Middle East Articles

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Kuwait Oil Sector

Oil has been and continues to be the State of Kuwait's most precious natural resource. By virtue of the Kuwaiti Constitution, the State owns and controls all oil resources in Kuwait. The State alone has the power to exploit, utilize and safeguard those resources (Article 21, Kuwaiti Constitution, Law No. 1 of 1962). As such, the right to concessions and/or monopolies for the exploitation of Kuwait's natural resources, including oil, may be created only by virtue of a law and only for a limited time (Article 152 and 153, Kuwait Constitution).

At the time the Constitution was drafted to include these provisions, the private sector and foreign oil companies owned interest and had rights in Kuwait oil resources pursuant to various concessions. In 1975, through a series of agreements and legislation, these rights reverted back to the State of Kuwait, represented by various State agencies and/or State wholly-owned commercial companies, including Kuwait Petroleum Corporation (KPC), Kuwait National Petroleum Company (KNPC), Petrochemicals Industries Company (PIC) and Kuwait Oil Company (KOC).

KPC was established in 1980 as a public corporation and is the major player in the Kuwaiti oil sector. In general, its objects are to engage in all activities relating to the petroleum industries and hydrocarbonic materials in all their stages, as well as all related industries, both within and outside Kuwait (Article 3, Law No. 6 of 1980). Included in the many activities in which KPC may engage in achieving its objects is the right to form partnerships with other companies or entities that engage in similar activities and that may assist KPC in realizing its objects (Article 5, Law No. 6 of 1980). Historically, KNPC, KOC and PIC were partially owned by the State in conjunction with private investors. KNPC was established by Decree in 1960, as a 60/40% partnership between the State and the private sector, respectively. Its objectives were to engage in the oil industry inside and outside Kuwait and to engage in any stage of oil production, including exploration of petroleum and natural gas, refining and transportation. PIC was established in 1963 between the State and local private investors as a commercial company for the purpose of establishing a petrochemical industry for Kuwait. Finally, in 1974, the State entered into a Participation Agreement with BP Limited and Gulf Kuwait, creating KOC. The current objects of this entity are the exploration, exploitation, refining and production of oil for the local market and for exporting purposes. Through a series of legislation in the mid 1970s aimed at nationalizing the oil sector, KNPC, KOC and PIC became fully owned by the State. Ultimately, by virtue of the 1980 law establishing KPC, all of these companies were transferred to KPC.

As part of the nationalization effort, Kuwait created several public entities/bodies whose purpose is to set policies for and monitor the activities of this crucial sector, including the Supreme Petroleum Council. This Council, established by Amiri Decree in 1974, is tasked with setting the general policies of the oil sector, within the framework of the national economic and social development plan. The nationalization process culminated in 1986 with the formation of the Ministry of Oil as a separate Ministry from the Ministry of Commerce & Industry. The Ministry exercises policy-making powers in conjunction with the SPC and performs a supervisory role over all public institutions that are related to the oil sector in Kuwait. As such, the Minister of Oil is the Chairman of KPC and a member of the SPC. To date, this remains the corporate and governmental structure of the oil sector in Kuwait.

In recent years, the Kuwaiti government has proposed the development of its northern oil fields with the participation of international oil companies (IOCs). As explained by the KPC Deputy Chairman and CEO in his presentation at the November 1999 Conference on "The Role of International Oil Companies in the Development of Oil Fields in Kuwait," the key objectives of the Northern Oil Fields Development Project (Project) are: (1) to achieve cost savings and improve efficiency, (2) to train and create job opportunities for Kuwaitis, (3) to acquire modern management techniques and (4) to encourage strategic and economic ties with IOCs. There are four main principles, according to the presentation, that would govern the relationship with IOCs. First, the relationship must be consistent with the Kuwaiti Constitution. Second, Kuwait must retain ownership of all petroleum produced and revenues therefrom. Third, title to crude oil and gas will not transfer to IOCs. Fourth and finally, the relationship will be reflected in an Operating Service Agreement (OSA), a service type relationship having been determined to best meet Kuwait's objectives in the Project. Under this OSA structure, Kuwait will maintain sovereign control over production and strategic management, while the IOC will maintain control over the operational management, acting as a contractor or service provider and employing a set quota of Kuwaiti labor. The IOC will incur 100% of the capital and operating costs and will be compensated with a variety of fees designed to cover these costs, provide behavior based incentives and reward performance achievements. The types of fees envisaged in the economic model so far include an 'old oil' fee to be paid on production that could be produced by KOC; a 'new oil' fee to be paid on production above the old oil curve; a gas fee; and an allowance for the recovery of actual capital incurred and one for annual capital investments. At the time of the November 1999 presentation, the government was anticipating the award of one OSA to a multi-national consortium of IOCs.

There are differing viewpoints among the Members of Parliament in Kuwait on the need for and the feasibility of involvement by IOCs in the Project. One view is that Kuwait does not need the assistance of IOCs in meeting its targets for the development of the northern fields and, if it does, then the government shoulders the blame for not developing local skills to undertake the task to be given to the IOCs. Another commonly held viewpoint is that, while IOC assistance is needed for the Project, the government must present all aspects of the relationship to Parliament for approval. Those who advocate this position believe that the government should present Parliament with full information on the technical, economic and other relevant details of the relationship and that Parliament should vote on the pre-qualification and award procedures and the actual agreements, all of which should be adopted by a law. A third viewpoint is that Parliament need only ratify the agreements by Law.

Keeping in mind the objectives of the State, as well as the various positions of the Members of Parliament, the SPC has recently approved a draft law on the Project. This law reiterates the Constitutional principle that natural resources belong to and should be protected by the State, yet provides that contracts may be entered into with foreign investors (i.e., IOCs) for the purpose of developing operational oil fields. In essence, the law provides that, prior to any agreement, the foreign investor must obtain a license setting out the permitted activities; the geographical location; the term, not to exceed 30 years; the terms and conditions for transfer to another investor, including a foreign one; and, an undertaking by the foreign investor not to harm the State's national interests. This license must remain in force throughout the life of the OSA, which in most instances may not exceed 20 years, and is granted by the SPC upon the recommendation of the Minister of Oil. Pursuant to the draft bill, the OSA will set out the terms and conditions of the work to be performed, the objectives to be achieved and the manner of achieving them; the parties' rights and obligations; the initial term; the percentage of local labor to be used by subcontractors, and an undertaking by the foreign investor to use local suppliers in satisfying its requirements of goods and equipment. The foreign investor may not receive non-monetary compensation for its services and must employ a percentage of its labor from the local Kuwaiti market. Significantly, the draft provides that the Minister of Commerce and Industry may exempt the foreign investor from the requirement of having a local agent or a majority Kuwaiti partner. In terms of rights granted to the foreign investor under the draft, the foreign investor may transfer or assign its investment to another foreign investor, it may repatriate capital and profits, and is entitled to compensation, should the State take over the Project. Moreover, it may avail itself of one or more of the following benefits, upon the approval of the Minister of Oil:

• An exemption from taxes and tariffs throughout the life of the OSA;
• An exemption from customs duties;
• An appropriation of real estate and lands for the purposes of the Project;
• An exemption from restrictions on imports and exports; and
• Benefits of double taxation treaties and treaties protecting foreign investment.

Finally, the penalties for violating the terms of a license or OSA under the draft bill include warning, withdrawal of privileges or withdrawal of the license and liquidation of the investment.

The next step in the life of this bill and, more importantly, the Project, is the presentation of the bill to the Cabinet and, ultimately, to the Parliament for final approval. Once approved, the law must be published in the Official Gazette of Kuwait, at which point it will become effective. KPC had originally set August as the deadline for the conclusion of this process. Whether or not it would succeed largely depends on the government's approach to Parliament and Parliament's conviction that the Project may result in a win-win situation.