Views/ A Mysterious Case of Adriatic Oil and Gas E&P Licensing
Miloš VučkovićAdvokat / Senior Partnermilos.vuckovic@karanovicpartners.com

This article was originally published in Energy World Magazine, Issue No 6, March - April 2015.

In the spring of 2013, the Croatian authorities announced that they would issue a modern oil and gas licensing tender open to all international players, all within the following 12 months. At that time, Croatia did not have a transparent system for granting exploration licences. 

Following the announcement, a fast track route to legal framework proved to come just in time before the Ukraine crisis as if it was somehow foreseen. First came the Petroleum Law that governs all oil and gas exploration and production activities. The law was formed according to international best practice based on the legislation of several European countries and broader international jurisdictions. 

Then the government established the Croatian Hydrocarbons Agency, a specialised body that operationally supports and monitors petroleum activities. The Agency established the data room with seismic and welling data for the Adriatic, combining historic records of the former national oil company with the latest data acquired by using modern techniques, totalling 30.000 km of 2D seismic data and approximately 4.500 km2 3D acquired data and 51 wells. 

The government issued a fiscal terms regime based on production sharing. The data room was opened to potential bidders just before the 12-month deadline expired in March 2014. In the following month, the government announced the first Croatian offshore licensing round. It published the bidding documentation containing the prize, a production sharing agreement model. Over forty international oil companies, including all of the supermajors, attended the announcement. 

Stabilisation Promise

The first Offshore Licensing Round offered 29 licenses for the exploration and production of hydrocarbons on the continental shelf of the Croatian portion of the Adriatic. Successful bidders would be granted a 30-year license to perform E&P activities within the awarded block, and would, simultaneously, enter a production sharing agreement with the Croatian Government. The third licence element is the concession, which is granted automatically once a commercial discovery is announced. The three predetermined elements ensure investors are not affected by shifts in changes in local government and regulations. 

The model production sharing agreement contains a very strong stabilisation covenant. Where any legislative change substantially alters the original economic or commercial setup, parties shall renegotiate and supplement the agreement to reinstate the original balance. 

Bids were due by 3 November 2014.  Six companies submitted their bids for 15 exploration areas. On February 1st 2015 five companies, Marathon Oil, OMV, ENI, MEDOILGAS and Croatian INA, were awarded licences for 10 exploration blocks. The immediate financial effect is the payment of EUR 13 million in signature bonuses, due after the PSAs are signed following a 3-months signing period. A deferred effect of EUR 550 million in investment plan commitments is expected to follow. 

The Issue

The 1st Offshore Licensing Round Bidding Guidance had the approval of seven relevant ministries, including among others, the Ministry of Environmental Protection. In order to inspect the relevant aspects of the petroleum activities on the Croatian side of the Adriatic, the Croatian Ministry of Environmental Protection commissioned a strategic environment impact assessment. Some think the process went the other way around, in that the assessment was to be made before the licensing round was announced. Others think the offer of licences is genuinely fine, that only the terms of protection need to be determined before actual activities take place. 

The assessment was completed in January 2015, and published for public discussion. It identified the potential impact on tourism, the fishing industry, biodiversity and proposed measures to reduce the impact. Tourism in the Adriatic coast is touted as the last remaining crutch for the Croatian economy. It is therefore no surprise that public opinion is very harsh on the assessment. Activists believe the assessment is superficial and that it underestimates (or entirely omits) certain risks. They have even contemplated a referendum to prevent operations. Not only the activists who are condemning the process, but also the political opposition that may win the elections at the end of 2015 has opened reservations towards the whole process.

What Tomorrow Brings

The tensions and threats to the exploration process could not have come at a worse time for Croatia. Global factors such as oil supply causing a plunge in oil prices or the rerouting of the gas import pipelines for the EU are most definitely concerning. 

However, global factors may possibly have less impact than the general notion that Croatia may (yet again) not keep its promises to investors. Investors in highway concession processes are biting their nails in anxiety for the outcome of a referendum aiming to halt that process. Croatian history is full of examples where fast track investments have disappeared due to polarizing public opinion and interference, which resulted in investment disputes. 

One should keep in mind that the offshore licencing is not completed. The remaining 19 blocks will be offered in a renewed tender before the second half of 2015. If not affected by changes in the energy commodities market, potential bidders will surely keep a close eye on the fate of the ten licenses granted in the first round. If the existing five investors do not to get what they bid for (and won), there might be no new bids. 

The five companies who are now the licensees may suffer exponentially larger damage. Investors obviously complied with all the red tape legislation put in front of them. They committed to something which may end up substantially different to what they originally bid for (should there be any restrictions). Should the whole process fail, investors might even be asked to forget the whole thing. Lost profit may be counted for in billions, regardless of currency. 

Surely, one should not unconditionally compromise environmental safety in the name of corporate revenue. But is there really any way our economy can move forward with new industrial investments? The obvious reply should be that there is. But for Croatia, the only reliable answer is the time will tell. 

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