Author: Christopher Ram

Esso Exploration and Production Guyana Inc. reports $6.5 billion loss in 2020

Introduction

Esso Exploration and Production Guyana Inc. (Esso), the largest of three partners in the Stabroek Block, with a 45% share under the 2016 Petroleum Agreement, has declared a loss of $6,516 million in 2020. This compares with a profit of $9,298 million earned by the Chinese-owned CNOOC (25%), and $6,877 million by the American-owned Hess (30%). Esso was granted an exclusive petroleum exploration licence in 1999 under a pre-discovery Petroleum Agreement over an area of Guyana’s waters that was larger than the entire country. Following the running of the clock, powerful arm-twisting of the GGMC officials and not a little bit of deception by Exxon, Raphael Trotman and the APNU+AFC Coalition Government questionably “renewed” the Agreement over the same area and under the same terms even though the Area had produced at least two known world class discoveries at the time.  

In this special Tuesday edition of this column, we review the audited financial statements of Esso for 2020, the first year of oil production in and by Guyana. Like its joint venture partners, Esso was incorporated in a tax haven in The Bahamas on 16 October, 1998 and is registered as an external company in Guyana. The Bahamian company is owned by ExxonMobil Global Holding Investment B.V. of the Netherlands which in turn is owned by the American company ExxonMobil, for several years rated the world’s No. 1 company by revenue. As readers are aware, the financial statements of CNOOC and Hess were reviewed in this column over the past two Fridays. But first some general comments.

While Article 2 of the Agreement describes Esso as the Operator charged with conducting the day-to-day activities of the three companies, none of the three companies acknowledge this fact or what it means in practice. Perhaps inadvertently, Esso uses the term “joint venturers” even as each of them presents financial statements that differ from each other in principle, content and presentation. The only things they seem to share are a studious avoidance of references to the 2016 Agreement, and financial statements that are intended to disclose as little as possible, if not to mislead.

The next column due this Friday, will identify some of the major issues of substance which define the three entities, or set them apart. For now, however, it seems clear to me that the three entities are not in compliance with the relevant International Financial Reporting Standard (IFRS) governing such operations.    

Income Statement

What stands out in the Income statement is that not a single line item of income or expenditure carries a note reference to explain and expand on the numbers. Readers are therefore left to figure out for themselves what comprises these numbers and what they mean. For example, as presented, no transactions are carried out with related parties, production is sold to non-Exxon companies, there is no cost for management support from Exxon and that the only related parties are Hess and CNOOC. If that is not the case, then, again, the financial statements do not comply with IFRS.

The Income Statement is so bare that the reader has no idea of what constitutes Exploration costs ($18,286 million) or the composition of Administrative expenses of $20,829 million. Revenue is reported at $75,429 million and total operating expenditure at $81,945 million leaving a loss for the year of $6,515 million. Interestingly, Explorations costs account for 24% of total income, Depreciation and amortisation accounts for 31.4%, Administrative expenses for 27.6% and Lease interest for 10.3%. The income statement also shows Royalty payment of $2,049 million which translates to 2.7 % of revenue compared with a rate of 2 % under the Petroleum Agreement.

Now, Esso and its partners have a production licence for the Liza One project but it openly charges against production income expenses incurred in exploring in other areas. This is unacceptable by any measure and should be rejected both by those, if any, regulating the oil companies as well as the tax authorities. Indeed, such barebone accounting by an international company, coupled with careless (mis) references to “home office” and “head office”, is a measure of the contempt in which Esso holds Guyana, its people and the local accounting profession. 

Unlike CNOOC and Hess, Esso, correctly in my view, does not make any provision for deferred tax asset, as the tax value of the loss in future years. Indeed, the word “tax” is not used anywhere in Esso’s financial statements or in the notes thereon.  

Balance Sheet and Cash Flow

The total assets of the Branch, net of depreciation and write-offs, have moved by $400,313 million to $971,473 million. Of this total, Property, Plant and Equipment accounts for $866,213 million or 89%. The major additions to this class of assets were $231,353 million in work-in-progress for Wells and facilities and $110,320 million in leased Drill Rig assets. Other significant items of assets are Related party receivable of $48,985 million, Trade receivable of $10,917 million and Inventory – Materials and Supplies of $28,501 million representing drilling of 2021 exploratory and development wells. There is an amount of $7,511 million as Deferred receivable as due from cash call bookings, net of joint billing costs.

While there has been a contribution of $436,519 million in equity contribution, some of this was used to reduce amounts owing to related parties of $140,961 million and to finance a receivable in related party of $48,985 million. Now if this did not come from sales, one is left to guess how it arose in the first place. The company boasts to the public that it pays no interest on capital contributed, but with significant portions of capital expenditure financed by leases, lease interest paid for the year was $7,768 million, up from $345 million in 2019!  Committed capital expenditure over the next three years is $359,941 million while its cash balance at the end of 2020 was a more modest $4,546 million. As these companies race to drill as much as they can, they will encounter a cycle of massive borrowings or/and may have to liquidate assets in other parts of the world to exploit their new crown jewel.

Government to pay $5,391 million Corporation Tax for oil companies reporting after tax profits of $16,175 million. 

Introduction

This second part of a mini-series on the three oil companies which operate the Liza 1 project under the Stabroek Block reviews the 2020 financial statements of the Guyana branch of Hess Guyana Exploration Limited (Hess). For the better understanding of the financial statements, the comments last week (Part 88) on the rules governing financial statements by CNOOC are applicable to Hess and Esso as well. But first, a few words on Hess.  

Hess is a branch of a Cayman Islands company of the same name. It was registered as an external company under the Guyana Companies Act on 28 October 2014 and holds a 30% interest in the Stabroek Block. The Cayman Islands company is owned by Hess Corporation, a public company in the USA, which claims on its website that its purpose is to be “the world’s most trusted energy partner”.

The income statement shows an Income Tax expense of $1,725 million, referring the reader to Note 9 which states that “the Branch is subject to corporate income tax at a statutory rate of 25% (2019: 25%)”. Tucked away in a note on the branch’s accounting policies, is the statement that under the Petroleum Agreement, certain taxes are settled by the Government on behalf of the Branch. The Agreement does not use the word “settled”: it provides unambiguously that “the tax assessed will be paid by the Minister”.  

Financials

Income Statement

According to Note 10 to the financials, the Branch in 2020 sold approximately one million barrels of crude oil to a related marketing subsidiary of its parent, receiving net proceeds of approximately G$7.8 billion, or US$37 per barrel. This compares with data in the parent company’s annual report which gives the price of Guyana crude of US$46.41 inclusive of hedging, and US$37.40 excluding hedging. Since the G$7.8 billion accounts for only 13% of total sales of $59,240 million, the obvious questions are how many barrels in total did the Branch sell and the process for selling the remaining 87% by value.  

From the $59,240 million, deductions are made for Cost of Sales $21,295 million (35.6% of sales revenue) and Depreciation, depletion and amortisation (DPA) of $24,893 million (42.0% of sales revenue), leaving a gross margin of $13,051 million or 22.0%. A separate note shows that cost of sales is made up of production expenses of $19,571 million, royalty of $$1,493 million and change of inventory of $230 million. Based on sales, royalty works out at 2.52%, which is 0.52% over what the Petroleum Agreement calls for. The DPA is made up of $24,811 million in respect of development assets, representing approximately 7% of development assets, and $82 million on Leasehold costs, representing 7.8% of Leasehold assets.

Deductions are also made for General and Administrative expenses of $4,292 million, inclusive of pre-development and pre-production costs of future projects, and Exploration expenses of $1,360 million, suggesting multiple cases of the revenue of Liza I bearing non-Liza 1 expenses. This is a violation of the principle of ringfencing which our regulators appear to miss both conceptually and practically and therefore fail to address. An earlier column has suggested that the absence of a specific ringfencing provision in the Petroleum Agreement is not fatal since the Minister can impose conditions in every production licence.  

The income statement also shows financing cost of $520 million arising from provision for decommissioning, for which new and additional provisions and revisions of $3,514 million were made in 2020. While the $520 million can be traced to the income statement, the category of expense under which the provision for decommissioning is charged is not immediately apparent. 

After all these costs are deducted from revenue, the Branch reports net income before taxation of $6,877 million, which but for the Petroleum Agreement would be subject to Corporation tax (25%) and to withholding tax (20%) on the deemed distribution branch profit tax (BPT). A deemed distribution is the balance of profit after the Corporation tax less any re-investment of such profits, subject to the approval of the Commissioner General. In 2020, the Branch’s reinvestment was considerably higher than the balance of profit so that while withholding tax most likely would not apply to year 2020, corporation tax does. It gets a bit tricky here. The Agreement states that such tax must be included in the taxable income of the Contractor, meaning that the $6,877 million has to be treated as if it is a post-tax amount, requiring grossing up.

Petroleum Minister (Mr. Vickram Bharrat) must find, within the next few days, $2,292 million to pay to the GRA the tax owed by Hess for 2020. Failure to do so would constitute a breach of the Petroleum Agreement and would also incur late filing penalty (10%) and interest (18% p.a.). Similarly, for CNOOC (see column # 88), the Minister is required to pay to the GRA Corporation Tax of $3,099 million on the grossed-up value of post-tax profit of $9,298 million earned by it. The total of Corporation Tax to be paid by the Government for CNOOC and Hess earning a total of $16,175 million in 2020 is $5,391 million. Ironically, the tax payable would have been much more but for the liberal accounting applied by the two Branches.  

Balance Sheet

The total value of assets of the Branch at yearend was $469,363 million of which Property, plant and equipment accounted for 91%, with the remainder spread fairly evenly over cash, receivables and deferred income tax asset. At December 31, Hess is also shown as having an advance to Esso of some $13,167 million while an amount of $14,879 million is shown as owing to Esso.   

The Branch’s bank balance at year end was $66 million while its commitments for capital expenditure on the Stabroek Block was approximately $544.0 billion (United States Dollars: $2.6 billion), “to be incurred over the next several years”.  It is unclear where this money will come from – at December 31, 2020 the parent company’s cash resources stood at US$1,739 million while its total debt and lease obligations stood at US$8,534 million.

Note: All figures in Guyana Dollars unless otherwise stated.

Introduction

With appreciation to the editor-in-chief of Stabroek News, this column which last appeared on April 17, 2020, is returning for a short series. It will feature the 2020 financial performance of the three companies which signed a petroleum agreement with the Government of Guyana for the Stabroek Block. The three companies are Esso, Hess and CNOOC which hold 45%, 30% and 25% respectively of the Block which has so far been hugely successful with a twentieth discovery – Longtail 3 – announced earlier this week. Each of the columns over the next three weeks will feature one of the companies, followed by a wrap-up synthesis of the three.

The Petroleum Agreement is largely silent on accounting rules except in relation to the documentation to be submitted to the Government in relation to the petroleum operations. Expanding only slightly, the Agreement requires the companies to keep accounts, operating records, reports and statements relating to the operations in accordance with the Agreement and the Accounting Procedure set out in Annex C to the Agreement. The substantial part of the Annex deals with the various categories of costs and whether certain specified costs are recoverable without any approval by the Minister, recoverable with the consent of the Minister, not recoverable, and finally, costs not otherwise specified. These would require the approval of the Minister.

In the absence of and prescribed rules, it is left to the Institute of Chartered Accountants of Guyana to set the accounting rules for petroleum operations. This the Institute has done by way of the adoption of International Financial Reporting Standards, generally referred to by the abbreviation IFRS. Given the nature of the operations involved, the rules are extremely complex and their application open to interpretation. This is just another area in which the country suffers as a result of the failure by the Government to have a Petroleum Commission by whatever name to regulate the sector. This Column will address some of these issues after a review of the financial statements of the individual companies. 

CNOOC

This company has changed its name from CNOOC/Nexen which was originally a Canadian/Chinese jointly held company but the Canadians are no longer involved. Note 2 to the financial statements states that certain of the Branch’s activities are conducted through joint arrangements, raising the question whether it has other activities which is carries on independently.

The Company appears to be a shell within a shell. CNOOC operates as an offshore company in Barbados which up to now has provided a haven for sheltering taxes. So instead of the Board having directors from the parent company, three of the four directors of the company are Bajans! It is therefore not ironic that the note to the financial statements carry a long statement on the regulatory changes in Barbados but nothing about the regulatory petroleum environment in Guyana which is the only country in which CNOOC Petroleum Guyana carries out its only operation. 

In its first full year of production, the Company has reported a profit of $9,298 million on income of $41,419 million, a net margin of 22.4%. The financial statements also fail to disclose how it accounts for pre-contract costs recovered in the current year and what is left to be recovered.

Of the expenditure of $32,121 million, Depreciation, depletion and amortization accounts for $14,782 million and refers the reader to Note 3 but that number is not evident in the Note. Operating costs amount to $16,875 million, but that number does not even carry a note or any other information to support the figure.  

Taxation

The most interesting bit on the income statement is the element of taxation. Nowhere in the financial statements or in the extensive, copious notes is there any indication that the branch pays no taxes in Guyana. Indeed, it is surely guilty of a half truth when in Note 8 it states that the Branch is subject to the Guyana Income Tax Act and the terms and conditions of the 2016 Petroleum Agreement. At first glance, this appears to suggest a cumulative impact when the reality is the direct opposite.

The fmancial statements make good use of what is called deferred tax and so the financial statements have a charge of $2,324 million for deferred tax, one that is paid to no one but rather to recover losses claimed to have been made in past years. 

The Company sells all its share of oil production to an affiliate in Singapore which on sells on a cargo-by-cargo basis. Despite this arrangement the Company owes its related parties more than $400,000 million, the terms and conditions of which, including interest, are not stated.   

Note 5 states that the company has a $2.5 billion credit facility provided by CNOOC International Limited and one wonders whether this is a USD facility, or unlikely, a G$ facility. The note also states that the Company has received a letter of support from BVI (sic) to sustain the business at its current level of activity. The financial statements show that the company is already making commitment for Liza Phase 2 and the Payara Projects to the tune of $297,000 million.  A final matter of note is the Decommissioning and restoration provisions at $39,365 million as funds to reclaim and abandon wells and facilities.