Source: Based on data from Sonangol 2006a AfDevInfo 2008.

Foreign oil companies operating in Angola have faced a challenge in coexisting with an inexperienced

sector of domestic firms and suppliers. As a result, there is a move toward public-private partnerships (PPPs)

to define the challenges hindering the integration of LCPs in sourcing goods and services. The challenges rest

within four main categories:

o Infrastructure and engineering equipment inadequacy o Insufficient financial resources to drive change o Low level of technical expertise o Lack of collaborative efforts (Sonangol 2006b)

To counter the challenges, a framework involving five subgroups led by oil companies and coordinated by

Sonangol has been launched Figure 1.12).

Figure 1.12 Angola: Framework and Initiatives for Approaching Domestic Sourcing Challenges

Source: Adapted from Sonangol 2006b.

Note: BP = British Petroleum; SMEs = small and medium-sized enterprises.

Micro-FinanceProfessional

Training

Local Capacity for

SMEsBidding Process

Sonangol

Ministry of Petroleum

Total BPChevronESSO

Feeds into a government action plan

Coordination of Efforts

37

In 2002 Chevron pioneered the formation of the Angola Enterprise Program (AEP) to develop local capacity of

small- and medium-sized enterprises (SMEs) and maintain a business environment that can provide reliable

and quality-driven products and services. The program, funded by the Spanish International Cooperation

Agency for Development (AECID) and Chevron, was budgeted at $4 million and implemented with the

involvement of a number of development agencies and governmental institutions. The program started in 2004

and was initially set to be finalized by 2007, but later extended until 2013. The AEP provided technical and

financial support and assistance to local companies through funding the Luanda Business Incubator, which

provided the premises and the delivering of training seminars in finance, management knowledge, human

resources skills, and technology networking. The incubator also facilitated the business networking necessary

for later operations. In 2009 the incubator graduated 6 entrepreneurs who went on to establish companies that

created 69 jobs and were expected to generate $378,000 per year (Chevron CSR Report 2009).

BP launched the Centro De Apolio Empresarial (CAE) in 2005 in partnership with Sonangol, Chevron,

Esso, Total, and CDC Development Solutions (formerly Citizens Development Corps). The CAE provided core

courses and training sessions to local SMEs in the fields of human resource management, supply-chain

management, health safety and environment, quality management, and finance. BP coordinated and financed

the program along with its partners, while CDC monitored the progress and implementation of the CAE

program. By February 2010 the CAE had trained 1,455 companies engaging 2,478 participants. In addition, the

CAE facilitated the engagement of local companies in 289 contracts with the total value of $206 million,

creating 4,194 jobs (CAE 2010).

On the other hand, Total E&P moved to promote microfinance through the creation of the Zimbo Fund11 in

2005. Total partnered with Banco Totta de Angola to create a joint guarantee fund increasing SMEs’ access to

capital and reducing the bank’s lending risks. Projects were selected by executives from Total and Banco Totta,

according to the capital and developmental return on investment by the candidate SMEs. The loan ceiling per

project was set at $20,000 and the whole program aimed to finance around 60 projects and create 100 jobs (Total

2005). The fund was estimated to have created 300 jobs via the creation of dozens of local companies including

a textile workshop, an Internet café, and a farm cooperative (E-biz guides).

Esso, a subsidiary of ExxonMobil, concentrated its efforts on the facilitation of bidding processes and

promotion of the CAE programs. Between 2008 and 2009, its trainings encompassed 78 local suppliers of which

56 companies were provided from the CAE’s database and 22 others from Esso’s list of suppliers. The

companies received technical assistance on accessing the electronic bidding system e-RFX (CAE 2010), which is

used by ExxonMobil worldwide to reduce time consumption and eliminate paper work in the bidding process.

The attendees came from various oil supply sectors including security and transportation, fuel and chemical

production, office furniture, information technology (IT) and telecommunications, and water supply.

11 Named after a type of shell that was once used as money.

38

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http://www3.weforum.org/docs/WEF_GCR_CompetitivenessIndexRanking_2011-12.pdf

http://stat.wto.org/StatisticalProgram/WSDBStatProgramSeries.aspx?Language=E

40

2. Brazil

Brazil’s first oil discovery dates back to 1864, six years after that of the United States. But it was not until 1939

that oil was discovered in commercial quantities. Since then, political and economic conditions have shaped the

country’s position toward the protection of the domestic petroleum value chain.

In the earlier days of the industry and during the rule of Getulio Vargas, several decrees12 were issued

providing the state with full ownership of all existing oil and gas fields in the country and monopolizing all the

rights for exploration, transport, distribution, and trade of oil and oil-related products. Dictator Vargas was

overthrown in 1945, and General Dutra became president. During his first year in office a new constitution was

declared, which provided local and foreign oil companies established in Brazil the right to obtain oil

concessions. This fueled a major debate between the liberal and nationalist camps that carried on for years. On

one hand, the liberals, in office at the time, argued that nationalization would damage relations between Brazil

and the United States and would hinder the development of the domestic industry due to the limited

availability of domestic capital and capabilities. On the other hand, nationalists saw that oil was crucial to the

national economy and felt that the government should control all aspects of the sector. Nonetheless, the sector

remained liberalized, and the dispute was not settled until Vargas was reelected in 1953. During that year, state

control over the oil sector was reinstated (through Law number 2004) creating Petrobras, the sole

concessionaire that held monopoly rights over all upstream operations. The government was the major

shareholder in the company.13

Promotion of domestic sourcing of goods and services used by the petroleum industry started with the

establishment of Petrobras. In 1954 the local industry supplied only 5 percent of the equipment and material

consumed by Petrobras. But stimulated by the state company, a number of domestic suppliers were established

and by 1960 they supplied more than 60 percent of the material and equipment sourced by Petrobras.

Following a period of consolidation among suppliers, this share increased to 80 percent in 1979. That period

was characterized by a strong growth in Petrobras’ investments as well as the overall economy (Brandao 1998).

But by 1980 Petrobras had shifted its investments to offshore developments, where the domestic industry

was lacking capabilities, and the industry’s share in goods consumed by Petrobras fell to 52 percent. In parallel,

the country’s economic growth started plummeting and inflation rates swelled. Two years later, import

restrictions—put in place as a result of the debt crisis—enabled the domestic industry to raise its share of goods

sourced by Petrobras to 83 percent, increasing further to 91 percent by 1989 (Brandao 1998). The period that

extended to the 1990s was characterized by low investments from Petrobras, and a shrinking domestic supply

base. Overall, the domestic chain developed to meet Petrobras demands (ONIP 2010).

In the early 1990s reforms and liberalization of external trade were introduced during the rule of Fernando

Collor and his vice president, Itamar Franco, who later took office. The reform process was carried on by

subsequent presidents. During Fernando Cardoso’s term the Real Plan was introduced in 1995 mainly to fight

rising inflation rates, and its implementation began to place the economy on a growth path. Brazil’s gross

domestic product (GDP) witnessed a growth rate of 4.3 percent in year 2000, up from 0.3 percent in 1999

(World Bank 2012b). During this regime, an Oil Bill was passed in 1997 liberalizing the oil sector and

transferring all regulatory activities to an independent entity linked to the Ministry of Mines and Energy

12 Decrees 336 of 1937 and Decree 395 of 1938 nationalized the oil sector in Brazil. 13 No foreign company was allowed to own shares in Petrobras

41

(MME). The bill did not expressly include any statements on the local sourcing of goods and services used by

the petroleum industry. Instead, these were managed in piecemeal until the arrival of the Workers Party (PT)

president, Lula da Silva, to office in 2002.

Upon its foundation in 1980, the PT united an assortment of Marxists, liberation Catholic activists,

moderate intellectuals, and union and social movement leaders. Although a homogenous mixture, PT

constantly defined itself as socialist and assumed many radical stands. In 1988 the party advocated rejection of

external debt, nationalization of banks and mineral wealth, and radical land reform. In 1994 it further

committed to anti-monopolist and anti-imperialist change as part of a long-term strategy to build an alternative

to capitalism (Samuels 2004).

But as a result of failure at the 1989 and 1994 election polls and the fall of the Soviet camp, PT began a

process of revaluation looking inward at the party’s objectives and way forward. During Lula’s third

presidential campaign in 1998, PT changed its socialist proposals and silenced any intention to transition Brazil

to a socialist society. The clear shift, however, was only visible in the 2002 elections, when interparty polls saw

moderate candidates gaining ground over radical candidates. During these elections, Lula and PT emphasized

a “respect for the country’s contracts and obligations” and expressed “opposition to radical and unilateral

solutions.”

Although the PT dialogue toned down the socialist slogans of the 1980s, it kept its stand on developing the

working class and increasing local capacity of Brazil as a nation. These objectives were directly translated into

multiple legislations as PT rose to office. The Oil Bill of 1997; the Buy Brazilian Law of 2010, which led to the

Bigger Brazil Plan of 2011; and multiple other initiatives have been spearheaded by President Dilma Rousseff,

who herself moved from the ranks of the National Petroleum Agency (ANP) to become the Minister of Energy,

until taking over office in 2010. The subsequent sections provide in-depth analysis of local content policies

(LCPs) related to the oil and gas industry and the context surrounding them.


In its 2011 Global Competitiveness Report, the World Economic Forum (WEF) placed Brazil in 53rd position

among 142 countries, enhancing the country’s rank by five positions from 2010 and 19 positions from 2007.

Brazil comes in behind two of the BRICS14 (that is, China and South Africa), and multiple Latin American

countries such as Chile and Panama (Sala-i-Martin 2011). According to the report, Brazil enjoys a large

domestic market, high level of sophistication of business, efficient financial markets, and high rates of

innovation and technological adoption.

On the other hand, multiple structural factors hinder the progress of the country. These include poor

infrastructure, high interest rates, a complex fiscal system, and heavy bureaucracy, in addition to a shortage of

skilled labor and a weak educational system. In its 2010 competitiveness analysis of the Brazilian oil and gas

sector, the National Organization of the Petroleum Industry (ONIP) argued that raw material costs, labor costs,

and taxes make production of petroleum-related goods in Brazil more expensive than in emerging economies

such as China, Mexico, and Southeast Asia.15 On the other hand, when compared to developed economies,

Brazil suffers from lower productivity, lack of scale, and higher cost of capital, taxes, and logistics costs. The

exchange rate is also a challenge. The same study reports that structural factors are the main hurdles to the

sector competitiveness. On top of the list of challenges reported by oil and gas suppliers in Brazil (Figure 2.1)

are high taxation, lack of qualified labor, and high cost of capital (ONIP 2010). Following is a discussion of

these major constraints.

14 Brazil, Russia, India, China, and South Africa.

15 The study included a competitiveness analysis for establishing domestic production facilities for a selection of oil- and gas-related

equipment (that is, valves, pumps, flanges, naval boilers, heat exchangers, and naval steel plates).

42

Figure 2.1 Key Challenges for Brazilian Companies, Percentage of Respondents (total = 77)

Source: Adapted from ONIP 2010.

2.1.1 Economy

Brazil GDP continues to experience an overall upward sloping trend in growth (World Bank 2012b). The

country enjoys a strong internal market that immunized it against the global recession in 2008. In 2010 the

country achieved a growth rate of 7.2 percent, three points above the world’s average. This growth is expected

to slow down over the coming five years (IMF 2012). The 2010 per capita GDP in Brazil reached $10,710,

showing a compounded real average growth rate of 2.2 percent from year 2000.

Despite the growth, Brazil has had a troubled history with inflation nearing 3,000 percent in 1990. More

recently, between 2000 and 2010, the country maintained a relatively stable inflation rate (which varied

between 3 and 7 percent), with the exception of 2003, when inflation hit 14.7 percent. Compared to other

countries, Brazil ranks 104 out of 163 countries. After a long period of depreciation and backed by high

commodity prices, the Brazilian real has been appreciating vis-à-vis the dollar starting in the year 2002. This

trend is expected to continue in the future, making imports relatively cheaper.

The year 1994 marked the start of a wave of foreign direct investment (FDI) in Brazil. Net FDI reached $39

billion in year 2000, though the trend reversed between 2001 and 2005. Then, post-2006, Brazil experienced

another surge in FDI inflows, though the level was still lower than that of 2000. On the external front, despite

Brazil’s relatively high debt-to-GDP ratio, 54.4 percent (CIA 2012), the country’s debt profile has been

improving and current account imbalances are seen as manageable. Currently, Brazil enjoys a net creditor

position, and its foreign exchange reserves more than enable the country to offset its external debt.

Since 2002 Brazil has been enjoying a trade surplus, as exports experienced a compounded annual growth

rate (CAGR) of 22 percent between 2002 and 2008. In 2010 the country overcame the slowdown of 2009, and

surpassed the 2008 exports level to reach $201.9 billion; imports experienced a similar trend, reaching $191.5

billion. This led to a trade surplus of $10.5 billion in 2010. Brazil’s trade is also quite diversified. In 2010, 80

percent of the imports came from 21 major partners, and less than 80 percent of exports were directed to 25

major partners (UN Comtrade 2010). Table 2.1 provides a historical view of Brazil’s main economic indicators

from 1980 through 2010.

Table 2.1 Key Economic Indicators of Brazil, 1980 –2010

1980 1985 1990 1995 2000 2005 2006 2007 2008 2009 2010

GDP (constant 2000 $, billion) 430.4 454.2 501.8 583.6 644.7 739.6 768.9 815.7 857.9 855.1 919.5

GDP per capita (constant 2000 $) 3,536.0 3,334.0 3,353.0 3,606.0 3,696.1 3,976.6 4,090.6 4,297.8 4,478.8 4,424.8 4,716.6

Inflation, CPI (%) — 226.0 2,947.7 66.0 7.0 6.9 4.2 3.6 5.7 4.9 5.0

Real interest rate (%) — — — — 47.7 44.9 42.1 35.8 35.9 36.8 30.4

Exchange rate (LCU per $) 2.3E-11 2.7E-09 3.0E-05 0.9 1.8 2.4 2.2 1.9 1.8 2.0 1.8

Trade (% of GDP) 20.4 19.3 15.2 16.0 21.7 26.6 25.8 25.2 27.1 22.3 23.3



— Not available.

26%

28%

29%

35%

40%

55%

76%

Cost of Local Raw Materials

Credit/Assurance Access

Technology Access /…

Business Bureaucracy

High Cost of Capital

Qualified Labor

High Taxation

43

The real interest rate in Brazil has declined since the late 1990s, but is still among the highest in the world.

As shown in Table 2.1, the real interest rate reached 30.4 percent in 2010, placing Brazil in the second place after

Madagascar in the list of 28 countries reported by the World Bank (2012b). Looking at the basket of

commodities exported (Figure 2.2), petroleum-related commodities contributed to 10 percent of total exports in

2010. Upon achieving self-sufficiency in oil production, the country became a net exporter of crude oil in 2007.

Figure 2.2 Brazil’s Exports by Commodity, 1980–2010 ($ billion)

Source: Based on data from WTO 2012.

2.1.2 Taxation

The overall tax burden in Brazil is among the highest in the region and the world (Figure 2.3); the same applies

to the country’s corporate tax rate. This has led to the establishment of a large informal economy. In addition,

the tax system in Brazil is complex, characterized by a long list of federal and state taxes (Table 2.2 presents a

snapshot). This issue has been recognized by successive governments, but reform remains slow. During her

2010 electoral campaign, President Rousseff promised to lead a tax reform that would reduce the socially

regressive effects of the existing taxation system. The pledge was reiterated in her inaugural speech in January

2011.

Figure 2.3 Comparison of Brazil’s Tax Revenues and Corporate Tax Rate to Other Countries, 2009 and 2010 (%)

Source: Based on data from CIA 2012; Deloitte 2012; World Bank 2011.

Note: For Angola and Tanzania tax revenues reflect 2011 levels and include social contributions—such as payments for social security and hospital insurance—grants, and net revenues from public enterprises. OECD = Organisation for Economic Co-operation and Development.

19% 28% 26%

16%

6%10%

11%

2%1%

6%7%

6%

6%4%

7%9%

8%

19%

1995

46.5

34%

10%

4%

16%

45%

1980

20.1

11%

34%

2000

55.1

28%

10%

15% 11%

2005

118.5

50%

30%

100%

2010

201.9

34%

18%

10%

39%

20%

1990

31.4

31%

14%

2%

17%

1985

25.6

Other

Agricultural products

Mining products

Machinery and transport equipment

Fuels

Chemicals

Iron and steel

OECD 14%

Kazakhstan 8%

India 10%

Indonesia 11%

Uganda 12%

Canada 12%

Russia 13%

Brazil 16%

Chile 16%

Malaysia 16%

Australia 22%

Netherlands 23%

South Africa 26%

United Kingdom 26%


Norway 27%

Angola 43%


Russia 20%

Kazakhstan 20%

Chile 20%

UK 24%


Netherlands 25%

Indonesia 25%

Malaysia 25%

South Africa 28%

Norway 28%

Canada 28%

Uganda 30%

India 30%

Australia 30%

Brazil 34%

Angola 35%


44

Table 2.2 Snapshot of Taxes in Brazil (2010)

Tax Rate (%) Description

Corporate 15% The basic rate of 15% is increased by a surtax of 10% on annual taxable profits exceeding 240,000 reals

CSLL 9% Social contribution on net profits

Interest 15% The rate for interest payments on loans can increase to 25% for residents of tax havens.

FGTS 8% on monthly salary Fund for the guarantee of length of service.

ICMS 025% State value-added tax (VAT).

INSS 26.8%28.8% on monthly salary paid by employer and 7.6511% paid by employee

Social security contribution.

IPI 0%330% Tax on industrial products. The national average is about 10%.

II 0%35% Import tax.

IR top rate 27.5% Personal income tax.

ISS 2%5% Municipal service tax.

IOF 0%25% Financial operations tax (on loans and foreign investment).

Source: Based on data from KPMG 2012 and Deloitte 2012.

Note: II = import tax; IPI = tax on industrial products; II = Import tax; IR = Export tax; ISS = Personal income tax; ISS = Municipal service tax; IOF = Financial operations tax.

— Not available.


Brazil’s population is the largest in Latin America and has been steadily growing since 1950. As shown in

Figure 2.4, the country’s labor force will peak early next decade, returning to current levels toward 2040. This is

paralleled by an exploding generation of the elderly. PT came into power after a period of growing

unemployment, which reached 12.3 percent when Lula took office in 2003. Since then, unemployment has been

trending toward historically low rates on the back of a growing economy.

Figure 2.4 Evolution of the Brazilian Population and Labor Force over Time, 1950–2050 (in millions of people)

Source: Based on data from UN 2010.

The mean years of education of the Brazilian labor force averaged at 7.2, lower than resource-rich and

developed economies averages. In terms of labor compensation, the real average labor wage has been rising,

with a sharp increase in the minimum wage (which reached $300 in 2010). While this presents a positive

development internally, it might affect the country’s competitiveness in the global arena. Table 2.3 presents a

summary of key labor-related indicators.

0%

10%

20%

30%

40%

50%

60%

70%

80%

0

50

100

150

200

250

19

50

19

55

19

60

19

65

19

70

19

75

19

80

19

85

19

90

19

95

20

00

20

05

20

10

20

15

20

20

20

25

20

30

20

35

20

40

20

45

20

50

Mil

lio

n P

eo

ple

60+

50-59

40-49

30-39

20-29

10-19

0-9

% 15 - 64

45

Table 2.3 Brazil’s Labor Force Indicators Compared to Select Countries, 2010


Educational attainment (% of total) Mean years of

education

Minimum wage ($ per

month)



Angola 7.1 — — — 4.4 127 25.0 Australia 11.8 27.3 38.9 33.8 12 1,597 5.2 Brazil 101.6 — — — 7.2 300 8.3 Canada 19.0 13.5 40 46.5 12.1 1,903 8.0 Indonesia 11.8 — — — 5.8 133 7.1 Kazakhstan 8.8 — — — 10.4 — 6.6 Malaysia 12.0 18.3 56 21.1 9.5 — 3.7 Norway 2.6 19.9 43.5 35.8 12.6 3,609 3.6 South Africa 18.2 15.8 74.2 5.2 8.5 543 23.8 Tanzania 22.1 — — — 5.1 59 10.7 Trinidad and Tobago 0.7 25.3 63 11.1 9.2 — 5.4 Uganda 13.4 — — — 4.7 3 4.2 United Kingdom 31.8 19.2 44.4 35.4 9.3 1,655 7.8

Source: Based on data from World Bank 2011; UNDP 2010.

Note: Educational attainment data for Australia, Canada, Malaysia, South Africa, and Trinidad and Tobago are from 2008; unemployment data for Brazil, Kazakhstan, Malaysia, South Africa, and Uganda from 2009.

— Not available.

Industry accounted for 22 percent of the total employment in 2009, in line with the Organisation for

Economic Co-operation and Development (OECD) average. Agriculture’s share has been on a downward

trend, accounting for a historically low 17 percent. The remaining workforce is in the growing services sector

(World Bank 2012b). Despite the increase in the absolute level, employment in the knowledge-intensive

manufacturing remains lower than in mature economies, as shown in Figure 2.5.

Figure 2.5 Breakdown of Labor Force by Category, 2000 and 2007 (in millions of people)

Source: Based on data from MGI 2012; UNIDO 2012; ILO 2012.

Note: The number of employees engaged in manufacturing activities is based on the United Nations Industrial Development Organization’s (UNIDO’s) statistics, while the rest are based on International Labour Organization (ILO) data.

Overall, Brazil is characterized by rigid labor laws and well-organized unions. Strikes occur frequently in

private sector companies where the labor force is commonly demanding for an increase in its share of profits—

a requirement of the Brazilian law. Currently, labor courts are responsible for concluding decisions on most

labor disputes, as opposed to being the outcome of negotiations between management and labor. The São

Paulo Federation of Industries claimed that labor reform would make it easier for companies to hire workers,

and that it could potentially integrate some 27 million workers from the informal to the formal market, and

open another 8 million job opportunities.

50.6% 50.6%

2.2%2.2%4.0%3.9%

2.1%2.3%

100%

2007

84.5

20.2%

19.4%

1.4%

19.6%

1.3%

20.1%

2000

61.2

Mature economy average,

2007

(% of total employment)

Total change in

employment, 2000 - 2007

(Million jobs)

Primary Resources 3 4.6

Labor-intensive manufacturing 2 0.3

Capital-intensive manufacturing 6 1.0

Knowledge-intensive manufacturing 5 0.6

Labor & Capital intensive services 42 11.8

Knowledge-intensive services 17 0.4

Health, education and public services 26 4.7

46

2.1.4 Education

Education in Brazil offers ample room for improvement. The country’s enrollment figures are lower than

neighboring and developed economies, especially in tertiary education. As for the quality of higher education,

out of the 183 universities, only 6 show up in the world’s list of top 500 (Academic Ranking of World

Universities 2010), most of them ranking above 200. Literacy among adults is another issue—it was 90 percent

in 2008 for adults above 15 years old. This number is set to increase as literacy rate among youth is around 98

percent and multiple programs are in place to combat that (World Bank 2012a). Public expenditure on

education reached 5.7 percent of GDP in 2009, an increase from 4.5 percent in 2005. Table 2.4 shows the

educational indicators of Brazil in comparison to that of other countries.

Table 2.4 Brazil’s Educational Indicators Compared to Select Countries, 2010

Literacy rate (%) School enrollment (%) Public expenditure on

education (% of GDP) Adult (15+) Youth (1524) Primary Secondary Tertiary

Angola 70.1 73.1 85.7 11.5(a) 3.7 3.6 Australia — — 97.1 85.5 79.9 5.1(a) Brazil 90.3(a) 98.1(a) 94.1(b) 82.0(2) 36.1(a) 5.4(b) Indonesia 92.2(b) 99.5(b) 95.9 67.3 23.1 3.5(b) Kazakhstan 99.7 99.8 89.5 88.2 38.5 3.1(a) Malaysia 93.1 98.4 94.1(e) 68.7(5) 40.2(a) 5.8(a) Norway — — 99.1 93.9 74.4 6.5(b) South Africa 88.7(c) — 85.1(a) — — 6.0 Tanzania 73.2 77.3 98.0(b) — 2.1 6.2 Trinidad and Tobago 98.8 99.6 93.9 — 40(b) 3.8(d) Uganda 73.2 87.4 90.9 — 4.2(a) 3.2(a) United Kingdom — — 99.6(a) 96(a) 58.5(a) 5.4(b)

Source: Based on data from Gomes and Weimer 2011; UNDP 2010; World Bank 2012b MSTTE 2011.

Note: (a) year 2009; (b) year 2008; (c) year 2007; (d) year 2006; and (e) Global Competitiveness Report data.


The overall business environment in Brazil is promising, offering diversified opportunities and prospects. The

country enjoys a stable political system and a developed financial sector. The country has been undergoing

reform initiatives on tax (to change the rigid tax system), regulatory, and structural frameworks to encourage

investment in the country.

Despite the increased privatization and constitutional reform over the past decade, corruption and

bureaucracy in business and government remain overly high in Brazil and improvements need to be made,

along with reforms of the legal framework. The World Bank’s annual “Doing Business Survey” shows that

Brazil ranks toward the bottom of the list with an average of 119 days to establish a new business. In other

aspects too—such as registration of property, dealing with construction permits, and enforcing contracts (Table

2.5)—procedures are long and time consuming. This occurs despite some recent legislative efforts to ease up

tax procedures for small- and medium-sized enterprises (SMEs) through the implementation of the “Super

Simples” tax regime, which aims to save the time needed to file tax reports. Moreover, a recent presidential

decree in 2009 took effect prohibiting public officials from requesting new paperwork in cases where a similar

document is held by another government agency.

47

Table 2.5 Indicators for Doing Business in Brazil in Comparison to OECD Average, 2012

Source: The World Bank Group 2012.

Note: Ranking is out of 183 countries. OECD = Organisation for Economic Co-operation and Development.

After three decades of underinvestment, the Brazilian government put forth the Growth Acceleration

Program (Programa de aceleração do crescimento, PAC) in 2007. As per the plan the government intended to

invest 646 billion reals on infrastructure projects in transport, energy, sanitation, housing, and water. Former

president Lula da Silva, in an effort to promote close integration within the region, was active in lobbying

developed countries (in particular the United States) to seek funding and direct investments in infrastructure

projects. Frequent disputes have, however, delayed these projects (especially in the energy sector), challenged

mostly as they are by the trade-off between the need to accelerate licensing processes of new operations and to

protect environmental and social factors.

The country’s overall governance indicators show the stability of the political environment and the

improvement in the rule of law (Figure 2.6).

Brazil OECD Brazil OECD

1. Starting a business 6. Protecting Investors

Procedures (#) 13 5 Extent of disclosure index (0-10) 6 6

Time (days) 119 12 Extent of director liability index (0-10) 7 5

Cost (% of income per capita) 5.4 4.7 Ease of shareholder suits index (0-10) 3 7


Rank (Change in rank from 2011) 120 (+5) Rank (Change in rank from 2011) 79 (-5)

2. Dealing with Construction Permits 7. Paying Taxes

Procedures (number) 17 14 Payments (number per year) 9 13



Rank (Change in rank from 2011) 127 (+6) Labor tax and contributions (%) 40.9 24


3. Getting Electricity Total tax rate (% profit) 67.1 42.7


Time (days) 34 103

Cost (% of income per capita) 130.3 92.8 8. Trading Across Borders

Rank (Change in rank from 2011) 51 (+2) Documents to export (#) 7 4







5. Getting Credit 9. Enforcing Contracts

Strength of legal rights index (0-10) 3 7 Time (days) 731 518



Private bureau coverage (% of adults) 61.5 63.9 Rank (Change in rank from 2011) 118 (0)

Rank (Change in rank from 2011) 98 (-2)

10. Resolving Insolvency

Time (years) 4.0 1.7




48

Figure 2.6 Governance Indicators in Brazil Compared to the OECD Average




In 2010 the mining, manufacturing, and utilities sector contributed 19 percent to Brazil’s GDP; oil and gas

constituted half of that (Azzoni and others 2007). Recent presalt16 discoveries are set to boost the sector’s share

in the country’s GDP to 20 percent by 2020 (Panassol 2009). Figure 2.7 compares the breakdown of Brazil’s

GDP by activity to other countries in 2010, and Figure 2.8 shows the evolution of the contribution of mining,

manufacturing, and utilities sector to GDP over time.

Figure 2.7 Brazil: Breakdown of Value-added by Economic Activity, 2010 ($ billion)

Source: Based on data from UN Statistics 2010. Note: UK = United Kingdom.

16 Deposits located under thick layers of salt at a depth of around 18,000 feet below the ocean’s surface.

0

50

100


PoliticalStability/Absence of

Violence


Regulatory Quality

Rule of Law

Control ofCorruption

2000 Brazil 2000

2010 Brazil 2010

2010 OECD 2010

5%

8%

8%

6%

10%

5%

6%

8%

5%

6%

6%

15%

11%

18%

13%

13%

11%

8% 12%

12%

19%

12%

7%

45%

33%

43%

25%20%

39% 38%

22% 23%

51%

1%

2%

1%

5%

11%

14%

UK

2,236

14%

6%

10%

Uganda

17

12%

21%

12%

7%8%

20%

Indonesia

883

12%

29%

100%

Trinidad

& Tobago

24

36%

0%

8%

16%

South

Africa

377

24%

3%

13%

Norway

402

33%

4%

8%

Malaysia

304

32%

8%

3%

20%

Kazakhstan

159

30%

4%

7%

11%

Canada

1,637

20%

1%6%

10%

Brazil

2,066

19%

5%

5%

14%

Australia

1,296

19%

2%

7%

9%

Angola

85

50%

9%

8%

6%



Construction

Manufacturing



Other Activities

49

Figure 2.8 Brazil: Contribution of Mining, Manufacturing, and Utilities to Value-added, 1970–2010


Note: GDP = gross domestic product.

Today, the industry creates around 500,000 jobs along the supply chain—80,000 by Petrobras itself. With

presalt discoveries and LCPs, Brazilian authorities plan on creating 2 million jobs across the oil and gas supply

chain by 2020.


Brazil has 29 sedimentary basins spread across the north, coastal regions, and deep waters, of which onshore

reservoirs account for less than 10 percent. As shown in Figure 2.9, the state of Rio de Janeiro is endowed with

most of the country’s oil and gas reserves and is home for most major companies. Specifically, 150 kilometers

(km) north of the state’s capital is the port city of Macaé, which is considered the capital of offshore operations

in Brazil. Presalt discoveries will draw further attention to the state. Most of the country’s inland natural gas

reserves, however, are unexploited due to limited transportation capacity.

Figure 2.9 Brazil: Geographical Distribution of Main Oil and Gas Reserves – 2010 (Number in Parentheses

Indicates Percentage Onshore)

Source: Adapted from OSEC 2011.

0%

5%

10%

15%

20%

25%

30%

0

50

100

150

200

250

300

350

400

450

70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10

Shar

e o

f G

DP

GD

P (

Bn

$)


AMSão Luís

CE

SP

North

North-east

Midwest

South-east

South

RN

SE

BA

50


Brazil is endowed with 15.1 billion barrels (bbl) of proven oil reserves, making its reserves the second largest in

South America after Venezuela (BP 2012). Recent presalt discoveries will potentially move the country’s

worldwide rank in oil reserves from 15th to 5th (Center for Global Energy Studies 2010), increasing the

country’s reserves to 114 bbl. The majority of Brazilian reservoirs are of heavy oil, characterized by an API17

gravity in the lower 20s (Marathon 2012; Rigzone 2012). Brazil’s proven gas reserves are 16 trillion cubic feet

(tcf) (BP 2012). Table 2.6 provides a snapshot of Brazil’s oil and gas landscape.

Table 2.6 Snapshot of the Brazilian Petroleum Sector in 2010

2011 Share of

world %

Global rank

Percentage change

1 yr %

3 yrs %

5 yrs %

10 yrs %

Oil proved reserves, billion boe 15.1 0.9 14 5.6 16.9 19.2 53.5

Oil production, mmbpd 2,192.9 2.9 11 2.5 8.1 19.7 46.3

Oil refinery capacities, mmbpd 2,115.9 2.3 8 1.1 1.1 9.4 14.2

Oil consumption, mmbpd 2,652.7 3.0 7 2.3 9.8 18.7 32.3

Gas proven reserves, tcf 16 0.2 31 8.6 25.1 25.9 87.9

Gas production, bcfd 1.6 0.5 6 16.2 43.2 49.3 80.7

Gas consumption, bcfd 2.6 0.8 29 -0.3 35.0 26.3 89.4

Primary energy consumption, million toe 266.9 2.2 8 3.5 13.9 18.3 43.4

Source: Based on data from BP Statistical Review 2011.

Note: bcfd = billion cubic feet per day; boe = barrel of oil equivalent; mmbpd = million barrels per day; tcf = trillion cubic feet; toe = tons of oil equivalent.

In 2010 Brazil was listed as the world’s 11th-largest producer of oil and 8th-largest oil refiner (BP 2012).

The country’s oil production has experienced steady growth, with a CAGR of 7.3 percent between 1997 and

2010, reaching over 2 million barrels per day (mmbpd) (BP 2012). Production from onshore and shallow water

basins is at a plateau or decline, and most of the foreseen growth in production will be from deep-water basins

(Figure 2.10).

Figure 2.10 Brazil: Evolution of Production by Water Depth (in billion boe)

Source: Based on data from Offshore Center Denmark 2009.

Note: boe = barrel of oil equivalent.

17 American Petroleum Institute.

0

2

4

6

8

10

12

14

16

60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08

Deep Water (>300 meter)

Shallow Water (0-300 meter)

Onshore

51

In 2006 Brazil announced self-sufficiency in oil consumption, and soon after became a net exporter of oil.18

Over the coming decade, the plan is to increase production to over 5 mmbpd, directing most of the increase to

export markets. Figure 2.11 presents the forecasted domestic oil demand and supply.

Figure 2.11 Brazil: Forecasted Domestic Oil Demand and Supply, mmbpd

Source: Based on data from ANP 2011b.

Note: mmbpd = million barrels per day.

For natural gas the picture is reversed—despite the growth in domestic production, Brazil relies heavily on

liquefied natural gas (LNG) imports, mainly from Bolivia. In 2010 the country imported around 45 percent of

its consumption, as it plans to boost the supply of natural gas through two new offshore LNG facilities.

Currently, over 80 percent of the domestic natural gas supply is produced from offshore fields, 60 percent

coming in the form of associated gas.


Since 1953 state-controlled Petrobras has held a monopoly over the oil and gas value chain (expect for retail

and wholesale distribution) and used to act as the regulator and operator of the sector. In 1997 the Oil Bill

liberalized the value chain, separated governance roles, and freed oil prices from state control. Among the long

list of reforms, the new bill:

Separated policy, regulatory, and operational roles

Established concession contracts for oil and gas exploration, development, and production activities

Decreased the government ownership stake in Petrobras

Granted Petrobras the right to enter into joint ventures with private companies without congressional

approval19

Obliged Petrobras to set up an independent oil and gas transportation company (Transpetro) and

mandated open access to pipelines and terminals.

Under the new governance model, the National Congress (Congresso Nacional) is the legislative body

responsible for passing new laws and amending existing ones. Since policy making resides with the executive

arm of the country led by the presidency, an intergovernmental arm, the Conselho Nacional de Politica

Energetica (CNPE), was established to advise the presidency on the formulation of national energy policies.20

18 Despite that, Petrobras continues to import light oil for its refineries and exports its heavy crude. 19 Investment plans are still to be approved by Congress. 20 The CNPE includes members from the MME and the ministries of planning and budget, finance, environment and industry, as

well as the Secretary of Strategic Affairs of the Presidency, representatives from the states and federal district, and a Brazilian citizen

specialist in the energy sector.

0

1

2

3

4

5

6

20

00

20

01

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

13

20

14

20

15

20

16

20

17

20

18

20

19

20

20

Historical Production Forecasted Production

Historical Demand Forecasted Demand

52

The CNPE is also responsible for defining the blocks to be included in any bidding process. In addition to

implementing the CNPE’s recommendations, the MME is responsible for sectoral planning21 and management

of government interests in state-owned companies. The minister of mining and energy is the chairman of the

CNPE and sits on the board of Petrobras.

The ANP was created to regulate the sector. Under the MME, the agency enjoys administrative autonomy

and is governed by a board of four directors that are appointed by the president upon approval of the senate

(Article 11 of the 1997 Oil Bill). The ANP’s key responsibilities include contracting of oil and gas licenses,

monitoring of activities, and management of technical data. All of the ANP’s regulatory decisions are made

upon public hearings22 and are published on its Web site (www.anp.org.br). Today, the ANP has over 800 civil

servants distributed across different states. Environmental licensing of offshore activities is carried out by the

Brazilian Institute of Environment and Natural Resources (IBAMA), which is a federal agency under the

Ministry of Environment.

Despite the opening of the sector more than 10 years ago, Petrobras remains predominant in all segments

of operations. The company controls approximately 97 percent of production, 96 percent of the refining

capacity, 100 percent of the transport structure, and 46 percent of refined-products distribution. Upstream, the

situation is expected to change with presalt activities. Today, the company is recognized for its deep-water

capabilities and operates in 27 countries, holding a top quartile position in petroleum reserves, production,

refining capacity, and market capitalization.

For presalt discoveries, the country recently launched a new regulatory framework composed of four bills

that were approved by the Congress in 2010 (Beaubouef 2012). The new framework includes:

Adoption of a production sharing regime. Under this contractual regime, Petrobras is the operator with a

minimum 30 percent stake with all production belonging to the federal government. Participating

companies receive a fix share of generated revenues.

Creation of a new state-run company, Petrosal, to manage exploration and production (E&P) contracts

and carry out negotiations on behalf of the government for presalt discoveries. The company will not

have any operations.

Capitalization of Petrobras through granting it 5 bbl of unlicensed presalt oil reserves in exchange for a

larger government-ownership share.

Creation of a sovereign wealth fund to manage the government’s wealth from presalt discoveries

(Langevin 2010).

In line with the new reforms, the government decreased its ownership stake in Petrobras to 48 percent,

while maintaining control over the company through 54 percent of its voting shares. In 2010 Petrobras

performed the largest shares offer in history raising almost $70 billion.


Upon its creation, Petrobras relied heavily on external contractors to deliver upstream activities such as seismic

and drilling. Over the years, the company built internal capabilities through knowledge transfer from foreign

experts, training programs, and in-house research activities. Specifically on research and development (R&D),

in 1955 the company established its research center, Cenepes, which has been closely integrated within

Petrobas’ operations and strategic objectives. Throughout the years, the center enabled Petrobras to achieve

major breakthroughs such as:

o First offshore oil discovery in the Guaricema field in 1968

Geological mapping of the national coast in 1978

21 Either directly or through state-owned companies. The Companhia de Pesquisa de Recursos Minerais (CPRM) is a state-owned

company that carries out the functions of the Geological Survey of Brazil, under the auspices of the MME. Its mission is to “produce

and divulge the basic geological and hydrological knowledge required for sustainable development in Brazil.” 22 For regulations that might affect rights.

http://www.anp.org.br/

53

Setting the new world record of deep-water oil in 1999

Designing of a new concept of building floating platforms on a single column in 2005

Presalt discoveries in 2007.

Between 1998 and 2008 Petrobras increased its R&D spend by more than four times, placing the company

in third position among major international oil companies (IOCs) and national oil companies (NOCs) (Figure

2.12). Today the center has a diverse portfolio of research projects covering 15 areas linked to Petrobras’

activities.

Figure 2.12 Brazil: Evolution of Petrobas’ R&D Spending (to the left) in Comparison to IOCs and NOCs (to the

right), 1998–2008

Source: Based on data from Herold 2010.

Note: IOCs = international oil companies; NOCs = national oil companies; R&D = research and development.

Upstream, Petrobras holds over 90 percent of oil and gas production. For natural gas, a series of licensing

rounds that started in 1999 introduced competition in the upstream sector by increasing the level of foreign

participation, but Petrobras still remains the dominant player. In 2009 the company owned 92 percent of the

production of natural gas, but upcoming local private firms are expected to gain a significant share. IOCs (such

as ExxonMobil, Chevron, Shell, and Total) as well as other countries’ national oil companies also participate in

oil and gas exploration and production.

Transportation has been always highly regulated. As per the 1997 Oil Bill, Petrobras established an

independent oil and gas transportation company, Transpetro, which owns most of the existing pipeline assets.

The bill also mandated open access to pipelines and terminals. The country has a network of 8,000 km of oil

and a similar network for gas.

Historically, distribution has been the most competitive part of the fossil-fuels value chain in Brazil. In

2000 Petrobras’ market share in fuels distribution was 26 percent, with the rest split across the private sector.

Over the past few years the market has experienced a lot of acquisition activities, resulting in the increase of

Petrobras’ market share to 46 percent in 2009.23


It wasn’t until recently that Brazil set up a fund for the management of its oil wealth. Prior to 2010 oil revenue

allocation was often characterized as region preferential, unequally distributed among governorates, and not

providing a return for future generations in terms of social and economic well-being. Oil revenues of royalties,

taxes, and dividends were allocated mostly to states, municipalities, and unions (Gobetti 2009) in the areas

23 This accounts for around 80 percent of total fuel sales in Brazil. It includes ethanol but not natural gas for transport.

399

941

152

0

100

200

300

400

500

600

700

800

900

1,000

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

+401%

R&

D S

pe

nd

($

Mn

)

R&D Spend by Company in 2008

($ Mn, grey represents IOCs and blue NOCs)

209

318

395

495

595

803

835

847

900

941

1,122

1,266Shell

Petrobras

Eni

StatoilHydro

Sinopec

BP

ConocoPhillips

Gazprom

Chevron

PetroChina

ExxonMobil

Total

54

where production occurred (Pereira, Olbertz, and Rost 2012).

Following the major presalt discoveries, the government made a leap in the management of its wealthy

and new oil resources. The Social Fund of Pre-Salt (Fundo Social do Pre Sal) was enacted by means of Law 5940

in December 2010 (Baker and McKenzie 2010) to manage the new presalt oil revenues to continuously finance

social development in the country and reduce inequalities. This was to be carried out through programs aimed

to develop the areas of education, culture, public health, science, and technology, in addition to poverty

reduction and environmental sustainability (Gobetti 2009). The fund would allocate investments across the

nation, thus reducing the concentration of investment in producing areas.

Funding is raised from signing bonuses and royalties, petroleum marketing, and the income earned from

investing those sources. Fund governance is the responsibility of two newly founded bodies. First, the

Financial Management Committee of the Social Fund (CGFFS), which acts as a portfolio manager defining risks

and allocating funds for investment. The second, a separate Advisory Board of the Social Fund (CDFS),

describes priorities and sets parameters for the CGFFS. The fund is directly subordinate to the Presidency of

the Republic, as are the two bodies.



Brazil is set to double its oil production over the coming decade, which requires massive investments across

the oil and gas value chain. By 2020 the decade’s cumulative demand for oil-and-gas-related goods and

services is forecast to be around $400 billion. Figure 2.13 presents the cumulative forecasted investments and

split by category.

Figure 2.13 Brazil: Forecasted Investment, 2010–20 ($ billion)

Source: Based on data from ONIP 2010.

Note: (*) Includes operating costs.

Instigated by these plans, President Lula de Silva argued that the development of Brazil’s oil and gas

resources should be viewed through the broader lens of development, and that Petrobras should be used as a

development platform with objectives that reflect national interests. To this end, the government launched

policies to maximize the share of domestic industry participation in supplying goods and services to the oil

and gas industry (defined as local content).

Through LCPs, the government aims to develop a competitive base for local suppliers, generate income,

and create job opportunities. A review of the Brazilian government literature on local content shows limited

30%

2012 2014

Seismic

Driller construction

Exploration and Evaluation

6%

2010

15%

25.1

8%

27%

19%

22.3

6%

17%

16%

30.3

2016 2018 2020

Production development

Construction of productive units

24%

21%

12%

30%

29%

31%

6%

14%

16%

32%

30%

33.6

7%

16%

19%

25%

31%

30.1 7%

15%

18%

29%

30%

33.8

Vessels and supporting boats 4%

4%

2%

2%

2%

1%

Cumulative Investment* 30.5 86.1 155.1 231.4 311.8 399.6

55

explanation of the rationale behind these aspirations and policies. Officially, the ANP states the following four

objectives:

Increase the participation of the national industry on a competitive basis

Improve national technological development

Improve the level of capabilities

Create job opportunities for nationals and achieve growth in income (ANP 2009).

Over the coming decade, the government expects the creation of over 2 million jobs in the oil and gas value

chain. As shown in Figure 2.14, this will be induced by organic growth in demand, increased participation of

the local industry, and exports.

Figure 2.14 Brazil: Number of Jobs to be Created in the Oil And Gas Value Chain, in Thousands

Source: Adapted from ONIP 2010.

2.3.2 Policy Tools

LCPs are enabled by an integrated set of tools that includes regulations, fiscal incentives, and support

programs.

Regulatory Requirements

Local content requirements were not expressly laid out in the Oil Law of 1997 (Law number 9.478/97). The

topic was briefly mentioned under the law’s main principles of the National Energy Policy (Redo 2010). To

achieve the policy objectives, the ANP made local content commitment a provision in concession contracts and

a component of the bidding process for oil and gas licenses. Accordingly, operators were asked to bid for the

total percentage of equipment and services they were committed to source locally. Commitment value is phase

specific (that is, for exploration and development). In the first four bidding rounds, no minimum requirement

was set,24 and bids were evaluated based on a formula that weighed the bidders’ value of cash bonus and local

content commitments. Cash bonus was given 85 percent and local content was given 3 percent for the

exploration phase and 12 percent for the development phase. The total score was over 100 points, and points

from local content commitments were calculated based on the following formula:

valueoffered Maximum

bidderby offeredcontent local of %Phaseby Content Local of Weight Content Local

A maximum value for local content was set at 50 percent for exploration and 70 percent for development.

Starting from the fifth bidding round in 2003, the ANP introduced a minimum local content requirement

to the Brazilian E&P licensing process. The local content requirement is location specific (that is, it depends on

24 For evaluation purposes, domestic investments for a class of systems and production units count three times their value. Such

systems include subsurface lifting systems, production gathering systems, and fixed platforms. Details are available in the Tender

Protocol document of each bidding round.

Actual Current Increase in Demand Increase in Supply

Participation

410 - 420

620 - 760

130 - 170

Increase in Exports Aspired Total

940 – 1,150

2,110 – 2,500

56

whether the block is onshore, in shallow water, or in deep water) and varies between exploration and

development phases. Minimum requirements were made item and subitem specific. In addition, the bidding

evaluation formula was modified introduce a minimum local content requirement. The mandatory minimum

requirement and evaluation formula were amended in later bidding rounds. By 2017 minimum local content

requirements are expected to gradually increase to as high as 95 percent. Table 2.7 summarizes the local

content requirements and bidding evaluation process for bidding rounds one through nine.

Table 2.7 Brazil: Local Content in the Bidding Process, 1999–2007

Bidding Round 1 2 3 4 5 6 7 8 9

Year 1999 2000 2001 2002 2003 2004 2005 2006 2007

Minimum local content requirement

Exploration phase

None.

30% for class A blocks*. 50% for class B blocks. 70% for class C blocks.

37% for deep water and shallow water starting at 100 million. 51% for shallow water up to 100 million. 70% for onshore blocks.

Development phase

None.

30% for class A blocks. 60% for class B blocks. 70% for class C blocks.

55% for deep water and shallow water starting at 100 million. 63% for shallow water up to 100 million. 77% for onshore blocks.

Maximum value for local content allowed

50% for exploration and 70% for development.

Ten points over the minimum percentage.

Bid evaluation weights

85% signature bonus. 12% local content in development phase. 3% local content in exploratory phase.

30% signature bonus. 15% local content in exploratory phase. 25% local content in development phase. 30% minimum in exploratory program.

40% signature bonus. 5% local content in exploratory phase. 15% local content in development. 40% minimum in exploratory program.

Source: Based on data from ANP (http://www.anp.gov.br/brnd/round5/english/guia_julgamento.asp).

Note: (*) These classes represent an operational classification where class A are unrestricted operators, class B are restricted to shallow water and onshore blocks, and class C are restricted to onshore and mature basins.

In case a higher local content level is achieved in the exploration phase, the incremental value achieved can

be transferred to the development phase upon approval by the ANP. In case of noncompliance, upon award of

contract, a fine is applied. The fine is based on a schedule linked to the nonrealized value of local investment

(NR).

Table 2.8 presents the schedule of fines from the seventh bidding round.

Table 2.8 Brazil: Schedule of Fines in Case of Noncompliance with Local Content Requirements

% of the Value of Unrealized Local Content (%NR) Fine as a % of the Value of Unrealized Local Content

Below 65% 60%

From 65% to 100% 1.143 x %NR – 0.14285

Source: Based on data from MENAS 2009.

In addition to these regulations, the concession contract includes provisions such as:

“Include Brazilian Suppliers in the companies invited to submit proposals”;

“Grant access to a Portuguese or English version of the same technical specifications for all companies

invited to submit proposals, and be disposed to accept equivalent specifications in accordance with the

http://www.anp.gov.br/brnd/round5/english/guia_julgamento.asp

57

Best Practices of the Oil Industry, in such a way that does not restrict, inhibit, or impair the

participation of Brazilian suppliers”;

“Send to the Brazilian suppliers a Portuguese version of all the nontechnical documents and

correspondence”; and

“Require no technical qualifications or certifications from the Brazilian suppliers, besides those

required from foreign suppliers” (ANP 2007).

It must be also noted that the concessions agreement allows the concessionaire to request the ANP to waive

local content requirements on items in case of excessively high prices, delays in delivery, or absence of

technology. As stated in the concession contract template “excessively high prices for the acquisition of local

goods and services when compared to international market conditions” was a condition for waiving local

content requirements (ANP 2007).

Some operators may also elect to set higher local content requirements on their suppliers. In addition,

financing institutions, such as the Brazilian National Development Bank (BNDES), impose minimum local

content requirements to offer financing facilities.

Additionally, operators must invest 1 percent of each field’s gross revenues in oil-and-gas-related R&D

(Filho 2000). Up to half of this investment can be used in the operator’s research facilities in Brazil and the rest

has to invested in research to be carried out by local universities or research institutes accredited by the ANP,

in line with regulations published in year 2005.25 The ANP’s Web page features the 57 institutions that were

accredited between 2008 and 2011, and the $5 million that was raised and invested between 1998 and 2010.

Being the dominant operator, Petrobras is responsible for over 99 percent of this amount (ANP 2011b).

Fiscal Incentives

Fiscal incentives to promote local content include tax reductions and subsidized financing. Following is a

selection of such incentives:

REPERTO. In 1999 a federal tax exemption regime (REPERTO) was launched offering tax benefits to

imports and exports of oil-and-gas-related goods, which included suspension of COFINS, II, IPI, and

PIS.26 REPERTO is scheduled to last until 2020 and its benefits apply to a family of items defined by

the Revenue and Customs Secretariat (Secretaria de Receita Federal). These include wet Christmas

trees, families of vessels, floating cranes, and remote operation submarine vehicles.27

BNDES financing. Backed by the government, the bank offers subsidized financing to local suppliers.

The Merchant Marine Fund. Launched by the government in December 2009, the over $5 billion fund is

set to finance the construction of 17 new shipyards and the expansion of 5 existing ones.

Governmental direct assistance and tax reliefs are given to qualifying R&D projects.

Despite the existence of multiple incentive packages, importers report that the regime is complex to take

advantage of, and some companies have found difficulties in benefiting from the exemptions (MENAS 2009).

Program for the Mobilization of the Oil and Gas Industry (PROMINP)

At the end of 2003 the federal government launched the multistakeholder program PROMINP to “maximize

goods and services national industry content, within competitive and sustainable basis, in the implantation of

oil and gas projects in Brazil and abroad” (PROMINP 2011b). The program is coordinated by the MME and

engages most industry stakeholders.

25 The use of funds and accreditation of institutions are governed by the ANP resolutions 33 and 34/2005 and NPA Technical

Regulations 5 and 5/2005. 26 As a reminder, contribution for the financing of the social security system (COFINS), import tax (II), tax on industrial products

(IPI), and social integration plan (PIS). 27 The list of items is available at: http://www.receita.fazenda.gov.br/legislacao/ins/2008/in8442008.htm.

http://www.receita.fazenda.gov.br/legislacao/ins/2008/in8442008.htm

58

PROMINP intervenes in three strategic areas: (i) qualification, (ii) industrial policies, and (iii) industry

performance. Within each, the program has specific areas where it (i) identifies gaps and (ii) structures

initiatives to close these gaps. In the first area, PROMINP launched a professional qualification plan assessing

the demand for labor by professional category and by state. Then, a training program was launched involving

71 educational institutions and comprising 953 courses targeting over 100,000 professionals across 17 states

between 2006 and 2010. In addition, and to boost the development of domestic suppliers, the program invested

$27 million in 24 projects along the oil and gas value chain for competitive import substitution.

Under the second strategic area, in 2005 the program published a manual for the assessment of local content.

This followed confusion on reporting and monitoring local content. The manual outlined and formalized the

definitions related to local content and presented a methodology for local content calculation. Within the same

strategic subject, PROMINP engineered a frame agreement in 2004 between Petrobras and a national small

business support association, Sebrae, for the inclusion of small- and medium-sized enterprises (SMEs) in the

petroleum supply chain. The agreement aimed at mapping potential business opportunities for SMEs, training

them, and fostering interaction through business rounds. The first phase of the agreement was accomplished in

2007. A total of $32 million was invested—$12 million offered by Petrobras and Sebrae and $20 million funded

by partner companies. The agreement encompassed 12 states and resulted in over $113 million in transactions

between oil and gas companies and SMEs (Jenkins 2007). In 2008 the agreement was renewed for another three

years, and additional funds were raised and more states included. Between 2004 and 2010, 3,000 SMEs were

trained to become suppliers in the oil and gas value chain. The 65 business rounds organized in this period

resulted in around $2.6 billion in transactions between oil and gas companies and SMEs. The agreement was

renewed yet another time in 2011 (PROMINP 2008).

Under the third area, PROMINP carried out a national competitiveness diagnostic study. The study

forecast oil and gas operators’ demand for goods and services by family. Then it looked at domestic supply

capacity and identified gaps and challenges for each family of goods and services. The gaps and challenges

were grouped into eight categories combined under three areas. Subsequently, a series of technological,

infrastructure, capabilities, and financing initiatives were designed based on the competitiveness of the sector

and challenges it faced. Figure 2.16 provides a snapshot of the diagnostic and action plan proposed by the

study.

As such, multiple initiatives were launched in the areas of technology, infrastructure, and supply chain

management. On the technological front, a plan was developed defining the technology agenda and

implementation model. A fund of $80 million was raised and 38 projects launched to close technological gaps

in the manufacturing of valves, flanges and connection, boilers, and naval construction in addition to

instrumentation and measurement. On the infrastructure front, an expansion plan was outlined calling for

fostering partnerships with international companies and the mobilization of these companies especially in

sectors were domestic competiveness is limited. To date multiple joint ventures have been signed, especially in

shipyard manufacturing. On the supply chain front, PROMINP engineered the creation of the Petrobras

Supply Chain Financing Program, Progredir, offering competitive financing to suppliers contracted by

Petrobras. The program involves the six largest banks in Brazil and is managed on an online platform

(PROMINP 2011b). Figure 2.15 offers an overview of the workflow in Progredir.

59

Figure 2.15 Brazil: Progredir Program Workflow

Source: Adapted from Bonesio 2011.

Figure 2.16 Brazil: Gaps and Challenges in Domestic Supply (Red Cells Indicate Areas of Challenges/Gaps)

Source: Adapted from PROMINP 2010.

Note: R&D = research and development.

Buyers upload the

pre-registration and

Suppliers insert their

contracts

information into the

portal

Buyers validate

information and

Suppliers are

allowed to request a

loan

Banks see the loan

request and make a

proposal respecting

the deadlines

previously agreed

Suppliers select

bank and request

their buyer the

confirmation of the

banker padlock

Buyers confirms the

supplier contract

banker padlock at

the Portal

After supplier

assumes its

obligation as a

buyer, bank releases

the money

After the deliver

(goods or services),

buyer liquidates its

obligations,

according to the

banker padlock

Bank checks if there

is any notice of

default against the

supplier, before

releases the money

paid by the buyer

Bank releaser

resources for the

supplier, after they

liquidate their loans

and occasional

defaults

≈

≈

1 2 3 4 5

6 7 8 9

Insufficient

Production

Capacity

Incomplete

Production

Portfolio

Low Local Content Low R&D ActivityProcess

Technology

Basic Industrial

TechnologyEngin eering

Professional

Qualification

Steel Mills

Pipelines

Flanges and Connections

Boiler Works

Rods and Sucker Rod Pumps

Subsea

Pumps

Compressors

Gas / Diesel Engines

Turbines

Cranes and Hoists

Valves and City Gates

Generators and Electric Engines

Substations and Transformers

Automation and Instrumentation

Engineering

Construction and Assembly

Electrical

Services

Infrastructure Technology Human Resources

SectorsTechnology

Metallurgical

Mechnical

Low High

Productive Capacity

1.Telecommunication

2. Substation and transformers

3. Generators and Motors

4. Electrical Distribution Panels

5. Automation

6. Pipelines

7. Winches

8. Valves

9. Flanges and Connections

10. Boilers Works

11. Mills

12. Steam Turbines

13. Subsea - Equipment

14. Subsea - Umbilical and Flexible Pipes

15. Pumps

16. Alternative Compressors

17. Engines

18. Cranes (Onshore)

19. Engineering Services

20. Construction and Assembly

21. Instrumentation and Measurement

22. Gas Turbines

23. Centrifugal Compressors

24. Electrical Motors (large size)

Co

mp

eti

tive

ne

ss

Lo

wH

igh

Med

ium

Sectors

78

910

1 2

3

4

5

6

7

813

1415

17

18 16

19

20

21

22

2324

Note: Size of Bubble indicates level of dependency of the oil and gas industry on these goods

(low, medium, high)

Action Plan

Mobilize foreign companies

Enable technology transfer

Invest in production capacity

Consolidate demand and promote technological

upgrading

Invest in production capacity

Promote articulation between buyers and sellers

Promote technological upgrading

Instigate production and commercial changes

Technological innovation

60

Figure 2.17 provides a summary of PROMINP’s strategic subjects, areas, and key projects.28

Figure 2.17 Brazil: PROMINP Strategic Subjects, Areas, and Projects

Source: Adapted from PROMINP 2010.

Note: HSE = Health, Safety and Environment.


In Brazil, LCPs are legislated through:

The petroleum law number 9478/97, which sets out general local content principles

Minimum local content requirements that are established in the licensing round for the award of oil

and gas E&P rights; these change over time and for different types of acreage (based on relative

maturity and location)

Specific commitments that are set out in petroleum contracts

The ANP Regulation No. 6/2007 Resolution No.36/2007, which specifies the criteria and procedures for

the calculation and certification of local content

The ANP Regulation No. 8/2007 and Resolution No. 38/2007, which specifies the procedure for audit

of local content certification

The ANP Regulation No. 9/2007 and Resolution No. 39/2007, which specifies the reporting procedure

and format.

2.3.4 Institutional Responsibility for Policy Design and Monitoring of Implementation

The governance of LCPs is distributed among several entities. Policy design is led by the CNPE (National

Energy Policy Council) that establishes guidelines for LCPs, in coordination with the MME. Regulatory

activities fall under the responsibilities of the ANP and it:

Sets the minimum local content requirements

Defines criteria, accredits and audits certification entities

Accredits R&D institutions

Issues templates for local content reporting

Checks local content commitments and applies penalties in case of noncompliance

Runs training programs, funded by revenues from royalties.

Operators may elect to local content requirements that are higher than what they have committed for in

their respective bids. In addition, financing institutions (for example, the BNEDS) set minimum local content

requirements.

For certification of local content, 21 entities are featured on the ANP’s Web page. These entities:

28 Details and results of projects undertaken by PROMINP are available in Portuguese at http://www.prominp.com.br.

Qualification Industrial Policy Industry Performance

Technological

Qualification

Professional

Qualification

Industrial

CapacityFinancing

Tax Policy

Regulation

Foster micro and

small companies

Sustainability

HSE

Competitiveness

1 2 3

Professional Qualification Plan

Competitive import Substitution

Manual for Assessment of Local

Content

Petrobras x Sebrae Frame Agreement

Competitiveness Study Industry of Oil

and Gas market

Str

ate

gic

Are

as

Pro

jec

ts

http://www.prominp.com.br/

61

o Issue local content certificates, in line with the template provided by the ANP, for goods and

services, stating the percentage of local content based on the local content primer developed

by PROMINP

o Issue a quarterly certification report to the ANP, detailing certification activities.

The leading certifier is the ONIP, a nongovernmental organization (NGO) engaging 2,000 companies

working in the Brazilian oil and gas value chain (Heller Redo Barroso 2010). In addition to certification of local

content, the NGO:

Proposes actions for improvement of industrial policy and the development and competitiveness of

domestic industry

Proposes joint actions and actors for the removal of bottlenecks on factors of competitiveness of the

domestic industry

Develops and disseminates sectoral knowledge and understanding of national and international

markets

Promotes interactions and contributes to the development of business in favor of domestic suppliers.

Several other NGOs and associations are engaged in similar activities.

The other major enabler of LCPs is PROMINP. The program is a multistakeholder initiative, composed at

the steering committee level of the minister of mining and energy; minister of development, industry, and

trade; president and services director of Petrobras; president of the BNDES; president of the ONIP; and the

president of the Brazilian Petroleum Institute. Reporting to the steering committee is an executive committee

and four sectoral committees (Figure 2.18).

Figure 2.18 Brazil: PROMINP Governance Structure

Source: Adapted from PROMINP 2011b.

Note: BNDES = Brazilian National Development Bank; E&P = exploration and production; G&P = gas and processing; ONIP = National Organization of the Petroleum Industry; PROMINP = Program for the Mobilization of the Oil and Gas Industry.

The steering committee is mainly responsible for strategy development, approval of portfolios of projects,

and the budget and funding sources. The executive committee shall mainly:

Implement PROMINP’s guidelines

Coordinate sectoral committees and appoint their coordinators

Prepare the annual budget and indicate sources of funds

Validate, prioritize, monitor, and evaluate the portfolio of projects.

Sectoral committees are responsible for the implementation of projects and management of resources

(Decree No. 4925, 2003). PROMINP’s day-to-day activities are mainly funded by the government and

Petrobras. As for the projects launched by the program, these are mostly funded on a project-by-project basis.

To summarize the landscape of local content institutional responsibilities, Table 2.9 maps key local content

activities to the different stakeholders.

Minister of Mining and Energy (MME)

Minister of Development, Industry, and Trade (MDIC)

President of Petrobras

Director of Services of Petobras

CEO / President ONIP

President BNDES

President Brazilian Petroleum Institute

(IBP)Steering

Committee

Executive

Committee

Sectoral Committee

MME – O&G and Renewable Fuels Secretariat

MDIC – Secretariat

BNDED – Director

Petrobras – Director

PROMINP – Engineering Executive Manager

ONIP – Director

IBP – Director

Associations – President / Director (ABCE,

ABDIB, ABEMI, ABIMAQ, ABINEE, ABITAM,

SINAVAL e CNI)

DownstreamG&P and

Pipelines

Maritime

Transp.E&P

62

Table 2.9 Brazil: An Activity Map of PROMINP’s Local Content Stakeholders

Source: Based on data from ANP 2009, BNDS 2011, ONIP 2010, PROMINP 2011a.

Note: ANP = National Petroleum Agency; CNPE = National Energy Policy Council; MME = Ministry of Mines and Energy; NGO = nongovernmental organization; PROMINP = Program for the Mobilization of the Oil and Gas Industry.

2.3.5 Interlinks

LCPs became a pillar of Brazil’s petroleum sector plan. These policies are linked to Brazil’s overall industrial

strategy, which is aimed at protecting the domestic industry and increasing its competitiveness. The overall

direction was put in place during the presidency of Lula da Silva and carried on by his successor, Dilma

Rousseff. From the country’s industrial policy of 2008 (the Policy for Productive Development) to the 2011 plan

of Bigger Brazil, the government has been offering fiscal incentives and support programs to domestic

industries.29

On the financing front, the BNDES has been a catalyst for Brazil’s industrial policies. Overall, the Bank has

been offering programs that emphasize consolidation to increase the competitiveness of Brazilian production in

the international arena. Within the scope of the Bigger Brazil industrial plan, the bank launched the Support

Program for the Development of Oil and Natural Gas Goods and Services Supply Chain (BNDES 2011). The

program aims to:

Expand the productive capacity of businesses

Support merger and acquisition activities that increase competitiveness

Fund projects aimed at expanding production capacity, modernization, and optimization of

industrial units as well as the search for technologies abroad

Support R&D activities.

29 For instance, as per the later industrial plan, the government is guided to purchase goods and services produced domestically

that cost up to 25 percent more than imported ones, as long as they meet technical requirements.

Activities CNPE MME ANPFinancing

Institutions

Certifying

EntitiesOperators Suppliers PROMINP NGOs

Policy Design local content policies x x

Set minimum local content

requirements x x x

Issue templates for local content

reportingx

Define criteria and accredits

certification entitiesx

Audit certification entities x

Check local content commitments x

Apply penalties in case of

incompliancex

Implementation Issue local content certificates x

Voice industry concerns to

governmentx

Identify challenges to meeting

policy objectivesx

Propose and lead the

implementation of local content x x

Offer training programs x

Regulation

Support

63


In Brazil the measurement of local content is based on an expenditure philosophy. Prior to the seventh bidding

round, measurement and reporting of local content was not formalized. Operators were asked to provide a

statement of origin of their sourced goods and services without providing supporting evidence (Maya 2011).

In 2005 PROMINP published a local content primer, which formalizes definitions related to local content

and details methodologies for calculating the level of local content, specific to equipment and goods,

equipment and goods for temporary use,30 services, systems, and subsystems (Table 2.10).31

Table 2.10 Brazil: PROMINP’s Methodology for Calculating Local Content

Goods, Systems, and Subsystems Services

Formula

X

Value of goods directly imported by the operator or main contractor, including import tax.

Value of imported goods purchased by the operator or main contractor in the local market, excluding internal tax.

Total cost of local manpower

Y Total price of goods and systems excluding IPI and ICMS taxes. Total manpower cost

Source: Based on data from PROMINP 2005.

Note: ICMS = state VAT; ILS = local content of services; IPI = tax on industrial products.

To facilitate and standardize calculation and reporting of local content, PROMINP developed templates

specific to types of goods and services. Starting from the seventh bid round, the primer was annexed to the

concession agreements.

In 2007 the primer was made part of a series of the ANP regulations that introduced major changes related to

the fulfillment of local content clauses to be applied as of the seventh bidding round. As part of these

regulations, a certification system was put in place. The system included the setup of certification entities that

are accredited by the ANP based on predefined criteria. These entities issue local content certificates in line

with the manual and standardized templates published by PROMINP in 2005. Under the new regulations:

Local content reporting happens on a quarterly basis

Reporting is block specific for the exploration phase and area specific for the development phase

Templates are provided by the ANP and are standardized for each phase (that is, exploration and

development)

Auditing takes place at the end of the exploration phase as well as the development phase.

To date, over 5,000 local content certificates have been issued, multiple audits carried out, and notifications

of noncompliance fees issued to some operators (ANP 2011b).


As part of the bidding process, concessionaires committed themselves to local content requirements in the

exploration and development phases. Figure 2.19 presents the average local content commitment by

concessionaires achieved over the bidding rounds.

30 Goods and equipment used under rental, chartering, leasing, or operational / financial leasing. 31 A system that is an integral part of a greater system. This could be, for example, a MODULE of an oil rig, a tanker, offshore

supply, or other type of offshore vessel.

1001

Y

XLC 100

Y

XILS

64

Figure 2.19 Brazil: Average Local Content Commitment Resulting from Bidding Rounds, 1999–2008

Source: Adapted from BG 2012.

The inception of PROMINP is believed to be the driver behind the boost in the participation of the

domestic industry in investments from 57.3 percent in 2003 to 74.3 percent in 2010 (Table 2.11).

Table 2.11 Brazil: PROMINP Targets Versus Achieved Participation of Domestic Industry in Investments, 2003–10

Year 2003

% 2004

% 2005

% 2006

% 2007

% 2008

% 2009

% 2010

%

Target LC Index 57.3 59.7 63.1 59.9 64.0 66.0 67.2 68.5

Achieved LC Index 57.0 62.2 70.0 74.3 75.4 75.6 75.4 74.3

Source: Based on data from PROMINP 2010.

Note: LC = local content.

At a more granular level, the ANP reports the value of investment and local content achieved at the item level.

Table 2.12 presents the cumulative value of total investment, domestic portion, and percentage local content by

item. In addition to these indicators, Petrobras has reported multiple success stories.

Table 2.12 Brazil: Cumulative Total and Local Investment (in $ million) and Percentage Local Content, 2011

Total investment Local investment Average LC %

Geology and geophysics 509.0 328.8 65 Drilling rigs 88.0 38.2 43 Logistics and operational support 1,059.0 747.5 71 Well drilling, completion, and assessment 231.1 196.4 85 Basic engineering and detailing 6.5 6.1 93

Management, construction, assembly, and commissioning 7.8 7.0 90 Electrical, control, instruments, and measurement systems 3.7 3.6 99 Telecom systems 0.1 0.1 99 Oil and gas pipelines, storage tanks 1.0 0.8 77 Compression units 3.7 3.0 82

Steam generation and injection units 0.0 0.0 99 Subsea equipment and control systems 0.5 0.3 63 Oil-processing and treatment systems 2.4 2.0 86 Natural gas-processing and treatment systems 0.0 0.0 100 Platform and ship building 43.4 27.6 64 HSSE 16.3 14.6 90 Civil works and utilities 18.7 18.4 98 Total 1,991.3 1,394.5 70

Source: Adapted from ANP 2011b.

Note: LC = local content; HSSE = health, safety, security and environment.

25%

42%

28%

39%

79% 86%

74% 73% 69%

79%

27%

48%

40%

54%

86% 89%

81% 80% 77%

84%

1(1999)

2(2000)

3(2001)

4(2002)

5(2003)

6(2004)

7(2005)

8(2006)

9(2007)

10(2008)

Bid Round (Year)

Exploration Phase Development Phase

65

For goods and services sourced by Petrobras, the level of domestic sourcing has been on an increase but

fluctuating (Figure 2.20).

Figure 2.20 Brazil: Local Content in the Procurement of Goods (left) and Services (right) Sourced by Petrobras,

2005–08

Source: Based on data from Rittershaussen 2010.

On the other hand, local content policy trade-offs are being directly felt by the oil and gas industry. On

multiple projects, this has led to higher costs and delays in delivery. In fact, José Sergio Gabrielli, former CEO

of Petrobras, mentioned that the cost of building a midrange tanker in Brazil is twice the cost of building it in

China (Leahy 2012). As for delays, Petrobras missed its production targets last year due to delays in receiving

rigs (Millard 2012). Overall, LCPs are believed to hinder Petrobras from achieving its production and financial

targets. The company did not meet its production targets for the last three years and its stocks have been

underperforming. Some analysts are watching for the new CEO of Petrobras to seek some breathing space on

local content requirements to achieve the company’s growth targets (Leahy 2012).

2007

7,011

11%

2005 2006

89%

2,886

12%

88%

81%

4,026

18%

82%

19%

5,240

2008

International Domestic

68%

32%

2006

16,767

70%

30%

2005

8,528

69%

31%

2008

38,170

78%

22%

2007

34,599

DomesticInternational

66

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http://www.arwu.org/ARWUStatistics2010.jsp.

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———. 2009. Local Content: Goals and Brief History. Rio de Janeiro: ANP. http://www.anp.gov.br/brasil-

rounds/round10/ingles/conteudo_local_Obj_e.asp.

———. 2011a. Funds of the Clause in R & D Investment. Rio de Janeiro: ANP.

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http://www.rigzone.com/news/article.asp?a_id=115503





69

3. Indonesia

Indonesia’s history in the petroleum sector dates back to the end of the 19th century, when the country was still

a Dutch colony. Since then, foreign oil companies have played a pivotal role in exploring, developing, and

operating the country’s resources. After a shaky sectoral history following World War II, the framework

engaging these companies has undergone a major change marked by the formation of the country’s national oil

company (NOC) in 1957, and the government’s decision in 1966 to secure state interests through production

sharing agreements (PSAs).32 A few years before these major changes, mainly in the early 1950s, the local

content agenda in the oil and gas sector appeared in the Indonesianization of the petroleum sector workforce.

Since then, the local agenda has evolved over time and is undergoing several major milestones.

Toward the early 1950s, the country witnessed aggressive Indonesianization of foreign oil company

personnel. Surprisingly, this was initiated by the companies33 themselves in a move to improve their position in

tough negotiations with the government. The negotiations were taking place in a rising nationalistic/socialist

environment. Indonesianization efforts were highly successful for disciplines requiring a low to medium level

of capabilities. For higher technical positions, the foreign oil companies established training schools and

offered scholarships to send Indonesian staff abroad to leading technical schools. Indonesianization efforts at

the managerial levels were limited. By 1963 Indonesianization of the workforce was formalized in the working

contracts entered by the foreign oil companies and Pertamin, the NOC at that time (Hunter 1966).

Under the PSA, contractors have been mandated with a domestic market obligation that requires them to

sell a share of their production entitlement to the domestic market at a discounted price. This, coupled with the

overall government fuel subsidies and the NOC’s aspirations, instigated the development of a well-established

forward link. As for the local content agenda related to backward links from the oil and gas sector, policies

were initiated in the late 1970s, when the government envisioned driving technology transfer in oil field

services and equipment (OFSE) from foreign companies to domestic ones by forcing partnerships between

multinationals and local firms operating in the OFSE segment. This policy was complemented by a set of

import tariffs on certain OFSE. Overall, the government aimed at reaching local content levels of 35 percent.

Failing to reach this target required production sharing (PS) contractors to receive an exemption from the

Ministry of Industry and Trade. During this period Pertamina enjoyed a monopoly in the oil and gas sector as

it was mandated with regulatory and operational powers. The adopted approach to develop a backward link

proved to induce a limited impact. By the turn of the century, the achieved local content levels were believed to

be in the range of 10 to 20 percent (Nordas, Vante, and Heum 2003).

In 2001 the oil and gas sector underwent a major restructuring process. In that year, the Indonesian

government published a new Oil and Gas Law that primarily aimed at improving the governance of the sector

and introducing competition. As per the new law, upstream regulatory roles were transferred from Pertamina

to three regulatory bodies:

Directorate General of Oil and Gas (DGOG) under the Ministry of Energy and Mineral Resources

(MEMR), acting as the policy and concession management body

BPMIGAS, upstream regulatory body

32 Under the PSA, production-sharing contractors incur all capital expenditures during exploration and development, to recover

them over the production phase. 33 At that time, Royal Dutch Shell, Stanvac Petroleum, and Caltex Pacific were the main companies operating in Indonesia.

70

BPHMIGAS, downstream regulatory body.

The restructuring process also marked a new milestone for the local content agenda that was driven by a

national need to increase domestic production, create jobs, and reduce the need for foreign exchange (MoI

2005). To this end, the law of 2001 stipulated the development of local capabilities that enable domestic

companies to compete in the national, regional, and international landscape of OFSE. To this end, the upstream

regulator was envisioned to be an engine “mobilizing different economic and industrial activities.” Here,

BPMIGAS was to “prioritize domestic/regional human resources roles, and utilization of goods and services in

oil and gas industry” (BPMIGAS 2011b). To achieve its local-content-related aspirations, the regulator

published in 2009 a set of procurement rules around the domestic sourcing of goods and services in upstream

activities. These rules were further developed and clarified in the second revision of the manual published in

2011.

Today, local content policies (LCPs) are also applied in the mining and extractive industry, government

procurement, as well as other sectors. Going forward, policy makers in Indonesia have to deal with two main

sectoral priorities: (i) meeting the growing domestic demand for natural gas in light of a shortage, and (ii)

managing the depletion of oil reserves. Despite that, LCPs are expected to remain on top of the development

agenda for the coming years, with aspirations to reach a 50 percent level (MOEMR 2009).


Indonesia, a lower-middle-income country, is the largest economy in Southeast Asia (RSM 2012). It is in the

transition phase between stage one and two on the scale of global economic development (Schwab 2011) and has a large multiethnic population of 242.3 million. Its GDP per capita in 2011 was above Southeast Asia’s

average, at $3,495, for a total of $846.8 billion (World Bank 2012b). The highest contributor to the economy’s

GDP is manufacturing, with a 45 percent share, followed by services, with a 38 percent share. Indonesia’s GDP

has been on an increasing trend, with an average growth rate of 56 percent. Foreign direct investment (FDI) in Indonesia was vital to the country’s economic development, particularly during the period of the 1970s (Satiotomo 1999). Exports have also been on an increasing trend over the years, with fuels and mining as the dominating export commodities with a 39 percent share.

The business environment in Indonesia is now undergoing a fast pace of reform coupled with high levels

of optimism. In fact, the country has been moving from the planned market economy toward a decentralized

economy and lately enjoys a stable political and economic outlook (World Bank 2010b). But despite the reforms

and the impressive growth rates, Indonesia is still facing challenges posed by the legacy of 32 years of

centralized authority, corruption, and weak governance of the Suharto rule. Indeed, Indonesia’s governance

indicators remain well below the Organisation for Economic Co-operation and Development (OECD)

standards, and corruption is still one of the key obstacles to doing business in Indonesia. This is coupled with

the low quality of infrastructure that suffers from multiple bottlenecks. The country is also struggling with

other challenges such as the low tax revenue as a percent of GDP, mounting pressure on cities driven by

increased urbanization, shortage in skilled workers, and the low quality of its educational system.

3.1.1 Economy

Indonesia gained its independence in 1945 toward the end of World War II, after more than three centuries of

Dutch colonial rule (Bey 2012). The Indonesian economy was in poor condition, and it wasn’t until 1966, when

the Communist government was overthrown, that Indonesia began to follow a sound economic track. By the

end of the 1960s and similar to its northern neighbor, Indonesia began to set economic targets and develop

five-year national plans (Repelita) in an effort to achieve those targets. Driven by revenues from mineral and

petroleum resources, the country achieved considerable economic growth, attained food security from being a

rice importer to exporter, and developed abilities in manufacturing and higher technology industry (Satiotomo

1999). In fact the country’s GDP was set on an increasing trend as of the late 1960s. GDP growth has been

momentous, achieving an average of 8.1 percent from 1968 through 1978 (World Bank 2011). The only years

71

witnessing steep drops in GDP growth were 1982 (1 percent), following the decrease of oil prices, and 1998 (-13

percent), as a result of the Asian economic crisis. The economy recovered shortly after the 1998 contraction, as

the country regained growth levels in 1999 at 1 percent and a 5 percent growth rate in 2000. Over the past

decade, GDP growth rate has been steady, between 5 and 6 percent. Today, Indonesia is a member of the G-20

countries (RSM 2012).

Indonesia’s economy has witnessed a structural change since the 1960s, a scenario similar to its neighbors,

Malaysia and Thailand, where a shift from agricultural dependence toward service and manufacturing-

oriented activities was achieved. In 1970 agriculture contributed to nearly half of the country’s GDP, while in

2008 the agriculture share of GDP reached 13 percent (ILO 2010). Additionally, in the early 1990s, a

nationalistic tendency, adopted by a group of economists with close ties to President Suharto, envisioned a

shift of the economy away from traditional sectors such as agriculture and light manufacturing into

knowledge-intensive manufacturing such as light aircrafts, helicopters, ship building, and communication

satellites (Amuzegar 1999).

Indonesia was ranked sixth in terms of GDP per capita adjusted for PPP in Southeast Asia (CIA 2012).

Across the world, Indonesia ranked 154th out of 226 countries. The key contributor to Indonesia’s 2011 GDP of

$846.8 billion (World Bank 2012b) was manufacturing, with a 45 percent share of GDP, followed by services

with a 38 percent share. Agriculture contributed the least, with a 17 percent share of GDP in 2011 (World Bank

2011). Table 3.1 reveals additional key economic indicators for Indonesia.

Table 3.1 Key Economic Indicators for Indonesia, 1980–2010

1980 1985 1990 1995 2000 2005 2006 2007 2008 2009 2010


GDP per capita (constant 2000 $) 390.0 460.1 592.1 799.3 773.3 914.6 953.9 1003.4 1052.4 1089.7 1145.4

Inflation, CPI (%) 18.0 4.7 7.8 9.4 3.7 10.5 13.1 6.4 9.8 4.8 5.1

Real interest rate (%) — — 12.2 8.3 -1.7 -0.2 1.7 2.3 -3.9 5.7 4.8

Exchange rate (LCU per $) 627 1,111 1,843 2,249 8,422 9,705 9,159 9,141 9,699 10,390 9,090

Trade (% of GDP) 54.4 42.7 49.1 54.0 71.4 64.0 56.7 54.8 58.6 45.5 47.6

Source: World Bank 2012b.

— Not available.

FDI in Indonesia was vital to the country’s economic development particularly during the period of the

1970s (Satiotomo 1999). But the strongest records of FDI inflows have been achieved in recent years. In 2011

FDI reached over $18.9 billion, an increase from 2010 of $13.8 billion and a leap from 2009 inflows of $4.9

billion (OECD 2012). FDI inflows have increased due to factors such as the lower cost of labor, tax incentives,

and reduction in bureaucratic procedures, as well as the country’s overall economic stability (DBS 2011).

The country’s exports value has increased over the years. In 2008 the value of total exports reached $147.6

billion, increasing from $65.4 billion in 2000 (OPEC 2011). Fuels and mining were the dominating export

commodities during the last decade, reaching a 39 percent share in 2010, followed by agriculture products with

a 23 percent share. On the other hand, labor-intensive industries, such as textiles, have maintained a low share

of exports reaching 3 percent between in 2010, as shown in Figure 3.1.

72

Figure 3.1 Indonesia’s Exports by Commodity, 1980–2010 ($ billion)

Source: Based on data from WTO 2012b.

3.1.2 Taxation

The tax system in Indonesia has three components: national taxes, regional taxes, and custom taxes. The

national taxes are enforced on income, stamps, and property and cover sales tax on luxury goods. Regional

taxes include taxes on development, motor vehicles, households, roads, and media advertising. The third

category includes custom taxes, levied on cross-border trade and on select goods such as tobacco, sugar,

alcohol, and gasoline (RSM 2012).

Compared to neighboring countries (such as Thailand, the Philippines, Australia, and Singapore),

Indonesia levies a lower corporate tax of 25 percent. In fact, corporate taxes were lowered in 1995 from 35

percent to 30 percent, to be lowered again in 2010 to the current level of 25 percent. Indonesia offers a 5 percent

corporate tax incentive, depending on the company’s minimum public offering (PKF 2012). The government

also levies capital gains taxes and branch profits taxes. Capital gains taxes exclude transactions made on the

local market and on private property (PKF 2012).

In terms of tax revenue as a percentage of GDP, Indonesia ranks considerably low at 11 percent, as shown

in Figure 3.2. Corporate taxes are extended to construction and mining sites; however, goods used for the

purpose of executing mining contracts are excluded from value-added taxes.

Figure 3.2 Comparison of Indonesia’s Tax Revenues as Percentage of GDP and Corporate Tax Rate to Other

Countries, 2009 and 2010

Source: Based on data from Deloitte 2012; World Bank 2011.

11%

8%7%

6%5% 5%

3%

2%4%6%

7%

3%3%

4%

3%

1%

100%

4%

1980

31%

48%

21%

1985

76%

22%2%

18%

1%

25%

8%

65.421.9

16%

25%

25.7

73%

87.0

1990 1995 2000 2005 2010

158.1

6% 4%

18.6

5%

45.4

5%

21%

16%

5%

5%

5%

18%

29%

23%

39%

16%

37%

12%

Other

Textiles

Office and telecom equipment

Chemicals

Telecommunications equipment

Fuels and mining products

Clothing


22%

Netherlands 23%

South Africa 26%

United Kingdom 26%


Norway 27%

OECD 14%

Kazakhstan

India 10%

Indonesia 11%

Uganda 12%

Canada 12%

Russia 13%

Brazil 16%

Chile 16%

Malaysia 16%

Australia

8%


Kazakhstan 20%

Chile 20%

UK 24%


Netherlands 25%

Indonesia 25%

Malaysia 25%

South Africa 28%

Norway 28%

Canada 28%

Uganda 30%

India 30%

Australia 30%

Brazil 34%

Russia 20%


73


Indonesia is a multiethnic and multilingual populous nation. The country encompasses nearly 300 ethnic

groups that speak over 700 local languages and dialects (Idris 2012) and constitute a large population of more

than 242.3 million. Population in Indonesia has been growing steadily since 1950. Historically, the majority of

the population resides in rural and agricultural areas. This, however, has been changing, with around 40

percent of the population currently residing in urban locations (ILO 2010). Urbanization in Indonesia is on the

rise and it is expected that the urban population will constitute half the nation in 2040 (around 170 million

people). This places increasing pressure on the main cities, which are already struggling with issues such as

growing illegal housing settlements, heavy congestion, and the consequential degradation of the environment

(World Bank 2012a).

The working-age population is increasing, a trend that is expected to continue over the next decades (DBS

2011). This is driven by a growing portion of the population aged 15 to 64, leading to around 2.5 million new

entrants to the workforce each year (RSM 2012). In 2010, 29 percent of the population was aged below 30 (UN

2010). This has been exacerbating the historic problem of child labor, which is expected to have a serious

impact on the country’s social fabric if no policies are enforced. Figure 3.3 illustrates the evolution of

Indonesia’s population by age group from 1950 to 2050.

Figure 3.3 Evolution of the Malaysian Population and Labor Force over Time, 1950–2050 (in millions of people)


The labor force in Indonesia is in the low-cost category, characterized by an overall shortage of skilled

workers (World Bank 2012a) and rigid labor market regulations (DBS 2011). The total number of the

Indonesian workforce has been on the rise. In 2010 the total workforce reached 117.9 million, growing from

76.8 million in 1990 (World Bank 2012b). The agricultural sector has the larger share of the working force in the

country. Although at a decreasing rate, agriculture employed 38 percent of the labor force in 2008, a decrease

from the 66 percent achieved in 1970 (ILO 2010). Other sectors such as wholesale, retail, and trade employed

16.7 percent and manufacturing employed 12.2 percent of the total workforce in 2008 (ILO 2010). The overall

unemployment rate in 2010 was higher than neighboring countries at 7.1 percent, but showed a drop from 2005

levels when unemployment was at 11.2 percent (Table 3.2).

Indonesia’s labor force primary education attainment is on par with that of developed countries. But in

terms of secondary and tertiary attainment, Indonesia has plenty of room for improvement. Its mean years of

education are half that of developed countries such as the United States and Australia, and Indonesia’s gross

enrollment as a percentage of the total for tertiary education is at 22.4 percent. This has placed Indonesia as the

0%

10%

20%

30%

40%

50%

60%

70%

80%

0

50

100

150

200

250

300

350

Mil

lio

n P

eo

ple

60+

50 to 59

40 to 49

30 to 39

20 to 29

10 to 19

0 to 9

% 15 - 64

74

fourth lowest in the region in terms of tertiary education attainment as well as in terms of labor compensation

per worker per year.

Table 3.2 Indonesia’s Labor Force Indicators Compared to Select Countries, 2010






Angola 7.1 — — — 4.4 127 25.0

Australia 11.8 27.3 38.9 33.8 12 1597 5.2

Brazil 101.6 — — — 7.2 300 8.3

Canada 19.0 13.5 40 46.5 12.1 1903 8.0

Indonesia 11.8 — — — 5.8 133 7.1 Kazakhstan 8.8 — — — 10.4 — 6.6 Malaysia 12.0 18.3 56 21.1 9.5 — 3.7 Norway 2.6 19.9 43.5 35.8 12.6 3609 3.6 South Africa 18.2 15.8 74.2 5.2 8.5 543 23.8 Tanzania 22.1 — — — 5.1 59 10.7 Trinidad and Tobago 0.7 25.3 63 11.1 9.2 — 5.4 Uganda 13.4 — — 4.7 3 4.2

UK 31.8 19.2 44.4 35.4 9.3 1655 7.8

Source: Based on data from World Bank 2011; UNDP 2010.

Note: Educational attainment data for Australia, Canada, Malaysia, South Africa, and Trinidad and Tobago represent year 2008 level. Unemployment data for Brazil, Kazakhstan, Malaysia, South Africa, and Uganda represent year 2009 levels.

— Not available.

Another look at the breakdown of labor force by activity reveals that the largest share for workers is in

primary resources sectors. In 2008 workers in primary resource sectors reached 45 percent, followed by labor-

and capital-intensive services with 38.3 percent. As shown in figure 3.4, knowledge-intensive manufacturing

employed 0.9 percent of the labor force in 2008, which is significantly below mature economies’ average of 5

percent (Figure 3.4). A recent World Bank (2010b) report on skills in Indonesia suggests that the limited

availability of qualified local capabilities hinders the development of the manufacturing sector. According to

the report, 69 percent of surveyed executives in the manufacturing sector face difficulties in recruiting skilled

capabilities, and 84 percent face difficulties in filling management positions (World Bank 2010b).

Figure 3.4 Breakdown of Indonesia’s Labor Force by Sector, 2000–08


Note: The number of employees engaged in manufacturing activities are based on the UNIDO statistics while the rest are based on the ILO.

35.3%38.3%

0.9%

0.8%

1.8%

1.7%

2.4%

49.9%

100%

2008

94.2

11.4%

0.7%

2.0%

45.0%

2000

82.4

9.1%

0.6%


2007


Total change in


(Million jobs)


Labor-intensive manufacturing 2 -0.4






75

3.1.4 Education

Following independence in 1957, and as a result of the economic development plans during recent decades,

Indonesia succeeded in increasing overall access to education. Since the 1970s, Indonesia was keen on

maximizing school enrollment through building schools across the country. The national targets regarding

education were to maximize primary enrollment, ensure equal school admission opportunities between

economic classes, and improve the quality of education while considering economic and societal needs (World

Bank 2004). But several challenges have slowed the government’s efforts in achieving such objectives. The main

challenge rests in the quality of education. The schooling facilities are generally worn out and in low-quality

condition, especially in poorer regions of the country. Additionally, the schooling system suffers from a lower-

quality teacher base with an overall skills gap between teachers and the set curriculum.

Another challenge facing education is a result of the rapid expansion experienced in the early 1970s, which

aimed to maximize enrollment levels but in fact concentrated on increasing the number of schools rather than

controlling the productivity and quality of the schools. This was coupled with relatively low government

spending on education, which ranged between 2.5 percent to 3.5 percent of GDP over the past decades. The

highest level of government spending in recent years was 3.5 percent of GDP in 2009, which was still lower

than neighboring countries such as Malaysia and Thailand (UN 2010).

In 1997 the Asian economic crisis hit Indonesia, and resulted, among other things, in raising the inflation

rates especially in food commodities (Pradhan 2001). Household expenditure as a result was affected severely

and this caused household budgets on education to be reduced, thus threatening to ruin the educational

progress (in enrollment levels) that Indonesia had made in the previous decade. Household expenditure on

education declined by nearly one-third from 1998 to 2000. The government was successful, however, in making

a quick recovery to avoid the possible threats of such a crisis by launching a scholarship program for poor

families and creating a school grant program to diminish the negative effects of the situation.

Looking at the education indicators, shown in Table 3.3, literacy rates are quite high in Indonesia, at 99.5

percent for youth aged between 15 and 24 years. Enrollment levels as mentioned above were also high at 95.9

percent, while secondary and tertiary showed lower levels, at 67.3 percent and 23.1 percent respectively. On

the quality of primary education, Indonesia ranked 55 out of 139 countries. According to the Global

Competitiveness Report, in 2011 the quality of the educational system in higher education and training revealed a

competitive advantage and was ranked at 40 points.

Table 3.3 Indonesia’s Educational Indicators Compared to Select Countries (2010)


Youth (1524)


Angola 70.1 73.1 85.7 11.5(a) 3.7 3.6 Australia — — 97.1 85.5 79.9 5.1(a) Brazil 90.3(a) 98.1(a) 94.1(b) 82.0(b) 36.1(a) 5.4(b) Indonesia 92.2(b) 99.5(b) 95.9 67.3 23.1 3.5(b)

Kazakhstan 99.7 99.8 89.5 88.2 38.5 3.1(a)

Malaysia 93.1 98.4 94.1(e) 68.7(5) 40.2(a) 5.8(a) Norway — — 99.1 93.9 74.4 6.5(b) South Africa 88.7(c) — 85.1(a) — — 6.0 Tanzania 73.2 77.3 98.0(b) — 2.1 6.2 T&T 98.8 99.6 93.9 — 40(b) 3.8(d) Uganda 73.2 87.4 90.9 — 4.2(a) 3.2(a)

UK — — 99.6(a) 96(a) 58.5(a) 5.4(b)

Source: Based on data from Gomes and Weimer 2011; UNDP 2010; World Bank 2012b; MSTTE 2011.

Note: T&T = Trinidad and Tobago; UK = United Kingdom; (a) year 2009, (b) year 2008, (c) year 2007, (d) year 2006 data.

— Not available.

76


The current business environment in Indonesia can be characterized by the fast pace of reform coupled with

general high levels of optimism. The country has been moving from the planned market economy toward a

decentralized economy, and currently enjoys a stable political and economic outlook (World Bank 2010a). The

business environment has also been positively affected by the country’s fast recovery from the global economic

slowdown, together with the overall reforms and decentralization policies that improved the economic growth

and outlook. Several issues, however, remain, with the most problematic factors being government

bureaucracy and corruption (Schwab 2011), following the low quality of the country’s infrastructure.

Reforms have successfully reduced the startup time for a new business by 70 percent, from 151 days in

2006 to 45 days in 2011. Additionally, the number of procedures required was also reduced from 12 in 2006 to 8

in 2011. The time spent to get construction permits was reduced by 15 percent from 186 days in 2005 to 158

days in 2011 (World Bank 2012a). But Indonesia remains well below the OECD average, which requires only 5

procedures to start a business, taking around 12 days. Table 3.4 provides a snapshot of doing business

indicators in Indonesia.

Table 3.4 Indicators for Doing Business in Indonesia Compared to OECD Average

Source: World Bank 2012a.

Note: Ranking is out of 183 countries.

Despite the reforms and impressive growth rates, Indonesia’s business environment is still weighed down

by the 32 years of centralization of authority, corruption, and weak governance of the Suharto rule. In 1997 it

Indonesia OECD Indonesia OECD

1. Starting a Business 6. Protecting Investors




Paid-in min capital (% income per cap) 46.6 14.1 Investor protection strength (0-10) 6 6

Rank (Change in rank from 2011) 155(+1) Rank (Change in rank from 2011) 46 (-2)





Rank (Change in rank from 2011) 71 (0) Labor tax and contributions (%) 10.6 24



Procedures (number) 7 5 Rank (Change in rank from 2011) 131 (+3)

Time (days) 108 103

Cost (% of income per capita) 1,379.0 92.8 8. Trading Across Borders

Rank (Change in rank from 2011) 161 (-3) Documents to export (#) 4 4











Private bureau coverage (% of adults) 0 63.9 Rank (Change in rank from 2011) 156 (-2)







77

was estimated that corruption cost Indonesians 63 percent of GDP (Idris 2012). Between 1999 and 2003, several

legislative efforts were adopted to combat corruption. The Clean Government Act and the Commission for the

Eradication of Corruption (KPK) have been successful in prosecuting numerous corrupt officials in high-

ranking positions, and have legally won all law suits in the anti-corruption courts; however, the fight for a

clean transparent economy is still ongoing, and corruption levels remain of concern (Idris 2012). In a recent

survey done by PricewaterhouseCoopers (PwC), it was revealed that the recent high-profile arrests in relation

to corruption had made a positive impact on the perception of Indonesia’s commitment to fighting corruption

(PwC 2012b)

Indonesia’s governance indicators over the past decade reveal that progress has been achieved in the country’s

political stability and its fight over corruption. Despite such progress, Indonesia remains well below the OECD

standards as shown in Figure 3.5.

Figure 3.5 Governance Indicators in Indonesia Compared to OECD Average


As for the state of Indonesia’s infrastructure, it also poses obstacles to the overall country’s efficiency. The

Global Competitiveness Report of 2011 ranked the inadequate supply and quality of infrastructure as the third

problematic factor for doing business in Indonesia (Schwab 2011). With a vast area and regional differences,

the country had a poor ranking in the quality of its infrastructure. Road facilities were ranked 82 among 139

countries and ports infrastructure was ranked 96th. Electricity supply was also of concern as it was rated

worldwide in the lower quartile with 97 points out of 139. Other facets of the country’s infrastructure such as

telephone lines and air transport revealed a better standing, but remain in poor condition in relation to other

countries.



The petroleum sector has been a major pillar in the country’s economy, contributing to its development for

over a century. A key feature of this sector is the increasing role of gas, which is replacing oil as the key natural

resource in Indonesia. With declining oil outputs and increasing gas exploration and discoveries, gas is

becoming the primary major hydrocarbon resource in Indonesia.

The mining, manufacturing, and utilities sector has been a leading contributor to the country’s GDP in the

past decades. In 1970 the government began to reap the benefits of its industrial and economic plans set during

the 1960s. In fact, the mining, manufacturing, and utilities sector’s contribution to GDP increased to reach 17

percent in 1970. The sector continued to contribute an increasingly higher share of GDP to reach 34 percent in

1990 and about 40 percent in 2000 (UN 2010b). In 2010 the contribution decreased to nearly 36 percent, but still

constituted the largest share among other economic activities. Figure 3.6 shows the breakdown of GDP by

0

50

100Voice and Accountability

Political Stability/Absenceof Violence

Government Effectiveness

Regulatory Quality

Rule of Law

Control of Corruption

2000 Indonesia 2000

2010 Indonesia 2010

2010 OECD 2010

78

economic activity in 2010, and Figure 3.7 shows the share of the mining, manufacturing, and utilities sector to

GDP. Within this framework, the petroleum sector plays a key role in Indonesia’s economy. The sector

accounts for 7 percent of the country’s GDP and contributes over 25 percent to state budget revenues (IPA

2012a), while being a main source for foreign currency. In 2011 the petroleum’s sector contribution to state

revenues reached $34.4 billion and oil and gas investment reached $12.8 billion (PwC 2012b).

Figure 3.6 Indonesia Compared to Select Countries: Breakdown of Value-added by Economic Activity in 2010 ($

billion)

Source: Based on data from UN 2010a.

Figure 3.7 Indonesia: Contribution of Mining, Manufacturing and Utilities to Value-added, 1970–2010


Petroleum exports fluctuated during the past years due to several domestic and macroeconomic factors. In

1990 petroleum exports contributed to 27.6 percent of total exports, after which production levels began to

decline as a result of depleting reserves and maturing basins. Indeed, the share of petroleum exports declined

to 14.8 percent of total exports in 1994 (OPEC 2011), and to 8.1 percent in 1998, following the Asian economic

crisis. Despite this declining share of exports, the country’s total earnings from petroleum exports remain

sizeable, reaching $166 billion between 1974 and 1994 (Amuzegar 1999).

In 2004 Indonesia became a net importer of oil and the country began shifting toward dependency on gas,

particularly for power generation. This shift has been demonstrated by the relative increase in the number of

5%

8%

8%

6%

10%

5%

6%

8%

5%

6%

6%

15%

11%

18%

13%

13%

11%

8% 12%

12%

19%

12%

7%

45%

33%

43%

25%20%

39% 38%

22% 23%

51%

1%

2%

1%

5%

11%

14%

UK

2,236

14%

6%

10%

Uganda

17

12%

21%

12%

7%8%

20%

Indonesia

883

12%

29%

100%

Trinidad

& Tobago

24

36%

0%

8%

16%

South

Africa

377

24%

3%

13%

Norway

402

33%

4%

8%

Malaysia

304

32%

8%

3%

20%

Kazakhstan

159

30%

4%

7%

11%

Canada

1,637

20%

1%6%

10%

Brazil

2,066

19%

5%

5%

14%

Australia

1,296

19%

2%

7%

9%

Angola

85

50%

9%

8%

6%



Construction

Manufacturing



Other Activities

0%

5%

10%

15%

20%

25%

30%

35%

0

50

100

150

200

250

300

70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10

Sh

are

of

GD

P

GD

P (

Bn

$)


79

gas wells drilled. For instance, 439 gas wells were completed in 2008—a significant increase from the 2003 level

of 23 wells (OPEC 2008). Several attempts to culminate the effect of oil depletion were applied, including deep-

water exploration, enhanced oil recovery incentives,34 and the offering of new exploration bids.35

This shift toward gas resources was mostly evident in exports, and less so in the local market where the

dependency on oil remained relatively high. Until 2002 oil satisfied 75 percent of the local need for energy

(Suryantoro and Manaf 2002). This dependency on oil, however, declined in 2010 to reach 58 percent,

indicating a shift to natural gas. This drove down gas exports, leading Indonesia to lose its number-one rank as

the world’s largest exporter of liquefied natural gas (LNG) and it become the world’s second-largest exporter

in 2010 (PwC 2012b). In terms of employment, the oil and gas sector employed over 300,000 Indonesian

workers (IPA 2012b).


Indonesia is an archipelago composed of a collection of islands located between the Asian continent and

Australia. The overall Indonesian territory consists of 13,700 islands and has a total land area of 1,919,317

square km (Satiotomo 1999). The islands are grouped according to their proximity to the five main island

groups. In the east there is Sumatra Island. The capital, Jakarta, is located on the central Java Island, and to its

north rests the central Kalimantan—the region of Indonesia sharing borders with Malaysia’s Sabah in the

north. Sulawesi is the smaller island located east of Kalimantan, and New Guinea is toward the far eastern

section bordering Papua New Guinea.

Petroleum basins are spread across the whole country and are intertwined on both onshore and offshore

locations. The main basins are:

North Sumatra Basin

Central Sumatra Basin

South Sumatra Basin

The Natuna Sea

Sunda and Asri basins

Northwest Java

Northeast Java

Barito Basin

Kutei–Mahakam Delta Basin

Tarakan Basin

Eastern Indonesia: Bula (Seram), Salawati, Bintuni, and East Sulawesi Basins.

The large oil basins are the North and Central Sumatra basins located north of Sumatra Island, and the

Kutei basin located in the east coast of the Kalimantan region. Basins with oil reservoirs of between 1 and 5

billion barrels are the Southern Sumatra basin, the Northern Java basins, the East and West Natuna island

basins located in the South China Sea, and the Bintuni basin in the east shore of New Guinea. The rest of the

basins contain oil deposits below 1 billion barrels, and there are around 18 basins spread across the country.

The largest in terms of deposits within the smaller category below 1 billion barrels are the Timor Sea basin in

the south east, the Ceram and Sarawati basins located east of New Guinea, and the Barito and Tarakan basins

located east of Kalimantan (Dousta and Noble 2007). Gas basins, on the other hand, are located in North,

Central, and Southern Sumatra, in addition to Southern Java, Kalimantan Sulawesi, and Northern New Guinea

(Yusgiantoro 2012). The largest in terms of reserves are the Sumatra and New Guinea gas basins. Most oil and

gas fields are located onshore and in offshore shallow waters (Nordas, Vante, and Heum 2003).

34 Removal of taxes on capital goods involved in the process. 35 Thirty-one offshore blocks were released for bidding in October 2009. The majority of the new releases were in

deep-water basins.

80


Oil and gas reserves followed different trajectories over the past decades. While oil reserves have decreased in

recent years, gas reserves continued to rise. Oil reserves have reached 4 billion barrels in 2011, enduring a slow

decline since the early 1980s when oil reserves consisted of around 11 billion barrels. On the other hand, gas

reserves increased from 0.8 trillion cubic meters (tcm) in 1980 to 2.9 tcm in 1990. Proven gas reserves dropped

heavily to 1.8 tcm in 1991 and remained below the 2 tcm level until 1996, when the upward trend regained

momentum until today's levels of 3.1 tcm (BP 2011).

Commercial oil production in Indonesia dates back to 1885; East Java was the first producing basin.

Production of oil during the first half of the 20th century was limited. Oil did not pick up until the new

government order was in place a decade after independence. Production increased significantly and an oil

boom was experienced during the 1960s, to peak in the 1970s. In 1965 oil production reached 486,000 barrels

per day (bpd) and continued increasing to reach a peak of 1.68 million barrels per day (mmbpd) in 1977 (BP

2011).

Indonesia joined the Organization of the Petroleum Exporting Countries (OPEC) in 1962 and was one of

the main producers during the 1970s. Oil production in the 1980s was also significant; however, as of 1991 it

became more difficult to produce due to maturing reserves. Production began a descending trend to reach a

break-even point toward the turn of the century. Indonesia became a net importer of oil in 2004, leading the

country to temporarily withdraw its membership from the OPEC in 2008.

Indonesia’s gas production did not start until 1967 and has quickly shown strong potential since 1975.

Today Indonesia is one of the world’s most important gas exporters (Thieme, Lujala, and Rød 2007). The

largest gas reserves are found in North Sumatra’s Arun and East Kalimantan’s Badak. LNG exports to the

industrial East Asian centers primarily come from these two producing areas (IPA 2009a).

The gas production scenario has shown impressive increases beginning in the late 1970s. In 1980 gas

production reached 18.5 tcm. Year by year, gas production increased and more than doubled in one decade to

reach 43.9 tcm in 1990 (BP 2011). With Indonesia’s steadily growing population, gas consumption has increased

but unlike oil consumption, it remains well below production levels. In 1982 gas consumption accounted for 35

percent of production, and a decade after consumption reached 41.6 percent of production. In 2010

consumption levels reached 40.3 tcm constituting nearly half of the country’s production in that year (BP 2011).

Table 3.5 provides a snapshot of the oil and gas sector and Figure 3.8 shows the progression of oil and gas

consumption in Indonesia.

Figure 3.8 Oil and Gas Production and Consumption in Indonesia, 1990–2011


0

200

400

600

800

1,000

1,200

1,400

1,600

1,800

mbpd

11100908070605040302010099989796959493929190

Oil Production (mbpd)Oil Consumption (mbpd)

0

1

2

3

4

5

6

7

8

bcfd

90 020100999897969594939291 111009080706050403

Gas Production (mbpd)Gas Consumption (mbpd)

81

Table 3.5 Snapshot of the Oil and Gas Industry in Indonesia 2011 % Change

2011

% of World

Global rank

1 yr 3 yrs 5 yrs 10 yrs

Oil proved reserves, billion bbl 4.0 0.2 28 -4.5 -6.1 1.3 -14.4

Oil production, mmbpd 941.7 1.1 45 -5.6 -4.9 -3.1 -27.0

Oil refinery capacities, mmbpd 1141 1.2 22 0.2 5.2 -0.8 4.5

Oil consumption, mmbpd 1,430.5 1.6 16 -1.1 8.7 12.6 20.8

Gas proved reserves, tcf 104.7 1.4 14 0.0 -2.5 -1.2 16.0

Gas production, bcfd 7.3 2.3 44 -7.8 5.1 11.8 8.5


Primary energy consumption, million toe 148.2 1.2 16 -0.4 10.9 14.5 37.9


Note: bbl = barrels; bcfd = billion cubic feet per day; boe = barrel of oil equivalent; mmbpd = million barrels per day; tcf = trillion cubic feet; toe = tons of oil equivalent

The region of Java, where the capital Jakarta is located, and the extended Madura-Bali series of islands

have the largest population in Indonesia (around 80 percent) (OECD/IEA 2008) and certainly constitute the

largest petroleum-consuming region of the country (IPA 2009c).

Indonesia’s refining capabilities are distributed over nine plants, some of which are aging with very

limited output. The total refining capacity of Indonesia is estimated at 1 mmbpd (OECD/IEA 2008). The Cilacap

refinery, the largest in the country, is located in the central Java region and has a capacity of 348,000 bpd.


The governance of Indonesia’s petroleum sector has undergone several changes for over a century, from the

colonial period through independence and until the recent structural reforms were assumed. Overall, the

sector is characterized by strong government control over the sector’s activities.

During the colonial period, petroleum-related activities in Indonesia were governed by the mining law of the

government of the Netherlands (Pertamina 2011). Toward the later part of the colonial era, the United States of

America’s interest in the oil and gas sector in Indonesia was evident and collaborations were made with

several companies. Companies such as Standard Oil of New Jersey, Standard Oil of California, Gulf Oil, and

Standard Oil of New York (today ExxonMobil) have been operating in Indonesia under joint ventures and

agreements with several Dutch companies, mainly with Royal Dutch Shell. Upon independence, the

government took over all operating Dutch enterprises in the country36 (Pertamina 2011) and in 1957 the

Indonesian government merged the two state-owned companies—Permina for oil and gas and Pertamin for

distribution—to create Pertamina. The new fully owned state company was assigned with the full spectrum of

responsibilities in exploration, production, processing, refining, transportation, and marketing of oil and gas

products. By means of the Oil and Gas Law no. 44 of 1960, and the later Law No. 8 of 1971, the NOC became

solely responsible for all petroleum activities in the country.

The government’s interests in the oil and gas sector were carried out by Pertamina prior to 2001. With the

enacting of the legislative reforms after 2001, particularly with the issuing of the Oil and Gas Law No. 22, the

duties were segregated. The petroleum policy design, licensing, and regulatory functions were granted to the

DGOG of the MEMR (OECD/IEA 2008). The DGOG has thus become the sole concessionaire, responsible for

the preparation and management of petroleum contracts bidding process.

By means of Law 22, the Executive Agency for Upstream Oil and Gas Business Activities (BPMIGAS) was

created to regulate the upstream sector and act as a government body responsible for implementation of

36 The Royal Dutch Shell was the only exception, reportedly due to its wide international equity.

82

agreements. BPMIGAS effectively took over its duties after regulation 42 of 2002. BPMIGAS reports directly to

the president of the republic, but it coordinates with the MEMR and DGOG and considers their

recommendations before the semiannual reporting period. BPMIGAS recommends policies, signs contracts on

behalf of the government, and is also responsible for monitoring the work of the contracting parties

(OECD/IEA 2008).

As for downstream activities, recent government regulations have also changed the institutional

framework. In 1997 the government allowed local companies to partner with Pertamina in setting up refineries

in an effort to increase investment in the segment and to meet the ultimate goal of supplying the domestic

demand for fuel (EEPC 2002). Until 2001 Pertamina remained the regulator and distributor of fuel in the

domestic market. Law 22 created the Executive Agency for Downstream Oil and Gas Business Activities

(BPHMIGAS) to be the regulator and supervisor of all distribution and trading activities. BPHMIGAS

supervises and regulates the availability, allocation, transportation, and marketing of natural gas for domestic

and international needs. Both BPMIGAS and BPHMIGAS are state-owned enterprises whose heads are

appointed by the president.

The most common form of contractual agreements for petroleum activities with oil companies is PSAs,

which were first signed during the 1960s. In 2001 supervision over signed PSAs with international oil

companies (IOCs) was transferred from Pertamina to BPMIGAS, and was set for a 30-year ceiling (exploration

phase for 6 years), with the government share set at 80 percent of the output (Nordas, Vante, and Heum 2003).

Less common agreements can be enforced, including technical assistance contracts (TACs), and enhanced oil

recovery contracts (EORs), which are a version of PSAs. In addition, technical evaluation agreements (TEAs),

joint operating agreements (JOAs), and loan agreements (EEPC 2002) are applied.


During the colonial era, the Dutch initially carried out petroleum development. The pioneering petroleum

activities date back to the 19th century when Dutch geologists carried out exploration activities, following the

industrial revolution in Europe (Suryantoro and Manaf 2002). The Dutch involvement was also crucial in

understanding and mapping the complex geological characteristics of the Indonesian archipelago. As a result,

crude oil, among other energy and mineral resources, was discovered.

The first commercial oil field was found in the North Sumatra Basin in 1885, after 14 years of exploration.

The discoveries continued and oil was found on Java in 1888, Kalimantan in 1898, and in the South Sumatra

Basin in 1904 (Thieme, Lujala, and Rød 2007). But most of the country’s petroleum resources remained

untapped until the national development days following independence.

With independence following World War II, all oil resources and Dutch assets including oil fields and

existing refineries were returned to the Indonesian government. The state then constitutionally took ownership

and control of all natural resources including petroleum, with the objective for natural wealth to be utilized

toward the welfare of the people (IPA 2009b). Exploration activities were continuously carried on after

Indonesian independence. Government plans for developing oil and gas were enforced, and leveraged the

technological capabilities of international oil and gas companies to further explore and develop petroleum

resources in the country. As a result, the 1960s and 1970s witnessed large increases in reserves and production.

The discovered oil and gas became the catalyst for further development funding.

Upstream exploration and production (E&P) activities were dominated by the IOCs in the early periods.

Although the early days were under Dutch colonial control, joint ventures and mutual understandings with

American companies were realized during that period. As mentioned above, companies such as Standard Oil

of New Jersey, Standard Oil of California, Gulf Oil, and Standard Oil of New York have been the major players

in Indonesia. Toward the 1960s, Shell/BPM, STANVAC, and Caltex (Standard Oil and Texaco) dominated E&P

(IPA 2009b). In later periods, after the national reclaiming of Dutch assets, the American firms with PSAs with

Pertamina have dominated the scene (Nordas, Vante, and Heum 2003). It was estimated that nearly 45 percent

83

of the country’s oil was carried out under Chevron’s E&P wing—triple the oil output of Pertamina (Pillai 2010).

In 2000 only 3.3 percent of oil production was attributed to Pertamina as an operator (Nordas, Vante, and

Heum 2003). Today, and with over 200 active PSAs, Indonesia enjoys a diverse base of upstream PS contractors

that include IOCs, NOCs37 from other countries, and local and international independents.

As for the downstream sector, the legal framework has played a significant role in its development. Prior

to the new oil and gas law, Pertamina had complete monopoly over the sector. The national company owned

and operated the refineries in the country, the franchising of gasoline stations, and the retail trade. In 2001 Law

22 substantially changed the role of the national oil and gas company. The law liberalized the downstream

business and the 2003 Decree no. 31 converted Pertamina from a state-owned enterprise to a limited liability

company called PT Pertamina with the majority of the shares owned by the state, and with an outlook for

privatization to occur in the near future (Nordas, Vante, and Heum 2003). PT Pertamina became an equal to

private sector commercial oil and gas companies (Twomey, Watkins, and Galuh 2004), and is similarly

required to contract with BPMIGAS.

The United States and Japan account for 60 percent of the imported oil and gas field equipment to

Indonesia. Since most of the petroleum fields are onshore and require average sophistication and technology, a

transfer of knowledge to local capabilities was evident. Indonesia was able to cater to the downstream sector

through developing oil field services and equipment. The value of oil and gas field equipment was $459 million

in 2000, estimated close to half the total market for OFS in 2000 (Nordas, Vante, and Heum 2003). Local

capabilities exported to the international market as well—161 million worth of OFS equipment were exported

to Malaysia, Thailand, Brunei, and China.

By 2003 around 200 local firms were operating in the downstream sector (Nordas, Vante, and Heum 2003).

Although there are many local companies, their capability to supply for upstream activities of E&P was limited

to the large local companies (EEPC 2002). The biggest share goes, however, to the IOCs, especially U.S.-based

companies, due to the high-level technological advantage of their equipment and to the American common

industry standards adopted by Indonesia in most of its oil gas operations (EEPC 2002).


Unlike other hydrocarbon-rich countries such as Kazakhstan, Norway, or neighboring Malaysia, Indonesia has

not introduced a national oil fund to manage its oil wealth. Petroleum wealth, and particularly oil, was instead

spent toward internal development (Eifert, Gelb, and Borje Tallroth 2003). With the exception of Pertamina’s

government bailout of 1974, the windfall of oil revenues in the 1960s, 1970s, and onward were for the most part

allocated to economic development programs of vital importance for the country and the people of Indonesia.

Achieving national food security and reducing poverty was the government’s priority during the era

following independence. Poverty levels during the 1970s period were high, estimated at the time to be close to

40 percent of the population (more than 50 million people) (Asian Development Bank Institute 2005). As a

result, the government was keen to invest oil windfalls in improving social and economic conditions primarily

in the formation of human capital and development of the country’s poor infrastructure, especially in the less-

developed and remote rural areas (Amuzegar 1999). Poverty levels were successfully reduced to nearly 11

percent of the population in 1996 (Asian Development Bank Institute 2005).

In addition, the country’s abundant gas reserves were utilized to drive forward links in the country (Eifert,

Gelb, and Borje Tallroth 2003). The following Repelitas concentrated the oil windfalls on diversifying the

resource-based industries and substituting lighter industry into heavier manufacturing such as petroleum

refining, steel and aluminum processing, LNG development, fertilizers, paper, and cement (Amuzegar 1999).

The tides changed for Indonesia, as the country became a net importer of oil in 2004. The government was

often criticized in later years for its poor management of petroleum wealth and for its failure to encourage

37 CNOCC of China and INPEX of Japan.

84

investment in further exploration of oil resources. Oil prospects in offshore Natuna were left untapped

(Hertzmark 2011). Reportedly, the market lacked, among other things, the sufficient and accurate data to

motivate investments in oil exploration (Natural Gas Asia 2012).

To counter this position, and in an effort to extend the life of oil resources, Indonesia is considering

establishing a petroleum fund. The fund will be stipulated for in the new oil and gas law that is being drafted.

The petroleum fund will be set to receive approximately 5 percent of nontax state revenues from the oil and gas

sector to finance the construction of core infrastructure as well as for research and development. As a result,

the government aims to offer big investors sufficient data on oil and gas reserves (PT. Bina Media Tenggara

2012).



As stipulated by the law of 2001, the main objective behind LCPs is to develop local capabilities that enable

domestic companies to compete in the national, regional, and international landscape of OFSE. This is to be

achieved in a transparent and competitive way (DGOG 2011a). Another source reflecting objectives behind

LCPs are the vision and strategic directions of BPMIGAS. The regulator’s vision is to “be a proactive and

trustworthy partner in optimizing the benefits of the upstream oil and gas industry for all stakeholders while

becoming one of the Nation’s engines in mobilizing different economic and industrial activities” (BPMIGAS

2011b). To this end, a pillar of BPMIGAS strategy is to “prioritize domestic/regional human resources roles,

and utilization of goods and services in oil and gas industry.” More specifically, the head of BPMIGAS set the

aspired level of local content at 50 percent by stating in 2009 that “half of the total budget of oil and gas projects

must be spent domestically in order to increase local content” (MOEMR 2009).

3.3.2 Policy Tools

To achieve the above-mentioned objectives, BPMIGAS has launched a holistic set of policy tools based on a

detailed assessment of domestic capabilities. Next, we discuss LCPs aimed at raising the level and participation

of local upstream capabilities, increasing domestic sourcing of goods and services, and raising the contribution

of the domestic banking sector in financing procurement transactions. The following LCPs apply to upstream-

related activities, noting that only Indonesian entities can engage in downstream activities (OSP 2011).

Local Content in the Labor Force

In 2005 BPMIGAS published a set of guidelines on the management of human resources in PSAs. The

guidelines aimed at accelerating the development of local capabilities and increasing the share of spend on

Indonesian personnel to 75 percent by 2010.38 The guidelines were extended and reviewed in 2008. Overall,

BPMIGAS deploys a set of regulations related to the recruitment, training, and career progression of the

workforce engaged in upstream activities.

All PS contractors need to get the approval of BPMIGAS on the size and structure of the operating

organization. In addition to that, the recruitment of any domestic or foreign workforce requires the approval of

the regulator. In general, foreign manpower can be recruited only in case no domestic capabilities can be

found. It is noted that BPMIGAS imposes targets for the recruitment of Indonesian workforce by skill level and

by phase of development (that is, targets differ between development phase and production phase). Under

some contracts this is done at the regional level for villages directly affected by the oil and gas operations.

Similarly, companies operating in the downstream sector must give preferences to local employment. More

specifically, recruitment shall be done in coordination with regional governments and priority must be given to

people residing in the area of operations. Concerning the salaries and benefits extended to national staff,

38 Taking into account the costs and benefits of such actions.

85

BPMIGAS imposes caps for cost-recovery purposes (PwC 2012a). Here, industry advocates are calling for

removing the caps and shifting to a market-based competitive salary setting for both expatriate and local

workers (IPA 2012b).

Under the contractual agreements, PS contractors are required to establish and deliver capability

development programs for local personnel. Among the various programs, PS contractors deploy:

Structured mentoring system that allows junior Indonesian personnel to be taught, coached, and

counseled by more senior staff39

Educational and training programs

International career development programs that include swap and technical development exchange

between the PS contractor Indonesian employees and expatriate ones in different geographies

Internationalization of Indonesian personnel (that is, recognizing that Indonesian personnel

capabilities are in line with the PS contractor’s global competencies)

Overseas and domestic on-the-job training (BPMIGAS 2005).

These programs are part of the annual work plan and budget-reviewing process carried out by BPMIGAS.

Incurred costs are cost recoverable. Concerning career progression, all expatriate positions should include a

succession plan that lays out the Indonesianization plan for the position. Violating any of the above

stipulations subjects the related incurred cost to be excluded from cost recovery. Concerning providers of

OFSE, PS contractors are encouraged to offer training programs about the operating procedures of the PS

contractors, procurement regulations, as well as health, safety, and environmental issues (BPMIGAS 2011c).

Domestic Procurement of Goods and Services

In 2009 BPMIGAS launched a new set of procurement guidelines reflecting a holistic approach to achieving

local content objectives. The guidelines were reviewed and extended in 2011. Under the procurement

guidelines, PS contractors must give priority to domestic sourcing of goods and services such that they “use,

maximize or empower domestic products that meet criteria of quantity, quality, handover time and price”

(MoI 2011). The left-hand side of the policy statement is translated into specific actions in three categories of

domestically produced goods40:

Mandatory goods. Primary goods for exploration and production where there exists at least one

domestic manufacturer who enjoys a minimum local content plus Company Benefit Weight (BMP)41

level of 40 percent.

Maximized goods. Primary goods that have been produced domestically where there exists at least one

domestic manufacturer who enjoys a minimum local content level of 25 percent and no domestic

manufacturer with a local content plus BMP of 40 percent. Additionally, this category includes

supporting goods where there exists at least one domestic manufacturer who enjoys a minimum local

content level of 25 percent.

Empowered goods. Goods where there exists at least one domestic manufacturer who enjoys a minimum

local content level of 5 percent and no domestic manufacturer with a local content of 25 percent.

The list of goods by category as well as details on domestic suppliers (names and addresses of the

producers, specification, standard, capacity, value of local content) are provided annually in the Buku

Apresiasi Produksi Dalam Negeri (APDN) book published by MIGAS (MoI, 2011).42

The procurement of mandatory goods is carried out via a limited bidding process where all domestic

manufacturers with a minimum local content of 15 percent are invited. To optimize the procurement of

39 Every expatriate should act as a mentor. 40 A domestic company is one with at least 50 percent of its shares being owned by an Indonesian citizen, the state, or a regional

government. 41 Discussed below. 42 Information can be found on http://www.migas.esdm.go.id/apdn/.

http://www.migas.esdm.go.id/apdn/

86

mandatory goods across all upstream operations, BPMIGAS may elect to carry out the procurement process on

behalf of PS contractors43 through a joint contract strategy. For maximized goods with contract value greater

than $100,000, procurement is done by inviting all domestic manufacturers with a minimum local content level

of 10 percent. This is done via a limited bidding process for primary goods and a public one for supporting

goods. For empowered goods with a contract value above $100,000, procurement is done by engaging all

domestic manufacturers with a minimum local content level of 5 percent. Like maximized goods, this is done

via a limited bidding process for primary goods and a public one for supporting goods. A summary of the

definition of the three groups of goods and respective procurement strategies is presented in Table 3.6. It must

be noted that in case the number of registered bidders for maximized or empowered goods is less than three,

then the bid is extended and ultimately open to all suppliers (BPMIGAS 2011c).

Table 3.6 Indonesia: Definition of Goods and Respective Procurement Strategy

Category Local content (LC) requirements Contract

value

Procurement

method Invited bidders

Mandatory Goods

At least one domestic

manufacturer has LC + BMP ≥

40%

Any Limited

Bidding

Domestic manufacturers

with minimum LC

achievement of 15%

Maximized

Goods

Primary At least one domestic

manufacturer has LC ≥25% and

no domestic manufacturer has

LC+ BMP ≥ 40%

> $100,000

Limited

Bidding Domestic manufacturers

with minimum LC

achievement of 10% Supporting Public Bidding

Empowered

Goods

Primary At least one domestic

manufacturer has LC < 25% and

no domestic manufacturer has

LC ≥ 25%

> $100,000

Limited

Bidding Domestic manufacturers

with minimum LC

achievement of 5% Supporting Public Bidding

Source: Based on data from BPMIGAS 2011c.

For the procurement of services, bidders must commit to a minimum local content level of 35 percent44 for

contracts with a value more than $100,000. Domestic companies45 get a priority such that they are extended the

privilege to form a consortium with national companies46 or foreign ones when in-house capabilities are not

adequate. In case no domestic company participates in the bid, this privilege is extended to national

companies. Additional procurement rules concerning the mode of delivery, share of contract value going to a

domestic company,47 amount of physical work to be carried out in Indonesia, and subcontracting rules are

determined based on the type of the service procured. To this end, BPMIGAS splits services into two types:

engineering, procurement and construction (EPC) services, or other/combined services. Additional factors

affecting the procurement rules include the contract value and type of asset. To illustrate the rules, consider the

procurement of a non-EPC service; in case no domestic company possesses required capabilities, the company

is suggested to partner with another domestic company, a national, or a foreign one. Under the latter two

modes of partnership, at least 30 percent of the contract value must be carried out by the domestic company

and at least 50 percent of the work must be carried out in Indonesia. A summary of the procurement

requirements across the different types of services is provided in Table 3.7.

43 In that case, PS contractors are represented on the procurement committee. 44 Or as determined by BPMIGAS. 45 A company with more than 50 percent of its shares being owned by an Indonesian citizen, state, or regional government. 46 A company with less than 50 percent of its shares being owned by an Indonesian citizen, state, or regional government. 47 Or consortium of domestic companies.

87

Table 3.7 Indonesia: Procurement Requirements for Services

Service type Contract value (CV) Asset type

Privileged modes of delivery for domestic companies

(in case of no adequate local capabilities)

Min share of CV going

to DC

Min share of

physical execution

in countrya

Max value of

subcontract to FC

Other/ Combined

Any Any Consortium with NC or FC 30%

50%

—

EPC 100,000 < CV ≤ $5 Mn

Onshore Consortium with NC, DC acting as lead

50% 50%

Offshore 70%

$5 Mn < CV ≤ 200 Mn

Onshore Consortium with NC, DC acting as lead

50%

50%

Offshore Consortium with NC or FC, DC acting as lead

50%

200 Mn < CV Onshore

Consortium with NC or FC, DC acting as lead 50%

50%

Offshore Consortium with NC or FC 50%

Source: Based on from BPMIGAS 2011c.

Note: DC = domestic company; NC = national company; FC= foreign company.

(a) If not met, this is reduced to 30 percent.

— Not available.

Any of the requirements (that is, local content, value of contract implemented by domestic company,

amount of physical work carried out in Indonesia) may be compensated by a loan from a state-owned

enterprise (BUMN) or a regional government-owned enterprise (BUMD).48 This action aims at increasing the

role of local banks in financing procurement transactions given their historically limited role in that,

underpinned by limited competitiveness, compared to international banks.

Going back to the overarching policy statement, the right-hand side of the statement mentions four criteria that

domestic suppliers must meet for the procurement strategies to apply. The quantity criterion refers to the

ability of domestic manufacturers to meet the demand given installed capacity. This said, PS contractors

should include “reasonable” handover and delivery schedules in their procurement plans. The quality criterion

requires local manufacturers to meet Indonesian National Standards49 or minimum industry requirements. As

for the price criteria, upon meeting quantity, quality, and handover time requirements, suppliers of goods and

services gain a price preference based their local content levels as well as their company status. A price

preference is given for goods that include a minimum of 25 percent of local content. For services, a price

preference is given in case of a promise or commitment to achieve a minimum of 30 percent of local content.

For goods, the maximum price preference given is 15 percent applied proportionally on the local content level.

For services, the maximum price preference offered is 7.5 percent, calculated proportionally to the local content

commitment. In addition to the price preferences based on local content, companies can gain a higher level of

price preferences based on the company status (that is, whether the company is a domestic one or not). The

schedule of requirements and associated price preferences is summarized in Table 3.8.

48 These are business entities with at least 50 percent of capital or shares owned by the Government of the Republic of

Indonesia/regional government. Additional rules on the loan are laid out in the procurement manual. Additional rules related to the

cap on the loan are outlined in the procurement guidelines. 49 Mainly derived from U.S. industry standards.

88

Table 3.8 Indonesia: Summary of Price Preferences Based on Local Content (LC) Level and Company Status

Category Minimum

LC Company status Other requirements Price preference Schedule

Goods 25% Any None A maximum of 15% Proportional to LC

Domestic None Additional 2.5% Flat

Services 30%a

Any None A maximum of 7.5% Proportional to LC

Domestic At least 50% of the service is performed by a Domestic Company; and

At least 50% of the service is carried out in Indonesia

Additional 7.5% Flat

Domestic acting as a lead of a consortiumb

Additional 5% Flat


Note: (a) Promise/commitment to achieve 30 percent; (b) Consortium with national company that has a status of foreign investment and/or with foreign company.

The local-content-related price preference (Pb) is applied on the direct production cost of the goods (HPb).

For instance, the price preference does not apply on the transportation and handling component of the cost

(TH). As such, the evaluation price reflecting the price preference for local content is expressed as:

b

b

LC HPP

EP

1

1

As for the company status price preference (PSp), that is applied on the total cost components, which

includes a noncost component (NC). To this end, the bid evaluation price (BEP) can be defined as:

NCTHEPPS

BEP L C

p

1

1

An example for the evaluation of a bid price in comparison to the contract value is presented in Table 3.9.

Table 3.9 Indonesia: Example of Calculating a Bid Evaluation Price for the Supply of a Good

Component Contract Value ($

Mn) Local Content Price Preference

% BEP ($ Mn)

Value ($ Mn) %

A B c d=c/b f=d*15% g

Direct production cost (HPb) 25.00 7.00 28.00% 4.20% 23.99 Transport and handling (TH) 1.50 1.50 Total cost components 26.50 25.49

Company status Manufacturer has domestic company status (55% of shares owned by Indonesian)

2.50% 24.87

Noncost component 2.00 2.00 Total 28.50 26.87


Suppliers can gain a value of appreciation on the local content level achieved, called BMP, in case a

company’s investment in Indonesia is directed toward the development of a domestic industry. BMP allows PS

contractors (through their suppliers and service providers) to increase the level of achieved local content by up

to 15 percent. As shown in Table 3.10, companies can gain a BMP through four activities. Each activity has

defined criteria that are translated into weights applied on the maximum BMP level of 15 percent. A maximum

weight limit applied also to each activity (BPMIGAS 2011c).

89

Table 3.10 Indonesia: Activities, Criteria, and Weights for the Local Content Level Achieved

# Local industry development activities Criteria Weight Maximum

weight limit BMP

values

I Empowering micro and small businesses as well as small cooperatives by means of partnerships

Minimal Rp 500 Mn 5% 30% 4.5%

Any multiples of Rp 500 Mn 5%

II

Certificate owning: - Health and work safety (SMK3/OHSAS 18000) (30%)

None 0%

20% 3.0% Available 6%

- Environmental management (ISO 14000) (70%)

None 0% Available 14%

III Community development Minimal Rp 250 Mn 3%

30% 4.5% Any multiples of Rp 250 Mn 3%

IV After sales service facilities Minimal investment of Rp 1 Bn 5%

20% 3.0% Any multiples of Rp 1 Bn 5%


On another front, the new procurement rules include stipulations offering small- and medium-sized

enterprises (SMEs) with cash advances based on the financial conditions of the PS contractors. Here it must be

noted that the procurement rules outline caps on the contract values that SMEs can bid for.

Failing to deliver the local content targets specified in the contract subjects the goods or services provider

to administrative and financial penalties. Administratively, a goods or services provider is prohibited to bid for

future contracts under the relevant PS contract over the following year. Furthermore, in case the goods or

services provider fails in delivering local content commitments under other contracts within the year of

administrative sanctions, the provider is placed on the blacklist. As for the financial penalty, this is defined

based on the results of the original bid evaluation process:

In case the achieved lower local content level does not change the rank of the winning bidder, the

penalty is the difference between the BEP of contract realization and the original BEP

In case the rank changes, then the difference between the contract value of the winning bid and that of

the first-rank bid under the local content level upon implementation is added to the above

If realization of local content goods is less than that stated in the contract, and the goods/service

provider changes source of procurement of goods partially or entirely from a domestic source to a

foreign source then the PSA contractor must use imported facilities, the relevant goods/service

provider is imposed with additional sanctions as much as the value of import duty (ID) plus a charge

for the purpose of import (CPI) from the value of domestic components that cannot be fulfilled.

Considering the example of Table 3.11, in case the winner of the bid (provider A) achieves a local content level

of 22 percent upon implementation then it is no more eligible for the price preference. In that case, and

considering the bid evaluation results outlined in Table 3.113.13, the monetary penalty is equivalent to $2.13

million ($1.63 million being the difference between the BEP of contract realization and the original BEP, and

$0.5 million being the difference between the contract value of the winning bid and the second-rank one).

Table 3.11 Indonesia: Calculating the Penalty Given for Unachieved Local Content, and Rank Changes

Goods/ service

provider

Bid phase Implementation phase

Value ($ Mn) LC BEP ($ Mn) Ranking LC BEP ($ Mn) Ranking

A 28.5 28% 26.87 I 22% 28.50 III

B 27.5 0% 27.5 II 0% 27.5 II

C 28.0 25% 27.10 III 25% 27.10 I


Importing goods and services requires the approval of BPMIGAS. For goods, the approval is granted in

any of the following cases:

Goods are not yet produced domestically

90

Domestic production capacity does not enable timely delivery or does not meet minimum quality

standards

Price of domestic sourcing, including local content preference, is not competitive with imports (that is,

higher than the lowest price of cost, insurance, and freight [CIF] of imported products) (BPMIGAS

2011c).

For IT software, BPMIGAS’ approval is granted in case of intellectual property requirements when there is

no local representative agent for the supplier.

To complement the above policies, MIGAS issues OFSE companies certificates for business ability. The

certificates are issued based on a formula that weights ownership status, production ability (output,

standard/quality, capacity, and local content and company benefit weight values), management

(quality/environment/work safety and health), marketing network, and after-sales service. Based on the

evaluation process, companies are categorized as follows:

Incompetent in case the evaluation value is below 40 (here a certificate is not issued)

Competent with one star in case the evaluation value is equal or above 40 and below 60

Competent with two stars in case the evaluation value is equal or above 60 and below 80

Competent with three stars in case the evaluation value is equal or above 80 (DGOG 2011a).

At this stage, the rating of the companies is not part of the tendering process.

Concerning the aggregation and splitting of procurement packages, BPMIGAS allows the aggregation of

procurement packages given three criteria: (i) it is done based on technical and economic considerations, (ii) it

is not a type of work that should be carried out by small-scale enterprises including small cooperatives, and

(iii) it does not hinder the utilization of domestic capabilities. On the other hand, splitting of procurement

packages is permitted in case, among other criteria, it intends to increase the level of local content or it offers

business opportunities to small-scale enterprises including small cooperatives.

3.3.3 Policy Channels

Today, LCPs are legislated via the:

Oil and Gas Law No. 22/2001 segregating regulatory roles and commercial operations

Supply Chain Management Manual PTK 007/2009 as revised in 201150

Ministry of Industry Regulation No. 16-16/2011 on local content calculation

Investment Law No. 25/2007 (applicable only to limited liability companies domiciled in Indonesia

and owned by Indonesian investors)

Regulation No. 258/PMK.011/2011 on caps applicable to expatriate costs

Company Law No. 40/2007

The 2005 Guidelines for Human Resource Management of BPMIGAS and revision of 2008

Joint cooperation contracts for upstream activities.51


Local-content-related responsibilities are mainly split between the MEMR, BPMIGAS, PS contractors, and the

Department of Industry. Overall, there is no clear split of responsibilities between the ministry and BPMIGAS.

The DGOG, under the MEMR, is responsible for formulating policies and laws related to local content. The

directorate also engages in the execution of some aspects of the laws as it assures compliance with the issued

laws. To this end, the Subdirectorate for Home Potential Empowerment is mainly tasked with:

Developing policies, norms, and criteria for local empowerment

50 Launched in 2004 the first edition was published in 2009, and the second revision published in 2011. 51 Local content is not a parameter in awarding PSAs.

91

Collecting and reviewing information related to domestic procurement of goods and services

Crafting work procedures and guidelines for importing goods and the expatriate workforce

Preparing plans for employment nationals and the expatriate workforce

Publishing the APDN book for goods and services.

In addition, the subdirectorate engages in labor productivity improvement initiatives (DGOG 2012).

BPMIGAS is tasked with representing government interests in PSAs. In relation to LCPs, BPMIGAS leads

the implementation of laws issued by the DGOG as it issues guidelines to facilitate implementation of laws.

Among the various responsibilities, BPMIGAS:

Reviews and approves work plans and PSA annual budgets (these include procurement plans)

Regulates the implementation of local-content-related policies issued by the DGOG

Approves goods and services procurement bid plan and award for contract values of $5 million and

above

Carries out post-implementation audits for procurement activities with contract value below $5

million

Approves cost-recovery items

Develops and implements procurement guidelines

Monitors and reports local-content-related performance.

In driving the local content agenda, BPMIGAS coordinates with the Department of Finance, Department of

Manpower and Transmigration, Department of Industry as well as multiple industry players. For instance, the

Department of Industry is responsible for issuing local content certificates to goods manufacturers. PS

contractors are responsible for the implementation of recruitment and procurement activities in accordance

with sectoral procedures and regulations.

3.3.5 Interlinks

Indonesia joined the World Trade Organization (WTO) in January of 1995. Under the General Agreement on

Trade in Services (GATS), Indonesia has commitments for professional and business services,

telecommunications, construction and engineering services, educational services, financial services, health

services, tourism, and maritime cargo handling. In October 2010 U.S. and European Union (EU) representatives

raised their concerns around the LCPs pursued by Indonesia in the mining sector.52 The U.S. commission filed a

list of four questions requesting clarifications on the LCPs pursued by Indonesia (WTO 2010). The answers

provided by Indonesia were followed by a new series of questions filed by the U.S. commission in 2012. In a

nutshell, the U.S. questions were centered on violations of LCPs with terms under the GATS. Indonesia’s

response denied that the country’s commitments violated any of the terms. For instance, concerning the

country’s commitment for civil engineering under the GATS, Indonesia stated that any foreign engineering

firm shall establish a joint venture with a domestic company in case it wants to engage in business in Indonesia

(WTO 2012a).


BPMIGAS monitors the level and evolution of Indonesianization through annual reviews of the organization

structure and the recruitment rules put in place. In addition, the regulator deploys an integrated online system

allowing it to monitor compensation spending, delivered educational and training programs, and succession

plans put in place.

Concerning the domestic sourcing of goods and services, PS contractors must agree with BPMIGAS on

local content targets over a certain period or work package, as part of the procurement planning process. To

this end, a BPMIGAS template must be filled by PS contractors specifying details related to procurement

52 Relating to backward and forward links.

92

activities and targeted local content levels. Subsequently BPMIGAS monitors the achievements of PS

contractors against set targets for the year under consideration as well as the previous five years. PS contractors

must submit monthly reports to BPMIGAS on the procurement activities of goods and services. The reports are

standardized based on forms developed by BPMIGAS and made available in the revised version of the

procurement guidelines.53 Among other information, PS contractors must report on the local content level and

contribution of SMEs.

Local content levels for goods are demonstrated either via the APDN book published by the DGOG, or

through certificates that are issued by any “government agency that deals with the industry”54 (BPMIGAS

2011c). For services, this is done via a statement letter specifying the level of local content to be achieved over

the implementation of the service. The value of local content in goods resulting from verification is valid for

two years (MoI 2011). The local content in goods is measured as the ratio of the price of the finished product

excluding the price of foreign-made components and the price of the finished product. The prices should

reflect direct material and labor costs in addition to indirect factory overheads.55 For services, the local content

is calculated as the ratio of the whole service costs excluding foreign services costs and whole service costs. The

costs should reflect labor, tool/facility, and general services costs. The local content is defined based on the

following criteria:

Country of origin for material

Ownership and country of origin for work tools and facilities—for work tools the local content level is

defined based on the geography of production an ownership status of the producer, as outlined in

Table 3.12

Citizenship for labor force

Table 3.12 Indonesia: Local Content Levels for Work Tools Geography of production Ownership status of producer Local content level

Local Domestic 100% Local Foreign 75% Local Joint 75% + SODS1 x 25% Foreign Domestic 75% Foreign Foreign 0% Foreign Joint SODS

Source: Based on data from MPRI 2011.

Note: Portion of stocks owned by domestic supplier (SODS).

It must be noted that the calculation of local content for goods and services traces down to the second level of

production of goods and provision of services. At the second level, the local content is 100 percent in case:

The second-level good is produced locally

The cost of the second-level good constitutes less than 3 percent of the first-level good’s production

cost

The accumulation of the second-level good’s cost is 10 percent, at most, of the first-level good’s

production cost.

In case second-level goods and services make use of third-level ones, than these are considered to be 100

percent local if supplied by a local company.

For the service of equipment used in the implementation of physical work and other services, the local

content level is defined as per Table 3.13. For consultancy services, the value of local content is “calculated

based on value of service of the use of domestic workers, including value of cost of goods/services to support

the workers’ activity.” It must be noted that imported goods sold by local companies are not considered as

53 http://www.bpmigas.go.id/blog/2011/05/02/ptk-no-007-revisi-iiptki2011/. 54 It is reported by the Ministry of Trade and Industry. 55 The prices should not include profits, company overheads, and output taxes.

http://www.bpmigas.go.id/blog/2011/05/02/ptk-no-007-revisi-iiptki2011/

93

domestic goods. In addition, foreign workers employed in Indonesia are not considered as domestic

components (BPMIGAS 2011c).

Table 3.13 Indonesia: Local Content of Value of Service of Equipment Use in Implementation of Physical Work

and Other Services Geography of

production Ownership status LC level

Domestic Domestic company or Indonesian citizen

100%

Abroad 100%

Domestic National company with more than 50 percent of shares owned by a foreign citizen or foreign company

75%

Abroad National company with more than 50 percent of shares owned by foreign citizen or foreign company 0%


Originally, a domestic manufacturer was considered as one who produces goods on Indonesian territories

regardless of the ownership status (Nordas, Vante, and Heum 2003). Today, a domestic company is one with at

least 50 percent of the shares being owned by an Indonesian citizen, the Republic of Indonesia, a regional

government, a state-owned enterprise (BUMN), or a regional government-owned enterprise (BPMIGAS 2011c).


Prior to the implementation of the new LCPs on procurement of goods and services, local content levels in

procurement were believed to be in the range of 10 to 20 percent (EEPC 2002). As reported by Nordas, Vante,

and Heum (2003), earlier policies related to the domestic sourcing of goods and services were not seen as

successful. For instance, the late 1970s policy that required international companies to partner with domestic

ones in delivering OFSE has led to the establishment of multiple joint ventures. While the objective of the

policy is to drive knowledge transfer, it is reported that limited transfer has been achieved. Looking at the

drilling sector, 48 drilling companies were registered; however, still all offshore drilling has been led by the

foreign partner of the joint venture (Nordas, Vante, and Heum 2003).

Today, despite the strong monitoring system in place and the strong regulatory grip of BPMIGAS over the

sector, the regulator does not formally publish metrics and analysis on local content levels achieved in the

procurement of goods and services. The only publicly available sources that enable the analysis of current local

content levels are the 2011 annual report by BPMIGAS and the APDN book of 2011 published by the DGOG.

As per BPMIGAS’ numbers, local content levels have increased by 18 percentage points between 2006 and

2011. But and as shown in Figure 3.9, this is coupled with a nearly 50 percent reduction in upstream

investments. BPMIGAS presents the value of procurement of goods and that of services that qualify as local

content, Figure 3.10, without the split in total values.

Figure 3.9 Indonesia: Evolution of Upstream Investments and Local Content Levels, 2006–11

19.4

17.118.318.5

12.2

36.8

0

5

10

15

20

25

30

35

40

0

5

10

15

20

25

30

35

40

45

50

55

60

65

LC %Bn $

20112010200920082007

49%

2006

63%

43%

61%

54%

43%

Investment% LC

94

Source: Adapted from BPMIGAS 2011a.

Figure 3.10 Indonesia: Local Content Procurement of Goods and Services, 2006–11 ($ billion)

Source: Adapted from BPMIGAS 2011a.

As per the classification used in the APDN, 10 segments of goods fall under the mandatory category where

at least there exists one Indonesian supplier enjoying a local content plus BMP level of 40 percent. Only two

segments of supplies fall under the maximized goods category and the 28 remaining segments fall under

empowered goods. Table 3.14 lists the segments of goods by local content category.

Table 3.14 Indonesia: APDN Distribution of Goods by Category Mandatory Casing—Tubing Wire, Cables, and Accessories

Tubular Goods Marine and Offshore Installations

Wellhead and X-Mas Tree Accessories Electric Power Sources

Chemicals Pumps Centrifugal and Rotary

Valve Fittings Oil and Oil Products

Maximized Cementing Equipment and Liner Hanger Systems Wellhead Equipment and Accessories

Empowered Boilers and Accessories Oil and Oil Products

Building Material and Hardware Paints and Varnishes

Building Material, Metals, and Hardware (Bolts and Nuts) Plant Elements and Parts

Building Structure and Tanks Production Well Test and Monitoring Instruments

Casing, Tubing, and Accessories Pumps, Centrifugal, and Rotary

Cementing Equipment and Liner Hanger Systems Pumps, Reciprocating

Chemicals Pumps, Other Types

Compressor and Vacuum Pumps Switch, Control Gear, and Electrical Instruments

Drilling Tools and Retrievable Production Tools Transportation

Drilling Machinery, Mud Equipment, and Accessories Tubular Goods

Fire, Safety, and Environmental Conservation Equipment Valve Fittings

Jointing (Gaskets), Insulating Materials Wellhead Equipment and Accessories

Machinery Accessories and Transmissions Wireline Tool Box and Unit Complete with Power Pack

Marine Offshore and Installations Wire, Cables, and Accessories

Source: Based on data from DGOG 2011b.

Within each segment, the APDN lists the standards and available local suppliers with their respective

characteristics (that is, local content levels, BMP rating) by subproduct type. A snapshot of compressors and

vacuum pumps suppliers is provided in Table 3.15. Out of the 97 companies featured in the APDN book of

2011, only 18 companies seem to benefit from BMP appreciation. Of these companies, only one company took

the maximum BMP appreciation of 15 percent while most of the remaining companies achieved BMP levels

below 6 percent.

Goods

Services

2011

11.8

31%

69%

2010

10.8

35%

65%

2009

9.0

40%

60%

2008

8.0

18%

82%

2007

6.6

28%

72%

2006

15.8

63%

37%

95

Figure 3.11 presents the distribution of companies by BMP value and Figure 3.12 presents the distribution

by segment of activities.

Table 3.15 Indonesia: Snapshot of Domestic Suppliers of Compressors and Vacuum Pumps

# Code Product

Supplier Rating Local

Content (%)

BMP Capacity Type Specification Standard

1 B-24 Air Compressor Package

Instrument Air Compressor Package

Consist of 2x100% Air Compressor on Skid 2x100% Air Dryer on Skid, 2 unit of air receiver, Interconnecting Pipe, Valve and Instrumentation, PLC Based Lead/Lag Controller

Client Spec.

Kota Minyak Internusa, PT

2 — — 4

Units/year

2 B-24 Air Compressor Package

Oil Free/Oil Lubricated Air Compressor

Pressure range : up to 13 Bar, Capacity 1.5 kW-500 kW (6 cfm-2988 cfm)

•1 to 8, 61 508-1 to 7 • NAS 1638 • ISA S 5-1, 5-2, 5-3, 18-1, 20, 51-1, 75-1, 75-17 • ISA SP 84 • SP-INS-000, 010, 015, 020, 100, 101, 120, 140, 240, 900 • SP-COR-181

Kota Minyak Internusa, PT

2 19,30 — 5

Units/year

Source: Adapted from DGOG 2011b.

Figure 3.11 Indonesia: Distribution of Companies by Local Content Value Achieved


7

8

1

0

11

15<BMP≤12 6<BMP≤312<BMP≤9 9<BMP≤6BMP=15 BMP≤3

96

Figure 3.12 Indonesia: Distribution of Local Content Value by Segment of Activities


As for the certificate of business ability, 68 companies are featured as competent ones. As shown in Figure

3.13, out of these companies, 34 companies enjoyed a rating of three stars, 30 companies enjoyed two stars, and

four companies received one star.

Figure 3.13 Indonesia: Distribution of Companies by Category of Certificate of Business Ability


Concerning the involvement of the domestic banking sector in financing OFSE procurement transactions,

BPMIGAS reports that state-owned banks have financed a total of $14 billion between 2009 and 2011. Looking

at the local content levels in the upstream workforce, the level of Indonesianization has been maintained

between 96 and 97 percent in producing PSAs between 2006 and 2011. Looking at exploration PSAs, the

Indonesianization level appears to be lower, though there is a five percentage points improvements between

2006 and 2011. Figure 3.14 presents the evolution of employment in E&P PSAs by nationality. Here we note that

no information is available on the Indonesianization levels by discipline.

1 1

2

1 1

11

11

2

3

BMP=15

22

1

1

1

1

1

1

3 3

12<BMP≤9 9<BMP≤6

1

15<BMP≤12 BMP≤3

9

6<BMP≤3

7

Casing, tubing & accessories

Tubular goods

Transportation

Pumps, centrifugal and rotary

Paints, varnishes

Oils and oil products

Fire, safety and environmental conservation equipment

Drilling, machinery, mud equipment & accessories

Drilling tools and retrievable production tools

Chemicals

Wellhead equipment and accessories

Wire, cables and accessories

34

30

4

Competent with one star in case the evaluation value is

equal or above 40 and below 60;

Competent with two starts in case the evaluation value is

equal or above 60 and below 80;

Competent with three stars in case the evaluation value is

equal or above 80

97

Figure 3.14 Evolution of Indonesianization in Exploration (left) and Production (right) Activities (in thousand

workers)

Source: Based on data from BPMIGAS 2011a.

Looking at the development of local capabilities, the number of Indonesian employees engaged in

technical development exchange, job swapping, job assignment, and internationalization has increased from

212 employees in 2008 to 396 in 2011. The evolution of engaged Indonesian workers by type of development

program is presented in Figure 3.15.

Figure 3.15 Number of Indonesians Engaged in Capability Development Programs, 2008–11

Source: Based on data from BPMIGAS 2011a.

97%

3%

2009

22.2

97%

3%

2008

22.2

97%

3%

2007

22.1

96%

4%

2006

21.3

96%

4%

2012E

4%

96%

27.6

2011

24.7

97%

3%

2010

22.5

LocalExpatriate

91%

9%

2009

2.5

90%

10%

2008

2.4

90%

10%

2007

1.9

87%

13%

2006

1.6

83%

17%

2012E

12%

88%

1.6

2011

1.5

88%

12%

2010

1.8

Production PSC ContractorsExploration PSC Contractors

30

18

10

14

2009 2010 20112008

Technical Development Exchange

72

4136

69

201020092008 2011

Job Assignment

70

5555

44

2011201020092008

Job Swapping

224204

128

85

20112008 2009 2010

Internationalization

98

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101

4. Kazakhstan

In 1991 Kazakhstan was the last country to declare its independence from the Soviet republic. During the

Soviet era, petroleum-related policies and activities were controlled by the central government, and

Kazakhstan’s hydrocarbon resources were not a priority (Johnston and Johnston 2001). Upon independence,

the petroleum sector was central to Kazakhstan’s economic activity and following the major discoveries of year

2000, the sector became a catalyst for economic growth. The governance of the petroleum sector evolved in a

way that reflected the country’s learning curve, and size of discoveries in addition to the political and economic

environments. In this context, local content policies (LCPs) were marked by three main periods

postindependence. The first period was when the country began the transition phase from 1991 to 2000, the

second period began in 2000 and extended till 2010, and the third was 2010 onwards.

During the Soviet era, petroleum-related knowledge and human capital used to be maintained and

managed at the central level. Upon independence, Kazakhstan had to develop its own capabilities. As a first

step, the country relied on international oil companies (IOCs) to develop employment and local capabilities by

including obligations to this effect in the contractual agreements with these companies. In addition, IOCs were

required to carry out social development programs especially in the vicinity of operations (Domjan 2004). Over

this period, LCPs were regarded as corporate social responsibility (CSR) activities and were often pioneered by

the companies themselves (Kalyuzhnova 2008). LCPs were lenient and not clearly defined by authorities.

Additionally, during the 1990s, authorities were more interested in developing the country’s hydrocarbon

resources and maximizing the government revenues from taxes (Luong 2010). As a result IOCs had regularly

eluded local content requirements, procuring their goods and services from international sources and hiring

locals according to their own discretion, mostly in lower-skilled personnel and trainees (Kalyuzhnova 2008).

Toward the turn of the century, the local content scene began to witness some changes, marked by the

introduction of the term “Kazakh content” (KC) in 2004, a term that refers to the origin of goods and services

used in any resource or subsoil project, including oil and gas (MENAS 2009). But there was a lack of

monitoring system and methodology for calculating KC. The period from 2000 until 2010 was marked by

several trends. First, the oil discoveries in offshore fields in the North Caspian dramatically increased the

country’s reserves, especially the Kashagan oil field, which is considered the fifth largest in the world. This has

afforded the state a stronger ground to renegotiate contracts with IOCs and to increase its control over the

sector, through the creation of a single-state oil company with monopoly equity rights and regulatory

responsibilities. The government policy was also evidenced by several legal and regulatory changes that raised

the bar for local content deliverables by the oil companies. On the political front, the period from the late 1990s

to early 2000 saw a rise in dissent against President Nazarbayev’s rule.

The year 2010 marked the start of a new era for local content characterized by well-defined policies that

were strongly enforced and monitored. In fact, LCPs became central to the development of the country’s

resources and overall development plan. This new local content scene cannot be understood in isolation from

economic and political factors. During 2010 and subsequent years, the economic scene was recovering from the

fallouts of the 2009 global crisis, which affected the country’s gross domestic product (GDP) growth and the

influx of new foreign investment to both the economy and the oil sector (Ernst and Young 2011). Higher

inflation and a rising unemployment rate were also observed in the period leading to 2010 (World Bank 2010).

These conditions were later reflected through labor strikes that led to brutal confrontations in the oil sector

(EoN 2011).

102

Kazakhstan authorities nonetheless were in the process of forming new and formalized local content

measures, drawing from experiences and success stories from other countries (Yerkebulanov 2012). The surge

in upstream investments encouraged positive trickle-down effects to the country’s economy. In addition, there

was a stronger public sentiment toward a better utilization of oil resources. This was supported by continuous

media efforts shedding light on cases where potential businesses were lost to foreign enterprises while local

capabilities existed. Over the near future, more stringent enforcement of LCPs is likely to be observed.


For over 20 years, Kazakhstan has been in a gradual transition from Soviet influence to independent

governance. Although political independence was granted in 1991, a Soviet legacy carries on in several fronts

of the country’s social and economic scene. Despite the growth and development achieved on the back of the

discovery of natural resources, mainly oil and gas, the country still faces a number of structural difficulties.

Limited access to capital, lack of adequate education, corruption, and bureaucracy are among the top

challenges facing businesses in Kazakhstan (WEF 2011).

4.1.1 Economy

Upon receiving its independence, Kazakhstan launched a reform plan centered on liberalization of prices and

privatization. This was followed by macroeconomic stability measures upon leaving the ruble currency in 1993.

Despite these efforts, the 1990s era was characterized by hyperinflation and limited growth that was highly

impacted by the Russian financial crisis of 1998 (Kalyuzhnova 2008). Driven by currency devaluation and oil

market dynamics, Kazakhstan’s GDP steadily increased from 1999 to 2008. Following the global recession, the

country’s GDP dropped by 1.2 percent in 2009 before returning to it precrisis growth path. In 2010

Kazakhstan’s GDP per capita was approximately $9,070, the highest it had been since 1990 (World Bank 2012b).

Upon leaving the ruble zone in 1993, the country experienced a period of hyperinflation (Kalyuzhnova

2008). In fact the inflation rate did not come under control until recently. In 2000 the inflation rate reached 13.2

percent, which was a significant drop from the 170 percent experienced in 1994. In 2004 Kazakhstan’s real

interest rates became positive, but have since “gradually decreased from very high levels at the beginning of

reforms” (Craig and others 1999). In 2010 the International Monetary Fund (IMF) directors “agreed that real

interest rates should be kept positive to maintain depositor confidence, and cautioned against the use of

subsidized interest rates” (IMF 2010). Projections show inflation rates in the range of 6 percent until 2017 (IMF

2012). Table 4.1 presents key economic indicators for Kazakhstan.

Table 4.1 Key Economic Indicators of Kazakhstan, 1990–2010

1990 1995 2000 2005 2006 2007 2008 2009 2010

GDP (constant 2000 $, billion) 26.3 16.2 18.3 30.0 33.2 36.1 37.3 37.8 40.5

GDP per capita (constant 2000 $) 1,611.7 1,022.9 1,229.0 1,977.7 2,166.3 2,332.3 2,380.1 2,345.9 2,481.7

Inflation, CPI (%) 176.2 13.2 7.6 8.6 10.8 17.2 7.3 7.1

Exchange rate (LCU per $) 61.0 142.1 132.9 126.1 122.6 120.3 147.5 147.4

Trade (% of GDP) 82.5 105.7 98.3 91.6 92.2 94.4 75.9 73.2

Government debt (% of GDP) 21.6 7.0 5.9 5.3 6.3 9.5 10.2

Source: Based on data from World Bank 2012b.


Compared to neighboring countries and developed economies (for example, the United Kingdom and

Canada), Kazakhstan relies more heavily on exports. Between 1992 and 2010, 4060 percent of Kazakhstan’s

GDP was derived from exports of goods and services.56 In 2009 total exports were comprised mostly of

56 Over the same period the UK share of GDP from export of goods and services ranged from 20 to 30 percent.

103

merchandise (92 percent), but also commercial services (8 percent). As shown in Figure 4.1, petroleum products

have increasingly dominated the basket of goods exported by Kazakhstan. In fact the share of petroleum

products in the total value of exports increased from 25 percent in 1995 to 70 percent in 2010 (WTO 2012).

Figure 4.1 Kazakhstan’s Exports by Commodity, 1995–2010 ($ billion)

Source: Based on data from WTO 2012.

Net foreign direct investment (FDI) was $2.9 billion for 2010, ranking it the highest among its neighboring

countries. From a GDP percentage point of view, about 7.2 percent was FDI inflow and 5.2 percent was FDI

outflow. Kazakhstan is receiving FDI primarily to improve infrastructure to facilitate business activity.

4.1.2 Taxation

The overall tax burden in Kazakhstan is among the lowest in the world, as shown in Figure 4.2. Corporate tax

rates depend on whether a company is considered resident or nonresident. In the case of a resident company,

taxes are based on worldwide income; a nonresident company simply pays tax based on its income “sourced in

Kazakhstan.” In addition, overseas companies permanently situated in Kazakhstan are not only required to

pay corporate tax but also a branch tax, which depends on the nationality of the parent company. Small and

medium businesses are subject to special tax regimes. The standard corporate tax rate for Kazakhstan in 2011

was 20 percent. This is a dramatic decrease from 2008 rates, when corporate taxes reached 30 percent.

Figure 4.2 Comparison of Kazakhstan’s Corporate Tax Rate to Other Countries, 2009 and 2010 (%)

Source: Based on data from CIA 2012; Deloitte 2012; World Bank 2011.

Note: For Angola and Tanzania tax revenues reflect 2011 levels and include social contributions—such as payments for social security and hospital insurance—grants, and net revenues from public enterprises. OECD = Organisation for Economic Co-operation and Development.

18%

12%

6%7%

10%

13%

6%

2005

27.8

14%

2%1% 2%

2000

8.8

20%

1%

2%5%

100%

2010

59.5

13%

5%1% 2%

1995

5.3

24%

4%

70%

52%

25%

70%

Mining Products

Iron and steel

Chemicals


Machinery and transport equipment

Other

Fuels

23%

South Africa 26%

United Kingdom 26%


12%

Canada 12%

Russia 13%

Brazil 16%

Chile 16%

Malaysia 16%

Australia 22%

Netherlands

OECD 14%

Kazakhstan 8%

India 10%

Indonesia 11%

Uganda

Norway 27%


20%

Kazakhstan 20%

Chile 20%

UK 24%


Netherlands 25%

Indonesia 25%

Malaysia 25%

South Africa

Russia

28%

Norway 28%

Canada 28%

Uganda 30%

India 30%

Australia 30%

Brazil 34%


104


Kazakhstan’s population steadily increased from 1950 to 1990. Postindependence and until 2000, the country’s

population dropped by approximately 5 percent. Following 2000 and as forecasted until 2050, growth in total

population is expected to increase, but at a slower rate than that observed from the period 1950 to 1990, while

the country’s labor force (aged 1564) is expected to follow a downward trend (Figure 4.3). Compared to

neighboring countries such as Turkmenistan, Uzbekistan, and Russia, Kazakhstan has a higher labor force as a

percentage of the total population (UN 2010b), and relatively low unemployment rates.

Figure 4.3 Kazakhstan: Population by Age Group from 1950 to 2050

Source: Based on data from UN 2010b.

As of 2009, the minimum wage in Kazakhstan was set around $147 per month. This is equivalent to

approximately 23 percent of the country’s average wage (Klaveren and others 2010). It is worth noting that a

joint treaty was signed between the three Customs Union countries (Kazakhstan, Russia, and Belarus) allowing

citizens of each country to work in the other treaty countries without a work permit as of January 2012 (Baker

and McKenzie 2011). Table 4.2 presents an overview of the Kazakh labor market in comparison to a select

group of countries.

Table 4.2 Kazakhstan’s Labor Force Indicators Compared to Select Countries, 2010






Angola 7.1 n.a. n.a. n.a. 4.4 127 25.0 Australia 11.8 27.3 38.9 33.8 12 1,597 5.2 Brazil 101.6 n.a. n.a. n.a. 7.2 300 8.3 Canada 19.0 13.5 40 46.5 12.1 1,903 8.0 Indonesia 11.8 n.a. n.a. n.a. 5.8 133 7.1 Kazakhstan 8.8 n.a. n.a. n.a. 10.4 n.a. 6.6 Malaysia 12.0 18.3 56 21.1 9.5 n.a. 3.7 Norway 2.6 19.9 43.5 35.8 12.6 3,609 3.6 South Africa 18.2 15.8 74.2 5.2 8.5 543 23.8 Tanzania 22.1 n.a. n.a. n.a. 5.1 59 10.7 T&T 0.7 25.3 63 11.1 9.2 n.a. 5.4 Uganda 13.4 n.a. n.a. n.a. 4.7 3 4.2 UK 31.8 19.2 44.4 35.4 9.3 1,655 7.8

Source: Based on data from The World Bank Group 2012; World Bank 2011; UNDP 2010; Klaveren and others 2010.

Note: Educational attainment data for Australia, Canada, Malaysia, South Africa, and T&T represent year 2008 levels. Unemployment data for Brazil, Kazakhstan, Malaysia, South Africa, and Uganda represent year 2009 levels.

n.a. Not applicable.

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105

Looking at the employment levels by sector, Kazakhstan’s labor force is largely concentrated in resources

and service industries; both constituted over 95 percent of employment as shown in Figure 4.4. Between 2001

and 2007 employment in primary resources industries decreased from 38.5 percent to 34.5 percent.

Employment in the knowledge-intensive manufacturing remains much lower than mature economies.

Figure 4.4 Kazakhstan: Breakdown of Labor Force by Sector, 2001–07


Note: The number of employees engaged in manufacturing activities are based on the UNIDO statistics while the rest are based on the ILO data.

4.1.4 Education

During the Soviet era, the Central Committee controlled the educational system in Kazakhstan. Over that

period, educational programs were designed to produce workers in various fields according to the Soviet

central plan (Burkhalter and Shegebayev 2012). By the time of independence, the country inherited a strong

primary and secondary educational institution system from the Soviet Union, especially with the compulsory

education policy that was effective until the age of 15. As a result Kazakhstan’s literacy rate reached very high

levels that continued over the years, but the Soviet legacy exhibited some qualitative educational issues.

Among the issues lately identified were the general absence of independent thinking among students, lack of

initiative and creativity, as well as fear-based behavior (Burkhalter and Shegebayev 2012).

A recent educational assessment review recently published by the United Nations Children’s Fund

(UNICEF) concludes that there is a shortage of schools in Kazakhstan mainly due to poor maintenance since

the Soviet era. The review also points to a deficiency in trained teachers, especially in remote rural areas.

Additionally, most of the current Kazakh curriculum and instructional materials date back to the Soviet period

(UNICEF 2008). Public spending on education and research is low by international levels. In fact, 12 percent of

government expenditure in 2000 was designated to the educational sector, which is 10 percent lower than

Azerbaijan’s allocation during that year (UN 2010a). The percentage of GDP spent on education rose from 3.2

in 1990 to 3.7 in 2001 (Kalyuzhnova and Kaser 2005). In 2011 public expenditure on education as a percentage

of GDP reached 3.1 percent, and on research and development (R&D) was 0.2 percent; however, there is a lack

of information on the allocation of that spending (UNICEF 2008).

In terms of enrollment, while primary and secondary education show strong performance, the percentage

of gross enrollment in tertiary education (38.5 percent) is quite low relative to neighboring countries such as

Iran and Russia. As for the quality of higher education, none of the 97 universities in Kazakhstan made it to the

top 500 listing in the 2010 Academic Ranking of World Universities (Academic Ranking of World Universities

2010). In addition, research facilities are generally worn out with poor IT and knowledge infrastructures

34.2%37.3%

4.2%

3.8%1.4%

1.7%

0.3%

0.6%

2007

100%

21.5%

7.5

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2001

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2007


Total change in


(Million jobs)








106

(Whitman 2008). Table 4.3 contains select indicators on education in Kazakhstan in comparison to other

countries.

A survey on the quality of education and local staff in the oil and gas sector conducted among IOCs’

executives suggested a number of shortcomings, including lack of proactivity, poor English-speaking abilities,

and a lack of familiarity with Western business practices (Kalyuzhnova 2008).

Table 4.3 Kazakhstan’s Educational Indicators Compared to Select Countries, 2010


Youth (1524)


Angola 70.1 73.1 85.7 11.5(a) 3.7 3.6 Australia n.a. n.a. 97.1 85.5 79.9 5.1(a) Brazil 90.3(a) 98.1(a) 94.1(b) 82.0(b) 36.1(a) 5.4(b)

Indonesia 92.2(b) 99.5(b) 95.9 67.3 23.1 2.8(b)

Kazakhstan 99.7 99.8 89.5 88.2 38.5 3.1(a) Malaysia 93.1 98.4 n.a. 67.9(a) 40.2(a) 5.8(a) Norway n.a. n.a. 99.1 93.9 74.4 6.5(b) South Africa 88.7(c) n.a. 85.1(a) n.a. n.a. 6.0 Tanzania 73.2 77.3 98.0(b) n.a. 2.1 6.2 T&T 98.8 99.6 93.9 n.a. 40(b) 3.8(d) Uganda 73.2 87.4 90.9 n.a. 4.2(a) 3.2(a) UK n.a. n.a. 99.6(a) 96(a) 58.5(a) 5.4(b)

Source: Based on data from Gomes and Weimer 2011; UNDP 2010; World Bank 2012b; MSTTE 2011.

Note:(a) year 2009, (b) year 2008, (c) year 2007, (d) year 2006 data.


Overall, higher education and vocational training in Kazakhstan would seem to offer room for

improvements. A revised version of the Law on Education was approved in 2007 with the objective of

developing a more competitive educational structure and improving the country’s regulatory systems on

education (UNICEF 2008).


Weak governance remains one of the key problems facing Kazakhstan. Although the country has shown some

improvement along the six pillars of governance since 2000, it remains well behind the Organisation for

Economic Co-operation and Development (OECD) levels, as shown in Figure 4.5. Corruption and

accountability levels have barely improved since 2000, and improvement in the rule of law and overall

regulatory quality has been minor.

Figure 4.5 Governance Indicators in Kazakhstan Compared to the OECD Average


Note: OECD = Organisation for Economic Co-operation and Development.

0

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2000 Kazakhstan 2000

2010 Kazakhstan 2010

2010 OECD 2010

107

Several surveys and corruption indices have labeled the country with corrupt flags. The Transparency

International’s Corruption Perception Index (CPI), which ranks countries according to perceived levels of

public sector corruption, scored Kazakhstan at 2.757 points in 2011 (CPI 2011), although it fares better than its

neighboring countries (Russia at 2.4, and Uzbekistan and Turkmenistan at 1.6).

Bureaucracy remains one of the issues that Kazakhstan inherited from the Soviet era. The centralized

leadership structure of the public sector and the rotational program of key public sector personnel have

resulted in a general lack of transparency and accountability of institutions and government officials (Arkhipov

and others 2010).

According to the 2011 Doing Business survey of the World Bank, dealing with construction permits and

cross-border trading are two of the most problematic issues in doing business in Kazakhstan. For instance, the

costs of import or export of a single container was more than triple the OECD average, and the estimated time

to complete cross-border transactions is at 76 days for export and 62 days for import is far above the OECD

average (of 10 and 11 days, respectively) and requiring more than double the documentations. Table 4.4

provides a snapshot of the latest “doing business” indicators for Kazakhstan.

Table 4.4 Indicators for Doing Business in Kazakhstan in Comparison to OECD Average, 2012


Kazakhstan is considered to have a strong infrastructure in terms of automobile and railway routes, and is

one of four international transport corridors between Asia and Europe, but its transportation infrastructure is

deteriorating at a fast pace (UN 2006). Since the country’s independence, most of the investments were directed

57 This is measured on a scale of zero to 10, zero being highly corrupt.

Kazakhstan OECD Kazakhstan OECD






Rank (Change in rank from 2011) 57 (-8) Rank (Change in rank from 2011) 10 (+34)





Rank (Change in rank from 2011) 147 (+1) Labor tax and contributions (%) 11.2 24




Time (days) 88 103








Rank (Change in rank from 2011) 29 (-2) Rank (Change in rank from 2011) 176 (0)





Private bureau coverage (% of adults) 37.6 63.9 Rank (Change in rank from 2011) 27 (-1)







108

toward the country’s telecom and energy infrastructures connecting the country to Western markets through

Russia. It is expected that $25 billion will be invested through 2011 to 2030 in infrastructure—out of which 40

percent will be allocated to the railway system, 23 percent to highways, 25 percent to telecommunications, and

12 percent to water transport (RoK 2010b).



In 2010 the oil sector accounted for 11.5 percent of the country’s GDP, and about 46.5 percent of government

revenues (Coronel, Rozhkov, and Al-Eyd 2011). The value of oil exports reached $37 billion, which represented

57 percent of total exports of goods and services in 2010. According to the IMF, oil exports values are expected

to reach $56 billion in 2016 (IMF 2012). Figure 4.6 shows the evolution of the contribution of mining,

manufacturing, and utilities to GDP over time, and Figure 4.7 compares the breakdown of Kazakhstan’s GDP

by activity to other countries in 2010.

On the employment front, the mining and quarrying activity in Kazakhstan—which includes oil and gas

extraction—employed on average 2.7 percent of total employment between 1999 and 2008. In 2008 over 200,000

workers were employed in the sector, representing around 2.5 percent of the total labor force—a drop from 4.2

percent in 1999 (UN 2012).

Figure 4.6 Kazakhstan: Contribution of Mining, Manufacturing, and Utilities to Value-added, 1990–2010


Figure 4.7 Kazakhstan: Breakdown of Value-added by Economic Activity in 2010 ($ billion)


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Construction

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Other Activities

109

4.2.2 Petroleum Geography and Geology

The country is endowed with 15 sedimentary basins that spread over 60 percent of its area. But most of

onshore and offshore oil and other mineral deposits are located in the North Caspian Basin. Some oil reserves

are also located in Southern Kazakhstan but the prospects for new discoveries there are limited (Deutsche Bank

2010).

The North Caspian basin is spread over Russian and Kazakh territory. On the Kazakh side (northern

Caspian), the offshore Kashagan, located near Atyrau city, and onshore Tengiz are by far the largest Kazakh

fields. To the north of the country, close to the Russian borders, rests the Karachaganak field. Kashagan,

Tengiz, and Karachaganak are referred to as the three whales (Yerkebulanov 2012), which suggests the massive

reserves they hold.

The North Caspian basin is bound by the Hercynian Ural Mountains to the east and by other orogenic

belts to the southeast and south. In the north, the basin is separated by the Voronezh Massif in the west and by

the Volga-Urals Platform in the north (Talwani, Belopolsky and Berry 1998). The basin is divided into 15

licensed blocks that include 20 different offshore fields in shallow water. Most fields are under appraisal or

development.

Tengiz and Kashagan, the two major fields in the country, are considered as twins because they both

possess similar geological characteristics with reservoir rocks, fluid properties, pressure gradients, reservoir

depths, and sulfur content as shown in Table 4.5. Recoverable reserves are rated at 69 billion barrels of light

oil (out of 24 billion barrels in place) with associated gas reserves of 64 trillion cubic feet (tcf).

Table 4.5 Tengiz and Kashagan: A Comparison

Kashagan Tengiz

Discovered 2000 1979 Location Offshore 1022 feet of water Onshore

Size of potential productive area (acres) 320,000 100,000

Reservoir depth (feet) 13,00014,000 Likely 14,000 (data not available)

Crude characteristics 42-45° API Gravity 18-20 mol % H2S 48.2° API Gravity 12.5 mol % H2S

Pressure gradient Assumed to be roughly the same as Tengiz—very high

Very high, approximately 0.82 psi/ft

Gas oil ratio (cubic feet per barrel) 1,9002,200 from KE-1 and KW-1 tests

Likely high (data not available)

Source: Based on data from Johnston and Johnston 2001.


Kazakhstan is a resource-rich country that ranks first in terms of quantity of subsoil minerals among the

Commonwealth of Independent States (CIS) other than the Russian Federation (Yerkebulanov 2012). The

country sits on large reserves of metallic ores, industrial minerals, and hydrocarbons. In terms of the explored

reserves of uranium, chrome, lead, and zinc, Kazakhstan ranks number two in the world; it is number three in

manganese, and number five in copper. As for the reserves of coal, iron, and gold, Kazakhstan is among the

world’s top 10 countries.

Kazakhstan’s petroleum sector went through several stages of development. During the period following

independence in 1991, Kazakhstan’s petroleum industry witnessed stagnant growth and limited production.

But since the late discoveries of offshore reserves, petroleum suddenly became the most abundant resource in

the country. Today, Kazakhstan's oil resources are the largest of all the former Soviet republics apart from

theRussian Federation. Oil reserves at the end of 2011 were estimated at 30.0 billion barrels representing 1.8

percent of world reserves, and 28.5 percent of total reserves in Europe and Eurasia, increasing from 5.4 billion

barrels in 2000 (BP 2012). The Tengiz, Kashagan, and Karachaganak fields contain over 50 percent of the

country’s reserves, while Uzen, Zhetybai, Zhanazhol, Kalamkas, Kenkiyak, Karazhanbas, Kumkol, North

110

Buzachi , Alibekmola, Central and Eastern Prorva, Kenbai, and Korolevskoye contain nearly 40 percent (Ernst

and Young 2011). Gas reserves on the other hand were estimated at 66.4 tcf at the end of 2011, and represented

less than 1 percent of world reserves (BP 2012). Table 4.6 provides a snapshot of the oil and gas sector in

Kazakhstan.

Table 4.6 Snapshot of the Oil and Gas Sector in Kazakhstan (2011) % Change 2011 % of World Global Rank 1 yr 3 yrs 5 yrs 10 yrs Oil proved reserves, billion boe 30.0 1.8 12 0.0 0.0 0.0 455.6 Oil production, mmbpd 1,840.7 2.1 13 0.9 5.4 20.0 74.4 Oil consumption, mmbpd 212.4 0.3 51 7.6 11.9 -9.0 25.4 Gas proved reserves, tcf 66.4 0.9 19 0.0 0.0 0.0 2.6 Gas production, bcfd 1.9 0.6 15 9.6 8.3 15.6 112.4 Gas consumption, bcfd 0.9 0.3 43 13.0 18.6 10.1 6.1 Primary energy consumption, million toe 50.5 0.4 36 0.5 0.6 -3.6 23.4



The Kashagan field holds the largest oil reserves in Kazakhstan with an estimated potential for 38 billion

barrels, of which 79 billion barrels (and up to 13 billion barrels if gas injections is used) are recoverable. Its

prospectivity was cited by the Soviets in the early 1970s but was not officially discovered until 2000 (Campaner

and Yenikeyeff 2008). Tengiz, the country’s second-largest field, was discovered in 1979 and has an estimated

69 billion barrels that are recoverable. The Tengizchevroil (TCO) partnership has been developing the Tengiz

field since 1993. Chevron holds 50 percent equity, ExxonMobil holds 25 percent, the national oil company

(NOC) KazMunayGas (KMG) holds 20 percent, and the remaining 5 percent is held by Russian/US LUKArco

(Ernst and Young 2011).

Oil production has picked up steadily as of 2000 and has increased from 744,000 barrels per day (bpd) to

over 1.7 million bpd in a decade. The increase in production was driven by offshore fields, as most of the

Kazakh onshore oilfields have matured and production has reached a plateau (Gizitdinov 2011). Similarly, gas

production showed a steady increase since 2000. The country produced 33.6 billion cubic meters (bcm) of gas in

2010, almost triple the production in 2000. Gas consumption has shown the same trend increasing from 9.5 to

25.3 bcm between 2000 and 2010 (BP 2012). The increase is transforming the country from a net importer to a

net exporter. But gas resources remain less developed than oil reserves due to the lack of a domestic gas

pipeline infrastructure to transport gas from the production regions in the west to the consumption regions in

east. The Kazakhstan-China gas pipeline due in 2014 is expected to transport gas to the eastern industrial

regions. Figure 4.8 presents the evolution of oil and gas production and consumption in Kazakhstan. At

current production levels, oil proved reserves are forecasted to last for 44.7 years and gas reserves for 97.6

years (BP 2012).

Figure 4.8 Evolution of Oil and Gas Production and Consumption in Kazakhstan, 1991–2011


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111

In the downstream sector, Kazakhstan has three processing plants. They had a capacity of 130 million barrels in

2009, showing an increase of 17 percent relative to 2008 (KMG, 2011c):

The Atyrau refinery was the first refinery in Kazakhstan, put into operation in 1945 (KMG, 2011c).

During the Soviet era the refinery received a major technical upgrade that included all refinery

technological equipment. This enabled the refinery to increase the capacity to 31.5 million barrels per

year.

The Shymkent refinery was put into operation in 1985. The estimated capacity of the plant amounts to

43.9 million barrels per year.

The Pavlodar petrochemical Plant (PPCP) started operations in 1978. A new joint venture between

KMG and ENI took over the plant with plans for upgrading it, which included increasing refining

capabilities to 54.9 million barrels per year and increasing petroleum product output and quality (EoN

2011).

Transport is carried out through the main active export routes—the Atyrau-Samara pipeline, CPC pipeline,

and Atasu-Alashankou.


Today, the Ministry of Oil and Gas (MOG) is the executive body that carries out policy design. The ministry

also acts on behalf of the state, or mandates a competent body in contracts and agreements for exploration

and/or production with subsoil companies (MOG 2012a).

On the operations front, the national oil company KMG, is a joint venture established in 2002 between two

former state-owned enterprises, KazakhOil NC CJSC and Oil and Gas Transportation NC CJSC (the national

transportation company). KMG is a fully state-owned operator responsible for services for exploration,

development, production, processing, transportation, and marketing of oil and gas in Kazakhstan (KMG 2010).

During the past decade, a series of legislations were enforced and have provided the NOC with additional

mandates. The Petroleum Law of 2005 authorized KMG to act as a regulator for monitoring and controlling of

compliance of subsoil companies in accordance to their subsoil use contracts. Additionally, the Petroleum Law

provided KMG with further mandates namely:

Taking part in strategy formation for the use petroleum resources

Representing the state in contracts and agreements

Organizing tenders for subsoil operations

Exploring and producing of oil and gas (KMG 2010).

One of the major mandates given to the NOC was via the amendment to the industrial development law in

2004, the PSA Law of 2005 that required all production sharing agreements (PSAs) to include KMG with a

minimum of 50 percent equity in oil and gas projects (Tordo, Tracy, and Arfaa 2011).

Exploration contracts in Kazakhstan are valid for up to six years and may be extended twice for a two-year

period. The typical duration of PSAs is 25 years and they can be extended to 45 years for hydrocarbon deposits

with more than 100 million tons of crude oil and/or more than 100 bcm of natural gas. Extensions may not be

granted on the same terms and conditions of the original petroleum contract (Utegenova 2010). In line with

industry practices, the Kazakh authorities may terminate a contract in case the company fails to comply with

material obligations or to remedy previously identified violations (National Regulation of the Hydrocarbon

Industry, n.d.).

4.2.5 Evolution of Local Capabilities and Market Structure

The extent and evolution of Kazakhstan’s experience and capability in the petroleum sector have been affected

by the country’s political and economic history. During the Soviet era, Kazakhstan’s oil and gas activities (that

is, policy, operation, production, and transportation) and knowledge capital were under the central control of

the Soviet state. Subsoil exploration and energy matter were not a priority. Following independence in 1991,

112

the country proceeded to form its own institutions as it had to fully govern its assets and resources (KMG

2012).

During the 1990s there was no expectation that the oil and gas would become a prominent sector:

production was stagnant, and offshore reserves had not been discovered yet. At the time, the authorities were

more interested in generating tax revenues in the short term. Some have attributed this approach to the

president’s need to obtain political gains over his opposition (Luong 2010). During this period the government

was open to foreign investment, and, in the early 1990s, it often stood in a weaker negotiation position with

IOCs. The government was aware that lack of technology, funding, and offshore expertise were the main

challenges for the development of a local petroleum industry (World Bank 2012a). Thus authorities were

relying on the transfer of knowledge from the IOCs. Since 1992 the authorities mandated IOCs with training

activities and educational and social initiatives marking the beginning of LCPs (Kalyuzhnova 2008).

The Petroleum Law of 1995and the Law on Subsoil and Subsoil Use 1996 were the main laws governing

the petroleum sector. The majority of agreements in the 1990s was under concessionary contracts and had

taken place in Tengiz (the highest producer and third-largest reserve holder) and other fields (Aktobe, Emba,

Kumkol, and Uzen) that had much smaller reserves but collectively accounted for 50 percent of production

(Luong 2010). After its creation in 2002, KMG was mandated to act on behalf of the state in PSAs and relevant

agreements, and was provided increasing authority over the years.

The large and promising discoveries in Kashagan and the north Caspian, and the resurgence of resource

nationalism in the country, helped to change Kazakhstan’s relative bargaining power and underpinned the

development of a new governance model (Buchannan and Anwar, 2009). This was further motivated by the

global financial crisis and the country’s pressing need for development and growth.

In addition, the country was going through a reverse privatization trend, which may have contributed

indirectly to the general inclination toward more control even in the oil and gas sector. This shift began around

a decade ago and was clear in the new legislative framework that reshaped the country’s outlook and

governance of oil and gas until today. The state began increasing its grip over the sector through extending

KMG’s authority (Kalyuzhnova 2008). The Petroleum Law of 2005 introduced two crucial reforms. First, PSAs

became the preferred contractual model; second, a minimum equity participation of KMG in all new projects

was mandated. Given the already existing option for the state to acquire majority stakes in existing projects,

KMG emerged as the main player and the majority owner in the country’s petroleum sector. Coupled with the

state’s increased control was the trend to fortify the weak local content requirements at the time (World Bank

2012a). This policy approach was further consolidated in the new Subsoil Law of 2010, which replaced the Law

on Petroleum of 1995and the Law on the Subsoil and Subsoil Use of 1996, and was aimed to ensure economic

growth and protect the interests of Kazakhstan and its natural resources.

Kazakhstan has a relatively complex value chain. The upstream segment is dominated by IOCs who

compete in exploration and production (E&P) activities, while local companies who enjoy local content

protection dominate the downstream segment. Kazakh companies within the oil and gas value chain are

dominated by state-owned enterprises, particularly KMG, and other companies reportedly enjoying certain ties

to the president (Arkhipov and others 2010).

Capacity building in the upstream segment is challenged by the lack of engineering expertise and

financing and managerial skills particularly needed for the future offshore projects. KMG’s management team

was cited as relatively dynamic and competent (Kalyuzhnova 2008), but its talent pool is still limited. KMG

intends to address capacity building via continued PSAs with the IOCs, and through strategic alliances

particularly with Russian oil companies (expectations of a joint venture with Russian Gazprom) (EoN 2011).

Nonetheless, KMG’s strategy going forward can be summarized according to each segment of the oil and

gas value chain:

113

Upstream. To increase production, upgrade to novice and promising fields, and acquire strategic

onshore and offshore E&P companies. Joint ventures with IOCs to develop more complex fields are

also on the future agenda.

Midstream. To improve its transportation systems with new routes and additional capacity (develop

the Asia Gas Pipeline, operate and expand the Kazakhstan-China and CPC pipelines, and develop a

gas logistics infrastructure west to south of the country).

Downstream. To modernize refineries to fit Euro 5 fuel standards and improve marketing reach for the

retail end consumer in Kazakhstan and abroad (European countries) (KMG 2011a).

4.2.6 Management of Oil Wealth

Presidential Decree No. 402 of August 23, 2000, created the National Fund for the Republic of Kazakhstan

(NFRK). Within four years the fund accumulated $5 billion, 13 percent of the country’s GDP in 2004, and by

early 2010 the fund reached approximately $25 billion (Faizuldayeva 2010).

The fund’s objective is to preserve resources for future generations and to evade economic difficulties on

the economy through a stabilization function (Kalyuzhnova 2006). Kazakhstan’s international reserves along

with assets in the oil fund were boosted by nearly $11.5 billion to reach $73 billion by the first quarter of 2011

(IMF 2011). The fund is run by a management council consisting of high-profile members of the state and state

institutions. In addition to the president, the council comprises the prime minister, the heads of the two

chambers of parliament, the chairman of the National Bank of Kazakhstan, and the minister of finance. The

fund’s operations, revenues, expenditures, and annual independent audit reports are published in the national

press (Kalyuzhnova 2006).

The NFRK’s capital consists of contributions from government income from the oil sector, which includes

taxes (corporation tax, value-added tax), in addition to royalties, bonuses, and revenue from PSAs

(Kalyuzhnova 2006). The NFRK invests in liquid foreign equities and has a long-term investment function (75

percent) and a smaller stabilization function (25 percent). But the fund is “bottlenecked by inefficient domestic

capital markets limiting financing opportunities for SMEs” (Arkhipov and others 2010).



Kazakhstan’s LCPs first appeared with the postindependence law governing petroleum activities, the

Petroleum Law of 1995. Following that, multiple local-content-related amendments and laws were introduced

leading up to a significant regulatory change in 2010, represented by the introduction of the new Law on

Subsurface and Subsurface Use. LCP regulations since 1995 have been driven by the government’s objectives of

altering the investment climate in the oil sector toward increased use of local goods, services, and personnel

and enhancing its governance of natural resources (IIED 2011).

Toward the early days of independence, provisions on LCPs aimed at increasing the use of local goods and

services, and the employment of Kazakh personnel and developing their capabilities through training and

educational requirements. These requirements fell more under CSR (Kalyuzhnova 2008) and were only broadly

described. The 1995 Petroleum Law included only high-level provisions requiring that subcontractors in the oil

sector be “largely” Kazakh owned. This was followed by the 1996 Law on Subsurface and Subsurface Use,

which required that companies propose, at an early stage, their own local content commitments. More

specifically, this included:

Employing a specific percentage of local workers

Procuring products and services of Kazakh origin

114

Improving infrastructure and contributing to economic and social development objectives in the

region of operation58 (MENAS 2009).

This approach allowed subsoil users to easily elude local content requirements and didn’t result in a

significant improvement in the use of local content in the oil sector. Consequently, the government launched a

review of the local content policy framework. More specific policies were laid out in the 2005 Law Concerning

Production Sharing Agreements when Conducting Offshore Petroleum Operations. The law required that

KMG hold at least 50 percent share of new PSAs and determined specific requirements to ensure purchase of

local goods and services.

These requirements were further detailed in the 2007 rules for procurement of goods, works, and services

(GWS). The rules detailed the procurement process of all subsurface operations and included a “positive”

discrimination rule in favor of Kazakh contractors (IIED 2011). The 2007 law made local content a mandatory

requirement, outlined a monitoring and measurement procedure, and developed a clear definition of local

content, as follows (MENAS 2009):

Localization of the labor force. “The percentage of Kazakhstan personnel engaged in the implementation

of a contract, broken down by category of personnel, indicating separately the percentage for each

individual category in relation to foreign personnel, whose quantity must be reduced over years as

mandatory training and qualification improvement programs are implemented for Kazakhstan

personnel.”

Goods. “Equipment, final product and other material and technical values, purchased for direct use in

subsoil operations and for the activity, which is specified as auxiliary in the contract.”

Works. “Carrying out activities on a paid basis on creating (producing) goods, equipment assembly,

construction of facilities and other sites, required for direct use in subsoil operations and for the

activity which is specified as auxiliary in the contract.”

Services. “Carrying out activities on a paid basis, required for direct use in subsoil operations and for

the activity, which is specified as auxiliary in the contract, not aimed to create (produce) goods or

other material objects.”

More recently, LCPs, while still focused on increasing use of local goods, services, and personnel, shifted

toward the overarching objective of economic diversification and the reduction of economic dependency on the

oil sector. Since the petroleum sector is at the heart of Kazakhstan’s economy, the government aimed to boost

local industrial and service capacity through the development of links. During 2010 new regulations on local

content were introduced in which the main concepts and objectives of previous regulations were preserved. In

addition clear targets, procurement rules, and strict measurement procedures were introduced. This may be

attributed to economic and industry-related factors.

In summary, the government’s rationale since 1995 has been to intervene and secure its link with the oil

and gas sector and thus improve employment and turn the economic wheel to the domestic advantage. A

number of fiscal and regulatory tools have been introduced to achieve the government’s local content

objectives in localization of the petroleum workforce and domestic sourcing of goods and services. Current

LCPs are legislated through the decrees below:

Law No. 291-IV of 24 June 2010 on subsoil and subsoil use

Decree No. 1139 of 2007 on the rules of procurement of GWS for subsoil use operations

Decree No. 965 and Decree No. 1018 of 2010 that regulate reporting forms of subsoil users

Decree No. 367 and Decree No. 964 of 2010 that regulate and set the calculation methods for KC in

GWS.

58 As per the laws, local companies were allowed to sue any foreign company in the oil and gas sector that did not show preference

to domestic sources.

115

As per the law on subsoil and subsoil use, all regulations apply retroactively (MOG 2012b). These mandate

that local content requirements59 be included in the bids for subsoil use and be negotiated or assessed by the

authorities as part of the bidding process (RoK 2010c). Specific local content obligations are then stated in the

contractual agreement between the government and the subsoil user, and are decided on the basis of the needs

of the area where the project is located.

4.3.2 Policy Tools

Local content policy rules and regulations cover a set of provisions focused primarily on localization of the

labor force and domestic sourcing of GWS.

Localization of Petroleum Workforce

Localization of workforce policy tools are:

Target quotas for foreign staff employed by subsoil users

Limitations on granting of work permits

Minimum budget dedicated to training of the local workforce.

Target Quotas for Foreign Staff Employed by Subsoil Users

Resolution No. 71/2011 contains a schedule limiting the share of foreign employees in oil and gas operations.

This is defined according to three job categories, as outlined in Table 4.7.

Table 4.7 Kazakhstan: Quotas for Foreign Staff Employed by Subsoil Users

Employee category

Description Target % foreign personnel

2011 2012 and beyond

1 Senior managers, deputy managers, financial and technical directors and certain engineers, metallurgists, architects, geologists, and geophysicists.

50 30

2 Managers and highly educated specialists. 30 10

3 Highly educated workers. 30 10

Source: Based on data from RoK 2011; Baker and McKenzie 2011.

These targets do not apply to the following:

Certain designations within the company, such as company directors of major investment contracts

with the government, branch heads of foreign companies and of representative offices of foreign

companies, and foreigners who have obtained a permanent residency certificate.

Employees working in the major fields of Karachaganak, North Caspian (Kashagan), and Tengiz as

well as their operators, contractors, and subcontractors for 3 years until January 2015 (Yerkebulanov

2012). To obtain the benefit of this exemption, the employer (subsoil user in any of the foregoing

projects) must provide evidence of participation in the implementation of one of the three projects

when applying for an employee work permit (Baker and McKenzie 2011).

Small companies as defined according to the Law on Private Entrepreneurship as companies having

no more than 50 employees, and with average annual assets less than $600,000 (Nisengolts 2011),

unless Kazakhstan becomes a member of the World Trade Organization (WTO) (Baker and McKenzie

2011).

The first category of jobs (the high-level jobs) were later redefined to include a larger sample of

professionals to which the above regulations and ratios apply. The designations were: chief executives, deputy

chief executives, financial and technical directors, chief structure engineers, production engineers, power

59 Subsoil users must initially offer their local content commitment in relation to goods, works, services, training, and retraining as

well as R&D financing (RoK 2010).

116

engineers, metallurgists, architects, geologists, and geophysicists (KPMG 2011).60 In addition, subsoil users and

their subcontractors must grant equal conditions and rewards to local and foreign personnel.

Limitations on Granting of Work Permits

Resolution 71 also introduced the geographical ring-fencing of work permits. In Kazakhstan subsoil work

permits must be requested from and are valid in the administrative-territorial units of issuance. This entails

that any relocation of foreign employees among the territories of Kazakhstan or any geographical job rotation

program is bound by certain limitations. For example, the duration of business trips to administrative-

territorial units other than that in which a work permit has been issued was reduced from 120 to 60 calendar

days during a calendar year (RoK 2011). In case foreign employees are seconded to other companies in the

country, or if foreign staff limits are violated, work permits are cancelled. If a violation occurs, the authorities

can impose a 12-month bar on obtaining new work permits.

Minimum Budget Dedicated to Training of Local Workforce

In addition, the new law on subsoil use—Law No. 291/2010—mandates subsoil users to commit to a minimum

amount of money to be allocated to education and training activities, as part of other requirements such as

social programs. This includes education, training, and retraining of Kazakh workers and personnel involved

in the execution of the contract. Subsoil users are also required to train and finance the training of other

personnel, specified by the MOG (RoK 2010c).

Domestic Sourcing of Goods, Works, and Services

Three key categories of policy tools are being used by the Kazakh government to increase domestic sourcing of

GWS in the oil and gas sector:

Specification of GWS procurement rules for subsoil users

MOG Kazakhstan Content Development Programs

KMG (National Oil Company) local content development efforts.

Goods, Works, and Services Procurement Rules

The permissible methods for procurement of local content GWS are specified in Resolution No. 1139 of

November 2007 on Procurement Rules for Subsoil Users. The rules also define the monetary fines a subsoil

user is subject to in case of noncompliance. In particular, the procurement of GWS shall be carried out through

one of the following procedures:

Open tenders giving potential contractors at least 30 days of notice

A restricted bidders list based on a request for proposal

An online purchasing system managed by the Kazakhstan Contract Agency (KCA)

A commodities stock exchange.

Upon technical evaluation, winning contractors shall be chosen on the basis of the lowest price across all

relevant procurement methods. Under the procurement rules, subsoil users are required to publish

announcements of forthcoming purchases, tender documentation, draft procurement agreements, and results

onto an online registry of GWS.61 Subsoil users should also publish such information in company periodicals in

both the Kazakh and Russian languages.

The bid evaluation criteria provides for the inclusion of a 20 percent price premium for the following

categories of suppliers:

60 The above-mentioned individuals must fulfil certain criteria of higher education and experience of five years in relevant positions. 61 This is publicly accessible at http://www.report.camng.kz/Default.aspx.

http://www.report.camng.kz/Default.aspx

117

Suppliers of goods who possess a CT-KZ certificate62

Suppliers of works and services with over 95 percent of their employees as Kazakh.

The CT-KZ certificate is a legal confirmation that goods were produced in Kazakhstan, and that the

producer is considered a domestic company. To issue a CT-KZ Certificate, the authorities assess the origin of

the goods and expertise employed in production to then compute the rate of KC. The certificate is valid for one

year and entitles its holder to the 20 percent price premium. The incentive was provided to domestic

companies in previous regulations and confirmed in the 2010 regulatory. It denotes that each Kazakh company

that is registered within the Unified Register of Domestic Producers and Foreign Investors (discussed later)

will have the right to be awarded a bid, provided that the price is not 20 percent higher than that of the foreign

supplier.

In case of noncompliance with the procurement rules of Resolution 1139, subsoil users are subject to a

monetary fine or termination of the contract depending on the amount in violation, as follows:

For violations below 50 percent of the annual financial obligations,63 a subsoil user is subject to a

monetary fine equivalent to 30 percent of the amount in violation.

For violations above 50 percent of annual financial obligations, companies are subject to contract

termination (MOG 2011).

The Kazakh authorities have also set specific local content aspirations for 2014, which are shown in Table 4.8

together with local content achievements.

Table 4.8 Kazakhstan: Local Content Targets and Attained Levels in 2011

Kazakh Content in: Achieved in 2011

% Targets for 2014

%

Goods 12.2 16 Works 58.0 85

Services 69.1 85

Source: Based on data from Yerkebulanov 2012; Decree 1135 of 29/12/2010.

Ministry of Oil and Gas KC Development Programs

In addition to setting procurement rules for subsoil users, additional local content policy tools were developed

by the MOG. These include:

Identifying the most demanded goods and services and mapping those with potential Kazakh

manufacturers

Supporting Kazakh companies’ involvement as coexecuters/subcontractors in foreign suppliers’

contracts

Introducing long-term contracts for commonly procured GWS

Transitioning to online procurement

Training contractor and subcontractor Kazakh employees

Supporting companies in acquiring local content certification

Offering interest-free loans and advance payments for KZ-contractors’ equipment and personnel

mobilization and technology transfer activities (KMOG 2011).

KMG (National Oil Company) Local Content Development Efforts

In addition to the procurement rules and the MOG measures to support local manufacturers in the oil and gas

sector, the national oil company (KMG) has been actively involved in efforts aimed at increasing the share of

62 CT-KZ is issued (for a period of one year) by the Technical Regulation and Metrology Committee and provided to Kazakh

manufacturers of goods who are interested in working with subsoil companies. It is not mandatory to obtain a CT-KZ certificate to

supply for subsoil companies; however, it is necessary for subsoil companies to purchase from CT-KZ holders so that local content

will be calculated within the subsoil investment quota. 63 As per the Subsoil Law, all subsoil users must commit to an annual investment obligation considered as a financial obligation.

118

local content in its procurement of GWS in the oil and gas sector since 2009. In 2009 and throughout 2010, KMG

took several measures to increase the share of KC in procurement of GWS, covering:

Provision of information for Kazakhstan suppliers of GWS on KMG’s procurement plans and

provision of catalogs of the goods scheduled for purchase.

Signing cooperation memoranda and contracts for the supply of GWS with local suppliers. In 2009

memoranda for the total amount of 44 billion Kazhaki tenge (KZT) were signed with local suppliers in

more than 15 different areas in Kazakhstan.

Launching of the NC KazMunayGas JSC (joint stock company) Promotion Program of the Oil and Gas

Machine Building Development in the Republic of Kazakhstan for 20102012.

Creation of the Coordination Council for the oil and gas machine-building sector including specialists

from the NC “KazMunayGas” JSC, and major Kazakh machine-building companies.

In 2011 KMG consolidated its local content support efforts into a holistic program called the Program of

the NC KazMunaiGaz JSC for the Development of Kazakhstan’s Content for 2011–2015. The program focused

on the following key objectives:

To increase the volume of purchases of locally produced goods

To assist local commodity producers in producing new commodities that are currently imported

To increase overall KC in large oil and gas projects

To build service and machinery-building assets.

KMG has also set the following quantitative targets to be achieved through the program by 2015:

Increase production of oil equipment by 23 percent from the 2010 level

Increase the share of local content in commodities purchases of the KMG Group to 50 percent

Increase the share of local content in work purchases of the KMG Group to 90 percent

Increase the share of local content in purchases of operators of large oil and gas projects

Set up new joint production, service, and machinery-building assets of the KMG Group.

KMG has already started working toward achieving the above goals. In fact, long-term agreements with a

total value of KZT 53.6 billion are planned for 201115 between KMG’s affiliates and subsidiaries on the one

hand and domestic commodity producers on the other. Table 4.9 shows the breakdown of the planned

agreements value (in million KZT).

Table 4.9 Kazakhstan: Breakdown of the Planned KMG Agreements by Value (million KZT)

Name of KMG subsidiaries and affiliates

2011 2012 2013 2014 2015 Total

KazMunaiGaz EP JSC 7,779 8,019 8,243 8,499 32,540 KazTransOil JSC 1,356 1,357 1,357 4,070 KazTransGaz Group 1,598 3,393 3,981 3,937 4,117 17,026

Total 1,598 12,528 13,357 13,537 12,616 53,636

Source: Based on data from KMG 2011b.

In addition, KMG has set specific targets for share of local content in procurement of GWS. The group’s

objective for the 2011 share of local content was set at 55 percent. Indeed, in the first half of 2011, the KMG

Group purchases of locally produced GWS reached 48 percent. More specifically, the local content share of the

volume of goods purchased amounted to 40 percent, while the share of KC in purchased work comprised 66

percent and 57 percent of the volume of purchased services. Table 4.10 shows the actual figures for 2010 and

the targets for 2011.

119

Table 4.10 KMG’s Kazakh Content in Purchased Goods, Works, and Services: 2010 and 2011

Year

Goods Work Services

Total in KZT billion

KC % KZT

billion KC %

KZT billion

KC %

KZT billion

Kazakh content

%

2010 (achieved) 608 36 396 56 434 72 1,438 52 2011 (plan) 735 40 320 60 400 75 1,455 55 First half of 2011 (achieved) 725 40 189 66 300 57 1,214 48

Source: Based on data from KMG 2011b.

Note: KC = Kazakh content.

KMG has also initiated its support programs for oil and gas machinery building in Kazakhstan through

cofinancing of plants and provision of long-term orders for overhauling, servicing, and troubleshooting. In fact,

such programs have been in place since November 2010, when KMG signed a technological agreement for

production of new oil and gas equipment with the Ministry of Transport. The agreement required that the JSC

Center of Engineering and Technologies Transfer of the Ministry of Transport provide technical and

technological documentation to local machine-building companies for enhancing the production of products

demanded by KMG and arranging for testing procedures after production of prototypes. Shortly after this

agreement, the oil and gas machine-building support program, JSC NC KMG Promotion Program of the Oil

and Gas Machine Building in the Republic of Kazakhstan, was launched. The program continues to be a key

pillar of KMG’s overall local content support project, the Program of the NC KazMunaiGaz JSC for the

Development of Kazakhstan’s Content for 20112015. Since program implementation, local oil and gas

machine-building companies have been expanding their capabilities to produce different types of oil and gas

equipment. Today, these companies have the capabilities to produce more than 320 different types of high-

quality oil and gas equipment (KMG 2011b).


KC-related policies are legislated through:

Law 291-IV/2010 on subsoil and subsoil users

Law 156-IV/2009 on public procurement

Decree 1139/2007 on the rules for the procurement of GWS for subsoil users

Decrees 965/2010 and 1018/2010 on reporting forms

Decree 1135/2010 on state program for local content development

Decrees 367/2010 and 964/2010 on the measurement of local content and the unified calculation

method

Decree 45/2012 on expatriates’ workforce quotas and work permit rules

PSAs containing local content obligations specific to the project/area of operation.

4.3.4 Institutional Responsibility for Policy Design and Monitoring of Implementation

Four entities govern Kazakhstan’s petroleum sector local content policy design and implementation: the MOG,

Ministry of New Technologies, KCA, and Expert Council on Local Content. While the two ministries lead

policy design, the KCA is responsible for facilitating local content policy implementation. More specifically,

KCA’s mission is to:

Promote local content through the involvement of Kazakhstan producers of GWS into the oil and gas

supply sector

Manage, document, and analyze local content operations in the procurements of subsoil users and

update the Unified Register of Domestic Producers and Foreign Investors (KCA Register)

Assist local manufacturers in meeting industry standards and requirements (KCA 2012a).

120

The KCA Register was created to fulfill transparency and complete disclosure in the procurement process.

Subsoil users are required to upload all procurement information and documents through the Subsoil User

Report Acceptance System (SURAC) for each tender (MOG 2012b). The SURAC is responsible for planning the

procurement process, and maintaining the register of local content requirements and the GWS procurement

plan. Via the SURAC, companies are able to upload all required information constituting the whole

procurement process from the initial call for supply of GWS, to GWS specifications, until the awarding of the

contract and the uploaded information are authenticated through electronic digital signatures (EDS). By

adopting this methodology, disputes related to noncompliance with the regulations and/or the contract can be

promptly solved through a transparent process.64 Additionally, subsoil users and their subcontractors are

mandated to publish in the KCA Register their procurement calendars for all upcoming and planned requests

for GWS, and as well as past awards.

In 2012 the KCA announced that 99 percent of subsoil users have performed reporting procedures on GWS

in 2011 using the new system compared to 50 percent in 2008. Moreover, 98 percent of subsoil users reported

on their procurement plans using the new system compared to 45 percent of the companies in 2008.

Investments in procurement of GWS in 2011 were around $8.3 billion, nearly double that of 2010 ($4.7 billion)

and increasing from $2 billion in 2005.

In 2010 the KCA, with the cooperation with MOG, established the Expert Council on Local Content. The

council incorporates delegates from all major stakeholders in the oil and gas sector, including:

Associations and unions of entrepreneurs

Suppliers of goods and services

Subsoil users

Government and policy experts.

The council, which operates under the supervision of the MOG, is responsible for participation in the

assessment of local content of major projects; the development of working programs in Kashagan, Tengiz, and

Karachaganak; and communication and ensuring of the interests of domestic suppliers and contractors.

4.3.5 Interlinks

LCPs in Kazakhstan extend to other sectors such as mining, agriculture, and manufacturing. Concerning

international agreements, Kazakhstan has been an observer member of the WTO since its submission to join

the organization in 1996. Currently, the country is undergoing the final stages of negotiations toward becoming

a member of the WTO. During negotiations, the Kazakh team has been facing challenges on preserving local

content requirements in subsoil activities. As per a statement by the Kazakh minister of economic integration,

the government succeeded in preserving the country’s rights in preserving local-content-related policies in

subsoil activities (Gazeta 2012). On September 3, 2012, President Nazarbayev requested the government to

reshape the deployed LCPs in the agriculture, manufacturing, and financial sectors in light of joining the WTO

(KCA 2012c).


Subsoil users are required to file a Quarterly Kazakh Content Monitoring Report and an Annual Procurement

Plan in the KCA Register. Specifically, subsoil users and their subcontractors are mandated to report on:

The medium- and long-term procurement calendar

Local content in terms of GWS on a quarterly manner

Status on employment of the Kazakh workforce

Performance of training and retraining obligations of local workforce (own staff, supplier, students)

(MOG 2012b).

64 Settlement can be drawn to the judicial system should any side of the dispute consider the KCA verdict as unlawful.

121

To standardize measurement and reporting on local content, the Kazakh authorities have developed specific

formulae for the calculation of use of local content by subsoil users.

Local Content in the Labor Force

Local content in the petroleum workforce is monitored via work permits and through the periodical reports

submitted by subsoil users on the status of their employment obligations. As for educational commitments, the

MOG represented by the KCA is responsible for monitoring educational contracts execution and detection of

any breaches. In case of a breach, subsoil users are sent notices for their violations, and any amount that

remains unspent is considered as “educational debt” that must be carried out by the subsoil user before the end

of the contract.

Local Content in the Procurement of Goods, Works, and Services

The measurement of KC in the procurement process is a two-way process that varies by GWS. The percentage

of KC in goods is stated in the CT-KZ certificate65 issued by the Technical Regulation and Metrology

Committee66 to the Kazakh manufacturer. The percentage of KC in goods procured by a subsoil user that

utilizes the goods produced by a holder of CT-KZ certificate is identical to the percentage indicated on the

certificate.

In March 2009 the Kazakh Government approved Decree No. 367 that formalized the measurement of local

content in GWS. The decree became effective in 2010. In accordance with the Decree No. 367/2010, the KC in

goods (KCT) is measured as follows:

Equation 1

Where:

n is the total number of goods purchased by a supplier and its subcontractors for the execution of a

contract for the provision of goods to a subsoil user.

СТi is the cost of good i.

Ki is the share of KC in goods indicated in the СТ-KZ certificate.

S is the total cost of goods purchases.

The KC in works and services (KCp/y) is measured as follows:

Equation 2

Where:

n is the total number of goods purchased by the suppliers and subcontractors for the execution of a

contract for provision of works (services) to a subsoil user

CTi and Ki are as per the definitions above

m is the total number of contracts for provision of works (services) signed by a subsoil user and its

contractors

СAj is the value of jth contract

65 To understand Kazakh content in goods produced by local producers, a CT-KZ certificate was introduced. CT-KZ is issued (for a

period of one year) by the Technical Regulation and Metrology Committee and provided to Kazakh manufacturers of goods who

are interested in working with subsoil companies. It is not mandatory to obtain a CT-KZ certificate to supply for subsoil companies;

however, it is necessary for subsoil companies to purchase from CT-KZ holders so that local content will be calculated within the

subsoil investment quota. 66 Issuance, verification, and registration of CT-KZ are performed by the territory departments of the Committee of the Technical

Regulation and Metrology of the Ministry of Industry and Trade.

S

KCT

KC

n

i

ii

T

1%100

S

RCCACTCKCT

KC

m

j

jjji

n

i

i

yp

1

j

1

/

A

%100

122

СТj is the total cost of goods purchased under the jth contract

ССAj is the total value of subcontracting agreements signed under the jth contract

Rj reflects the share of Kazakh staff payroll in total compensation

S is the total value of the contract for provision of works (services).

For quarterly reporting purposes, Kazakh content is calculated as:

Where:

n is the total number of contracts signed by a subsoil user with suppliers of GWS

СAi is the value of each contract for the purchase of GWS

КСi is the Kazakhstani content of a supplier of GWS under each procurement contract

S is the total cost of GWS purchased by a subsoil user in the relevant reporting period (RoK 2010a).

Information on local content so collected by the government is used for monitoring purposes, as well as to

measure the level of involvement of local enterprises and the assessment of domestic competitiveness (RoK

2010a).


Levels of local content in employment and GWS improved significantly after the introduction of the unified

methodology and certification process; however, some violations and drivers for subsoil users’ inability to

comply with requirements remain, suggesting room for improvement in LCPs.

Prior to the publication of the unified methodology and the introduction of the certification process, each

company reported local content levels using its own formulas. Some reported committed expenditure while

others used actual spending. This inconsistency led to difficulty in accounting for the impact of LCPs. The

introduction of the unified calculation methodology and certification process, however, eliminated the

inconsistency in accounting for local content leading to improved reporting and local content levels. In fact, in

the first quarter of 2012, the KCA reported an overall level of 96.6 percent local content in employment, well

above the regulator’s targets (see tables 4.7 and 4.11). In general, local content across all categories has shown

improvement from the Q1 2011 levels.

Table 4.11 Kazakh Content in Subsoil Personnel

Category I Category II Category III Total

Total (#) % Kazakh Total (#) % Kazakh Total (#) % Kazakh Total (#) % Kazakh

Q1 2011 3,495 77.2 18,837 91.2 36,267 98.8 58,599 95.8 Q2 2011 3,756 79.7 24,937 92.9 41,447 99.1 70,140 96.4

Q3 2011 3,627 81.3 24,359 93.5 40,414 99.1 68,400 96.7

Q4 2011 3,639 82.5 24,615 93.8 41,209 99.2 69,463 96.9

Q1 2012 3,696 83.1 24,793 94.0 42,847 99.3 71,336 96.6

Source: Based on data from KCA 2012a.

In 2011 a total of $10.4 million allocation was set by subsoil users for education and training, which

secured the training of 1,068 Kazakh citizens involved in the oil and gas sector (KCA 2012a). According to the

MOG, over 83 percent of the trainees will be employed gradually by subsoil users.

Looking at GWS, the level of reporting has dramatically increased upon the enforcement of the reporting

system in 2010, as shown in Figure 4.9. In addition, the number of violations has decreased in value from KZT

158 billion in 2010 or 25.4 percent of annual investments, to KZT 113 billion or 17.8 percent of the investments.

S

KCCA

KC

n

i

ii

1%100

123

Figure 4.9 Kazakhstan: Reports Filed by Subsoil Companies, 2008–11

Source: Based on data from MOG 2012c.

Additionally, the level of local content in GWS in 2011 is showing an increase compared to 2010 (Figure

4.10). More specifically, the level of local content in goods increased by 2 percentage points in 2011, while local

content in works and services increased by 8 percentage points each (Table 4.12).

Figure 4.10 Evolution of Kazakh Content in Monetary Presentation for the Purchase of Goods, Works, and

Services, 2009–11 (in KZT billion)



Table 4.12 Kazakh Content in Goods, Works, and Services: 2010–11 2010 2011

Total spend (KZT billion) % KC Total spend (KZT billion) % KC

Goods 354 10.3 352 12.2

Works 405 50.0 889 58.0

Services 746 60.6 967 69.1



In purchases of goods in offshore operations, the share of local goods was highest in development activities

compared to exploration and operations activities, where the share of local goods didn’t exceed 9 percent.

More specifically, the highest share of local goods purchases was in development activities such as foundation

construction purchases (83 percent), followed by tank farm-system purchases (71 percent), and offshore fixed-

platform-construction-related purchases (46 percent). On the other hand, the lowest share of local goods

purchases was at 7 percent in development-related software products and nitrogen units and operations-

related spare parts (Figure 4.11).

50% 59%

95% 99%

42%

59%

95% 98%

2008 2009 2010 2011

Reports on Commodites and services Yearly Purchase Plans

56%

44%

2,207

450

1,505

46%

54%

2009

67%

2011

33%

+390%

KC

Imported

2010

% Change

2009 - 2011

553%

309%

124

Figure 4.11 Kazakh Content in Goods Purchased for Offshore Operations, 2011

Source: Based on data from KCA 2012b.


In onshore operations, however, the share of local goods reached 70 percent in development as well as

operations and abandonment activities, as shown in Figure 4.12. More specifically, in development activities,

the share of local goods purchased for supra salt fields tank farm separators and tanks was 70 percent,

followed by a 60 percent share in supra salt oil flowlines/pipelines purchases, and 50 percent of supra salt

power supply system purchases. In operations, the share of local goods purchases was highest in primary

hydrocarbon treatment systems (70 percent). On average, however, local goods purchases lagged in subsalt

field activities, covering exploration, development, and operations such as production, well construction, and

production simulation systems (the share didn’t exceed 10 percent).

Figure 4.12 Kazakh Content in Goods Purchased for Onshore Operations by Depth, 2011



Software products

Nitrogen units and instrumentation units

Power generation system

Power system and communications

Cofferdam foundation construction

Flare system

Offshore fixed platform construction

Tank farm system

Fuel gas system

Process system maintenance

Spare parts, tools and accessories

Software products

7%

7%

9%

20%

83%

14%

46%

71%

10%

9%

7%

9%

9%

20%

9%

Well construction

General marine systems

High pressure and low pressure compressors

Exploration

Development

Operations

Other

71%

Production well construction

Power system and communications

42%Exploration well construction

10%

45%10%

21%22%

Power supply system

Oil flowlines / pipelines

Tank farm (separators, tanks)

Production automation systems

Spare parts, tools and accessories

Chemicals for production/transportation

Production simulation systems

Primary hydrocarbon treatment systems

Well suspension

50%

60%

70%

10%

41%

30%

20%

70%

70%

51%

51%

50%

6%

21%

31%

7%

71%

Suprasalt fields (up to 2,500 m) Subsalt fields (up to 2,500 m)

Exploration

Development

Operations

Abandonment

125

Purchases of local works and services in offshore operations were significantly high in support activities, such

as environmental surveys, insurance services, and legal services, where their share reached 95 percent of

purchases. But in more technical offshore activities, the share of local works and services is significantly lower

at 6 percent in EPCM (engineering, procurement, construction and management and reaches a maximum of 46

percent in offshore fixed-platform construction (Figure 4.13).

Figure 4.13 Kazakh Content in Works and Services Purchased for Offshore Operations, 2011


Note: KC = Kazakh content; EPCM = Engineering, procurement, construction and construction management.

In purchases of works and services in onshore operations, the level of local content was comparable in

supra and subsalt fields activities as well as across exploration, development, operations, and abandonment

activities (Figure 4.14).

Figure 4.14 Kazakh Content in Works and Services Purchased for Onshore Operations by Depth, 2011

Source: Based on data from KCA 2012b. Note: KC = Kazakh content; EIA = Environmental impact assessment.

Industrial waste management 30%

Start-up 22%

Rotating equipment maintenance and repair 30%

Fixed equioment maintenance and repair 40%

Equipment maintenance and repair 10%

Air conditioning and ventilation system 27%

Preparation of technical documents 20%

Cofferdam foundation construction 43%

Offshore fixed platform construction 46%

Oil spill response and clean-up 18%

Drilling services 10%

Drilling operations 8%

Geological, geophysical surveys and other research 40%

Environmental surveys 93%

Seismic operations 20%

Insurance services

Emergency consultants’ services / medical treatment

Design / feasibility study, permits and approvals

EPCM

Customs clearance, transport and forwarding

Legal services

Transportation services

95%

80%

84%

6%

84%

95%

55%

Exploration

Development

Operations

Other

49%

80%80%

80%80%

90%90%

60%Well workover 76%

Oilfield equipment maintenance69%70%

Design40%

50%

Pipeline construction75%76%

Power supply

50%

86%

76%75%

Exploratory drilling40%

76%

Seismic acquisition69%

80%

Waste management

Enhanced oil recovery

Oil / gas transportation

EIA (ecology)

Rig-down operations

Well suspension

39%40%

87%

Construction and installation

70%40%

Well drilling and construction

40%30%

Directional drilling

69%80%

59%76%

Analyses and research59%60%

Geotechnical studies

Subsalt fields (up to 2,500 m)Suprasalt fields (up to 2,500 m)

Exploration

Development

Operations

Abandonment

126

Looking at overall KC by product group in 2011 (Table 4.13), the share of KC is highest in petroleum, oil, and

lubricants (44 percent), followed by transformers (28.8 percent), pump products (24.4 percent), and tabulators

(21.1 percent). But with the exception of tabulators, these products represented a low share of 2011 total spend.

Petroleum oil and lubricants were only 3.1 percent of 2011 total spend while transformers and pump products

represented 4.6 percent and 0.6 percent respectively. The highest share of procurement spend was in “other

goods” where KC represented only 8 percent.

Table 4.13 Kazakh Content by Product Group and Local Suppliers, 2011

Procurement spend

($ million) % of total spend

Average KC (%)

Kazakh manufacturers

Total Kazakh

Tubulars 270.2 68.6 19.7 21.1 LLP KSP Steel

Drilling equipment 88.2 13.6 6.4 2.2

Almaty Heavy Engineering Plant, Petropavlovsk Heavy Engineering Plant, Aktau Oil Electronic Company (ANEK)

Chemicals 87.6 17.6 6.4 11.6

RauanNalco, Almatyneftekhim-А, Global Chemicals Company

Pump products 63.1 21 4.6 24.4

Aktyubinsk Oil Equipment Plant, Munaimash, ANEK, Caspian Machine-Building Complex

Wellhead equipment, valves 50.2 4.1 3.7 4

Kazneftegazmash, Munaimash, Ust-Kamenogorsk Valve Plant

Wires and cables 44.1 2 3.2 4.1

Kazelektromash, Kazenergokabel, Tola—stroy SK, AktauEnergoKabel

Petroleum, oil, and lubricants 42.1 27.2 3.1 44 Kazakhstan vendors

Sucker rods 36.7 17 2.7 17 AZNO, Munaimash

Work clothes 25.8 6.8 1.9 15 Zhanarys, KazSPO-N LLP, Symbat LLP

Separators, tanks 21 3.4 1.5 12.6

West Kazakhstan Machine-Building Company, JV Byelkamit, Buran Boiler

Transformers 8.8 3.4 0.6 28.8 Kentau Transformer Plant, Alageum Electric

Other goods 634.8 67.2 46.3 8.2

Total 1,372.7 251.2 100 13.2



Despite the overall increasing share of local content in the oil sector, some violations remain due to

difficulties faced by subsoil users preventing them from meeting their local content targets. In 2010 the MOG

reported that 122 violations of the Procurement Rules were identified, and 34 notices for termination of

contracts were sent out (Ospanova 2010). Overall, the local industry found difficulty in complying with the

new local content requirements. Among the challenges faced were:

Shortage of suppliers with specialized capacity to construct products in demand by subsurface users

Growth in technological capacity among local suppliers is lower than industry demand

Lack of qualified local workforce, which is challenged by the long-term nature of the training and

education developments

Lack of sufficient investments directed toward the development of small- and medium-sized

enterprises (SMEs) (Ospanova 2010).

Violations of procurement rules in 2011 were reported by the KCA as follows: 54 companies violated the

procurement rule in at least 50 percent of their investment obligations, 32 companies violated in less than 50

percent, and 24 companies were in full compliance of the procurement rules.

127

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131

5.Malaysia

Malaysia’s history in the hydrocarbon sector dates back to 1910, when Shell discovered oil in Sarawak.

Historically, international oil companies (IOCs) have played a key role in the country’s hydrocarbon landscape.

A major milestone related to the mode of IOC engagement was the foundation of Malaysia’s national oil

company (NOC), Petronas, in 1974. The event was driven by a confluence of political and economic factors and

a growing sense of nationalization (Bank Pembangunan 2011). Since then, IOCs have been engaged under

production sharing agreements (PSAs). The establishment of the NOC came along with a local content agenda

that looked at developing local capabilities, gaining further control over the sector, and driving links to the

industry.

More recently, the government’s Economic Transformation Program (ETP) of 2010 marked a turning point

in relation to local content and backward links from the petroleum sector. The ETP aims at transforming the

nation into a high-income country by 2020. Through this program the country plans on growing its gross

national income (GNI) by 6 percent every year, allowing it to grow its GNI per capita from the 2009 level of

$6,700 to $15,000 by 2020. Under the new program the petroleum and energy sector is the first of the 12

National Key Economic Areas.67 Three of the 12 sectoral ETPs fall under local content policies (LCPs), all

aiming at the creation and strengthening of value creating activities along the oil and gas value chain. Indeed,

the government aims at increasing the competitiveness of its domestic oil field services and equipment (OFSE)

industry to become a regional hub by 2017. Drivers for these aspirations are centered on:

A growing regional market for OFSE (but no current regional hub)

A growing domestic petroleum industry that is exposed to a complex geology (as Malaysia’s

reservoirs become depleted, future discoveries are expected to be more technically challenging)

The country’s geographical proximity to resource rich-countries in Asia and the Middle East

Existence of a domestic competitive local workforce.

At this stage and in coordination with Petronas, the government has defined specific initiatives, targets,

and an implementation road map that is being closely monitored (Pemandu 2012).


In 2010 Malaysia had the 37th-largest gross domestic product (GDP) and 39th-largest population in the world.

The country enjoys a well-developed infrastructure, which was classified 23rd out of 142 countries worldwide,

out-ranking the United States by one spot in 2010. As per the World Economic Forum (WEF) classification,

Malaysia’s economy is in its second stage of development and is considered as an efficiency-driven economy.

The GDP per capita in 2011 was $9,656, the highest among its largely populated neighbors (World Bank 2012c).

The country’s constitutional monarchy, with a democratically elected parliament along with its well-developed

infrastructure system, provides a favorable and stable business environment. In fact, Malaysia ranked 21st out

of 142 in global competitiveness, improving five spots from last year. Despite that improvement, the country

ranks behind neighboring Singapore (second position) and Hong Kong (eleventh position). Malaysia ranked in

the low 20s among other countries on basic requirements, efficiency enhancers, and innovation subindices.

According to the Global Competitiveness Report, Malaysia ranks high due to its efficient and sound financial

67 For a detailed overview, visit http://etp.pemandu.gov.my.

http://etp.pemandu.gov.my/

132

sector, highly efficient goods market, and a transparent and relatively well-developed tax system. The country

also witnessed significant improvement in education over the past two decades with a significant increase in

the percentage of secondary- and tertiary-educated workers, and adult literacy rate reaching 92.5 percent (WEF

2011).

Nonetheless, the country is faced with several challenges. In fact, the country’s depleting natural resources are

largely affecting current and future of government revenues. In addition, the fuel subsidy burden is also

mounting as oil reserves are depleting and the country is turning into a net importer. The maintained high

growth in population experienced and expected for the next decades also applies pressure on unemployment

levels, and there is a growing tendency for brain drain. On the other hand, the macro challenges include

competition from neighboring countries with lower-cost labor and resources (such as China, India, Indonesia,

and Vietnam).

5.1.1 Economy

Malaysia’s 2011 GDP was at $278.6 billion and its growth rate was at 7 percent in 2010, and 5 percent in 2011

(World Bank 2012c). Its GDP per capita in 2011 was at $9,656, the highest among its largely populated

neighbors, and significantly higher than the South Asian average GDP per capita of $1,371 (World Bank 2012c).

In fact, Malaysia was ranked 4th in terms of GDP per capita adjusted for purchasing power parity in Southeast

Asia in 2011, and across the world it was ranked 77th of 226 countries (CIA 2012).

The 1970s were a turning point for the Malaysian economy, which witnessed momentous growth in GDP,

as growth rates reached a record high of 12 percent in 1973 and 1976. Malaysia’s GDP growth was interrupted

by the Asian financial crisis in the late 1990s, during which its GDP contracted to 7 percent in 1998. Malaysia’s

economy, however, demonstrated resilience as it started growing shortly after this contraction with growth

rates reaching 6 and 9 percent in 1999 and 2000. In doing so, the economy recorded a faster recovery than its

neighboring countries such as Thailand, Philippines, and Indonesia.

Since independence in 1957, the Malaysian authorities began to take a proactive role in the development

and industrialization of the economy. Traditionally, successive governments have adopted five-year plans each

with set targets for developing the country’s key economic, social, and environmental segments. These plans

focused primarily on diversifying the country’s economic base by transforming it from an agriculture-

dominated economy to a more industrial and export-oriented economy (Mun 2007). Indeed, the agricultural

sector’s annual contribution to GDP did decline to 15 percent in recent years compared to a 30 percent in the

early 1960s. On the other hand, the contribution of the manufacturing sector has risen from below 10 percent

during the 1960s to 28 percent during the past five years (World Bank 2012c).

Along with the manufacturing base and the export sector, Malaysian governments have also focused on

foreign direct investment (FDI) promotion. In fact, during the past decade, FDI in Malaysia steeply increased to

reach over $10 billion in 2011. Promoting FDI as a government policy began in the late 1960s when authorities

introduced the first investment incentive regulations. Later in 1971, the Free Trade Zone Act was issued and in

1972 the first free trade zone was launched. It was then that FDI began to play a significant role in the country’s

development (Athukorala and Waglé 2011). From the late 1980s to 2000 FDI in Malaysia made a leap,

increasing from annual levels below $2 billion to above $4 billion. But the financial crisis of 199798 disrupted

Malaysia’s remarkable record of attracting FDI, which contracted from $5 billion in 1996 to $2.1 billion in 1998.

Table 5.1 presents key economic indicators for Malaysia.

The country’s trade as a percent of GDP has also increased over the years. Exports in particular have

increased since 1990 by nearly six-fold, with manufacturing goods being the chief export commodity. Malaysia

is a leading exporter of electrical appliances, electronic parts, and components, in addition to palm oil and

natural gas (World Bank 2012b). Among total merchandise exports (imports), about 15 percent (10 percent)

were agricultural products, 16 percent (15 percent) were fuels and mining products, and 67 percent (73 percent)

were manufactured products. Malaysia’s largest trade partner in exports in 2010 was Singapore, and Japan in

133

imports. For total commercial services exports (imports), about 15 percent (37 percent) represented

transportation, 56 percent (25 percent) represent travel, and 30 percent (38 percent) represent other services

(WTO 2012a). The evolution of Malaysia’s exports by commodity is shown in Figure 5.1.

Table 5.1 Key Economic Indicators for Malaysia, 1980–2010

1980 1985 1990 1995 2000 2005 2006 2007 2008 2009 2010


GDP per capita (constant 2000 $) 1,909.6 2,149.4 2,592.5 3,581.9 4,005.6 4,529.6 4,695.2 4,905.1 5,057.8 4,901.5 5,168.7

Inflation, CPI (%) 6.7 0.3 2.6 3.5 1.5 3.0 3.6 2.0 5.4 0.6 1.7

Real interest rate (%) — — 4.8 4.9 -1.1 1.3 2.5 1.4 -3.9 12.9 -0.1

Exchange rate (LCU per $) 2.2 2.5 2.7 2.5 3.8 3.8 3.7 3.4 3.3 3.5 3.2

Trade (% of GDP) 111.0 103.2 147.0 192.1 220.4 212.1 210.5 199.4 183.2 171.2 176.8

Source: World Bank 2012c.


— Not available.

Figure 5.1 Malaysia’s Exports by Commodity, 1980–2010 ($ billion)

Source: Based on data from WTO 2012a.

5.1.2 Taxation

Malaysia’s tax system is transparent and relatively well developed; it is based on the UK and Australian tax

systems. The tax burden is moderate and generally in line with those of other neighboring countries. Taxes are

levied on yearly income accumulated inside or derived from Malaysia. The tax burden is composed of direct

and indirect obligations. Direct taxes are levied for income, real property gains, petroleum income,68 as well as

stamp duty. On the other hand, indirect taxes are levied on excise duty, cross-border trade, sales, and services

tax (UHY 2011).

Corporate tax is at 25 percent,69 a lower bracket compared to neighboring countries such as Australia, and

the Philippines, but in line with Indonesia and Thailand. Sales tax is between 5 to 10 percent, and service tax is

at 6 percent (KPMG 2012). In terms of tax revenue as a percentage of GDP, Malaysia ranks above average

against neighboring countries. Malaysia also levies ad valorem import duties that range from zero to 60

percent. Duties on raw materials and machinery are generally lower. Figure 5.2 presents a comparison of

68 Petroleum income tax is at 38 percent. 69 This is a reduction of 1 percentage point from the 2010 corporate tax rates.

46%

25%

16% 8% 9%15%

10% 21% 16%12%

11%

17%13%

10% 7%

0%

6%5%

16%

15%

2%

27%

141.0

2005 2010

13%

17%

1%

28%

98.2

10%

19%

4%1%

24%

73.9

7%

18%

3% 1%

29%

29.5

18%

15%

2%

2% 2%

25%

1980

13.0100%

8%

1% 1%10%

25%

1990 1995 2000

198.6

10%

Other Manufactures

Fuels

Integrated circuits and electronic components


Electronic data processing and office equipment

Telecommunications equipment

Chemicals

Mining Products

134

Malaysia’s revenues from taxes and the country’s corporate tax rate to other countries.

Figure 5.2 Malaysia’s Tax Revenues and Corporate Tax Rate Compared to Select Countries, 2009 and 2010

Source: Based on data from CIA 2012; Deloitte 2012; World Bank 2011b.

Note: For Angola, tax revenues reflect 2011 levels and include social contributions—such as payments for social security and hospital insurance—grants, and net revenues from public enterprises.

Malaysia offers a basket of tax incentives to promote investments in selected industries. Tax incentives are

offered for foreign investments in the following business categories: manufacturing, tourism, agriculture,

environment protection, training, research and development (R&D) as well as transport and communication

(UHY 2011). Some industries that may qualify for tax incentives also include biotechnology industries, venture

capital companies, and operation headquarters. Malaysia also has extended tax incentives to companies

generating renewable energy to “promote the advancement of green technology and efficient utilization of

energy” until December 31, 2015 (PKF 2012). In addition, Malaysia is signatory to a wide network of more than

70 treaties, which may indicate possible further reductions to tax rates in the future.70


The Malaysian population totaled 28.8 million in 2011 and is composed of three main ethnicities.

Approximately 53 percent are Malay Muslims, while the other two main ethnic groups are Chinese,

constituting 26 percent, and Indians, constituting 7.7 percent. The Chinese mostly follow Buddhism and

Confucianism while the majority of Indians follow Hinduism (Khader 2012).

The population in Malaysia has been growing steadily since 1950; it is expected to still increase, but at a

slower rate (UN 2010). More specifically, Malaysia is expected to have a growing workforce driven by growth

in the population aged 1564. Figure 5.3 illustrates the evolution of Malaysia’s population by age group from

1950 to estimates for 2050.

70 2012 Investment Climate Statement – Malaysia, US State Department, Bureau of Economic and Business Affairs, June 2012 Report.

http://www.state.gov/e/eb/rls/othr/ics/2012/191191.htm

OECD 14%

Kazakhstan 8%

India 10%

Indonesia 11%

Uganda 12%

Canada 12%

Russia 13%

Brazil 16%

Chile 16%

Malaysia 16%

Australia 22%

Netherlands 23%

South Africa 26%

United Kingdom 26%


Norway 27%

Angola 43%


20%

Kazakhstan 20%

Chile 20%

UK 24%


Netherlands 25%

Malaysia 25%

South Africa 28%

Norway 28%

Canada 28%

Uganda 30%

India 30%

Australia 30%

Brazil 34%

Russia

Angola 35%

Indonesia 25%


http://www.state.gov/e/eb/rls/othr/ics/2012/191191.htm

135

Figure 5.3 Evolution of the Malaysian Population and Labor Force over Time, 1950–2050 (in millions of people)


Malaysia’s total workforce amounted to 11.7 million people in 2010, of which around 21 percent had

attained tertiary education. Malaysia’s net tertiary enrollment is higher than its neighboring countries, with the

exception of Australia (a more-developed country) and Thailand. The country also has one of the highest mean

years of education, outperforming that of the United Kingdom. But quality of education has been an issue,

with the inadequately educated workforce being the fifth-most problematic factor for doing business in 2011 in

Malaysia (Schwab 2011).

The overall unemployment rate in Malaysia is relatively low. In 2009 unemployment stood at 3.7 percent,

lower than the Organisation for Economic Co-operation and Development (OECD) average of 8.3, and below

the levels for some regional countries such as Philippines and Indonesia (as shown in Table 5.2). In fact,

unemployment rate has been below 4 percent since 2000, and it is ranked third in compensation per year per

worker in Southeast Asia, behind Australia and Singapore.

Table 5.2 Malaysia Labor Force Indicators Compared to Select Countries, 2010

Labor force (Million)



Unemployment, total (% of total labor force)


Angola 7.1 — — — 4.4 127 25.0 Australia 11.8 27.3 38.9 33.8 12 1,597 5.2 Brazil 101.6 — — — 7.2 300 8.3 Canada 19.0 13.5 40 46.5 12.1 1,903 8.0 Indonesia 11.8 — — — 5.8 133 7.1 Kazakhstan 8.8 — — — 10.4 — 6.6 Malaysia 12.0 18.3 56 21.1 9.5 — 3.7 Norway 2.6 19.9 43.5 35.8 12.6 3,609 3.6 South Africa 18.2 15.8 74.2 5.2 8.5 543 23.8 Tanzania 22.1 — — — 5.1 59 10.7 T&T 0.7 25.3 63 11.1 9.2 — 5.4 Uganda 13.4 — — — 4.7 3 4.2 UK 31.8 19.2 44.4 35.4 9.3 1655 7.8

Source: Based on data from World Bank 2011b; UNDP,2010.

Note: T&T = Trinidad and Tobago. Educational attainment data for Australia, Canada, Malaysia, South Africa, and T&T represent year 2008 levels. Unemployment data for Brazil, Kazakhstan, Malaysia, South Africa, and Uganda represent year 2009 levels.

In terms of the sectoral distribution of the Malaysian labor force, the services sector continues to be the

largest recruiter of Malaysians, followed by health, education, and public services. Knowledge-intensive

manufacturing activities, on the other hand, recruited 6.6 percent of the labor force in 2008, which is above the

mature economies’ levels for the year 2007. As for primary resources, the share of labor force has declined by

over 5 percentage points between 2000 and 2008 to reach 14.7 percent. Figure 5.4 shows the breakdown of the

Malaysian labor force by sector for the years 2000 and 2008.

0%

10%

20%

30%

40%

50%

60%

70%

0

5

10

15

20

25

30

35

40

45

50

19

50

19

55

19

60

19

65

19

70

19

75

19

80

19

85

19

90

19

95

20

00

20

05

20

10

20

15

20

20

20

25

20

30

20

35

20

40

20

45

20

50

Mil

lio

n P

eo

ple

60+

50 to 59

40 to 49

30 to 39

20 to 29

10 to 19

0 to 9

% 15 - 64

136

Figure 5.4 Malaysia: Breakdown of Labor Force by Sector, 2000–08 (millions)


Note: The number of employees engaged in manufacturing activities are based on the UNIDO statistics, while the rest are based on the ILO data.

5.1.4 Education

Education has witnessed significant developments and increased attention from policy makers in Malaysia

since the 1970s. A number of legislative acts, institutions, committees, and initiatives for the development of

education standards and levels have been active over the past decades. Despite measurable improvements in

education and enrollment levels, a number of issues remain. These issues include: the mismatch between

supply and demand, national brain drain (Fleming and Søborg 2012), as well as a relatively high

unemployment rate among fresh graduates (Woo 2006).

A closer look at the country’s achievements in education over the past two decades shows a significant

increase in the percentage of secondary- and tertiary-educated workers. In 2010 the share of secondary-

educated workers in the total workforce reached 56 percent, an increase from 36 percent in 1982. A similar

increase was achieved in tertiary education levels. Graduates with tertiary education constituted 6 percent of

the total labor force in 1982; two decades later, the percentage reached 24 percent of the total labor force

(Fleming and Søborg 2012). This can be potentially credited to an increase in government spending on

education. In 2009 Malaysian expenditure on education reached 5.8 percent of GDP, higher than the 2008 U.S.

estimates of 5.5 percent and higher than other regional countries such as Thailand with 4.1 percent and

Indonesia with 3.5 percent of GDP (as shown in Table 5.3).

Although, the overall quality of education remains a challenge for doing business in Malaysia (Schwab

2011)—the quality of primary education was rated 5 out of 7 in the Global Competitiveness Report of 2010. The

enrollment rate was 94.1 and 68.7 percent for primary and secondary education, respectively (WEF 2011). The

mean year of schooling of adults over 25 years was 9.5 years and adult literacy rate was 92.5 percent (UNDP

2011). The country’s facilities for higher education are located predominantly in the Peninsular Malaysia

surrounding the urban area of the capital and main cities (MOHE 2012). Currently, there are 20 public

universities and 26 private universities (Fleming and Søborg 2012).

44.6%47.4%

9.3%6.6%

6.3% 7.1%3.8%

2.5%

2008

10.5

18.5%

2.6%

3.1%

14.7%

2000

8.9

17.3%

100%

16.2%Mature economy average,

2007


Total change in


(Million jobs)




Knowledge-intensive manufacturing 5 -0.1




137

Table 5.3 Malaysia’s Educational Indicators


Youth (1524)


Angola 70.1 73.1 85.7 11.5(a) 3.7 3.6

Australia — — 97.1 85.5 79.9 5.1(a)

Brazil 90.3(a) 98.1(a) 94.1(b) 82.0(b) 36.1(a) 5.4(b) Indonesia 92.2(b) 99.5(b) 95.9 67.3 23.1 3.5(b) Kazakhstan 99.7 99.8 89.5 88.2 38.5 3.1(a) Malaysia 93.1 98.4 94.1(5) 68.7(5) 40.2(a) 5.8(a) Norway — — 99.1 93.9 74.4 6.5(b) South Africa 88.7(c) — 85.1(a) — — 6.0 Tanzania 73.2 77.3 98.0(b) — 2.1 6.2 T&T 98.8 99.6 93.9 — 40(b) 3.8(d) Uganda 73.2 87.4 90.9 — 4.2(a) 3.2(a) UK — — 99.6(a) 96(a) 58.5(a) 5.4(b)

Source: Based on data from Gomes and Weimer 2011; UNDP 2010; World Bank 2012c; MSTTE 2011.

Note: T&T = Trinidad and Tobago; UK = United Kingdom; (a) year 2009, (b) year 2008, (c) year 2007, (d) year 2006 data, (5) Global Competitiveness Report.


The business environment in Malaysia is competitive. The country’s constitutional monarchy, with its

democratically elected parliament and well-developed infrastructure system provide a favorable and stable

business environment (PKF 2009). Despite its overall competitive and favorable business environment,

businesses in Malaysia still face several obstacles, with the most problematic ones being corruption, inefficient

government bureaucracy, followed by access to financing.

Malaysia ranks well on the “ease of doing business” and “competitiveness” indices, and has relatively easy

procedures for business startups compared to its neighbors. The Doing Business Report of 2011 ranked Malaysia

21st among 183 countries on ease of doing business. Malaysia was ranked 4th out of 24 countries in the East

Asia and Pacific region for doing business, after Singapore, Hong Kong, and Thailand (World Bank 2011a). The

Global Competitiveness Index of 2011–12 ranked Malaysia 21st among 142 countries, and the cost for cross-

border trade in Malaysia is also among the lowest in Southeast Asia. The cost of export per container was $450

in 2011 and cost of import, $435. Despite this favorable ranking, governance and corruption remained among

the most problematic aspects of doing business in 2011 (Schwab 2011). The government has acknowledged

corruption as an obstacle to doing business since the 1970s, and has taken various steps in that regard. Several

anti-corruption regulations have been passed and the Anti-Corruption Agency along with other administrative

programs such as the Public Complaints Bureau have been established. Despite these initiatives, corruption has

increased, with Malaysia’s Corruption Perception Index decreasing in 2011 to 4.3 points from 5.3 points in

2003. The country, however, still has a better standing than its neighbors in Southeast Asia, with Indonesia’s

Corruption Perception Index at 3 points, Thailand’s at 3.4, Vietnam’s at 2.9, and Philippines’ at 2.6 points71

(Transparency International 2012). Ethnic and political motivations were considered as reasons for corrupt

conduct in Malaysia; however, these are thought to affect local companies more frequently than international

firms.

Table 5.4 shows a snapshot of indicators on Malaysia’s business environment and doing business, and

Figure 5.5 shows how governance indicators in Malaysia have been stable during the past decade but remain

below the OECD indicators.

71 A Corruption Perception Index ranking of 1 point implies highly corrupt.

138

Table 5.4 Indicators for Doing Business in Malaysia

Source: World Bank 2012c.

Note: Ranking is out of 183 countries.

Figure 5.5 Governance Indicators in Malaysia Compared to OECD Average


Malaysia OECD Malaysia OECD






Rank (Change in rank from 2011) 50 (+61) Rank (Change in rank from 2011) 4 (0)





Rank (Change in rank from 2011) 113 (-2) Labor tax and contributions (%) 15.6 24




Time (days) 51 103








Rank (Change in rank from 2011) 59 (0) Rank (Change in rank from 2011) 29 (-1)





Private bureau coverage (% of adults) 83.4 63.9 Rank (Change in rank from 2011) 31 (+29)

Rank (Change in rank from 2011) 1 (0)





Rank (Chang+F14e in rank from

2011)47 (+10)

0

20

40

60

80

100



Violence


Regulatory Quality

Rule of Law


2000 Malaysia 2000

2010 Malaysia 2010

2010 OECD 2010

139



Malaysia is a resource-rich country with geographical proximity to dynamic economies that are dependent on

imported fuels—such as Japan, South Korea, Singapore, and Taiwan. Historically, and as can be implied from

Figures 5.6 and 5.7, the petroleum sector never played a dominant role in the Malaysian economy; however, it

has been a driver of the economic expansion for decades. This is especially true for the well-established

downstream clusters that rely heavily on the country’s gas resources (Nordas, Vante, and Heum 2003).

Looking at the sector’s contribution to GDP, the mining manufacturing, and utilities sector accounted for

32 percent of the country’s GDP in 2010, followed by the manufacturing sector with a 20 percent share of GDP,

as shown in Figure 5.6. In subsequent years, the petroleum and energy sector contributed 1620 percent of the

country’s GDP (Pemandu 2010). Petroleum exports constituted a large portion of the country’s external trade.

Exports of crude oil slightly decreased from 236,000 barrels per day (bpd) in 2009 to 234,000 bpd in 2010,

constituting around 35 percent of Malaysia’s crude oil production. Imports during 2010 reached 205,000 bpd of

lower-cost crude oil for processing at local oil refineries (EIA 2011). Petronas is the single-largest contributor to

the country’s revenue. In 2009 the company earned nearly half of government revenues by means of taxes and

dividends (PetroMin 2011). In 2008 Petronas’ payment to the federal government represented 44 percent of

total revenues (Fleming and Søborg 2012) and over 40 percent in 2010 (EIA 2011).

Figure 5.6 Malaysia and Select Countries: Breakdown of GDP by Economic Activity in 2010 ($ billion)


5%

8%

8%

6%

10%

5%

6%

8%

5%

6%

6%

15%

11%

18%

13%

13%

11%

8% 12%

12%

19%

12%

7%

45%

33%

43%

25%20%

39% 38%

22% 23%

51%

1%

2%

1%

5%

11%

14%

UK

2,236

14%

6%

10%

Uganda

17

12%

21%

12%

7%8%

20%

Indonesia

883

12%

29%

100%

Trinidad

& Tobago

24

36%

0%

8%

16%

South

Africa

377

24%

3%

13%

Norway

402

33%

4%

8%

Malaysia

304

32%

8%

3%

20%

Kazakhstan

159

30%

4%

7%

11%

Canada

1,637

20%

1%6%

10%

Brazil

2,066

19%

5%

5%

14%

Australia

1,296

19%

2%

7%

9%

Angola

85

50%

9%

8%

6%



Construction

Manufacturing



Other Activities

140

Figure 5.7 Malaysia: Contribution of Mining, Manufacturing, and Utilities to GDP, 19702010



Malaysia’s geography is unique—it is divided into two distinct parts: the first is Peninsular Malaysia to the

west, bordering Thailand; the second is to the east, constituting of the two states of Sabah and Sarawak,

bordering Indonesia. The continental shelf spreads alongside both regions and contains a total of six

sedimentary basins forming the majority of the country’s petroleum geology (Bank Pembangunan 2011).

The western Malay Basin and the Penyu Basin are located off the east coast of Peninsular Malaysia, while a

number of subbasins are held within the major Sabah and Sarawak basins off the west coast of Borneo.

Offshore of northeast Borneo lie the two small basins of Sandakan and Tarakan’s northern extension.

The majority of offshore hydrocarbons are distributed across three main basins: the Malay basin in the

west, and the Sarawak and Sabah basins in the east. The Malay basin holds oil and gas accumulations and is

divided into the northern and southern fields. The southern Malay field holds oil and associated gas, while the

northern Malay field mostly holds gas resources. Malay is a mature basin and has been in production for

decades and covers approximately 83,000 square kilometers (km2) (Bishop 2002). The Sarawak basin contains

eight geological regions, four of which are considered to be the major plays. Sabah currently holds 1.5 billion

barrels of oil and 11 trillion cubic feet (tcf) of gas (IEC Midas 2012).

Offshore reservoirs constitute most of the petroleum reserves in the country. The first offshore field began

production in 1968 (Nordas, Vante, and Heum 2003). The depletion of mature oil reservoirs, however, has

motivated the country to pursue deep-water exploration. The first deep-water discovery was the Kikeh oil field

in 2002. Most of the country’s oil reserves are located in the Malay basin (PetroMin 2010). In 2010 the Tapis

field 209 km off the east coast of Peninsular Malaysia in the Malay basin (Thu 1983) contributed half of all

Malaysian oil production (PetroMin 2010). Going forward, it is estimated that deep-water fields will constitute

between 20 to 30 percent of production in the next decade (Parshall 2011). Currently there is only one deep-

water field in production capacity; others are still in their development phases.


Oil reserves in Malaysia have been generally on a rise since 1980. Over the past two decades, oil reserves

increased from 3.6 billion barrels in 1990 to 5.9 billion barrels in 2011 (BP 2012), but most of Malaysia’s oil fields

are mature and in the decline phase. Estimates for 2016 predict a decrease in oil reserves down to 4.9 billion

barrels (Business Monitor International 2012). On the other hand, natural gas reserves have been steady over

the past two decades. Gas reserves in 2010 amounted to 86 tcf, constituting around 1.2 percent of world

0%

5%

10%

15%

20%

25%

30%

35%

0

20

40

60

80

100

120

70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10

Sh

are

of

Va

lue

Ad

d

Va

lue

Ad

d (

Bn

$)


141

reserves and ranking fourth largest amongst the Asia-Pacific countries (BP 2011). The current gas reserves are

at almost the same levels as of 1996. Under current production rates, oil and gas reserves are expected to last

for 28 and 39 years, respectively. Overall, maintaining the reserve base has been a key pillar in Malaysia’s oil

and gas sectoral policy, which is centered on ensuring long-term supply security while providing affordable

fuel to the growing population and consumption (EIA 2011). Table 5.5 provides a snapshot of the oil and gas

industry in Malaysia.

Table 5.5 Snapshot of the Oil and Gas Industry in Malaysia (2010) % Change

2011

% of world

Global rank

1 yr 3 yrs 5 yrs 10 yrs

Oil proved reserves, billion bbl 5.9 0.4% 23 0.0% 0.0% 7.3% 29.1% Oil production, mmbpd 573.0 0.7% 46 -10.9% -13.0% -16.1% -17.9% Oil consumption, mmbpd 608.3 0.7% 29 0.7% 2.6% 2.1% 17.0%

Gas proved reserves, tcf 86.0 1.2% 15 0.0% 1.6% 2.2% -3.4%

Gas production, bcfd 6.0 1.9% 45 -1.3% -3.6% -4.3% 27.9% Gas consumption, bcfd 2.8 0.9% 27 -10.5% -15.3% -14.7% 9.0% Primary energy consumption, million toe 69.2 0.6% 31 -2.1% 0.3% 2.3% 32.6%


Note: bbl = barrels; bcfd = billion cubic feet per day; boe = barrel of oil equivalent; mmbpd = million barrels per day; tcf = trillion cubic feet; toe = tons of oil equivalent.

Oil production has been relatively stable since the mid-1990s, despite the dip following the peak production of

2004. Production in 2011 reached 573 million barrels per day (mmbpd), decreasing from 762 mmbpd in 2004.

On the other hand, oil consumption has been on a rise, and the country moved to a net importer position in

2011 as can been seen in Figure 5.8 (BP 2012). Gas production has been on an upward trend increasing from

20.4 bcm in 1991 to 66.5 bcm in 2010 (Figure 5.8). The government had recognized the potential for gas

production early on and developed plans for sustaining domestic demand, and for increasing exports of gas

through extensive transport systems (Nordas, Vante, and Heum 2003). But it is expected that gas production

would start its gradual decline phase starting at 60 bcm in 2012 to reach 15.5 bcm in 2025 (ETP 2010). Gas

consumption showed a similar trend to production, increasing from 11.6 bcm in 1991 to 35.7 bcm in 2010 (BP

2011).

Figure 5.8 Evolution of Oil and Gas Production and Consumption in Malaysia, 19912011

Source: BP 2012.

Malaysia has one of the most widespread pipeline networks for transportation of natural gas in Asia. The

Peninsular Gas Utilization project exceeds 1,400 km, and can transport 56 million cubic meters per day.

Malaysia, Singapore, and Indonesia are now connected via the Trans-Thailand-Malaysia Gas Pipeline System, a

step toward the realization of the Trans-ASEAN Gas Pipeline (TAGP) system, linking the producers and

consumers in Southeast Asia (PetroMin 2010). Transport is carried out mostly by the Malaysia International

Shipping Corporation (MISC) with Petronas as a major shareholder (62 percent).

0

100

200

300

400

500

600

700

800

mbpd

11100908070605040302010099989796959493929190

Oil Production (mbpd)Oil Consumption (mbpd)

0

1

2

3

4

5

6

7

10 11

bcfd

09080793 94 95 989796929190 0605040302010099

Gas Consumption (mbpd) Gas Production (mbpd)

142

Going forward, Petronas will be aggressively exploring around 5060 planned wells with a focus on

increasing recoverability from mature basins through enhanced oil recovery (EOR) (Parshall 2011).

Additionally, $4 billion was allocated in 2011 for exploration and development of deep-water projects (Yunus

2011). To this end, Petronas has recently signed PSAs for the use of EOR technologies with Shell Malaysia. The

EOR contracts, with an investment of $12 billion over 30 years, will be applied in two oil field projects72

offshore East Malaysia (Abdullah 2012).


The governance model of the petroleum sector in Malaysia appears to be highly controlled by the state,

through the office of the prime minister in the absence of a dedicated ministry for oil and gas (Lahn and others

2007). The prime minister has direct control over the energy sector as well over Petronas. The energy policy in

Malaysia is set and overseen by the Economic Planning Unit (EPU) and the Implementation and Coordination

Unit (ICU), which also report directly to the prime minister (EIA 2011). Policy design, targets, regulation, and

operations functions are performed by individual departments within the NOC, Petronas. The Petroleum

Management Unit (the regulator) is Petronas’ division responsible for planning, investment, and regulation of

all upstream activities.

All IOCs’ operations are carried out by means of PSAs with Petronas—by 2009, there were a total of 72 PSAs

(INTSOK 2010). Petronas’ subsidiary Petronas Carigali also participates in the PSAs with IOCs (ETP 2010). In

1985 Petronas was granted the right for at least 15 percent equity in PSAs with all foreign and private

companies (EIA 2011).

The Petronas board is appointed by the prime minister, and rights to all exploration and production (E&P)

projects in Malaysia are held solely by Petronas. Its business activities include (i) the exploration, development,

and production of crude oil and natural gas in Malaysia and overseas; (ii) the liquefaction, sale, and

transportation of liquefied natural gas (LNG); (iii) the processing and transmission of natural gas and the sale

of natural gas products; (iv) the refining and marketing of petroleum products; (v) the manufacture and sale of

petrochemical products; (vi) the trading of crude oil, petroleum products, and petrochemical products; and

(vii) shipping and logistics relating to LNG, crude oil, and petroleum products (Petronas 2012a).

Downstream activities are regulated by two ministries: the Ministry of International Trade and Industry

(MITI), which issues processing, refining, and petrochemical production licenses; and the Ministry of Domestic

Trade and Consumer Affairs (MDTCA), which issues licenses for marketing and distribution of petroleum

products.


Looking at the oil and gas sector in Malaysia since its inception over a century ago, one can identify three major

milestones marking its development. The first milestone was the foreign-dominated days during the colonial

era, when oil was discovered. The second was the Malaysian government enactment of the Petroleum

Development Act, soon followed by the founding of the state company, Petronas (Bank Pembangunan 2011).

The third milestone was the period of oil depletion marked by Malaysia’s ambitious moves on local and

international fronts.

Oil’s discovery in Malaysia dates back to 1910. The players enabling oil exploration and development in

the early days were the IOCs. Shell was the first and the major operator to discover and develop oil in

Malaysia. In fact, the first discovery of 1910 was announced by Shell, on Canada Hill in Miri city northwest

Sorawak (Abdullah 2012). During the period leading to World War II, oil and gas exploration, drilling, and

general activity experienced a slowdown; colonial policy concentrated on profitable exports such as tin and

rubber (Curtin 2004). It wasn’t until after independence in 1957 that oil and gas began to surface as a major

sector in Malaysia. During the 1960s, oil and gas discoveries were made and vast offshore resources were

72 The EOR PSAs will cover nine fields in the Baram Delta off Sarawak and four fields in the North Sabah development area.

143

found. Shell held on to its legacy, and led the upstream activities during the 1960s, to be followed by Esso and

Conoco. The three main companies together dominated production, refining, and sales of petroleum products

in Malaysia (Bank Pembangunan 2011).

Following World War II and through the period of independence and toward the 1960s, a drive toward

economic nationalism was witnessed in Malaysia (Martin 2006). This drive was seen to affect the oil and gas

sector through the parliament’s enactment of the Petroleum Development Act in 1974. The new legislation

marked the second milestone in the development of the petroleum sector in Malaysia. The law prioritized the

state interest in all petroleum activities making the state the sole owner of all hydrocarbon resources. The law

also created the state company, Petronas, and ensured its involvement in all upstream and downstream

activities, with direct reporting to the prime minister’s office.

Petronas’ partnering with IOCs for the exploration and development of oil and gas resources has

undoubtedly transformed the local knowledge and capabilities capital, but the IOCs often remained the

providers of technology especially in Malaysia’s oil and gas formation, which is dominated by technology

demanding offshore and deep-water fields. This was evident in the country’s first LNG plant, where Shell took

over the technical development and Mitsubishi carried out sales and marketing (Nordas, Vante, and Heum

2003). Alongside IOCs dominating upstream technology (mainly for offshore and, recently, deep-water

activities), Petronas started gas operation activities in 1984, and oil operation activities in 1991. Petronas’s E&P

subsidiary Caligari carried out gas exploration and development in Duyong and production began there in

1984, whereas the first oil field to be operated locally was offshore Dulang in 1991 (Nordas, Vante, and Heum

2003).

Local capabilities were witnessed in the downstream sector particularly in the petrochemical industry. The

Malaysian government was successful in forming three major petrochemical clusters containing international

and local companies operating throughout the entire oil and gas value chain. The most diversified of the

petrochemical clusters is in Kertih, Terengganu; the second is the Gebeng hub; and the third is the Pasir

Gudang (MIDA 2011). The Petronas Petrochemical Integrated Complex (PPIC), for example, was formed in

Kertih and contains gas-processing plants, petrochemical plants, utility facilities, training centers, tankage

facilities, and two ports.

Following the high production period of the 1980s, it was estimated that oil production would begin its

decline. With reserves-to-production ratios decreasing, some estimates predicted oil depletion would be

realized in 2012. This has stirred the authorities to new policies with regard to Malaysia’s petroleum resources.

Petronas’ 2011 annual report clearly stated the new direction for petroleum resource management, as follows:

“PETRONAS has identified Enhanced Oil Recovery (EOR) and CO2 Management as

critical Exploration and Production (E&P) areas to build capability that will extend the life

of our current assets, improve hydrocarbon recovery and enable the development of

challenging assets”.

In parallel, Petronas is widening its scope of operation abroad. Currently, Petronas operates internationally

through partnerships with IOCs in 32 countries.73 Until 2005 Petronas had 101 wholly owned subsidiaries, of

which 57 operate outside Malaysia. Subsidiaries partly owned by Petronas were 19 with 3 overseas.

Additionally, Petronas was associated with 28 local and 29 overseas companies (Petronas 2005). The company

employs over 33,944 people, and has total assets of $34 billion.

73 Algeria, Indonesia, Argentina, Iran, Australia, Japan, Benin, Mauritania, Cambodia, Morocco, Cameroon, Mozambique, Chad,

Myanmar, China, Nigeria, Cuba, Pakistan, Egypt, Philippines, Equatorial Guinea, Russia, Ethiopia, South Africa, India, Sudan,

Thailand, Timor Leste, Turkmenistan, United Kingdom, Uzbekistan, and Vietnam.

144


The Kumpulan Wang Amanah Negara, also referred to as the National Trust Fund (NTF), was created by the

Law 339 of 1988 with the purpose of securing national wealth and making use of the country’s resources for

future investment. The imminent depletion of Malaysia’s natural resources, particularly oil and gas motivated

authorities to form the NTF for the benefit of future generations. The NTF is under the direct control of the

Prime Minister’s Office. Earlier, contributions to the NTF came mainly from Petronas’ revenues, allocated

through its annual budget (CPPS 2008), but in 2011 the contribution modality was amended (World Bank

2012a). Going forward, Petronas will be contributing annually based on strata that depend on the Weighted

Average Realized Price (WARP) of oil per year. The strata enforced were as follows (Petronas Group 2012c):

If the WARP is less than $70 per barrel, the contribution to the NTF is RM 100 million (approximately

$31.4 million)

If the WARP is between $70 and $100 per barrel, the contribution is RM 500 million (approximately

$157 million)

If the WARP is more than $100 per barrel, the contribution is RM 1 billion (approximately $314

million).

Petronas contributed RM 1 billion to the NTF in 2011 as the WARP was above $100 per barrel. The fund’s

cumulative assets reached RM 5.68 billion (approximately $1.8 billion) by year-end 2011 (Petronas Group

2012c), up from RM 3.8 billion (approximately $1.1 billion) in 2008 (CPPS 2008). The assets of the NTF are

negligent compared to oil-rich countries such as Kazakhstan whose national oil fund accumulated

approximately $25 billion in 2010 (Faizuldayeva 2010).

There was a lot of criticism around the lack of transparency and public disclosure in the governance model

of NTF. The Democratic Action Party (DAP), an opposition party in Malaysia, voiced its criticism in its 2010

Alternative National Budget proposition. It even suggested the remodeling of the NTF into a National

Stimulus Fund to be activated by injecting funds in cases when economic indicators show GDP growth rates

below 2 percent (DAP 2010).



LCPs originate from the Petroleum Development Act of 1974 that bestowed the ownership of the national

petroleum resources to Petronas. The objectives of the law were to:

Provide affordable petroleum resources to the local market

Build the foundation for forward links

Secure local involvement and control of both upstream and downstream segments (Nordas, Vante,

and Heum 2003).

In relation to the third point, the mission statement of Petronas has always included a general commitment

to the developing and expanding of the country’s industrial base, as well as developing local capabilities.

More recently, and at the government level, backward link from the petroleum industry became a part of

the national development plan of the country. Under the 2020 development plan, the Malaysian government

aims at “strengthening value creating activities in the oil and gas value chain” and aspires to transform

Malaysia into a hub for OFSE for Asia and the Middle East (Pemandu 2010). By achieving this, the government

forecasted the creation of 40,000 jobs and the contribution of RM 14.3 billion to the country’s GNI by 2020

Figure 5.9.

145

Figure 5.9 Malaysia: Forecasted Contribution of the Energy Sector to the 2020 Gross National Income (RM billion)

Source: Based on data from Pemandu 2010.

5.3.2 Policy Tools

Local-content-related policy tools in Malaysia derive from the horizontal policies linked to the overall ETP and

vertical policies specific to the oil and gas industry. Overall, the country uses a mix of regulations, incentive-

based and capability-building programs to achieve the objectives discussed above. Petronas has been

Malaysia’s main “vehicle” for the oil sector LCPs through its participation in PSAs and its policies focusing on

developing the local workforce technical skills and the efficiency of the local supply industry (Tordo and others

2011). Given below are the different policy tools employed for the achievement of these objectives.

Building Local Capabilities in the Petroleum Sector

Under the PSA terms of 1996, production sharing (PS) contractors are required to:

Minimize the employment of foreign workforce—to this end, the recruitment of foreign personnel

requires the approval of Petronas

Train internal Malay personnel—this includes the provision of capability development programs that

enable Malay personnel to replace the expatriate workforce

Commit a minimum monetary amount to be allocated to the training of Petronas personnel, the

amount being contract specific

Offer on-the-job training to personnel of the NOC, upon the request of Petronas.

All training costs are cost recoverable. In addition to the provision of training programs, every PS

contractor is subject to an annual research contribution equivalent to 0.5 percent of the sum of cost oil and

contractor’s share of profit oil.74 The research contribution is tax-deductible.

In parallel to the terms imposed on PS contractors, Petronas has heavily invested in building oil-and-gas-

related capabilities. On this front, the NOC has established four educational and training institutions and an e-

learning platform, as it has been sponsoring Malaysian students to pursue tertiary education in the country

and overseas.

Petronas established the Universiti Teknologi of Petrona1 (UTP) in 1996, which hosts over 5,000 students in

engineering and technology-related academic programs. The school is locally recognized for its programs as it

has established several industry and academic partnerships. In addition to this university, Petronas established

74 This is equivalent to 0.5 percent [cost oil + profit oil – Petronas share of profit oil].

131.423.1

53.8

7.4

47.120.3

14.3

4.08.5

E&P Business

Opportunities

Baseline

Growth

Multiplier Total GNI

Impact

2020 GNI2009 GNIEnergy Total EPPs

241.0109.6

OFSEDownstream

146

the Maritime Academy of Malaysia (ALAM) in 1983. The ALAM is a one-stop training center for maritime

activities, and is owned and operated by Petronas and is a branch campus of the World Maritime University. In

addition the ALAM has several partnerships with leading maritime educational bodies around the world.

To develop the technical capabilities of its employees, Petronas founded in 1983 the Institut Teknologi

Petroleum of Petronas (INSTEP). Originally, the INSTEP was designed to offer programs for oil and gas

technicians. Over time, the institute evolved to offer technical programs to technicians, engineers, and technical

executives. The institute has engaged most multinational companies operating in Malaysia as it has offered

training services to other NOCs and partners with Petronas, such as Premier Oil of Myanmar, PetroVietnam,

and Sudapet of Sudan. For managerial capability development Petronas established its Leadership Centre in

1992, which offers programs across all disciplines relevant to Petronas’ activities (Petronas 2012b).

In addition to the above-mentioned institutions, Petronas developed an online e-learning platform. The

available materials are accessible not only to Petronas’ employees, but also to government agencies as well as

the private sector.

Since 1975 Petronas has sponsored more than 11,000 students to pursue secondary education and over

19,000 students to pursue tertiary education at home and abroad (Petronas 2012b). The evolution of the number

of students between 1975 and 2005 sponsored for tertiary education is presented in Figure 5.10. The share of

students that pursued studies overseas was 38 percent of the considered period (Petronas 2005).

Figure 5.10 Malaysia: Number of Scholars Sponsored by Petronas, 1975–2005

Source: Adapted from Petronas 2005.

On another front, and under the government’s plan to develop OFSE capabilities, a study has been under

way to look at the gaps between the demand for OFSE talent and supply from academic institutions. The study

serves as a basis for a series of programs that will ensure the adequate supply of qualified talent to future oil

and gas projects in Malaysia. More specifically, the programs are expected to:

Create sustainable links and initiatives

Catalyze university-industry collaboration

Support oil and gas international training programs to be done in Malaysia (MPRC 2012).

As a starting point, two programs have been launched:

The Pilot Internship Program for Engineering Consultancy Services

The National Talent Enhancement Programme.

The objective of the first program is to develop hands-on engineering consultancy capabilities for third-

year engineering students through a 10-week internship. Well-defined company selection criteria and

evaluation guidelines have been laid out. At this stage five memoranda of understanding (MOUs) have been

signed, each extending for five years. The companies and universities engaged in this program are presented in

Table 5.6. Going forward the plan is to expand the structure of the internship program to other OFSE

0

200

400

600

800

1,000

1,200

1,400

1,600

19991995 200320011997 20051993199119891981 1983 1985 19871975 1977 1979

147

disciplines. Companies engaged in this program are offered a double tax deduction incentive for the expenses

incurred on the interns75 (MPRC 2012). In line with the first program, the second program uses a similar

structure while focusing on fresh graduate talents with less than two years of work experience.

Table 5.6 Companies and Universities Engaged in the Malaysian Government’s Internship Program

Companies Universities

MMC Oil and Gas Engineering Kebangsaan Malaysia

Aker Engineering Malaysia Sains Malaysia

Perunding Ranhill Worley Putra Malaysia

Technip Geoproduction Malaya

RNZ Integrated Teknologi Malaysia

Source: Based on data from MPRC 2012.

In relation to labor laws affecting the employment of expatriates by OFSE suppliers, we note that

Malaysian company law links the size of paid-up capital to the number and type of expatriate work visas that

may be requested and obtained by a company (DoS 2012).

Domestic Sourcing of Goods and Services

Traditionally, Petronas has been the main driver for the domestic sourcing agenda in the Malaysian oil and gas

sector. Petronas requires PS contractors to domestically source all goods and services incidental to upstream

activities or source them directly from the manufacturer if not locally available. Procurement from foreign

countries requires the approval of Petronas (Nordas, Vante, and Heum 2003). As per the NOC’s procurement

process, suppliers of OFSE must receive a license from Petronas to be considered. Foreign suppliers can obtain

the license in case they partner with local firms or act as contractors. If incorporated locally,76 foreign suppliers

are restricted to a 30 percent equity stake (DoS 2011).77

On another front, and to encourage the engagement of local supplier in oil and gas activities, Petronas has

been holding a touring “clinic” initiative. The clinic offers a platform for local suppliers to interact with

Petronas staff—local suppliers learn about the online procurement system of the NOC as they get help in

registering and accessing future opportunities. These include opportunities associated with the international

activities of Petronas.

Incentives for the Manufacturing Sector

The Malaysian government, through the Malaysian Investment Development Authority (MIDA), extends a set

of fiscal incentives for companies investing in the domestic manufacturing sector. These incentives derive from

the Income Tax Act and Customs Act of 1967, Sales Tax Act of 1972, Excise Act of 1976, Promotion of

Investments Act of 1986, and Free Zones Act of 1990 (MIDA 2012). The major incentives include the Pioneer

Status and Investment Tax Allowance (ITA) that are extended based on the level of value-added, technology

sophistication, industrial links, and other parameters.

A Pioneer Status enables the company to enjoy partial exemptions from income tax over five years; tax is

applied on 30 percent of statutory income.78 In addition, companies can carry forward any unabsorbed capital

allowances and accumulated losses incurred during the pioneer period. Alternative to the Pioneer Status,

companies can qualify for ITA. Under ITA, a company is extended an allowance of 60 percent on its qualifying

75 For details visit http://sip.talentcorp.com.my/about.php. 76 Such a restriction applies to other sectors such as legal services, engineering services, taxation and accounting services,

professional services, telecommunications, advertising, financial and insurance services, and banking services (DoS 2011). 77 Shipping activities are restricted to Malaysian registered vessels. Foreigners are permitted to hold a 70 percent stake in shipping

and logistics companies and 49 percent in forwarding agencies. The limitation also applies to vessels that support oil and gas

operations. 78 After deducting revenue expenditure and capital allowances from the gross income (MIDA 2012).

http://sip.talentcorp.com.my/about.php

148

capital expenditure.79 In addition, and on a yearly basis, the company with ITA status is allowed to offset its

allowance against 70 percent of its statutory income. Unutilized allowances can be carried forward and the

company is taxed on the remaining 30 percent of its statutory income (MIDA 2012).

Companies engaged in high technology activities80 are extended Pioneer Status with 100 percent income

tax exemption of their statutory income or ITA with allowance against 100 percent of their statutory income. To

qualify for any of these exemptions, companies must spend at least 1 percent of their gross sales on domestic

R&D and at least 15 percent of the company’s workforce should have a scientific and technical background

with a minimum five years of experience. Similar, yet extending for a longer period, exemptions are offered to

Strategic Projects81 and the Machinery and Equipment Industry. In addition, fiscal incentives are extended to a

local company82 that acquires a foreign-owned manufacturing company located abroad and engaging in high-

technology activities for the purpose of utilizing the acquired technology in existing operations within

Malaysia (MIDA 2012).

In addition to the above, companies engaged in manufacturing activities are eligible for other exemptions such

as reinvestment allowances, accelerated capital allowances, and tax exemption on the value of increased

exports. Small- and medium-sized enterprises (SMEs) and small-scale manufacturing companies are also

extended additional exemptions (MIDA 2012). Traditionally, all fiscal incentives are linked to performance

requirements specific to every manufacturing license. Performance requirements are in the form of export

targets, local content requirements, and technology transfer requirements. Failure to deliver on the agreed

targets subjects the company to losing the extended benefits and its manufacturing license ultimately. Over the

long run, the government intends to phase out all fiscal incentives (DoS 2011).

Developing a Domestic OFSE Industry

Under the ETP and to achieve the government’s objective of transforming Malaysia into a hub for OFSE, three

initiatives have been launched. A description of the initiatives with their aspired contributions to the GDP and

expected jobs to be created is presented in Table 5.7.

Table 5.7 Malaysia: Industry Strategy, Expected Contribution to GNI, and Jobs to be Created

EPP

Contribution to 2020 GNI Jobs to be created

Billion RM Share of Energy

EPPs %

# of Jobs Share of energy

EPPs %

Attract multinationals to bring their global oil field service and equipment operations to Malaysia.

6.1 9.6 20,000 42.4

Consolidating the domestic fabricators. 4.1 6.4 5,000 10.6

Develop engineering, procurement, and installation capabilities and capacity through strategic partnerships and JVs.

4.0 6.3 15,000 31.8

Total 14.2 22.3 40,000 84.8


Note: GNI = gross national income; EPP =Entry point projects; JV = joint venture.

Under the first initiative, the government’s ambition is to bring 40 percent of the regional business of 1020

multinational OFSE companies to Malaysia. This will be done through offering incentive packages, developing

required infrastructure, and promoting Malaysia as a regional hub for OFSE. More specifically, to deliver these

incentives and facilitate cross-border investment, the Malaysia Petroleum Resources Corporation (MPRC) was

79 Factory, plant, machinery, or other equipment costs incurred within five years from the date the first qualifying capital

expenditure is incurred. 80 List of activities are available on http://www.mida.gov.my/env3/uploads/images/invest/invest-pdf/APP2_02032012.pdf. 81 “Involve heavy capital investments with long gestation periods, have high levels of technology, are integrated, generate extensive

links, and have significant impact on the economy” (MIDA 2012). 82 Locally established with at least 60 percent Malaysian equity ownership.

149

established in 2011. The MPRC administers programs to support Malaysian oil and gas companies in

identifying business opportunities in other countries and to encourage global petroleum companies to enter the

Asia Pacific Market using Malaysia as their platform. The latter is called the GIFT Program, and it is delivered

jointly by the MPRC and LFSA (Labuan Financial Services Authority) through offering a set of incentives. The

program’s incentives include: a flat 3 percent of chargeable income as corporate tax rate, an exemption on gross

employment income for non-Malaysian professional traders and others in a managerial capacity of the Labuan

International Trading Companies of 50 percent, and a 100 percent exemption on non-Malaysian director fees.

By 2011 five companies had joined the GIFT program including: Vitol Trading, YTL Power International

Bhd, BB Energy, and the Rotterdam Group. Going forward, the MPRC is planning on expanding the program’s

outreach and attracting more companies to base their operations in Malaysia through a number of international

road shows and through hosting international events (Ministry of Energy Green Technology and Water 2011).

Under the second initiative, the government aims at achieving economies of scale and gains in efficiency

through driving consolidation in the industry. Operationally, the consolidation effort will be led by Petronas

and supported by government agencies. The NOC will limit the number of awarded licenses to fabricators

open for the intervention of consolidation as it will expand the scope of awarded contracts, rather than doing

that in tranches (Pemandu 2010).

Today the Malaysian OFSE fabricators are less competitive than regional players. Overall, the industry is

fragmented with five major local players. Most players experience low revenues and profit margins. According

to Malaysian fabricators:

Locals need to enhance capacity to enjoy economies of scale and drive cost down

Productivity needs to be enhanced for local fabricators to become more competitive

Cannot compete with China and Singapore when it comes to contracts in the Middle East

Locals must be integrated in order to be more competitive

High import content for materials impedes cost-competitiveness (Pemandu 2010).

Going forward, additional mergers and acquisitions are being negotiated with the target of having two

additional mergers/acquisitions finalized by the end of 2012.

Looking at the value chain of OFSE, the Malaysian industry lacks local capabilities in engineering,

procurement, and installation (as shown in Figure 5.11). To close this gap, the government will offer incentive

packages for world-class multinational OFSE companies to establish joint ventures with local players. On this

front, the government aspires that the established joint ventures will enable local companies to gain 15 and 50

percent of the Asia-Pacific OFSE market in shallow water and deep water respectively.

Figure 5.11 Malaysia: Skills Gap in the OFSE Industry


Note: Cells shaded in grey reflect EPPs related to the backward link of the petroleum industry.

MMC KNMMME

Sime Darby

SapuraCrest

PetroleumSapuraCrest Petroleum

CommissioningInstallationConstructionProcurementEngineering

AkerSolutionsCameron

Rolls Royce

Keppel Corporation

HyundaiHeerema

Cameron

Rolls Royce

Technip McDermott Halliburton

Lo

ca

l

Pla

ye

rs

Wo

rld

Cla

ss

Mu

ltin

ati

on

als

Sk

ill

Ga

p

150

5.3.3 Policy Channels

In Malaysia, LCPs related to the oil and gas sector derive from:

The Petroleum Mining Act of 1966

The Petroleum Development Act of 1974

Petroleum-sharing contracts

The Companies Act 1965

The Economic Transformation Program 2010.


Local-content-related institutional responsibilities are mainly split between Petronas, the MPRC, and the

MIDA. Petronas has two dedicated units responsible for the design and implementation of local-content-

related initiatives: the supply chain management unit and the unit of education. Pemandu was established

under the prime minister’s office in 2009 with an objective to drive progress and oversee the delivery of the

Government Transformation Programme and the ETP (Pemandu 2012). Additionally, Pemandu’s role is to

support other governmental entities in the planning process and delivery of objectives and to report

performance and progress to the prime minister and other ministers. In relation to OFSE, Pemandu oversees

and reports on the progress of the three ETP initiatives.

The MPRC was created in April 2011 as a permanent government agency under the prime minister’s office. The

agency started its operations in July of 2012 with an overall objective of transforming Malaysia into the leading

regional hub for OFSE by 2017. The agency’s key responsibilities include:

Recommending a restructuring road map for the domestic OFSE industry to increase its

competitiveness and set it on a growth path

Overseeing OFSE activities and coordinating cluster activities

Creating an attractive environment for multinationals through streamlining administrative processes

and developing attractive incentives

Promoting the local OFSE industry.

At this point, the agency has a board of four members representing the government, Petronas, and the

MIDA. The MPRC is foreseen to comprise of 20 full-time employees with an expected annual operating budget

of RM 5 million and a capital requirement of RM 6.8 billion to ensure the success of its mission. The agencies

work engages the different industry stakeholders including government agencies, financial institutions, and

domestic and foreign oil and gas companies.

5.3.5 Interlinks

As discussed earlier, the LCPs in the oil and gas industry are part of the country’s economic development plan.

Thus, there is a high interlink between the sector-specific policies and other sectoral and cross-sectoral policies.

In fact as per the ETP, there are six cross-sectoral strategic reform initiatives, four of which are relevant to the

backward link of the petroleum sector:

Implementation of competition laws, adoption of international standards, and a liberalization of the

services program shall all contribute to making local industries competitive in the international arena

and attract FDI

Reforming of public finance through the adoption of efficient broad-based taxes and reforming of

fiscal policies and institutions

Improvement of the performance of public services, and transformation of the role of the government

into a lean, efficient, and facilitative one

Development of the country’s human capital

Streamlining of the government’s role in business.

151

Specific to the development of local capabilities, the overall plan is to:

Modernize labor legislation

Focus on up-skilling and upgrading the workforce

Strengthen human resource management

Leverage on women’s talent to increase productivity

Undertake a labor market forecast and survey program

Enhance labor safety net by introducing unemployment insurance (Pemandu 2012).

In addition to the above cross-sectoral reform initiatives, international trade has been a key pillar of

Malaysia’s economic development. As a member of the World Trade Organization (WTO) since 1995, the

country’s trade policy has been focused on supporting global trade liberalization and ensuring a fair trade

environment. In pursuit of these goals, Malaysia has also signed several bilateral and regional trade

agreements (Ministry of International Trade and Industry 2008).

As a member of the WTO, Malaysia has participated in WTO negotiation rounds and has made several

commitments related to trade in goods and services. Negotiations on trade in services have covered

liberalization and regulation of services sectors, in addition to regulations related to government procurement

and subsidies. In such negotiations, developing countries have been seeking increased market access in several

services subsectors such as telecommunications, financial, environmental, construction, distribution, maritime

transport, and professional services, particularly architecture and engineering. Malaysia’s position on these

negotiations has been in support of “offering market access for foreign services providers only in sectors where

domestic suppliers are ready to compete and contribute to the development of the sector” (Ministry of

International Trade and Industry 2008). To date, Malaysia has made commitments under the General

Agreement on Trade in Services (GATS) in the following sectors: business and professional services,

communications services, construction and related services, financial services, transportation services, health-

related social services, tourism and travel-related services, and recreational and cultural services (Ministry of

International Trade and Industry 2008). So far, no cases or complaints have been raised against Malaysia

regarding its oil sector LCPs by any WTO member (WTO 2012b). But depending on the direction of these WTO

negotiations, liberalization in sectors such as engineering services as well as in government procurement may

have a direct impact on Malaysia’s oil sector LCPs.

In addition to its WTO commitments, Malaysia has signed several bilateral and regional trade agreements.

Today, Malaysia has bilateral trade agreements with Japan, Pakistan, New Zealand, India, Chile, and Australia,

and it is a member of the Association of Southeast Asian Nations (ASEAN) free trade area. As a member of the

ASEAN, Malaysia is also part of the ASEAN-Japan, ASEAN-China, ASEAN-Korea, ASEAN-India, and ASEA-

New Zealand/Australia trade agreements (Ministry of International Trade and Industry 2008). The country’s

bilateral and regional trade agreements cover liberalization and reduction in tariffs on trade in goods and

services as well as facilitation of cross-border investment and economic cooperation (Ministry of International

Trade and Industry 2008). Most of these agreements, however, have attempted to exclude or maintain a certain

level of protectionism in government procurement, mining and natural resources sectors, and oil-sector-related

services, such as engineering services. For instance, the Malaysia-Australia Free Trade Agreement covers

engineering services but allows commercial presence only through a representative office, regional office, or a

locally incorporated corporation of Malaysian individuals or Malaysian controlled or both. Additionally, the

agreement limits the aggregate foreign shareholding in the joint-venture corporation to 30 percent. Moreover,

R&D services are permitted with no restriction, except for those involving Malaysia’s natural resources.

Another example is the trade agreement with India, where the investment provisions exclude government

procurement (Investment Provision of the Malaysia-India Trade Agreement).

Going forward, Malaysia is negotiating several new trade agreements including a trade agreement with

Turkey, a trade agreement with the European Union (EU), the Trans-Pacific Agreement, Trade Preferential

System-Organization of Islamic Conference (TPS-OIC), and Developing Eight (D-8) Preferential Tariff

Agreement (PTA) (Ministry of International Trade and Industry 2008). The result of these negotiations may

152

also impact the Malaysian oil sector’s LCPs. For instance, negotiations with the EU specifically cover

government procurement, where a dedicated working group has been established to negotiate this area

(Ministry of International Trade and Industry 2008).


On the ETP front, each initiative is associated with well-defined targets and key performance indicators (KPIs).

For the OFSE EPPs (entry point projects), the KPIs and 2011 targets are presented in Table 5.8.

Table 5.8 Malaysia: OFSE EPPs, KPIs, and Targets for 2011

EPP KPI 2011 Target

Attract multinationals to bring their global oil field service and equipment operations to Malaysia.

Amount of investment made by OFSE multinationals.

RM 320 million

Consolidating the domestic fabricators. Number of successful merger of fabricators. 1

Develop engineering, procurement, and installation capabilities and capacity through strategic partnerships and JVs.

Number of JVs between multinationals and local OFSE companies.

2

Source: Based on data from CIMB 2012.

Note: EPP = entry point project; KPI = key performance indicator; JV = joint venture; OFSE = oil field services and equipment.

Monitoring of the progress is continuously managed by Pemandu. Limited information is available around

Petronas’ internal monitoring and measuring procedures in relation to the NOC’s local-content-related

activities.


Information around the achieved local content levels in OFSE is limited. Nordas, Vante, and Heum (2003)

report that local companies captured 74 percent of the value of OFSE contracts in 1995.

Under the government ETP, the goal is to transform Malaysia into a regional hub for OFSE. Thus, the local

content level in OFSE is not tracked. On the other hand, progress against set targets is monitored continuously.

Progress for the year 2011 is presented in Table 5.9.

Table 5.9 Malaysia: OFSE-related EPP Progress over 2011, and Target for 2012

KPI 2011 Target 2011 Actual 2012 Target

Amount of investment made by OFSE multinationals RM 320 million RM 454 million —

Number of successful merger of fabricators 1 1 2

Number of JVs between multinationals and local OFSE companies 2 2 2

Source: Based on data from CIMB 2012.

Note: EPP = Entry point project; KPI = key performance indicator; JV = joint venture; OFSE = oil field services and equipment.

Under the first EPP, Schlumberger launched a manufacturing plant for marine and land seismic equipment

in July 2011. The plant is expected to combine local talent with international expertise. By the end of 2012, the

plant is expected to employ 300 people. Under the same ETP, five trading companies have signed up to the

Global Incentive for Trading Program, offering these companies with fiscal incentives to use Malaysia as a base

for the Asia-Pacific markets. As for the second EPP, the Marine and Heavy Engineering Holdings (MMHE)

acquired Sime Darby’s fabrication yard for RM 393 million in March 2012 (Mahalingam 2012). The acquisition

made the MMHE the largest Malaysian fabricator. Going forward, two mergers or acquisitions should be

concluded by the end of 2012. Under the third EPP, the global leader in conformity assessment and certification

services recently acquired a Malaysian company specialized in asset integrity management services. The

company is expected to compete in the Southeast Asia region. Other multiple joint venture agreements were

also facilitated.

153

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156

6. Trinidad and Tobago

The petroleum sector sits at the heart of this Caribbean island, population 1.3 million. In 2008 the sector

contributed to 40 percent of the country’s GDP, 58 percent of government revenues, and 88 percent of exports

(World Bank 2008). Trinidad and Tobago (T&T) has a long history in the petroleum sector that dates back to

1908, when oil was first produced. Under the British colony, until 1962, the country supplied a major share of

the British Empire oil consumption, which reached 40 percent in 1930 (Muclshansingh 1971). While oil

production peaked in 1978, natural gas production has been on an increase and major discoveries have been

made in the 1990s. In 1998 T&T started exporting liquefied natural gas (LNG) to become the fifth-largest LNG

exporter and major supplier of LNG to the United States.

Historically, T&T’s government has played an active role in developing select sectors in the economy

through industrial and import substitution policies. Such policies achieved mixed results. More recently, the

government adopted a modern approach to productive development policies centered on addressing market

failures83 (Moya, Mohammed, and Sookram 2010). In relation to local content in the petroleum sector, the topic

first appeared in T&T in the year 2000 when the government agreed to the establishment of Policy Guidelines

for the Utilisation of Local Goods and Services for Government and Government Related Projects. Early efforts

were driven by the private sector, mainly the National Energy Business Alliance84 and the Energy Chamber of

T&T. Four years later the Ministry of Energy and Energy Affairs (MMEA) developed a Local Content and

Local Participation Policy Framework specific to the energy industry and appointed a Permanent Local

Content Committee. The policy framework was officially launched in 2006 (MENAS 2008).

This latter effort was driven by a national strategic plan. In 2005 a national committee finalized Vision 2020

Strategic Plan that was approved a year later by the parliament. The plan calls for the adoption of sustainable

development and the transformation of T&T into a developed country by 2020 through:

Developing innovative people

Nurturing a caring society

Governing effectively

Enabling competitive business

Investing in sound infrastructure and environment (National Committee 2005).

Overall, the country aims at increasing its gross national product (GNP) versus GDP and the production

of higher-value-added goods and services directed toward export markets. Driven by its central role to the

economy, future developments, and low levels of local capture, which were around 10 percent, the energy

sector was at the center of this strategic plan (MEEA 2006) The first goal for the energy sector within the

strategic plan was “to encourage local players within the energy sector” (National Committee 2005).

As argued by the MEEA: “Local Content is intended to aid the Government’s sustainable development

goals by providing economic opportunities for T&T businesses to capture greater value-added and by allowing

locals to have more meaningful participation in the energy sector and its decision making process” (MEEA

2011). Despite all these developments, there is an absence of a well-articulated local content strategy that

83 A review of productive development policies adopted in T&T is presented by Moya, Mohammed, and Sookram (2010). 84 Represents a group of organizations involved in the energy sector.

157

includes measuring and monitoring tools. Today, T&T is at the early stages of implementing local content

policies (LCPs) as it is faced by the challenge to replenish its depleting reserves.


In the 2011 Global Competitiveness Report, the World Economic Forum (WEF) improved its rating of T&T for the

second consecutive year, placing the country 81st out of 142 countries. This is a five-position improvement

from the 2009 placement. T&T ranks well above neighboring Haiti and Venezuela (141st, 124th), though it is

behind more-developed Latin American economies such as Brazil and Colombia (53rd, 68th). Financial market

development is T&T’s most noteworthy strength relative to other similarly competitive economies. Quality of

education in the Caribbean nation is also highly ranked (37th of 142) (WEF 2011); however, there is still room

for improvement especially in tertiary and vocational education (MSTTE 2011). Additionally, improvements

can be pursued in the government bureaucracy, which now makes doing business in T&T more challenging

than similarly developed economies.

6.1.1 Economy

As of the early 1960s, T&T’s economy has been highly dependent on revenues from hydrocarbon resources.

Windfall revenues experienced from the rise in oil prices during the oil embargoes of 1973 and 1982 instigated

rises in income, expansion of public sector employment, and improvement in physical infrastructure and living

conditions. But a large share of expenditure was not channeled into sustainable development. Such

expenditures included production subsidies and high public sector salaries. The latter led to the inflation of

overall labor cost throughout all sectors of the economy, hindering the competitiveness of the nonhydrocarbon

sectors of the economy. To this end, a limited number of jobs were created in competitive sectors.

Following the depression in oil prices experienced in the 1980s, T&T’s economy has undergone a severe

contraction. Compared to 1982, per capita GDP in 1993 dropped by 44 percentage points and the

unemployment rate almost doubled to reach 20 percent. Coupled with limited development in competitive

areas, the economic contraction has led T&T’s government to cut on the high levels of spending, thus cutting

on expenditure in social programs and reducing employment in the public sector. Coupled with other

structural factors, this has led to a higher unemployment rate and ultimately to an increase in poverty levels. In

response to this situation, T&T embarked on pursuing an economic reform plan centered on achieving

macroeconomic stability to reduce the country’s economic exposure to volatility in oil prices, economic

diversification away from the hydrocarbons sector, upgrade and expansion of the country’s infrastructure,

development of the private sector, and reform of the public sector’s institutional capacities.

Today, T&T is considered a high-income developing country. The country experienced strong growth in

its GDP over the last decade, reaching $22.5 billion in 2011. This growth has been fueled by the hydrocarbon

sector and related inward investments. The 2008 global recession had a high impact on the growth of the

economy given its high dependency on natural gas exports. GDP per capita is among the highest of Latin

American economies. Following the economic reforms experienced in the 1990s, the country has been enjoying

macroeconomic stability. More recently, T&T has been experiencing a surplus in the fiscal balance with

moderate inflation rates. Table 6.1 presents key economic indicators for T&T. As noted in Vision 2020, T&T is

challenged with increasing sustainable economic development beyond the petroleum sector. The sector

accounts for half of the government revenues and over 90 percent of foreign direct investments (FDI). As

shown in Figure 6.1, petroleum products have always dominated the value of T&T’s exports. In 2010

petroleum products constituted 73 percent of the value of exports. Chemicals were the second-largest exports

by value (WTO 2012b).

158

Table 6.1 Key Economic Indicators for T&T, 1980–2010

1980 1985 1990 1995 2000 2005 2006 2007 2008 2009 2010


GDP per capita (constant 2000 $) 6,947 5,702 4,912 5,071 6,311 9,102 10,265 10,715 10,960 10,556 10,516

Inflation, CPI (%) 3.6 5.5 4.1 3.8 3.7 6.9 8.3 7.9 12.0 7.0 10.5

Real interest rate (%) 3.2 12.4 18.7 1.2 2.8 -6.9 9.0 -0.8 -7.8 48.8 4.6

Exchange rate (LCU per $) 6.3 6.2 6.2 6.3 6.3 6.3 6.3 6.3 6.3 6.3 6.4

Trade (% of GDP) 104.6 99.9 95.0 90.0 96.7 104.8 107.0 100.6 103.0



Figure 6.1 T&T’s Exports by Commodity, 1980–2010 ($ billion)

Source: Based on data from WTO 2012a.

6.1.2 Taxation

T&T revenues from taxes constituted 26 percent of the country’s GDP in 2009. This rate is in line with the

United Kingdom and at the higher end of neighboring Latin American countries (Figure 6.2). The Finance Act

of 2006 streamlined the tax regime in T&T. The country applies a flat income tax rate of 25 percent and a value-

added tax rate of 15 percent.85 The corporate tax rate in T&T is low relative to the regional rates (World Bank

2011a), and companies are taxed as either “resident” or “nonresident” based upon the location of their

management. Resident companies, controlled from T&T, are taxed based on their global profits. Nonresident

companies, managed outside of T&T are to pay taxes on profit accrued from doing business in T&T (Inland

Revenue Division 2012).

85 Value-added tax (VAT) is zero percent for certain items.

9%

10%18%

6% 8% 6% 7% 11%

6%6%3%

2%

1%

6%7%3%

3%

1%

18%

25%

3%

94%

20052000

3%

100%

2%

2.02.1

48%

17%

66%

4.1

15%

1985 19901980 1995 2010

68%

9%

2.5 4.3

65%

9.9

80%

11.0

73%

Clothing

Fuels

Other

Chemicals


Iron and steel

159

Figure 6.2 T&T’s Tax Revenues and Corporate Tax Rate Compared to Other Countries, 2009 and 2010

Source: Based on data from CIA 2012; Deloitte 2012; World Bank 2011a.

Note: For Angola and Tanzania tax revenues reflect 2011 levels and include social contributions—such as payments for social security and hospital insurance—grants, and net revenues from public enterprises.


Since the late 1980s T&T’s population has been growing at a rate of less than 1 percent annually. Totaling 1.36

million in 2010, the population is expected to continue growing at a slow pace until it peaks around 2025, and

eventually declines to the level of year 2010 by 2050. The labor force in T&T has reached its peak in size in 2010.

The elderly population is growing and is Figure 6.3 presents the evolution of T&T’s population by age group.

Figure 6.3 Evolution of the T&T Population and Labor Force over Time)


Backed by the economic growth, the unemployment rate in T&T reached its historical low level of 4.6

percent in 2008 (WTO 2012b). Affected by the global recession, the unemployment rate increased to 5.4 percent

in 2010. The knowledge base of T&T’s labor force is limited relative to other mature economies and oil

producers. The percentage of the labor force with tertiary education in Australia, Canada, Norway, and the

United Kingdom is more than twice that of T&T. In addition, the mean of years of education of T&T’s labor

10%

Indonesia 11%

Uganda 12%

Canada 12%

Russia 13%

Brazil 16%

Chile 16%

Malaysia 16%

Australia 22%

Netherlands 23%

South Africa 26%

United Kingdom 26%


Norway 27%

Angola

OECD 14%

Kazakhstan 8%

India

43%


28%

Norway 28%

Canada 28%

Uganda 30%

India 30%

Australia 30%

Brazil 34%

Angola 35%

Russia 20%

Kazakhstan 20%

Chile 20%

UK 24%


Netherlands 25%

Malaysia 25%

South Africa

Indonesia 25%


0%

10%

20%

30%

40%

50%

60%

70%

80%

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

Mil

lio

n P

eo

ple

60+

50-59

40-49

30-39

20-29

10-19

0-9

% 15 - 64

160

force is in line with the United Kingdom but lower than that of Australia, Canada, and Norway. Table 6.2

presents a summary of indicators on T&T’s labor force in comparison to select countries.

Table 6.2 T&T Labor Force Indicators Compared to Select Countries, 2010




Unemployment, total (% of total labor force)


Angola 7.1 n.a. n.a. n.a. 4.4 127 25.0

Australia 11.8 27.3 38.9 33.8 12 1597 5.2

Brazil 101.6 n.a. n.a. n.a. 7.2 300 8.3

Canada 19.0 13.5 40 46.5 12.1 1903 8.0

Indonesia 11.8 n.a. n.a. n.a. 5.8 133 7.1

Kazakhstan 8.8 n.a. n.a. n.a. 10.4 n.a. 6.6

Malaysia 12.0 18.3 56 21.1 9.5 n.a. 3.7

Norway 2.6 19.9 43.5 35.8 12.6 3609 3.6

South Africa 18.2 15.8 74.2 5.2 8.5 543 23.8

Tanzania 22.1 n.a. n.a. n.a. 5.1 59 10.7

T&T 0.7 25.3 63 11.1 9.2 n.a. 5.4

Uganda 13.4 n.a. n.a. n.a. 4.7 3 4.2

UK 31.8 19.2 44.4 35.4 9.3 1655 7.8

Source: Based on data from World Bank 2011a; UNDP 2010.

Note: Educational attainment data for Australia, Canada, Malaysia, South Africa, and T&T represent year 2008 levels. Unemployment data for Brazil, Kazakhstan, Malaysia, South Africa, and Uganda represent year 2009 levels.


6.1.4 Education

T&T is committed to developing a “more diversified knowledge intensive economy.” In a demonstration of

this commitment, the Ministry of Science Technology and Tertiary Education spent $2 billion between 2000 and

2010 toward enhancing postsecondary education. The expenditure was a success, boosting tertiary enrollment

from 7 percent in 2001 to 40 percent in 2008 with plans to achieving 60 percent enrollment by 2015 (MSTTE

2011). Achieving this target will put tertiary enrollment in T&T above that of the United Kingdom in 2009.

Additionally, the Ministry of Education (MEO) increased expenditure per primary student by 54 percent

from 2007 to 2009. Enrollment in primary education in T&T is below that of Australia, Norway, the United

Kingdom, and the overall OECD average. Youth and adult literacy rates are strong in T&T at 99.6 percent and

99.8 percent, respectively. See Table 6.3 for a comparison of education in T&T to other countries.

Table 6.3 T&T Educational Indicators, 2010

Literacy rate (%) School enrollment (%) Public expenditure on education (% of GDP)

Adult (15+) Youth

(1524) Primary Secondary Tertiary

Angola 70.1 73.1 85.7 11.5(a) 3.7 3.6

Australia n.a. n.a. 97.1 85.5 79.9 5.1(a)

Brazil 90.3(a) 98.1(a) 94.1(b) 82.0(b) 36.1(a) 5.4(b)

Indonesia 92.2(b) 99.5(b) 95.9 67.3 23.1 2.8(b)

Kazakhstan 99.7 99.8 89.5 88.2 38.5 3.1(a)

Malaysia 93.1 98.4 n.a. 67.9(a) 40.2(a) 5.8(a)

Norway n.a. n.a. 99.1 93.9 74.4 6.5(b)

South Africa 88.7(c) n.a. 85.1(a) n.a. n.a. 6.0

Tanzania 73.2 77.3 98.0(2) n.a. 2.1 6.2

T&T 98.8 99.6 93.9 n.a. 40(b) 3.8(d)

Uganda 73.2 87.4 90.9 n.a. 4.2(a) 3.2(a)

UK n.a. n.a. 99.6(a) 96(a) 58.5(a) 5.4(b)

Source: Based on data from Gomes and Weimer 2011; UNDP 2010; World Bank 2012; MSTTE 2011.

Note: (a) year 2009, (b) year 2008, (c) year 2007, (d) year 2006 data.


161


Government bureaucracy, corruption, and a poor work ethic are three of the main issues raised by the WEF

report of 2012 (WEF 2011). A close look at the governance indicators in T&T shows that compared to year 2000

the country has fallen back on all governance indicators in 2010. As shown in Figure 6.4, the country still has a

long way to go to achieve the Organisation for Economic Co-operation and Development (OECD) levels.

Overall, the country was ranked 68 out of 183 in the Doing Business indicators of 2012. The time spent to start a

business in T&T is 42 days, 31 more than in the OECD countries. Another notable impediment attributed to

bureaucracy is registration of property, which takes 162 days—over five times as long as in the OECD

countries on average. Construction permitting is another weakness, averaging 297 days—145 days longer than

the OECD average. T&T is relatively efficient at providing access to electricity and credit (World Bank 2011b),

but bureaucratic delays can be frustrating to investors (DoS 2011). A comparison of indicators of the ease of

doing business in T&T and the OECD countries in presented in Table 6.4.

Figure 6.4 Governance Indicators in T&T Compared to the OECD Average


0

20

40

60

80

100Voice and Accountability

Political Stability/Absence ofViolence

Government Effectiveness

Regulatory Quality

Rule of Law


T&T 2010

T&T 2000

OECD 2010

162

Table 6.4 Indicators for Doing Business in T&T in Comparison to OECD Average, 2012




T&T’s economy relies heavily on the petroleum sector. As shown in Figure 6.5, the sector has historically

contributed 30 to 40 percent of the country’s GDP. Compared to other countries, the intensity of the petroleum

sector in the economy is similar to that of Kazakhstan, Norway, and Malaysia (Figure 6.6). On the employment

front, the sector has historically employed around 3 percent of the labor force (Central Bank 2012).

T&T OECD T&T OECD1. Starting a business 6. Protecting InvestorsProcedures (#) 9 5 Extent of disclosure index (0-10) 4 6

Time (days) 43 12 Extent of director liability index (0- 9 5

Cost (% of income per capita) 0.9 4.7 Ease of shareholder suits index (0- 7 7

Paid-in min capital (% income per cap) 0 14.1 Investor protection strength (0-10) 6.7 6


2. Dealing with Construction Permits 7. Paying TaxesProcedures (number) 17 14 Payments (number per year) 39 13


Cost (% of income per capita) 6 45.7 Profit tax (%) 21.6 15.4

Rank (Change in rank from 2011) 93 (-5) Labor tax and contributions (%) 5.8 24


3. Getting electricity Total tax rate (% profit) 29.1 42.7


Time (days) 61 103

Cost (% of income per capita) 7.9 92.8 8. Trading across bordersRank (Change in rank from 2011) 24 (0) Documents to export (#) 6 4





Cost (% of property value) 7 4.4 Cost to import (US$ per container) 1546 1085

Rank (Change in rank from 2011) 175 (-4) Rank (Change in rank from 2011) 52 (0)

5. Getting Credit 9. Enforcing ContractsStrength of legal rights index (0-10) 8 7 Time (days) 1340 518


Public registry coverage (% of adults) 0 9.5 Procedures (number) 42 31

Private bureau coverage (% of adults) 46 63.9 Rank (Change in rank from 2011) 169 (0)


10. Resolving InsolvencyTime (years) 4 1.7




163

Figure 6.5 T&T: Contribution of Mining, Manufacturing, and Utilities to Value-added, 1970–2010


Figure 6.6 T&T and Select Countries: Breakdown of Value-added by Economic Activity in 2010 ($ billion)



Oil production started in earlier days of the 20th century in the southern areas of Trinidad. The country had its

first offshore development in 1955, and since then production has shifted further to the east and more recently

to the north coast areas. Overall, the country is a mature hydrocarbon province with future developments

expected to come from deep-water areas of the east and north, and the shallow water marginal fields. It must

be noted that T&T is endowed with untapped offshore heavy-oil reserves estimated to range between 2,600

and 5,000 million barrels (McGuire and others 2009).


T&T’s oil production peaked in 1978 at 230 million barrels per day (mmbpd) and has been on a decline

since then. The 2011 country’s reserves stand at 800 million barrels with production output of 135.9

mmbpd. On the gas front, T&T’s proved reserves stand at 14.2 trillion cubic feet (tcf). Production of

natural gas has been on an increase (11 percent compound annual growth rate [CAGR] between 2000 and

0%

5%

10%

15%

20%

25%

30%

35%

0

50

100

150

200

250

300

70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10

Sh

are

of

GD

P

GD

P (

Bn

$)


5%

8%

8%

6%

10%

5%

6%

8%

5%

6%

6%

15%

11%

18%

13%

13%

11%

8% 12%

12%

19%

12%

7%

45%

33%

43%

25%20%

39% 38%

22% 23%

51%

1%

2%

1%

5%

11%

14%

UK

2,236

14%

6%

10%

Uganda

17

12%

21%

12%

7%8%

20%

Indonesia

883

12%

29%

100%

Trinidad

& Tobago

24

36%

0%

8%

16%

South

Africa

377

24%

3%

13%

Norway

402

33%

4%

8%

Malaysia

304

32%

8%

3%

20%

Kazakhstan

159

30%

4%

7%

11%

Canada

1,637

20%

1%6%

10%

Brazil

2,066

19%

5%

5%

14%

Australia

1,296

19%

2%

7%

9%

Angola

85

50%

9%

8%

6%



Construction

Manufacturing



Other Activities

164

2010) putting further pressure on the country’s depleting reserves. To reverse this, the government has

recently improved its upstream fiscal terms to attract exploration activities in deep waters. Table 6.5

provides a snapshot of the oil and gas resources in T&T and Figure 6.7 presents the evolution of oil and

gas production.

Table 6.5 Snapshot of the Oil and Gas Industry in T&T 2011 % Change

2011 % of World Global rank 1 yr 3 yrs 5 yrs 10 yrs

Oil proved reserves, billion boe 0.8 0.1 42 0.0 0.0 -4.7 -26.2

Oil production, mmbpd 135.9 0.1 32 -6.5 -9.9 -11.8 -12.3

Oil consumption, mmbpd 34.4 — 67 -3.5 -2.5 1.8 35.2

Gas proved reserves, tcf 14.2 0.2 33 5.3 -1.7 -16.6 -31.9

Gas production, bcfd 3.9 1.2 9 -4.2 0.2 4.3 125.7


Primary energy consumption, million toe 21.5 0.2 58 -2.8 4.8 8.0 69.3



— Not available.

Figure 6.7 T&T: Evolution of Oil and Gas Production, 1970–2010 (in million tons of oil equivalent)


To meet its local oil consumption, T&T complements its domestic production with imports from

Venezuela, Brazil, West Africa, and Colombia. Domestic and imported oil is refined locally and mainly

consumed in the transportation sector. As for natural gas, around half of the production is exported via four

liquefied natural gas (LNG) terminals with a total capacity of 15.1 million tons per year. Over half of the

remaining production is directed to the domestic petrochemicals industry and the rest split mainly between

power generation, the industry, and the energy industry’s own use (IEA 2011).


The petroleum sector in T&T is mainly governed by the Petroleum Act of 1969 and its amendments. Petroleum

resources are owned by the citizens of T&T and the state acts as the custodian of these resources (McGuire and

others 2009). The MEEA assumes policy development and regulatory responsibilities. As stated by the

ministry, these responsibilities include:

Formulation and implementation of sectoral policies and legal instruments

Management of the state’s interests

Leasing and/or licensing of exploration and production (E&P) areas

Regulation and management of development and production activities

0

5

10

15

20

25

30

35

40

45

50

1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

Gas Oil

165

Administration of domestic marketing of petroleum products, natural gas transmission/sales,

petrochemical manufacture, and other natural-gas-based industries.

Government policies require approval from the cabinet. The ministry is supported by a Standing

Committee on Energy chaired by the prime minister and including the ministers and permanent secretaries of

energy and finance and heads of various state companies.

On the operations front, companies are engaged in upstream activities through production sharing

agreements (PSAs). There are three model agreements customized for oil and gas activities in onshore,

shallow-water, and deep-water activities. Traditionally, PSAs require the approval of the parliament.


Upstream, there are 35 local and international companies engaged in oil and gas operations, including

Chevron, British Petroleum (BP), and British Gas (BG). Among these companies is the Petroleum Company of

T&T Limited (Petrotrin). Petrotrin, wholly owned by the government, was incorporated in 1993 and mandated

to engage in the petroleum value chain from exploration to distribution. The company owns and operates the

only refinery in the country. The company is the result of several mergers and acquisitions outlined in Figure

6.8.

Figure 6.8 T&T: Evolution of Petrotrin

Source: Based on data from Petrotrin 2012.

Another state-owned company is the National Gas Company of T&T Limited (NGC), established in 1975.

The company is responsible for the purchase, transportation, and distribution of natural gas to industrial users.

In addition, the NGC is part of the Atlantic LNG company responsible for the liquefaction and export of LNG

(Table 6.6).

Table 6.6 T&T: Capacities and Shareholders of LNG Plants (1999, 2002, 2003, 2006)

ALNG Train 1 ALNG Train 2 ALNG Train 3 ALNG Train 4

Startup date 1999 2002 2003 2006

Capacity (mtpa) 3.3 3.3 3.3 5.2

Sh

are

ho

lde

rs BG 26% 33% 33% 29%

BP 34% 43% 43% 38% GDF Suez 10% NGC 10% 11% Repsol YPF 20% 25% 25% 22%

Source: Based on data from Deutsche Bank 2010.

In addition, T&T has a well-developed industrial base. The country produced ammonia, urea, methanol,

iron, and steel. Most of the production facilities engage foreign companies, as shown in Table 6.7. Downstream,

another state-owned company, the National Petroleum Marketing Company, is one of two companies licensed

to carry out petroleum products marketing activities (WTO 2012b).

SHELL

(1956-1974)

UBOT

(1912-1956)

TRINTOC

(1974-1985)

TRINTOC

(1985-1993)

TLL

(1911-1956)

TEXACO

(1956-1985)

BP

(1956-1969)

TESORO

(1969-1985)

TRINTOPEC

(1985-1993)

PETROTRIN

(1993)

PETROTRIN

(2000)

BP, TEXACO,

SHELL

(1952)

TRINMAR,

TEXACO,

PETROTRIN

TRINMAR LTD.

(1993-2000)

TEXACO,

TESORO,

SHELLL

(1969-1974)

TEXACO, TESORO,

TRINTOCO

(1974-1985)

TPD (1918-1961)

APEX (1919-1960)

KTO (1920-1961)

166

Table 6.7 T&T: Energy-Intensive Industrial Base by Company

Company Product Country of origin of main shareholders

PCS Nitrogen Ammonia and urea Canada

Point Lisas Nitrogen Limited Ammonia United States

Nitrogen 2000 Ammonia T&T/Germany

Caribbean Nitrogen Company

Ammonia T&T/Germany

Tringen Ammonia T&T/Norway

Yara Ammonia Norway

Methanol Holdings Trinidad Limited

Methanol T&T/Germany

Methanex Methanol Canadian

Mittal Iron and steel United Kingdom

Nu Iron Iron and steel United States

Source: Adapted from Energy Chamber 2009.

The downturn experienced in the 1980s has strongly affected the domestic base of suppliers in the oil and

gas industry. Many companies closed and others ramped down their operations. The T&T Central Statistical

Office reports that there are around 400 small- and medium-sized enterprises (SMEs) providing services to the

energy industry on T&T, 250 of these being engaged with upstream petroleum operators. The activities these

companies engage in include the provision of goods, equipment rental, maintenance, and consulting services.

Of these companies, three are believed to be among the top ten providers of goods and services to the T&T

petroleum sector.


Driven by the volatility in oil prices and the increase in the domestic production of natural gas, the government

of T&T created an Interim Revenue Stabilization Fund (IRSF) in 2000. In 2007 the fund was enacted by the

parliament, which changed its name to the Heritage and Stabilization Fund (HSF). The objective of the fund is

to invest the surplus from petroleum revenues to support public expenditure in case of a downturn caused by

oil and gas prices or depletion of resources. In addition, the fund is supposed to “provide a heritage for future

generations” (Finance 2010). The fund is governed by a board of governors composed of five members who are

appointed by the president. Management of the fund is delegated to the central bank of T&T.

As a starting point, the accumulated funds in the IRSF were transferred to HSF. These totaled in $1.3

billion. Subsequently, the fund has been financed from its own investments as well as from petroleum

revenues86 in excess of 10 percent of expected revenues87 on quarterly basis. At least 60 percent of the excess

revenues shall be transferred to HSF. Based on the defined objectives, HSF’s funds can be withdrawn in case

petroleum revenues for any year are lower than expected revenues by at least 10 percent (Mcguire 2009). By

September of 2010, HSF had accumulated $3,621 million. The evolution of HSF’s funds is presented in Figure

6.9.

86 As defined by the Petroleum Taxes Act. Signature bonuses and revenues from gas liquefaction and other midstream activities are

not included (Mcguire 2009). 87 In case revenues exceed expected revenues by less than 10 percent, the minister of finance can still transfer the money to HSF.

167

Figure 6.9 T&T: Evolution of Funds, September 2001–September 2010 ($ billion)

Source: Adapted from Mcguire 2009; HSF 2010.



The overarching driver for LCPs in T&T is the Vision 2020 strategic plan of 2005. The plan has put the increase

of local industries involvement in the energy sector value chain as the first objective. Objectives, actions, and

stakeholders engaged to achieve this goal are presented in Table 6.8.

Table 6.8 T&T: Vision 2020, Goal 1 for the Energy Sector

Objective 1: To boost local involvement in the energy sector facilitated by government activities

Actions Owner

Develop policies to maximize the level of local participation and equity ownership in the sector value chain. PLCC

Assess opportunities/feasibility for state/private sector investment within the value chain in and outside of T&T. PLCC

Establish policy to cause operators to partner with local institutions to develop training programs and pursue research and development projects.

MEEA, MoTI

Adopt and implement policy on local content and participation to facilitate local participation and partnering in new ventures, sustainable development, and so on.

PLCC, MEEA

Review regulatory framework regarding investment in energy projects toward inclusion of local participants (for example, financiers, investors, service providers, and so on).

MEEA, MoF

Establish a certification process of international benchmarking for local energy-based companies, goods, and services.

MEEA

Evaluate options and methods for the divestment of state holdings in energy companies. MoF

Objective 2: To Define Metrics, Targets, Measures, and Requirements for Local Content

Actions Owner

Define metrics and establish targets to track upstream performance, percentage of in-country expenditure/activity.

MEEA, PLCC

Identify and empower agencies responsible for policy implementation and monitoring. PLCC

Establish processes and framework to enable transparent measurement, management, and reporting on percentage expenditure/local content.

PLCC

Define, develop, and implement an independent framework to measure local content and targets for local participation in subsector activity.

PLCC

Develop an “audit system” for local content. PLCC

Energy companies to develop a “Local Content/Sustainable Development Charter,” which defines targets and strategies for increasing local content in projects and operations.

Operators, PLCC

Establish a special fund to support domestic investment in services that do not currently exist locally. MoF

Source: National Committee 2005.

Note: MoF = Ministry of Finance, MoTI = Ministry of Trade and Industry; PLCC = Permanent Local Content Committee; MEEA = Ministry of Energy and Energy Affairs.

Compared to other countries, local content in T&T has broader objectives, scope, and definition. Two

interlinked objectives are separately mentioned in the policy framework of 2006:

0.16 0.16 0.250.45

0.64

1.35

1.68

2.89 2.96

3.62

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

IRSF HSF

168

Maximize the level of participation of T&T’s national people, enterprises, technology and capital

Maximize the value to the country from its assets (MEEA 2006).

These objectives are achieved “through the development and increasing use of locally owned businesses,

local financing and human capabilities.”88 The scope of these efforts covers “all activities connected with the

energy sector, along its entire value chain, within and outside of T&T.” Extending the scope to external

geographies is underpinned by a view that local capabilities will be essential to capture opportunities beyond

the borders of the island, and a plan to grow the country’s GNP.

In T&T local content is considered as the “usage of local goods and services, people, businesses and

financing.” More specifically, local content and participation imply local value-added that is defined in terms

of ownership, control, and financing by citizens of T&T (MEEA 2006). In its latest National Energy Policy

Consultations, the MEEA outlines the following potential benefits of LCPs:

Greater retention of foreign exchange earnings and export of services

Development of human capability in key areas of the sector

National development including new business and employment opportunities and increase in the

country’s GDP

Long-term sustainable development and growth

Export of local services and skills (MEEA 2010).

6.3.2 Policy Tools

In the policy framework of 2006, the government laid out the menu of high-level fiscal and nonfiscal

instruments that can be used to capture local content in T&T’s petroleum industry. The fiscal instruments

include:

Taxation and royalty policies

Government expenditure to capture value from the sector and to extend it by building local

capabilities that support the sector’s growth.

Nonfiscal instruments include:

Local participation—maximizing the depth and breadth of local ownership, control, and financing in

order to increase local value-capture from all parts of the value chain created from the resource,

including those activities in which nationals, local business and capital are not currently engaged, at

home and abroad

Local content—maximizing the level of usage of local goods and services, people, businesses, and

financing

Local capability development—maximizing the impact of the ongoing sector activities, through the

transfer of technology and know-how to:

o Enhance, deepen and broaden the capability and international competitiveness of our people

and businesses within the sector

o Create and enhance capabilities that are transferable to other sectors within T&T; and

o Create and support cluster developments with other industries that have a natural synergy

with the energy sector and which may have the capacity to diversify and/or sustain the

economy after the resource is depleted (MEEA 2006).

The policy framework also outlined an inclusive approach to maximize local content and participation,

outlined in Figure 6.10.

88 In the introductory notes of its local content and local participation policy framework, T&T admitted the limited availability of

local human and capital resources and that the country will still rely on foreign expertise and resources.

169

Figure 6.10 T&T: Approach to Maximizing Local Content and Participation

Source: Based on data from MEEA 2006.

Upon approval of the policy framework, PSAs were amended to include provisions on local content.

Contracts mandate operators to comply with LCPs issued by the cabinet. In addition, contracts outline local

content provisions on procurement and capability development aspects. On procurement:

Operators must maximize their utilization of local goods, services, and facilities

Within the work programs and budgets submitted to the MEEA, operators must indicate the level of

local content they intend on achieving

Contracts shall be unbundled, as much as economically and practically feasible, to match the timing,

and financial and human capabilities of local enterprises

Contracts shall be advertised locally ensuring access of local enterprises to all tenders

Tender evaluation processes should put a high weight on the local value-added.

On capability development, provisions include:

Priority to employing nationals

Recruitment and training of nationals to be consistent with the operator performance standards

Provision of training and development programs to enable nationals to replace expatriate personnel

Transfer of technology and business expertise in, but not limited to, the following areas:

o Fabrication

o Information technology support, including seismic data acquisition, processing and

interpretation support

o Operations and maintenance support

o Maritime services

o Business support services, including accounting, human resource services, consulting,

marketing and contract negotiations

o Financing

o Trading (MEEA 2012).

The employment side of local content is also managed through a work permit procedure. A Work Permit

Advisory Committee, chaired by the Ministry of National Security and represented by the MEEA, supports

local content objectives through (i) advising the minister on work permit decisions upon ensuring that locals

are not denied from jobs because of foreigners being employed and (ii) appointing a local successor to the

expatriate where expatriate employment is necessary.

170


The sources for LCPs are:

The Petroleum Act Chapter 62:01 and implementing regulations

The Fiscal Incentives Act, Chapter 85:04 as amended, which grants fiscal incentives to qualified

companies in areas that are considered important to economic development

The Foreign Investment Act, Chapter 70:07

The Unemployment Levy Act Chapter 75:03, which provides for training and relief employment for

the unemployed

The Petroleum Production Levy and Subsidy Act Chapter 62:02, which is used to fund subsidies on

petroleum products

The Local Content Policy Framework

Production-sharing contracts.


Appointed in 2004, the PLCC (Permanent Local Content Committee) was mandated to support the

implementation of the local content and participation framework (MEEA 2009). More specifically, the PLCC:

Develops policies and strategies that ensure the transfer of knowledge and technology that improve

local capabilities, in addition to business and the capital market

Updates local content and participation policies, as required

Ensures compliance with set policies.

The PLCC is chaired by the Energy Research and Planning Division (ERPD) of the MEEA, which also takes on

secretariat responsibilities. In addition to the ERPD, the PLCC engages representatives from the Ministry of

Works and Transport, Ministry of Local Government, Oilfield Workers Trade Union, the banking sector, and

other private sector representatives.89

On another front, the ERPD advises on policies related to work permits in the energy sector. It also:

Supports the formulation of LCPs

Acts as a focal point for the PLCC

Identifies critical skills in the energy sector and manages a related database

Advises on policies related to work permits in the energy sector and represents the MEEA on the

Work Permit Committee.

Another major contributor to the local content agenda is the Energy Chamber of T&T. The chamber, an

independent body, helps to:

Ensure that LCPs are implemented in all sectors of the energy industry

Monitor future projects and share information about potential opportunities for local companies

Develop a methodology for measuring what is a local company

Strengthen and update existing database of local companies and their scores

Identify export opportunities for local companies in regional/extra-regional markets

Encourage co-operation between local companies and facilitate investment into new equipment,

training, and so on

Lobby the government for changes to the customs and excise legislation and practices that hamper the

movement of equipment in and out of T&T

Educate member companies and the general public about the energy services sector, including the

local capacity and the potential for development (Marajh 2012).

89 The detailed structure of the PLCC is available in the Local Content and Local Participation Policy Framework document of 2004.

171

6.3.5 Interlinks

At the strategic level, local content activities led by the government are part of the country’s 2020 Vision. The

vision complements LCPs with educational and industrial policies, aimed at building local capabilities and

developing an industrial base for export. But some of these policies appear to be at odds with existing

international treaties. For instance, the 1994 Treaty between T&T and the Government of the United States of

America concerning the Encouragement and Reciprocal Protection of Investment should be renegotiated to

address the significant barrier presented by certain clauses of this Treaty. The treaty mandates T&T to accord

treatment to U.S. companies that is not less favorable than what is accorded to local companies (Governments

of T&T and United States 1994). Another issue is raised by the Caribbean Community90 (CARICOM) treaty,

which would require the inclusion of CARICOM nationals in LCPs. It must be noted that T&T has been a

member of the World Trade Organization (WTO) since 1995 and grants most favored nation (MFN) treatment

to all its trading partners. The country has to incorporate the WTO Agreements into its law to make it legally

binding (WTO 2012b).


While the government has laid out a policy framework in 2006, implementation remains piecemeal. As stated

by the MEEA, the main challenges at this stage are:

The absence of regulatory measures to ensure mandatory compliance with objectives local

participation in the energy sector

The development of institutional capacity for the implementation, monitoring and auditing of local

content targets

State support for programs to encourage research and development, technology transfer, skills

development and business incubation in the energy sector

Mobilization of local financing to support the services sector

The existence of bilateral treaties with other states, which seek to discourage the implementation of

local content program (MEEA 2006).

Overall, LCPs are not integrated in the government’s regulatory activities of the sector. More specifically,

there is absence of a well-defined monitoring and measurement system. For instance, more recent PSAs include

a provision mandating:

Operators to maintain records to facilitate the determination of the local content of expenditure

incurred for petroleum operations; these records shall include supporting documentation certifying

the cost of local goods, labor, and services used and shall be subject to audit by minister

Operators to report on their local content activities to the MEEA on a quarterly basis

Training and development programs to be approved by the MEEA and progress to be reported

quarterly

Monitoring of the transfer of knowledge and expertise to the appointed local successor, when an

expatriate is appointed.

But no guidance on certification of local content or reporting is outlined.


Within the regulatory context discussed above, most local content activities have been driven by the private

sector. In fact, a survey was recently carried out to evaluate the satisfaction of T&T’s oil and gas service

companies with LCPs. Results show that 51 percent of local companies are somewhat satisfied with the

government LCPs, and 44 percent are not satisfied. Local companies showed higher satisfaction rates with

multinationals efforts (Figure 6.11). The results were driven by the absence of a well-articulated policy and a

90 Includes 15 Caribbean nations.

172

perception that the government has not been active in promoting and pushing the local content agenda

(Energy Chamber 2009).

Figure 6.11 T&T: Survey of Domestic Services Companies

Source: Adapted from Energy Chamber 2009.

A major success story promoted in the country is the establishment of the first specialized fabrication yard

in the country in 2004. Driven by the need to increase local spend in upstream activities and its foreseen

investments, BP T&T supported the creation of a fabrication yard through establishing two joint ventures (JVs):

An engineering and construction management JV between the U.S.-based Fluor Company and local

engineering firm Summit

A fabrication JV, TOFCO, between the U.S.-based Chet Morrison Contractors and Weldfab Limited of

T&T.

Both JVs were to be initially mobilized for the development of the Cannonball project platform.

As a starting point, the first JV trained 40 nationals in the area of engineering and procurement and

assigned to them mentors from Fluor. Similarly, TOFCO trained its 230 employees, of which 184 where locals

(Arthur Lok Jack Graduate School of Business 2005).

Initially, BP was concerned with the cost of domestic fabrication. The company estimated that the domestic

fabrication of the Cannonbal platform would cost $10 million more than the $44 million cost of importing it.

Another concern was timely delivery. By the end of the project, the cost premium was $9 million as it achieved

a 40 percent local content in spending, 65 percent in project management hours, and 85 percent in fabrication

hours. These were significant achievements following previous near-zero levels.

Subsequently, the learning curve enabled BP to realize $11 million in cost saving over the Mango and

Cashima platforms. In addition, the TOFCO JV became competitive and won several bids. Today, the yard’s

facilities are used for manufacturing of topsides for large offshore platforms, jackets, and structures up to 3,000

tons (IPIECA 2011). Table 6.9 presents the local content in expenditure of platform fabrication in T&T.

Table 6.9 Total and Local Content Expenditure on Platform Fabrication in T&T

Date Capacity Total expenditure ($ million)

Local expenditure (%)

BP Cannonball Jacket and Deck 2005 1,000 ton jacket/900 ton 340.2 40

EOG Oilbird Jacket and Deck 2006 1,800 ton deck/2000 ton 606.1 39.30

BP Mango Jacket and Deck 2007 1,000 ton jacket/ 900 ton 504 25 BP Cashima Jacket and Deck 2007 1,000 ton jacket/ 900 ton 655.2 25 BG Poinsettia Deck 2009 1,300 ton drill deck/2800 ton 5,040 21 EOG Toucan Deck 2009 1,800 ton deck 696 30.90 BP Savonnette Jacket and Deck 2009 1,000 ton deck/2000ton 472.5 20 BHP Angustura Ventboom and Bridge 2009 500 ton bridge/120 ton 648.9 55

Source: Adapted from MEEA 2011.

Not Satisfied 44%

Somewhat

Satisfied51%

Satisfied 2%

Very Satisfied 2%

Satisfied 13%

Very Satisfied 0%

Not Satisfied 38%

Somewhat

Satisfied49%

Satisfaction with Government Local Content Policies Satisfaction with Multinationals Efforts on Local Content

173

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