B-01 DK Production Sharing Contracts

HYDROCARBON PRODUCTION
SHARING CONTRACTS
DHARMENDRA KUMAR
DIRECTOR
OFFICE OF
PRINCIPAL DIRECTOR OF COMMERCIAL AUDIT-II, MUMBAI
OUTLINE
BASIC E&P CONCEPTS
GLOBAL E&P ARRANGEMENTS/MODELS
E&P FISCAL REGIMES
NELP INDIA AND INDIAN PRODUCTION
SHARING CONTRACTS (PSCs)
AUDIT AREAS
AUDIT CHECKS
World Hydrocarbon Statistics BP Statistical Review 2013
Oil (2012) Natural Gas (2012)
Proven Production Consumption Proven Production Consumption

Reserve Reserve
Thousand million Barrels TCM BCM BCM

World 1668.9 80260 80757 187.3 2691.6 2689.3
Asia Pacific 41.5 7928 23446 15.5 323.2 367.7

2.5% 9.8% 28.9% 8.2% 12% 13.7%
India 5.7 819 2555 1.3 29.4 32.1
0.3% 1.0% 3.2% 0.7% 1.1.% 1.2%

Petroleum
Petroleum
hydrocarbons in liquid form (viz. crude oil)
Hydrocarbon in gaseous form (viz. natural gas).
associated natural gas (natural gas produced in association with crude oil)
condensate (liquid hydrocarbons segregated from natural gas).
Petroleum activities:
Upstream operations - Exploration and Production (E&P)
Midstream operations - storage, transportation and
related operations (often clubbed with downstream
operations).
Downstream operations - refining of crude oil, and
marketing of petroleum and gas products.
Petroleum Exploration and
Production (E&P)
Exploration Development Production

Operations Operations Operations
Exploration Operations
Exploratory
Seismic Well
Initial Surveys
Surveys Discovery
Dry well
Commercial Appraisal
Discovery Wells
Development of a field
Commercial discovery
Field Development Plan - for most efficient, beneficial and timely
extraction of petroleum, keeping in view engineering, economic,
safety and environmental considerations. It includes:
Drilling of production wells (for producing crude oil and gas);
Drilling of injection wells (for injecting water or gas, in order to sustain or
accelerate the production of hydrocarbons);
Installation of offshore platforms and installations, for handling offshore
production of oil and gas; and
Laying of gathering lines, and installation of separators, tankages, pumps,
artificial lift facilities, which are required to produce, process, store, and
transport petroleum.
Production
Production operations involve operations after
the commencement of production from a
developed field. This would typically involve,
among others:
operation and maintenance of existing facilities;
Work overs;
plugging and abandonment of wells;
improved oil recovery; and
site restoration (after cessation of petroleum
operations) etc.
E&P Arrangements/
Models
Need for Contracting
Limitation of state Risk capital
Growing demand of petroleum expeditious E&P
Fluctuations in prices of petroleum Risk sharing
mechanism
Technology and specialization
Purpose of contract
A contract for exploration and development of
petroleum refers as to how the produce of the earth
is divided among the labours, owners of the capital
and land owners (i.e. state).
Objective of State
Development of the petroleum.
Encourage private participation by leaving
sufficient produce to them.
Objective of Contractor
Reasonable ROR keeping in view the risk of
exploration and lead time required.
Access to new Supply of petroleum through the
right to export a significant part of production.
Types of arrangements/models
Concession arrangement
Contractual arrangement
Service Contracts
Pure Service Contracts
Risk Service Contracts
Production sharing Contracts (PSC)
Joint Venture arrangements
Direct State Participation
Concession arrangement
State enters into an agreement with the
Contractor granting the right to use an
identified area for exploration and production
of petroleum
Features
Ownership of produce remains with contractor
Management and control of the operations, risks
associated with the operations and financing of
operations are contractors obligation
State got royalty in earlier contracts
State started getting higher royalties and taxes as
its bargaining power increases
Administration is easy for state
Against the concept of States sovereignty over
natural resources
Contractual arrangements
State keeps the right of ownership of produce
Types:
Pure Service Contract
Contractor provide service for a fee which can be paid in
cash or kind
Risk Service Contract
Contractor provide service for a fee and participate in the
profit
Contractor bears the risk of operations and finances the
operations
Similar in nature to the Production Sharing Contract
Production Sharing Contracts (PSC)
Contract is entered into among State and/or NOC and
the Contractor for exploitation of petroleum
Indonesia, China, Sudan, Qatar, Bahrain, India,
Philippines, Libya, etc.
Main features of PSC
Ownership
Ownership of hydrocarbon remains with the State.
The Contractor receives a share of production to
meet its cost and target Rate of Return (RoR)
Fiscal devices
Cost Recovery Limit & Profit sharing are two
important devices
Other fiscal devices are Corporate Income Tax,
Royalty, Bonuses, State participation, profit
related taxes, etc.
Benefits of PSC
No Government Guarantee or Asset required
for security
Private Investment
Repayment to investor by Revenue stream and
Asset of the Project
Ownership of Project return to Government
Reasonable Rate of Return to Investor
Benefits of PSC (contd..)
Project Serve the National Interest
In Oil Sector, started in North Sea In 1970
Reduce Government Budget
Reduce Financial and Administrative burden
of Government
Generate New Tax Revenue
Attract Capital and New Technology
Joint Ventures
State, through NOC, and Contractor share
equity in the joint operations
Partners share risk, costs and profits as per
their Joint Venture agreement
Ownership of produce remains with the State
Concession or Contractual both arrangements
can have Joint Ventures
Joint ventures can be incorporated or
unincorporated
Incorporated Joint Ventures
NOC and Contractor contribute equity to form a new
company, which undertakes operations
Board of Directors manages all operations
Return is given in the form of dividend
Unincorporated Joint Ventures
Each partner is a separate legal entity
Enters into Joint Operating Agreement (JOA)
JOA defines right and obligation of partners
Pakistan, India, South Korea, Denmark, etc.
Direct State Participation
State through national oil company puts up all
the capital for exploration and development,
takes the risks, control the operations
Hire the necessary technology and borrow the
capital
Ownership of produce remains with State
E.g. Nominated blocks with ONGC and OIL
Hybrid arrangement
It has features of more than one model.
E.g. India has Unincorporated JVs having PSC
with GoI
Features of International arrangements
Arrangement Concession Production Sharing Joint Ventures
Feature Contract
Exploration Contractor Contractor (incl. NOC, if Contractor
Risk not carried) (incl. NOC)
Management Contractor States approval Each

of Operations required for crucial constituent
decisions participate
Financing of Contractor Contractor (incl. NOC, if Contractor
Operations not carried) (incl. NOC)
Licensee Contractor NOC/ Contractor NOC/

Contractor
E&P FISCAL REGIMES
International fiscal regimes
Need for fiscal regimes
Fiscal regimes refer to the forms in which the
produce from the contract area is distributed
among the land/acreage owner (State) and
the Contractor.
The conflicting objectives of the State and the
Contractor and uncertainty of future outcome
and prices have maily led to the development
of several fiscal tools.
Fiscal tools
Rentals
Levied during exploration phase
Lump sum or annual payment (Abu Dhabi US$100,000/-
per year, Alberta Canada $3/acre per year)
Increases over a time period (in India rental increases from
Rs.50 to 1000 per sq. km. per year within 5 year.
Bonuses
Signature Bonus
Cash payment to the state at the time of signing of the
contract
Relatively small value
Through negotiations (in India in discovered field)
Through legislation
Fiscal tools
Production Bonus
State receives cash on achieving target of production
State reaps benefit of increase in field size
Through negotiations (in India in discovered field)
Through legislation (Nigeria 1% of previous year production)
Linked to barrel of oil per day produced
Linked to cumulative production achieved
Fiscal tools
Royalty
It is the most commonly used fiscal tool for the States
revenue. Royalty can be divided into three types:
Fixed amount:
It can be linked to per unit of production (in India Royalty on oil is
Rs.528/ton, now 10% to 12.5% of the price)
Fixed percentage:
It can be linked to sales value ( in India royalty on gas is 10% of
sales price)
Fiscal tools
Sliding scale: Different variants of royalty based
on sliding scale are prevalent in the world. Some
of the examples are given as under:
Level of field production, e.g. in China where royalty
varies from 0% up to 50,000 tones/year to 12.5% over 1
MMT/year
Level of well production, e.g. offshore California where
royalty varies from 16.67% to 50% for production from
100 to 500 bopd.
Fiscal tools
Cumulative production, e.g. offshore Morocco where it
varies from 5% to 17.5% for 10 mmbbl to 50 mmbbl of
oil produced.
A R factor which represents ratio of Cumulative
revenues over cumulative investment, e.g. Peru.
Elapsed time, e.g. Canadian Arctic Royalty which starts
at 1% and increases every 18 months with 1% point to a
maximum of 5%.
Gravity of oil, e.g. Guatemala Royalty is 5% at 15 degree
API and slides upto 20% for 30 degree API
Fiscal tools
Corporate Income Tax
Income Tax applicable to petroleum operations is
same as that applicable to other business
activities in the country.
A few country have separate tax rate for
petroleum operations.
A wide range of tax rate can be found world over
ranging from 0% (Bahamas, Cayman Islands) to
77% (Gabon). The developed countries have tax
rate between 30 to 40%.
Fiscal tools
Profit Petroleum sharing
Relatively a newer fiscal device.
Profit petroleum sharing by State means a portion
of oil, which is left after meeting all costs,
operating exploration and development, and
therefore called Profit petroleum, is directly
shared by State with Contractor.
The profit petroleum sharing ratio may be
determined either by bidding or may be prefixed.
Fiscal tools
Examples:
Fixed percentage of profit petroleum split, e.g.
Indonesian fixed rate of 71.15%
Biddable percentage of profit petroleum based on a
single trench or sliding scale
Fiscal tools
Sliding Scale based on:
Production rate of the Oil field/contract area e.g. China
where State share varies from 5% up to 10,000 BOPD to
75% up to 200,000 BOPD.
Cumulative production e.g. Angola where profit sharing
varies between 55% up to 25 MM bbl to 19% over 100
MM bbls.
R factor e.g. India where it varies with post tax rate of
return or investment multiple achieved by the
company
A combination of above three.
Calculation of Investment Multiple
Investment Multiple = Net Cumulative Cash Inflow /
Cumulative Investment
Net Cash in flow= Cost petroleum + Profit petroleum
+ all incidental income relating to petroleum
production cost - Royalty
Investment = Exploration Costs + Development Costs
Note: Costs/expenditures which are not allowed in the a
Accounting procedure shall be disregarded.
Fiscal tools
Cost Petroleum Recovery Limit
Volume of production available to company to
recover its cost.
Used in association with Profit oil sharing.
Delays recovery of cost of company
Some of the examples are as under:
Fixed percentage of production e.g. Libya has 35% cost
recovery limit; India earlier had 20% cost recovery limit.
Fiscal tools
Biddable percentage of production e.g. in India cost
recovery limit can be bid up to 100% (from third round
and onwards)
Sliding cost recovery limit based on
Production level e.g. North Korea where it starts from
60% at 50000 BOPD and ends at 50% at 100000 BOPD
Price level e.g. in Oman where cost limit starts at 50%
at Oil price of $ 17/bbl and goes down to 30% at oil
price of $ 21/bbl
Fiscal tools
Government Participation
State increases revenue through direct participation
State participates through NOC.
The option to participate is generally at the stage of
commercial discovery.
In most of the cases States share of exploration cost is
carried by Contractor, i.e. contractor pays all cost of
exploration phase if State elects to participate in
development programme
Fiscal tools
State participation under carried interest provision is
usually for a fixed percentage e.g.
China 51%,
India up to 40% under exploration (third round and
onwards) and development rounds
There are other forms of carried interest like
Sliding scale participation e.g.
Denmark where state has 20% participation up to
production level of 50000 BOPD, which increases to 30% in
case of production rises to 100000 BOPD.
Fiscal tools
Special Profit related taxes
These tools were introduced in 1970s to tap the
windfall profits, which were resulted due to
substantial increase in price of crude oil.
The basic objectives, of such tools, were to allow
the State to share the windfall profits along with
Contractor.
These are used in conjunction with other fiscal
devices. Some examples are given below:
Fiscal tools
Windfall Profit Tax (WPT)
This was introduced in United States. Arithmetically WPT can
be presented as
WPT=Tax Rate* Production*(Market Price-Base Price)
Petroleum Revenue Tax (UK)
Hydrocarbon Tax (Norway & Denmark)
Additional Profit Tax (APT) (Papua New Guinea)
It is linked to ROR
Indian Fiscal regime- main features
Lease Rental
Petroleum Exploration License (PEL)
Levied during exploration period
Initial fee Rs. 10000/-
Security deposit of Rs. 100000/- before granting
of PEL
Yearly advance license fee increases from Rs.
50/- to 1000/- per sq km per year within 5 years
Mining Lease (ML)

Initial fee of Rs. 50000/-
Security deposit of Rs. 200000/- for due
observance of terms and condition
Dead Rent of Rs. 25/- per hectare or part thereof
for first 100 KM and Rs. 50/- per hectare or part
thereof for exceeding 100 KM
Dead Rent or Royalty, whichever is higher, shall be
payable
Royalty
State has the most stable tool of revenue
generation (upfront)
Under NELP NOCs and companies are at par
Onshore: 12.5% on oil and 10% on gas
Offshore: 10% for oil and gas both
Royalty beyond 400 m isobaths is half the
applicable rate for first seven years of commercial
production
Corporate Income tax
Production costs are written off in the same year
Exploration and Drilling costs are depreciated in
the same year
Depreciation on other assets is allowed as per
provision of Income Tax Act, 1961
Losses from petroleum expenses can be set off
against income from other businesses and vice
versa
The current tax rate as per Income Tax Act, 1961
are
Domestic company tax rate 30%
Foreign Company tax rate 40%
Plus Surcharge
Income tax holiday for first seven years of
commercial production
Cost Recovery limit
20% fixed (Pre NELP)
Biddable up to 100% under NELP
Higher limit helps early recovery of costs
Block-wise Ring fencing: Contract costs can be
recovered from any field within the contract area
Block-wise ring fencing encourages exploration
Profit Petroleum Sharing
Sharing of profit petroleum between GOI and
Contractor is based on pre-tax investment
multiples (IM) achieved by the contractor and is
biddable
IM achieved in a year is applied in subsequent
year for distribution of profit petroleum
NEW EXPLORATION LICENSING
POLICY
AND
PRODUCTION SHARING
CONTRACTS (PSCs) IN INDIA
National Exploration Licensing Policy
(NELP)
Up to 100% Foreign Investment.
Bank Guarantee of 35% agreed annual work
programme required during Exploration
Phase.
No signature, discovery or production bonus
State Participation, or carried interest of
National Oil Company not mandatory
(NELP) (contd.)
No customs duty on imports for Petroleum

Operations.
Cost Recovery up to 100%.
Repatriation of Funds by Company permitted.
Cost recovery and Profit Sharing biddable.
Freedom of marketing of Oil and Gas in India.
(NELP) (contd.)
Deduction in Income Tax on Expenditure on
Exploration and Drilling operations.
For Offshore Royalty @ 10%, and Onshore @
12.5% for Oil and 10% for Natural Gas.
For Deep Water @5% for first seven years.
Laws of India for Upstream Petroleum
Sector.
Constitution of India.
Oil Fields (Regulation and Development) Act 1948.
Petroleum and Natural Gas Rules1959.
Territorial Waters, Continental Shelf ,Exclusive Economic

Zone and Maritime Zones Act,1976.
Environment (Protection) Act 1986.
Water (Prevention and Control of Pollution) Act 1974 .
Air ( Prevention and Control of Pollution ) Act 1981.

E & P asset life cycle Risk and Reward
1015 exploration 23 discoveries 1 field developed Contractor to cover failed exploration

wells appraised commercially cost from cash flow of developed field
Cashflow
Opex + royalty +
Development: incremental capex
Appraisal / Pre ~56 years
development: ~3 Production: ~1030
Rank Exploration:
years
~48 years years
75%80% of the 50% of discoveries Technology, Technology, environmental, safety,
prospects dont cross are commercial environment, safety, regulatory and cost risk
this stage regulatory and cost
risk
Geologic, technology, Geologic, technology, Success based on In addition successful contractor is
environment , safety, environment, safety, project management continuously exposed to reservoir and
regulatory and cost regulatory and cost hydrocarbon price risk
risk risk
Success linked to GCFs Volume estimates are Huge capex incurred Success based on safe and optimal
probabilistic in nature in anticipation of reservoir management
(P10, P50, P90) probabilistic reserves
estimates
E & P is the only probabilistic business with significant risk of failure
Indian PSC Change in risk spectrum
Low proven reserve base Globally escalating deep
Low prospectivity water costs
TECHNICAL RISK Operating in deep water Country risk premium
India Shadow area for
COST RISK
India is no Saudi Arabia, Service companies
Qatar or Venezuela Scarcity of skills and
infrastructure
Overall Risk : HIGH Overall Risk : HIGH

Changing tax and fiscal Gas price determined by
COMMODITY PRICE
REGULATORY RISK
regime Government and not a

Long delays in approvals competitive Arms Length
Shifting Government price
RISK
interpretation of policy & Indirect subsidy using gas
interventions price control
Overall Risk : HIGH Overall Risk : HIGH

Contractor by signing the PSC agreed to undertake all technical & cost risks
Regulatory risk & commodity price risk were a subsequent imposition
All risks borne by the contractor. GOI insulated from all risks.
PSC operating framework
RESPONSIBILITIES FRAMEWORK Govt. Interests Protected
Government Government Management Committee
Petroleum resources be discovered &
exploited with utmost expedition in Reviews exploration WP&B
overall interest of India Production Sharing Contract & revisions thereto
Management Committee (MC)

Government Party 1 If discovery is commercial,
reviews Appraisal Program
MC functions like a corporate board Management Committee with WP&B & revisions
with GoI nominee as Exec. Chairman
thereto
Its purpose is to facilitate operations Govt. Nom. 1 Govt. Nom. 2
Advisory/ Review functions wrt Approves FDP and all
o exploration operations, C1 C2 C3 subsequent WP&Bs, annual
o appraisal, production estimate and any
o DOC revisions thereto
Approval functions wrt Contractor Party 2
o development operations
o auditor appointment Audit Rights of GoI
o Party 1 approval is must for Operating Committee
proposal to pass GoI has audit rights to see if
Operating Committee C1 C2 C3 the expenditures are in
Authorize / supervise Joint Operations accordance with WPB and
Properly explore / exploit Contract accounting procedure of PSC
Area Contractor Parties
MC to function as a Corporate Board, to act in the best interests of the block

PSC economics
Economic distribution under PSC PSC flow chart
Each Contract Area is ring fenced
unsuccessful cost from one block can PRODUCTION REVENUE
not be recovered from the other
Contractor bears all exploration risk, 10% 90%
i.e. in case of no commercial discovery, Cost Recovery Cap
all the loss is suffered by the Contractor
Investment Multiple commonly used PROFIT OIL COST RECOVERY OIL
in the industry unused
Royalty
cost oil
Opex
o Defined as contractor s
Exploration
cumulative net revenue divided by Development
GOIs XX% Capex
its cumulative investments
Profit Oil IM
o GoI profit share % increases with
IM mechanism IM GOI Cont.
the IM defines % to each E.g. Block D6 share share
YY% (%) (%)
o Protects Contractors downside
IM < 1.5 10% 90%
risks in case of small & marginal Contractor 1.5 < IM 2 16% 84%
Profit Oil
discoveries whereas captures 2 < IM 2.5 28% 72%
2.5 < IM 3 85% 15%
windfall profits for GoI in case of a IM 3 85% 15%
large discovery or high prices XX%
Corporate
Tax Contractor Revenue
As the size of the pie increases, so does the share of the Government
P.S.C. Constituents
Regulatory Provisions
Financial Provisions & Disposition of
Production Provisions
Cost Recovery, Profit Sharing, Taxes
Provisions
Organizational & Co-operative Provisions
Legal & Non-operational Provisions
Description Of Area (Contract Area)
Relinquishment Scheme
Obligatory Exploration Programme &Expenditure
Commitments
Duration Of Contract
Exploration Period
Appraisal Period
Development & Production Period
Conduct of Operations (Modern International
Petroleum Industry Practice)
Abandonment of Field
Environment Protection& avoidance Of Pollution
Training of Host Country manpower
Transfer Of Technology
Preference to Local goods, supplies & Services
Financial Provisions & Disposition of
Production Provisions.
Contractors Share Disposal Rights.
Type of Currency Used for Payments etc.
Taxes and other Local Liabilities.
Banking,Transfer of Funds abroad,Foreign
Currency Exchange.
Insurance
Cost Recovery,Profit Sharing,Taxes
Provisions
Contractors Take of Cost Petroleum
Government Take of Petroleum
Contractors Liability on Income Tax
Economic Viability of Venture
Organizational & Co-operative Provisions
etc.
Supervision ,Operatorship, and Co-operation
Between Contractor and State
Control and Decision making to Investment
Work Programme and Budget
Declaration of Commercial Discovery
Preparation of Development Plan
Guarantees for fulfillment of Obligations
Indemnities
Ownership of Assets
Assignment of Participating Interest
Amendments, Ratification, and Termination
Government Approvals
Force Majure
Governing Law
Jurisdiction of Courts
Dispute Resolution
Exploration Phases
For Onland and Shallow water blocks, Exploration Period
shall not exceed seven Years
For Deepwater Areas and Frontier Areas eight consecutive
Contract Years
Exploration Period consist of two Exploration Phases.:
First Exploration Phase for a period not exceeding four (4) Contract
Years
Second Exploration Phase for a period not exceeding three (3)
Contract Years .
For deepwater and Frontier Area blocks, first Exploration
Phase will have additional one (1) Contract Year.
Mining Lease
For Twenty Years
May be extended for Five years
Management committee
Government shall nominate two (2) members.
Each Company constituting the Contractor
shall nominate one (1) member
If Contractor constitutes only one Company,
that Company shall have two (2) members.
Management committee
Decisions of Management Committee by
unanimous vote.
If unanimity not achieved, the decision shall
be by majority Participating Interest of seventy
percent (70%) or more with Government
representatives positive vote.
OPERATORSHIP, JOINT OPERATING
AGREEMENT AND OPERATING COMMITTEE
Functions under the Contract be performed by

the Operator
Within forty five (45) days, the Companies
constituting the Contractor shall execute a
Joint Operating Agreement .
Audit Areas
Preparation for Audit
Clarity of mandate of SAI Scope of audit vis-a-
vis contractual provision for Audit
Understanding of Fiscal Model in contract or
concession
Risk sharing mechanism between State and
Contractor
Understanding relationship between State and
Contractor/Operator
Understanding relationship between Operator
and other constituents of Contractor
Audit Areas (contd.)
Understanding of terms of the contract
Physical performance related (activities and
deadlines)
Minimum Work Programme (API, Exploratory drilling,
well testing, Declaration of commerciality of
discoveries, Discovery Appraisal Programme,)
Field Development Programme
Production and sale
Contract management
Audit Areas (contd.)
Financial performance related
Cost management (cost efficiency)
Revenue management (revenue optimisation)
Accounting (as per provisions of contract)
Audit (as per provisions of contract and the laws of the
land)
Understanding of areas where contractor may

be motivated to increase his take. (increase
his benefits and transfer/minimise his risks)
Audit Checks
Adherence to PSC Provisions
Committed Programmes work, expenditure and
timeframe
Timely submission of work programme and
budget to Management Committee
Timely submission of discovery and test
notifications, appraisal programme, proposal for
Declaration of Commerciality, and field
development plan
Production and maintenance
Identifying customers, determination of price,
transportation and custody transfer
Maintenance and inspection of measurement
meters
Safeguards for assets
Health, safety and environment
Site restoration
Financial Activities
Accounting as per laid down procedures
Recognition of costs Exploration, development
and production costs
Calculation of cost petroleum, profit petroleum
and investment multiple (R factor)
Calculation of Royalty, taxes, surcharges, etc
Use of custom exempted items for the intended
purpose
Procurement
Procurement as per laid down procedure
No procurement of surplus, redundant items
Procurement from the lowest of the technically qualified
bidders
Procurement and payments as per contract with vendors
No post tender modifications
Validity of change orders
Accounting of stores only on consumption
Vouching of invoices, shipping documents, GRN, and
agreements
Selection of Auditor and conduct of audit as
per PSC provision
Submission of accounts and other reports to
Government/ Regulator as per PSC provision
Adherence to Joint Operating Agreement by
the Operator
THANK YOU
Case Study
Audit of Hydrocarbon
Production Sharing Contracts
Background
With the reforms in the economy which took place in the 1990s, Government of
India decided to liberalise the framework governing the oil and gas Exploration and
Production (E&P) sector, which has earlier been the sole preserve of the
Government Sector. After award of small and medium sized discovered and
producing oilfields as well as some exploratory blocks in the early 1990s,
Government formulated the New Exploration Licensing Policy (NELP) in 1997 and
notified this policy in 1999. This policy had the objective of not only attracting private
capital to the E&P Sector but also introducing the technical expertise and efficiency
of global players in this field.
In order to ensure balanced and effective partnerships with global E&P Companies,
the Production Sharing Contracts (PSCs) between the Government and the private
players (referred to as Contractor) were revised. These contracts were structured
in such a fashion that the exploration risk viz. the cost incurred in searching for oil
and natural gas, without certainty of discovery, was to be borne by the private
contractors. The private contractors incur expenditure towards discoveries,
irrespective of the fact whether oil or gas is discovered or not. It is only when
hydrocarbons are discovered and assessed to be commercially viable, that the
contractor has the first rights on the revenue streams accruing from sales of oil and
gas till his costs are recovered. The balance revenue, termed as "Profit Petroleum",
is shared between the Government and the contractors, with the contractors
generally getting a higher share in the initial stages since he has to recover contract
costs. The Government share of revenues becomes significant only when the
production reaches substantial levels and the contractor has recovered his
accumulated capital cost. Further, under NELP, Government companies and private
players are treated at par.
The principle underlying the PSC model, under the NELP, as it currently stands,
involves a scale for profit sharing between the Government of India and the
contractor, based on a critical parameter the Investment Multiple (IM). This is
essentially an index of the accumulated net cash flow to the contractor relative to the
accumulated expenditure on exploration and development activities. The objective
underlying the PSC is that ideally the operator would attempt to maximize
simultaneously both the government revenues and his own profit by minimizing
contract costs for any level of production.
In order to ensure that the expenditure proposed to be incurred as well as actually
incurred by the operator does not adversely affect the Governments revenue
interests, the PSC contemplates the Management Committee (MC), chaired by a GoI
representative, as responsible for approving field development plans as well as
annual work programmes and budgets for development and production operations.
However, operational control of E&P activities would vest with the Operating
Committee, consisting of representatives of the contractors.
Audit arrangement in PSC

PSCs provide that the annual audit of accounts shall be carried out on behalf of the
Contractor by a qualified, independent firm of recognized chartered accountants,
registered in India and selected by the Contractor with the approval of MC and a
copy of audited accounts submitted to Government within 30 days of receipt thereof.
The Government shall have the right to audit the accounting records of the
Contractor in respect of Petroleum Operations as provided in the accounting
procedure. For the purpose of this audit, the Contractor shall make available to the
auditor all such books, records, accounts and other documents and information as
may be reasonably required by the auditor.
It is also provided in the accounting procedure that Government, after giving

advance notice to the Contractor, shall have the right to inspect and audit all records
and documents supporting costs, expenditures, expenses, receipts and income,
such as Contractors accounts, books, records, invoices, cash vouchers, debit notes,
price lists or similar documentation with respect to Petroleum Operations within 2
years from the end of a financial year.
The Government may undertake the conduct of the audit either through its own
representatives or through a firm of chartered accountants, registered in India or a
reputed consulting firm, appointed for the purpose by the Government and the costs
of audit in case of Government auditor(s) shall be borne by the Government, where
as for outside auditor(s), this shall be borne by the Contractor as a General and
Administrative Cost.
In conducting the audit, the Government or its auditors shall be entitled to examine
and verify, at reasonable times, all charges and credits relating to the Contractor's
activities under the Contract and all books of account, accounting entries, material
records and inventories, vouchers, payrolls, invoices and any other documents,
correspondence and records considered necessary by the Government to audit and
verify the charges and credits. The auditors shall also have the right, in connection
with such audit, to visit and inspect, at reasonable times, all sites, plants, facilities,
warehouses and offices of the Contractor directly or indirectly serving the Petroleum
Operations, and to physically examine other property, facilities and stocks used in
Petroleum Operations, wherever located and to question personnel associated with
those operations. Where the Government requires verification of charges made by
an Affiliate, the Government shall have the right to obtain an audit certificate from an
internationally recognized firm of public accountants acceptable to both the
Government and the Contractor, which may be the Contractor's statutory auditor.
CAGs Audit Mandate

Comptroller and Auditor General (CAG) of India is empowered, under the provisions
of CAGs (Duties, Powers and Conditions of Service) Act, 1971 read with CAGs
Audit Regulations, 2007, to conduct performance audit of Ministry of Petroleum and
Natural Gas (MoPNG) including its technical and E&P regulatory arm, Directorate
General of Hydrocarbons (DGH).
Audit Objectives
The main objectives of the Audit of Hydrocarbon PSCs were to verify whether:
The systems and procedures of MoPNG and DGH to monitor and ensure
compliance by the operators and contractors of the blocks with the terms of the
PSCs were adequate and effective; and
The revenue interests of the Government (including royalty and GoI share of
profit petroleum) were properly protected, and adequate and effective
mechanisms were in position for this purpose;
The purpose of access to, and scrutiny of records of the operators was to verify whether the
Governments revenue in the form of profit petroleum (current and future) and royalty was
correctly calculated, and its revenue interests were properly protected. Towards this larger
objective, it was intended to verify (based on access to operators records for the specified
accounting periods) whether:
Capital expenditure (capex), operating expenditure (opex), and net cash income
and individual items thereof were accurately and reliably reflected, and these
amounts were supported by adequate documentation;
The figures of individual items of capex/ opex were reasonable, and also
commensurate with original/revised budgets, plans, feasibility reports or other
similar documents; and
There was collateral evidence which would provide assurance regarding the
authenticity of goods and services procured and provided.
Major Audit Findings

Block A (Operator: XYZ)
The block A was awarded in the first NELP round in the year 2000. It has Indias
largest gas discoveries and also has a large oilfield discovery. Main audit findings
and recommendations are as follows:
1. Non-relinquishment of area and declaration of entire contract area as

discovery area
Articles 4.1 and 4.2 of the PSC stipulate phased relinquishment of areas, allowing
the contractor to retain a maximum of 75 percent and 50 per cent of the contract
area (including the discovery and development areas)1 after Exploration Phase-I and
Exploration Phase-II, before entering the next exploration phase. At the end of the
exploration period, the contractor is permitted to retain only the discovery and
development areas.
Audit found that contrary to the PSC provisions, the contractor was allowed to enter
the second and third exploration phases without relinquishing 25 per cent each of the
total contract area at the end of Phase-I and Phase-II. Subsequently, in February
2009, GoI also conveyed approval to treat the entire contract area of 7000 sq.km. as
discovery area, thus enabling the operator to completely avoid relinquishment of
area.
2. Delay in notifying discoveries
In violation of PSC provisions, in the case of 65% of discoveries between 2002 and
2008, the operator had, without first furnishing the initial particulars of the discoveries
in writing to the MC and Government, directly given written notifications regarding
potential commerciality of the discoveries.
3. Non submission of appraisal programmes
Audit noticed that there was no appraisal programme in respect of 70% of the
discoveries, notably the biggest gas discoveries and oil discovery. The operator
moved directly from discovery to commercial discovery without an appraisal
programme. Besides being clearly in violation of the PSC provisions, lack of an
appraisal programme, duly reviewed by the MC in line with PSC provisions, for an
adequate and effective appraisal of the discovery may result in a high degree of
uncertainty regarding the reliability of the declaration of commercial discovery and
the consequential development plan, as well as the associated estimates of reservoir
reserves, production rates, development and production costs, etc.
4. Development and Procurement Activities in MA Field

The development of oil field in block A is a case of hasty decisions taken by the
operator to award various contracts to four companies of one group in order to start
development activities irregularly without waiting for approval of the proposals for
Declaration of Commerciality and Field Development Plan (FDP). Two of these four
companies were established just before issue of Request for Proposal (RFP). The
Operator awarded contracts at non-competitive rates without ensuring price
reasonability and following procurement procedure and other provisions of PSC in
letter and spirit. Audit also found serious deficiencies in the award, on a single
financial bid, of a 10 year hiring contract for US$ 1.1 billion for a Floating Production,
1
If the discovery and development areas exceed 75 percent/ 50 percent of the contract area, the contractor
can retain the entire development and discovery areas.
Storage and Offloading (FPSO) vessel from ABC Ltd. The costs at which these
contracts were awarded, have been found unreasonable. By rejecting seven
competitive bids, no competition was left to ascertain reasonableness of quotes.
After awarding four major contracts, FDP was submitted for approval of MC having
contracted costs as budgeted costs. It is important to mention here that MC does not
have any control, as per PSC provisions, over the bid evaluation and contract award.
Similarly, it was seen that the Work Programme and Budget for 2007-08 was
delayed and submitted on actual basis after incurring the expenditure of US$ 808
million. No details were provided thereof. MC, however, gave post-facto approval.
This not only raises doubts over the control effectiveness of MC but also the
weaknesses in-built in the PSC provision.
5. Deficiencies in Procurement procedure
During scrutiny of the operators records, audit came across instances, where
multiple vendors were pre-qualified. However, when technical bids were received, all
vendors (except one) were rejected, and the contract was finally awarded on a single
financial bid.
In our opinion, such disqualification of vendors on technical grounds, after a pre-

qualification process and bidders meetings for technical clarifications, limits the
competitiveness which is not in accordance with the spirit of the procurement
procedure given in the PSC. In many cases, it resulted in no competing financial
bids, and the contract was awarded on the basis of a single financial bid. In such a
situation, the letter and spirit of the MCs role at the pre-qualification stage is vitiated.
Check list for PSC Audit based on Model Production Sharing Contract :
Article Check list

Accounting 1. Whether there is a proper Accounting Procedure to classify
Procedure costs, expenditures and income and to define which costs
and expenditures shall be allowable for cost recovery and
profit sharing and participation purposes;
2. Whether the Accounting Procedure specifies the manner in

which the Contractor's accounts shall be prepared and
approved and addresses numerous other accounting related
matters.
3. Whether the Contractor, within ninety (90) days of the
Effective Date of the Contract, submitted to and discussed
with the Government, a proposed outline of charts of
accounts, operating records and reports, outlining each of
the categories and sub-categories of costs and income , in
accordance with generally accepted accounting standards
and recognized accounting systems and consistent with
normal petroleum industry practice and procedures for joint
venture operations.
4. Whether, within ninety (90) days of receiving the above
submission, the Government provided written notification of
its approval
5. Whether the Contractor and the Government agreed on the
outline of charts of accounts, records and reports within one
hundred and eighty (180) days from the Effective Date of
the Contract.
6. Whether the Contractor prepared and maintained
memorandum joint venture accounts adapted from
Schedule VI of the Companies Act, 1956 ,to indicate the
recoverable costs, value of petroleum produced and saved,
cost petroleum, profit petroleum, etc.
7. Whether the Contractor made the following regular
statements relating to the Petroleum Operations - :
(i) Production Statement ( as per Section 5 of Accounting
Procedure).
(ii) Value of Production and Pricing Statement (as per Section 6 of
the Accounting Procedure).
(iii) Statement of Costs, Expenditures and Income (as per Section 7
of the Accounting Procedure).
(iv) Cost Recovery Statement (as per Section 8 of the Accounting
Procedure).
(v) Profit Sharing Statement (as per Section 9 of the Accounting
Procedure)
(vi) Local Procurement Statement (as per Section 10 of the
Accounting Procedure)
(vii) End of Year Statement (as per Section 11 of the Accounting
1
Procedure).
(viii) Budget Statement (as per Section 12 of the Accounting
Procedure).
8. Whether all sums due under the Contract were paid within
forty five (45) days from the date on which the obligation to
pay was incurred as per Article 1.7.2 of the Accounting
Procedure.
9. Whether the Interest on overdue payments was compounded
daily at the applicable LIBOR rate plus two (2) percentage
points as per Article 1.7.3 of the Accounting Procedure
10. Whether all transactions giving rise to revenues, costs or
expenditures credited or charged to the accounts were
prepared, maintained or submitted and conducted at arms
length under Article 1.8 of the Accounting Procedure
Accounting 11. Whether the audit exceptions under Article 1.9 of the
Procedure Accounting Procedure were made by the Government in
writing and notified to the Contractor within one hundred
Audit and twenty (120) days following completion of the audit.
Exceptions 12. Whether the Contractor submitted the reply to the audit
exceptions within 120 days of the receipt of such notice of
audit exceptions.
13. Whether the Contractor failed to answer a notice of
exception within 120 days. In such case, whether the
exception was considered as prevailing and deemed to
have been agreed to by the Contractor.
14. Whether, all agreed adjustments resulting from an audit and
all adjustments required by prevailing exceptions under
Section 1.9.5 were promptly made in the Contractor's
accounts and any consequential adjustments to the
Government's entitlement to Petroleum were made within
thirty (30) days therefrom along with interest due for late
payment under Section 1.7.3.
15. If any amount is claimed as due to the Government
resulting from the audit exception but not accepted or settled
by the Contractor, then whether the Contractor deposited
such claimed amount in an escrow account to be opened
with a financial institution, failing mutually agreed
agreement, with State Bank of India, within thirty (30)
days from the date when the amount was disputed by the
Contractor
Article 3 16. Whether the Exploration Period was for a period not
License and exceeding seven (7) consecutive Contract Years consisting
Exploration of Initial Exploration Period and Subsequent Exploration
period Period.
17. Whether the Initial Exploration Period consisted of first four
consecutive Contract Years with provision to proceed to the
Subsequent Exploration Period of maximum three
consecutive years.
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18. Whether the Contractor completed the Minimum Work
Programme at the end of the initial Exploration Period
19. Whether the Contractor opted to proceed to the Subsequent
Exploration Period by committing drilling of one additional
exploratory well each year in Contract Area (in case of
onland and shallow water blocks) / one additional
exploratory well in 3 years in Contract Area (in case of deep
water blocks) , on presentation of the requisite guarantees as
provided for in Article 29
20. Whether the Contractor opted to relinquish the entire
Contract Area except for any Discovery Area and any
Development Area and to conduct Development Operations
and Production Operations in relation to any Commercial
Discovery in accordance with the terms of the Contract
21. If at the end of the Initial Exploration Period, the Minimum
Work Programme for that period was not completed,
whether the time for completion of the said Minimum Work
Programme was extended for a period necessary to enable
completion thereof but not exceeding six (6) months,
22. Whether the extension for completion of Minimum Work
Programme was given on technical or other good reasons
for non-completion of the Minimum Work Programme and
whether the Management Committee gave its consent to the
said extension
23. If no Commercial Discovery had been made in the Contract
Area by the end of the Exploration Period, whether the
Contract was terminated
Article 4 24. At the end of the Initial Exploration Period, whether the
Relinquishment Contractor exercised the option to relinquish entire area
after completion of Minimum Work Programme or
proceeded to the Subsequent Exploration Period and
retained the block by committing to carry out drilling of one
well each year in Contract Area ( in case of onland and
shallow water blocks)/one well in 3 years in Contract Area
(in case of deepwater blocks).
25. Whether the entire area (excluding Discovery and
Development area) was relinquished at the end of 7
consecutive years of Exploration Period.
Article 5 26. Whether during the currency of the Initial Exploration
Work Period , as per Article 3.2, the Contractor completed the
Programme following stipulated Work Programme:
(a) a seismic programme consisting of the acquisition, processing
and interpretation of 2D/ 3D seismic data in relation to the
exploration objectives;
(b) Drilling of exploration wells
27. In the event that the Contractor failed to fulfill the

Mandatory Work Programme or Minimum Work
3
Programme or additional Work Programme committed
during the Initial Exploration Period or subsequent
Exploration Period or in the event of early termination of the
Contract by the Government for any reason whatsoever,
whether each Company constituting the Contractor paid to
the Government, within sixty (60) days following the end of
the Initial Exploration Period or Subsequent Exploration
Period or early termination of the Contract, as may be the
case, its Participating Interest share for an amount which
shall be equivalent to Liquidated Damages as specified in
the Contract
28. Whether the Work Programme and Budget relating to the
Petroleum Operations to be carried out during the relevant
year were submitted to the Management Committee within
ninety(90) days before commencement of each following
year
Article 6 29. Whether the Management Committee meetings were held

Management at least once every six (6) months during the Exploration
Committee Period and thereafter at least once every three (3) months or
more frequently at the request of any member.
30. Whether the matters required to be submitted to the
Management Committee for review and approval as per the
PSC were submitted to the Management Committee and
duly approved
Article 7 31. Whether within forty five (45) days of the Effective Date or
Joint Operating such longer period as may be agreed to by the Government,
Agreement the Companies constituting the Contractor executed a Joint
Operating Agreement
32. Whether the Operator provided to the Government a copy of
the duly executed Joint Operating Agreement within thirty
(30) days of its execution date or such longer period as may
be agreed to by the Government
33. Whether any change in the operatorship was effected only
with the consent of the Government
Article 10 34. When a Discovery was made within the Contract Area,
Discovery, whether the Contractor forthwith informed the Management
Development, Committee and Government of the Discovery; and
Production promptly thereafter, but in no event later than a period of
thirty (30) days from the date of the Discovery, furnished to
the Management Committee and Government the
particulars, in writing, of the Discovery; and ran tests
promptly and in any case within 90 days from the date under
Article 10.1 (a), to determine whether the Discovery was of
potential commercial interest and, within a period of sixty
(60) days after completion of such tests, submitted a report
to the Management Committee containing data obtained
from such tests and its analysis and interpretation thereof,
4
together with a written notification of whether, in the
Contractor's opinion, such Discovery was of potential
commercial interest and merits appraisal.
35. Whether the Contractor prepared and submitted to the
Management Committee , within one hundred and twenty
(120) days of such notification, a proposed Appraisal
Programme with a Work Programme and Budget to carry
out an adequate and effective appraisal of such Discovery
36. Whether the proposed Appraisal Programme was reviewed
by the Management Committee within thirty (30) days after
submission thereof pursuant to Article 10.3
37. Whether the Contractor in respect of a Discovery of Crude
Oil advised the Management Committee by notice in writing
within a period of eighteen (18) months for onland and
shallow water blocks and thirty (30) months for deep water
blocks from the date on which the notice provided for in
Article 10.1 (c) was delivered, whether such Discovery
should be declared a Commercial Discovery or not. If the
Contractor was of the opinion that Crude Oil had been
discovered in commercial quantities, whether the proposal
was submitted to the Management Committee for review
that the Discovery be declared a Commercial Discovery. In
the case of a Discovery of Gas, whether the provisions of
Article 21 of the PSC were duly complied with
38. If the Contractor declared the Discovery as a Commercial
Discovery after taking into account the advice of the
Management Committee as referred in the Article 10.6,
whether the Contractor submitted to the Management
Committee, a comprehensive Plan of Development of the
Commercial Discovery, within two hundred (200) days of
the declaration of the Discovery as a Commercial
Discovery.
39. Whether the proposed development plan submitted by the
Contractor pursuant to Article 10.7 was approved by the
Management Committee within one hundred and ten (110)
days of submission thereof or eighty (80) days of receipt of
any additional information requested by the Management
Committee.
40. Whether the Work Programmes and Budgets for
Development and Production Operations were submitted to
the Management Committee as soon as possible after the
approval of a Development Plan under Article 10.8 and
thereafter not later than 31st December each Year in respect
of the Year immediately following.
41. Whether the Contractor determined the Programme
Quantity with the approval of the Management Committee,
not later than the fifteenth (15th) of January each Year, in
respect of the Year immediately following commencement
5
of Commercial Production.
42. Whether the Programme Quantity for any Year was taken to
be the maximum quantity of Petroleum based on
Contractor's estimates, as approved by the Management
Committee, which can be produced from a Development
Area consistent with modern oilfield and petroleum industry
practices and minimising unit production cost, taking into
account the capacity of the producing Wells, gathering lines,
separators, storage capacity and other production facilities
available for use during the relevant Year, as well as the
transportation facilities up to the Delivery Point.
Article 11 43. Whether the Contractor submitted an application for grant
Petroleum of License in respect of the Contract Area, as early as
Exploration possible, but not later than fifteen (15) Business Days from
License the date of execution of the Contract
Article 13 44. Whether the methods and appliances generally accepted and
Measurement customarily used in modern oilfield and petroleum industry
of Petroleum practices for measurement of petroleum were approved by
the Management Committee and the Government.
45. Whether the Government at all reasonable times, inspected
and tested the appliances used for measuring the volume and
determining the quality of Petroleum
Article 14 46. Whether the Contractor employed modern oilfield and
Protection of petroleum industry practices and standards including
Environment advanced techniques, practices and methods of operation for
the prevention of Environmental Damage in conducting its
Petroleum Operations;
47. Whether the Contractor took necessary and adequate steps
to prevent Environmental Damage and, where some adverse
impact on the environment was unavoidable, whether the
Contractor took necessary steps to minimise such damage
and the consequential effects thereof on property and people
48. Whether the Contractor ensured adequate compensation for
injury to persons or damage to property caused by the effect
of Petroleum Operations
49. Whether the Contractor complied with the requirements of
applicable laws and the reasonable requirements of the
Government from time to time.
50. Whether the Contractor notified the Government, in writing,
of the measures and methods finally determined by the
Contractor for protection of the Environment and whether
such measures and methods were reviewed from time to
time in the light of prevailing circumstances.
51. Whether the Contractor caused a person or persons with
special knowledge on environmental matters, to carry out
two environmental impact studies before Exploration and
before Development
52. Whether the part of the study relating to drilling operations
6
in the Exploration Period was approved by Government
before the commencement of such drilling operations.
53. Whether the second of the aforementioned studies was
completed before commencement of Development
Operations and was submitted by the Contractor as part of
the Development Plan, with specific approval of
Government being obtained before commencement of
Development Operations
54. Whether the Contractor , prior to conducting any drilling
activities, prepared and submitted for review by the
Government contingency plans for dealing with Oil spills,
fires, accidents and emergencies, designed to achieve rapid
and effective emergency response.
55. On expiry or termination of this Contract or relinquishment
of part of the Contract Area, whether the Contractor
removed all equipment and installations from the
relinquished area or former Contract Area in a manner
agreed with the Government pursuant to an abandonment
plan and performed all necessary Site Restoration in
accordance with modern oilfield and petroleum industry
practices
Article 15 56. Whether the Contractor recovered the Contract Costs out of
Recovery of a percentage of the total value of Petroleum produced and
Cost Petroleum saved from the Contract Area in the Year in accordance with
the provisions of the PSC Article relating to recovery of
Cost Petroleum
57. Whether within ninety (90) days of the end of each Year, a
final calculation of the Contractor's entitlement to Cost
Petroleum, based on actual production quantities, costs, and
prices for the entire Year as reflected in audited accounts
under Article 25.4.3, was undertaken and any necessary
adjustments to the Cost Petroleum entitlement was agreed
upon between the Government and the Contractor within
thirty (30) days and made within thirty (30) days thereafter.
58. Whether for the purposes of allowing cost recovery under
Article 15 read with Section 3 of the Accounting Procedure,
the cost estimates given by the Contractor in the bid
documents towards the Minimum Work Programme in the
Initial Exploration Period was taken as Bench Mark.
59. Whether any material difference over the Bench Mark was
allowed for cost recovery only by the Government on the
recommendation of the Management Committee, duly
agreeing that the difference was due to change in
circumstances after the Contract came into effect
Article 16 60. Whether the partys share of profit petroleum was calculated
Production in accordance with the provisions of the PSC and the
Sharing of Government received its share of Profit Petroleum on the
Petroleum basis of option exercised by it, i.e., either in cash or in kind
7
61. Whether the amount of Profit Petroleum to be shared
between the Government and the Contractor was determined
for each Quarter on an accumulative basis.
62. Whether, pending finalization of accounts, Profit Petroleum
was shared between the Government and the Contractor on
the basis of provisional estimated figures of Contract Costs,
production, prices, income and any other income or
allowable deductions and on the basis of the value of the
Investment Multiple achieved at the end of the preceding
Year.
63. Whether all such provisional estimates were approved by
the Management Committee
64. Whether, within ninety (90) days of the end of each Year, a
final calculation of Profit Petroleum based on actual costs,
quantities, prices and income for the entire Year was
completed and any necessary adjustments to the sharing of
Petroleum were agreed upon between the Government and
the Contractor within thirty (30) days and made within thirty
(30) days thereafter.
65. Whether the Profit Petroleum due to the Government was
deposited with Pay & Accounts officer or its successor,
Ministry of Petroleum & Natural Gas, Government of India,
Shastri Bhavan, New Delhi by 10th of the Month following
each Quarter
66. Whether the Profit Petroleum due to the Contractor in any
Year from the Contract Area was divided amongst the
Parties constituting the Contractor, in proportion to their
respective Participating Interest.
Article 17 67. Whether the Companies (Leasee) paid Royalty to the
Taxes, Government (Lessor) at the applicable rates as stipulated in
Royalties, Article 17.4 of the PSC.
Rentals, Duties 68. Whether the royalty amount due to the Government was
etc paid latest by the end of the succeeding Month.
69. Whether the Customs Duty exemption was sought in respect
Machinery, plant, equipment, materials and supplies
imported by the Contractor and its Subcontractors solely and
exclusively for use in Petroleum Operations under the
Contract or similar contracts with the Government where
customs duty had been exempted.
70. Whether the Government exercised the right to inspect the
records and documents of the physical item or items for
which an exemption had been provided pursuant to Article
17.5 to determine that such item or items were being or had
been imported solely and exclusively for the purpose for
which the exemption was granted
71. Whether the Contractor paid annual license charges and
rental fees and other charges under the Rules as per PSC
provision
8
Article 18 72. Whether, within sixty (60) days prior to the commencement
Domestic of production in a Field, and thereafter no less than sixty
Supply, Sale, (60) days before the commencement of each Year, the
Disposal and Contractor prepared and submitted to the Parties a
Export of production forecast setting out the total quantity of Crude
Crude Oil and Oil that it estimates can be produced from a Field during the
Condensate succeeding Year, based on a maximum efficient rate of
recovery of Crude Oil from that Field in accordance with
modern oilfield and petroleum industry practices.
73. Whether, within thirty (30) days prior to the commencement
of each Quarter, the Contractor informed the estimate of
production for the succeeding Quarter
74. Whether the Crude lifting procedure and Crude sales
agreement based on generally acceptable international terms
was agreed upon by the Contractor with buyer(s) no later
than six (6) months or such shorter period as may be
mutually agreed between the Contractor and buyer(s) with
the consent of Government prior to the commencement of
production in a Field.
Article 19 75. Whether the value of Crude Oil, Condensate and Natural
Valuation of Gas was based on the price determined as per PSC
Petroleum Article/Provision
76. Whether each Company constituting the Contractor
separately submitted to the designated nominee of the
Government, within fifteen (15) days of the end of each
Delivery Period, a report containing the actual prices
invoiced in their respective Arms Length Sales for any
Crude Oil.
77. Whether any price or pricing mechanism agreed by the
Parties pursuant to the provisions of this Article was
changed retrospectively
Article 21 78. Whether Natural Gas produced from the Contract Area was
Natural Gas valued for the purposes of the Contract as follows :
(a) Whether Gas which was used as per Article 21.2 or flared
with the approval of the Government or re-injected or sold
to the Government pursuant to Article 21.4.5 was ascribed a
zero value;
(b) Whether Gas which was sold to the Government or any
other Government Nominee was valued on the terms and
conditions actually obtained including pricing formula and
delivery; and
(Explanation: This provision would apply only when the sale is
made to the Government or Government nominee under the
provisions of the Contract)
(c) Whether Gas which was sold or disposed of otherwise than
in accordance with paragraph (a) or (b) was valued on the
basis of competitive arms length sales in the region for
9
similar sales under similar conditions.
Article 23 79. Whether, within sixty (60) days after the end of each Year,
Local Goods the Contractor provided the Government with a report
and Services outlining its achievements in utilising Indian resources
during that Year in accordance with Section 10 of Appendix
C to the Contract.
Article 24 80. Whether the Contractor during the term of the Contract,
Insurance and maintained and obtained insurance coverage for and in
Indemnification relation to Petroleum Operations for such amounts and
against such risks as are customarily or prudently insured in
the international petroleum industry in accordance with
modern oilfield and petroleum industry practices
81. Whether the Contractor, within two months of the date of
policy or renewal, furnish to the Government, certificates
evidencing that such coverage is in effect.
Article 25 82. Whether, based on generally accepted and recognised

Records, accounting principles and modern petroleum industry
Reports, practices, record, books, accounts and accounting
Accounts and procedures in respect of Petroleum Operations were
Audit maintained on behalf of the Contractor by the Operator.
83. Whether the Contractor submitted to the Government
regular Statements and reports relating to Petroleum
Operations as provided in Appendix-C of the Model PSC
84. Whether the annual audit of accounts was carried out on
behalf of the Contractor by an independent firm of
Chartered Accountants, registered in India in accordance
with the generally accepted auditing and accounting
practices in India.
85. Whether the appointment of auditor and the scope of audit
had the prior approval of the Management Committee
86. Whether the Contractor submitted the audited accounts to
the Management Committee for approval within sixty (60)
days from the end of the Year.
87. Whether the Management Committee considered and
approved the auditor's report within thirty (30) days after the
submission of such report.
88. Whether the copy of the auditors report was submitted to the
Government within thirty (30) days after the approval of the
Management Committee.
89. Whether the Government exercised the right to audit the
accounting records of the Contractor in respect of Petroleum
Operations as provided in the Accounting Procedure.
Article 26 90. Whether the Contractor provided the Government, free of

Inspection, cost, all data obtained as a result of Petroleum Operations
Data, under the Contract including, but not limited to, geological,
10
Confidentiality, geophysical, geochemical, petrophysical, engineering, Well
Inspection, logs, maps, magnetic tapes, cores, cuttings and production
Security data as well as all interpretative and derivative data,
including reports, analyses, interpretations and evaluation
prepared in respect of Petroleum Operations.
91. Whether the Contractor furnished the Government with full
and accurate information and progress reports relating to
Petroleum Operations (on a daily, Monthly, Yearly or other
periodic basis) as the Government may reasonably require
92. Whether the Government exercised its right to inspect any
aircraft or ship used by the Contractor or a Subcontractor
carrying out any survey or other operations in the Contract
Area
Article 27 93. Whether the equipment and assets no longer required for
Title to Petroleum Operations during the term of the Contract were
Petroleum, sold, exchanged or otherwise disposed of by the Contractor,
Data and Asets and the proceeds of sale were credited to Petroleum
Operations as provided in Appendix C of the PSC.
94. Whether prior written consent of the Management
Committee was obtained for each such transaction in excess
of US$ 50,000 (Fifty thousand United States Dollars) or
such other value as may be agreed from time to time by the
Management Committee
Article 28 95. Whether prior written consent of the Government was

Assignment of obtained by the Contractor for assignment, or transfer of a
Participating part or all of its Participating Interest
Interest 96. Whether the assignee provided an irrevocable, unconditional
bank guarantee from a reputed bank of good standing in
India, acceptable to the Government, in favour of the
Government, for the amount specified in Article 29.3 of the
PSC, in a form provided at Appendix-G;
97. Whether the assignee provided a parent financial and
performance guarantee issued by the guarantor which
furnished the guarantee pursuant to Article 29 in respect of
the assignor Party's obligations under the Contract in favour
of the Government, of the performance of such Affiliate
assignee of its obligations under this Contract;
Article 29 98. Whether each of the Companies constituting the Contractor
Guarantee procured and delivered to the Government within thirty (30)
days from the Effective Date of this Contract an
irrevocable, unconditional bank guarantee from a reputed
bank of good standing in India, acceptable to the
Government, in favour of the Government, for the amount
specified in Article 29.3 and valid for four (4) years, in a
form provided at Appendix-G of the PSC;
99. Whether financial and performance guarantee in favour of
11
the Government from a Parent Company acceptable to the
Government, in the form and substance set out in Appendix-
E1, or, where there is no such Parent Company, the financial
and performance guarantee from the Company itself in the
form and substance set out in Appendix-E2 of the PSC was
provided by each of the Companies constituting the
Contractor
100. Whether a legal opinion from its legal advisors, in a
form satisfactory to the Government, to the effect that the
aforesaid guarantees have been duly signed and delivered on
behalf of the guarantors with due authority and is legally
valid and enforceable and binding upon them is submitted
101. Whether each of the Companies constituting the
Contractor procured and delivered to the Government before
the expiry of the Initial Exploration Period an irrevocable,
unconditional bank guarantee from a reputed bank of good
standing in India, acceptable to the Government, in favour
of the Government, for the amount specified in Article 29.3
and valid for the Subsequent Exploration Period opted by
the Contractor, in a form provided at Appendix-G, in cases
where the Contractor elects to retain the Contract Area
during the Subsequent Exploration Period by committing to
drill additional Exploration Wells after completing the
Minimum Work Programme under Article 3.4 (a),
102. Whether the amount of the guarantee referred to in
Articles 29.1 (a) and 29.2 of the PSC is the amount equal to
seven and one half percent (7 %) of the Company's
Participating Interest share of the total estimated
expenditure in respect of Minimum Work Programme
including Mandatory Work Programme or additional Work
Program as the case may be, to be undertaken by the
Contractor in the Contract Area during the Initial or
Subsequent Exploration Period
103. If any of the documents referred to in Article 29.1
was not delivered within the period specified therein,
whether the Contract was terminated by the Government
upon ninety (90) days written notice of its intention to do so.
Article 31 104. Whether the Party claiming suspension of its
Force Majuere obligations on account of Force Majeure, promptly, within
seven (7) days after the occurrence of the event of Force
Majeure, notify the Management Committee in writing
giving full particulars of the Force Majeure, the estimated
duration thereof, the obligations affected and the reasons for
its suspension
12
Additional Points to be examined in addition to the check list while conducting
Audit of Production Sharing Contract (PSC)
Relinquishment
1. Was the delay in relinquishment, if any, attributable to the Operator or

the Regulatory agencies?
2. Were the delays in relinquishment due to procedural or substantive

reasons, i.e., due to non and/ or delayed submission of documents
required to be submitted as per PSC provisions.
Discovery and Development
1. Did the contractor make discoveries in the contract area after

expiry/conclusion of the Exploration period?
2. Were the discoveries in the contract area made during appraisal period
through exploration?
3. Were the discoveries in the contract area during Development phase

through exploration?
4. Whether Exploratory Area, post discovery, applied for by the operator

for conversion into Mining Lease, was commensurate with aerial extent
of the discoveries.
5. Whether the Regulator has ensured that Development Areas are proposed
to be delineated strictly in terms of PSC provisions considering the
number and size of discoveries i.e. size of Development areas vis--vis
size & number of discoveries?.
6. Did the Development Areas include excess area?
7. Whether the development work commitments detailed in the PSCs were

completed as per the provisions of the PSC? If not so, the shortfall in
terms of deferment of production of oil and gas, and its impact on IM and
GoI Profit Petroleum including the impact on royalty and Cess due to
delay in completion of the development work commitments should be
quantified and stated in the audit exceptions.
8. Whether the declaration of new discovery was made as per the provisions of
the PSC? If not so, the same should be stated in the audit exceptions
Cost Recovery
1. Whether the operator had made commitment to third parties or incurred

costs without the approval of WP&B by the Management Committee?
13
2. Whether the operator has claimed cost recovery of items still lying in
store/inventory and not consumed?
3. Whether the operator has claimed cost recovery of expenditure incurred

on exploration activities (a) after expiry of exploration phase (b) carried
out in the relinquished area (c) not approved by the MC?
4. Whether the cost recovery limit as stipulated in the PSC had been
adhered to by the JV? If not so, the excess cost recovery made by the JV
and its impact on the GoI take should be quantified and stated in the audit
exceptions
Procurement of Goods and Servicers
1. Whether the contracts had been awarded as per the procedure laid down in
the Joint Operating Agreements (JOA) ? If not, the deviation to the JOA
may be commented. The excess expenditure, if any, due to deviation from
JOA procedures should also be quantified and stated in the audit exceptions.
2. Whether contracts were awarded on Nomination or single bid basis?
3. Whether the contracts were awarded without assessing reasonability of

rates?
4. Whether the contracts were extended beyond contractual provisions?
5. Whether extension of contract was truly justified in terms of operational

requirements?
6. Whether the extension of contract beyond contractual provisions was

approved by the Competent Authority/Operating Committee/Management
Committee ?
7. Whether economies of scale in terms of reduction in rates were factored

while seeking extension of contracts?
8. In case of repeated extensions of contract, whether extension was used as a

tool to award contracts on Nomination basis ?
9. Whether the projects were awarded in time? Whether the projects were
executed as per the time schedule given in the contract? If not, the reasons
for delay in award and execution of contract, along with the impact of the
delays on the Government take should be quantified and stated in the audit
exceptions.
10. Whether the payments made by the JV to the contractors for providing
services/materials etc to the JV were as per the terms of the contract
14
between the JV and the contractor? If not, the impact of the same should be
quantified and stated in the audit exceptions
Items procured against Essentiality Certificate (EC) issued by DGH
1. Whether the items procured by the operator against ECs had been properly
utilized for intended purpose as per PSC provisions?
2. If such items are lying unused, what is the quantum of custom duty
exemption availed by the operator while importing these items as per PSC
provisions? Whether the custom duty so availed by the operator has been
worked out and paid to the Government as per PSC provisions?
Determination of Well Head value :

The MoPNG in August 2007 notified the norms to determine wellhead price of
gas for the purpose of royalty. As per the notification, per unit of post wellhead
cost was to be determined based on the actual post wellhead expenditure reported
in the previous years audited accounts. Further, oil industry development cess,
depreciation expenses, income tax, surcharge thereon, education cess and profit
petroleum were not to be allowed as post wellhead costs.
Whether the JV was calculating the post wellhead costs as per the above
notification and further clarifications issued by the MoPNG?
Whether the deficiencies in calculation of wellhead value in contravention to the

MoPNGs notifications along with the impact of the same on Government take
were quantified and stated in audit exceptions.
Pricing of gas/oil sales from the contract area
Whether the pricing of oil and gas had been done as per the terms of the PSC? If
not, the reasons and the impact of the same on the Government take if any,
should be quantified and stated in audit exceptions
Oil and Gas Sale agreement
Whether the agreement for sale of oil and gas hsd been entered into by the JV
with the buyer as per the terms of the PSC? If not, the reasons for the delays may
be brought out in audit exceptions
Inventory
1. Whether there was any difference between the drilling inventory as per
inventory records (computerized or manual records) and the trial balance.
The impact of difference, if any, may be quantified and stated in the audit
exceptions.
2. Whether the sparable inventory had been disposed off in time by the JV?
If not so, the impact of the same on inventory carrying cost as well as on
the GoI take should be quantified and stated in the audit exceptions.
Booking of payments made to expatriates and support staff
Whether the time spent by the expatriates and support staff for non-JV activities
has been allocated to the non-JV activities by the JV? The financial impact in
15
case of incorrect allocation should be quantified and stated in audit exceptions.
Insurance
1. Whether the premium paid for insurance policy taken jointly for the JV
and non-JV activities has been segregated and only the premium which
was related to JV activities has been booked in JVs accounts? If not, the
financial impact of the premium paid on non-JV activities should be
quantified and stated in the audit exceptions
2. Whether, the premium paid by the JV Partners for offshore package
policy included any adjustments to be carried out (such as changes in
meterage of wells drilled etc), as per the Package policy. If the
adjustments as per the package policy were not carried out by the JV, the
same should be quantified and stated in audit exceptions
3. Whether each contractor of the JV was securing separate insurance to
cover its interest for offshore installations with different types of risks to
a different extent, resulting in non-uniformity in coverage and premium.
In such case, the same should be stated in the audit exceptions. (The
MoPNG in February 2007 instructed DGH to formulate a standardized
policy for insurance coverage for consideration by Government; however,
no such policy was formulated by DGH.)
Notional Income Tax
As per the provisions of the PSC, if any change in or to any Indian Law, rule or
regulation by any authority resulted in a material change to the economic
benefits accruing to any of the parties to the contract after the effective date of
the contract, the parties shall consult promptly to make necessary revisions and
adjustments to the contract in order to maintain such expected benefits to each of
the parties.
Whether the Government as a party to the contract had invoked the above clause
to safeguard its interest due to change in law? If not, the impact on the
Government take should be quantified and stated in audit exceptions.
Determination of Abandonment cost
As per the PSC, the JV had to determine the abandonment cost for the fields in
order to determine the point at which the abandonment provision has to be made.
Whether the JV has determined the abandoned costs as per the PSC? The
deviations/ non compliance if any, should be stated in the audit exceptions
Submission of bank guarantee and performance guarantee
Whether the contractor had submitted the bank guarantee and performance
guarantee as per the PSC Provisions? The deviations/ non compliance if any,
should be stated in the audit exceptions
16
Additional points for Check list based on Study Design Matrix prepared before
commencement of PSC Audit :
1. Whether the clearances were obtained from Ministry of Environment and

Forests/Ministry of Defence/Forest/Fisheries Department before NIO
2. Whether the procedure for selection of Block was laid down and documented
3. Whether the process of contracting was fair, transparent, competitive and in

accordance with policy objectives
4. Whether the records, as required to be submitted to DGH by the Contractor as

per the terms of the PSC, were submitted to DGH by the Operator of the
Blocks in respect of JV operations in compliance with the provisions of the
PSC
5. Whether various reports/statements from operators to DGH as per the

provisions of the PSC were submitted in time by the Operator to DGH, so as
to examine as to whether monitoring mechanism of DGH was adequate and
effective to ensure adherence to the PSC provisions so as to protect the interest
of the Government
6. To review Management Committee Meetings/Operating Committee Meetings

and periodical reports submitted by the Operators to DGH, so as to examine as
to whether various provisions of PSC were complied with, in order to ensure
that exploration/development activities were being carried out within the
approved program/schedule.
7. Whether there was any change in PSC conditions after its signing, whether the
same was justified and documented, and what was the impact thereof on the
overall Government take
8. To examine basis of approval of gas/crude pricing formula, appraisal program,

development program and its subsequent revision at a later stage, if any, to
ensure transparency in decision making process in the DGH
9. Whether the Capital expenditure was duly analysed to determine any

possibility of gold plating of expenditure and its impact on Government Take
in case of Blocks under development/production
10. Whether the Government Take (PP, levies etc) were realized in time and
completely
11. Whether the Relinquishment and the Penalty provisions had been followed
uniformly
17

B-01 DK Production Sharing Contracts

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HYDROCARBON PRODUCTION

Oil (2012) Natural Gas (2012)

Proven Production Consumption Proven Production Consumption

Thousand million Barrels TCM BCM BCM

Asia Pacific 41.5 7928 23446 15.5 323.2 367.7

India 5.7 819 2555 1.3 29.4 32.1

0.3% 1.0% 3.2% 0.7% 1.1.% 1.2%

Exploration Development Production

Management Contractor States approval Each

Licensee Contractor NOC/ Contractor NOC/

Mining Lease (ML)

No customs duty on imports for Petroleum

Oil Fields (Regulation and Development) Act 1948.

Petroleum and Natural Gas Rules1959.

Territorial Waters, Continental Shelf ,Exclusive Economic

Environment (Protection) Act 1986.

Water (Prevention and Control of Pollution) Act 1974 .

Air ( Prevention and Control of Pollution ) Act 1981.

1015 exploration 23 discoveries 1 field developed Contractor to cover failed exploration

Overall Risk : HIGH Overall Risk : HIGH

regime Government and not a

Overall Risk : HIGH Overall Risk : HIGH

Management Committee (MC)

MC to function as a Corporate Board, to act in the best interests of the block

Functions under the Contract be performed by

Understanding of areas where contractor may

Audit arrangement in PSC

It is also provided in the accounting procedure that Government, after giving

CAGs Audit Mandate

Major Audit Findings

1. Non-relinquishment of area and declaration of entire contract area as

2. Delay in notifying discoveries

4. Development and Procurement Activities in MA Field

In our opinion, such disqualification of vendors on technical grounds, after a pre-

Article Check list

2. Whether the Accounting Procedure specifies the manner in

27. In the event that the Contractor failed to fulfill the

Article 6 29. Whether the Management Committee meetings were held

Article 25 82. Whether, based on generally accepted and recognised

Article 26 90. Whether the Contractor provided the Government, free of

Article 28 95. Whether prior written consent of the Government was

1. Was the delay in relinquishment, if any, attributable to the Operator or

2. Were the delays in relinquishment due to procedural or substantive

1. Did the contractor make discoveries in the contract area after

3. Were the discoveries in the contract area during Development phase

4. Whether Exploratory Area, post discovery, applied for by the operator

6. Did the Development Areas include excess area?

7. Whether the development work commitments detailed in the PSCs were

1. Whether the operator had made commitment to third parties or incurred

3. Whether the operator has claimed cost recovery of expenditure incurred

2. Whether contracts were awarded on Nomination or single bid basis?

3. Whether the contracts were awarded without assessing reasonability of

4. Whether the contracts were extended beyond contractual provisions?

5. Whether extension of contract was truly justified in terms of operational

6. Whether the extension of contract beyond contractual provisions was

7. Whether economies of scale in terms of reduction in rates were factored

8. In case of repeated extensions of contract, whether extension was used as a

Items procured against Essentiality Certificate (EC) issued by DGH

Determination of Well Head value :

Whether the deficiencies in calculation of wellhead value in contravention to the

1. Whether the clearances were obtained from Ministry of Environment and

3. Whether the process of contracting was fair, transparent, competitive and in

4. Whether the records, as required to be submitted to DGH by the Contractor as

5. Whether various reports/statements from operators to DGH as per the