This article first appeared in The Edge Malaysia Weekly on July 30, 2018 - August 5, 2018

The oil-producing states of Sabah, Sarawak and Terengganu want more money from their oil and gas resources, but under the Petroleum Development Act (PDA), which governs the industry, they are entitled to only 5% royalty based on gross production.

The PDA also states that all oil and gas resources discovered three nautical miles away from the shores of the states belong to Petroliam Nasional Bhd (Petronas), the national oil corporation, as it is the sole custodian of the country’s hydrocarbon resources.

The newly elected Pakatan Harapan (PH) government, in its election manifesto, had promised these states that they could get more revenue, but now — with official oil and gas data available — it seems unsure about how best to do it.

Let us look at the various situations and views of some stakeholders.

The PH manifesto: More oil revenue for oil-producing states, notably Sabah, Sarawak, Terengganu and, perhaps, Kelantan. (This is because Kelantan’s entitlement from which oil/gas production fields had not been identified, formalised and recognised by the previous Barisan Nasional government). The plan is to increase revenue to 20%, but will it be done by increasing the royalty (based on gross production per barrel) from 5% to 20 %, or from profit after tax?

Economic Affairs Minister Datuk Seri Azmin Ali: A special Cabinet committee comprising experts from oil-producing states will study and draw up recommendations to be presented to the Cabinet. If the 20% oil royalty is based on gross revenue, there will be huge implications on Petronas’ financials.

Sarawak government: Gabungan Parti Sarawak’s Batang Sadong MP Datuk Seri Nancy Shukri was quoted in Parliament as saying that the 20% offer made by PH is not sufficient and that the amount should be more. The party says it must be based on gross revenue. Nancy is former co-chairman of the steering committee on the devolution of powers, which seeks greater autonomy from the federal government. But does Sarawak have strong bargaining power now that it is an opposition state?

Sabah and Terengganu governments: They are awaiting a clarification on how the oil/gas revenue will actually be calculated. In the meantime, Terengganu Menteri Besar Dr Ahmad Samsuri Mokhtar says the federal government has agreed that Petronas pay royalty directly to the state government instead of through a central agency, as was the case previously.

Petronas: So far, all is quiet on its front. Shouldn’t it present its case and call a spade a spade that 20% royalty of gross production, up from the current 5% — plus the fact that the recovery cost for oil companies has increased drastically and that its share of profit oil has declined over the years — is not tenable? And that foreign oil companies that have signed production-sharing contracts (PSCs) would never agree to a change of terms not favourable to them? In short, additional money for the states must come either from Petronas or the federal government’s coffers.

A reminder: Tan Sri Hassan Marican, a member of the Council of Eminent Persons advising the PH government, was former president and CEO of Petronas. In an interview with The Edge when he was still helming the national oil corporation, he was asked if Petronas had done enough in contributing back to the nation via the federal and state governments. This was his reply: “What is enough [by definition]? As trustee of the nation’s hydrocarbon resources, we have fulfilled our obligation. If we are not allowed to reinvest between 30% and 35% of our profit, then there is a risk of insufficient revenue stream in the future. We have to have enough to reinvest for the sake of future generations as oil and gas are finite commodities, unlike palm oil or rubber which can be replanted.”

Having enough money to reinvest was what had, over the years, enabled Petronas to grow into a multinational and a Fortune 500 company with operations in more than 30 countries.

The Edge says: Before anything can be done, the legal framework that governs Petronas and the oil and gas industry — the PDA — needs to be amended. The PDA not only provides Petronas with regulatory powers but also makes it the sole custodian of the nation’s hydrocarbon resources. This has been agreed to by all state governments after consultation with the federal government when Petronas was set up in 1974 and the PDA was passed by parliament.

Oil royalty cannot be increased to 20% as long as the PDA is not amended. One also has to take into account that the existing PSCs Petronas has signed with the MNCs — which stipulate 5% royalty to the states — remain intact.

But can the oil-producing states still get a 20% share of oil revenue without the risk of putting a severe strain on the finances of Petronas and the federal government? Perhaps, but there is a caveat.

At the moment, all the states (and this should include Kelantan) get 5% royalty. If the federal government gives up its share, then royalty for the states is increased to 10%. The remaining 10% can come from the oil revenue that the federal government gets — dividends from Petronas, Petroleum Income Tax that covers the upstream operators, corporate tax and export duties. Last year, this portion amounted to RM34 billion.

For the oil-producing states, the caveat is this: The federal government has to compensate for the shortfall in its oil revenue.

While they get higher royalty or revenue, paid directly to the state governments, which will allow them to manage their own finances and prioritise development projects according to their needs — they should be prepared to get less development funds from the federal government. This would in turn allow the federal government to channel and distribute development expenditure fairly to non-oil producing states.

Will the oil-producing states be agreeable to this? Maybe not, but as members of the federation, they should.

There will be a lot of debate in the coming months, but let the Cabinet committee set up to study the matter give its recommendations. Hopefully, a consensus can be reached — one that will ensure fair wealth distribution among all states in the federation while taking care of Petronas’ long-term commercial survivability.

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