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Cablegate: Indonesia Targets Cost Recovery in Oil and Gas Production

VZCZCXRO4439
RR RUEHJS
DE RUEHJA #1579/01 2330445
ZNR UUUUU ZZH
R 200445Z AUG 08
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 9843
INFO RHMFIUU/DEPT OF ENERGY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEHJS/AMCONSUL SURABAYA 2245

UNCLAS SECTION 01 OF 02 JAKARTA 001579

SENSITIVE
SIPDIS

DEPT FOR EAP/MTS and EEB/ESC/IEC/ENR
DOE FOR CUTLER AND GILLESPIE
DOC FOR ITA/MAC NADJMI
DEPT PASS TO USTR KEHLERS

E.O. 12958: N/A
TAGS: ENRG EPET EINV ID
SUBJECT: INDONESIA TARGETS COST RECOVERY IN OIL AND GAS PRODUCTION
CONTRACTS

1. (SBU) Summary. The Indonesian government instituted a negative
list for cost recovery items under oil and gas production sharing
contracts, in a decree signed June 30 and released publicly in early
August. Oil and gas companies noted that the regulations disallowed
expenses that had been allowed for decades, although they
acknowledge the political pressures surrounding oil and gas
production costs. There are different signals within the Ministry
of Energy and Mineral Resources on the next steps for cost recovery
- the MIGAS Director General declared that future oil and gas
production contracts may not include cost recovery provisions, while
the Chairman of BP Migas stated that cost recovery would have to
remain in the contracts. End Summary.

-------------------------------
The Cost Recovery Negative List
-------------------------------

2. (U) In early August the Minister of Energy and Mineral Resources
(MEMR) notified companies of Decree Number 22, a negative list of
cost recovery categories signed by Minister Purnomo Yusgiantoro on
June 30. The new regulations disallow cost recovery for seventeen
expense categories, including foreign worker costs, tax and legal
consultants, certain kinds of public relations, environmental and
community development, fees for site abandonment and restoration,
cost overruns, and costs due to operating errors.

3. (U) The decree follows a period in which BP Migas has become more
stringent on the types of costs that it would allow for cost
recovery. Many foreign companies have complained that expenses that
have been transparently declared and allowed for decades, and on
which they based their cost estimates, are being denied.

4. (SBU) The Indonesian Petroleum Association, representing foreign
and domestic oil and gas producers, has been engaging the Indonesian
government on the cost recovery issue. Because of the political
sensitivities surrounding cost recovery, changes to the regulations
have been rumored for some time. However, IPA President Roberto
Lorado expressed surprise that the regulations were finalized before
the government completed consultations with the industry.

--------------------------
Calls for Cost Containment
--------------------------

5. (U) Cost recovery has become a hot political issue in Indonesia,
spurred by the rising cost of fuel subsidies and declining domestic
production of oil and gas. Adding to the concern is the fact that
production costs are rising as producers use new equipment and
procedures to maximize output at aging fields. The press has run
stories on alleged improper cost recovery charges for several years,
citing items such as DVDs, parties, dance lesson, and charities,
indicating that bill-padding is a major problem in production
sharing contracts (PSC).

6. (U) With the public perception that rising costs are due to
inefficiency and corruption, demands to reduce cost recovery charges
have become more heated. Several members of the legislature
recently called for cost recovery payments to be reduced to a 15%
average of oil and gas revenues, down from the current 23% average.
BP Migas, the oil and gas upstream regulator, has pointed out that
the 15% goal is unrealistic, noting that cost recovery constitutes
40% to 60% of gross revenues in some oil and gas producing
countries. As production moves further offshore and into deeper
waters in Indonesia, BP Migas sees costs rising, not falling.

-----------------------------
Will Cost Recovery Disappear?
-----------------------------

7. (SBU) Amid the debate on cost recovery, the Director General for
Oil and Gas (Dirjen MIGAS) Evita Legowo stated at a press conference
on July 28 that the Indonesian government may do away with cost
recovery entirely in future contracts for oil and gas development.
Although this statement was made prior to the announcement of the
cost recovery negative list, MIGAS officials, who are responsible
for overall policy for oil and gas exploration and production,
indicated that eliminating cost recovery remains an option.

8. (SBU) The Chairman of BP Migas, R Priyono, stated his opposition
to eliminating cost recovery in a conversation with Econoff. While
stressing that the Indonesian government will only enter into
contracts that maximize the benefits to the country, he acknowledged
that PSCs are the best option, and cost recovery is a necessary
component of a PSC. Of the two primary types of contracts that do

JAKARTA 00001579 002 OF 002


not require cost recovery - technical services contracts (TSC) or
royalty/tax systems - Priyono sees neither as appropriate for
Indonesia. In a TSC, Pertamina would manage all production and hire
companies to do drilling and production services only, and Priyono
does not believe that Pertamina has the capacity or capital to
manage these contracts nationwide. He is also not in favor of tax
and royalty systems, despite their popularity with production
companies, because he does not believe they provide the government
with enough control over these necessary commodities.

HUME

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