Exclusive Q&A on Energy & Natural Resources with Mirza Karim
Posted: 20th February 2020 08:27
What Impact are we likely to see on business operations in the near and mid-future?
Indonesia has recently re-elected Joko Widodo (“Jokowi”) as their President for a second (and final) five-year term. His work strategy for the coming years is to focus on deregulation and simplifying government bureaucracy, aiming at increase in production of local goods and services, empowerment and support of start-ups, and attraction of an increase in foreign, as well as domestic, investment.
Thus, it can be seen that business operation would be likely to increase in the near future as a result of the measures the government gas already commenced on taking. A new “Omnibus Law” will merge 74 conflicting laws into a single law, making business processes more efficient and business-actor friendly.
Furthermore, specifically in the oil and gas sector, Jokowi is trying to push for the reform of the current oil and gas law, which is riddled with bureaucratic, confusing administrative procedures and misunderstandings. This reform focuses on the removal of various levels of regulators and bureaucracy and providing better incentives for oil and gas producers as well as contractors.
Have there been any recent regulatory changes or interesting developments?
On the 27th of August 2019, Finance Minister, Sri Mulyani Indrawati enacted Ministerial Regulation No. 122/PMK.03/2019, which offers further incentives for Production Sharing Contractors (“PSCs”).
Essentially, this regulation elaborates tax facilities, such as: the removal of value-added tax or tax on luxury goods (PPN/PPnBM), as well as the reductions in the land and building tax rate, for the upstream oil and gas business activities at the exploitation and exploration stages.
With this incentive, the Special Task Force for Upstream Oil and Business Activites of the Republic of Indonesia (“SKK Migas”), hopes that upstream exploration will become more attractive to PSCs, as well as other investors. This step would be necessary to expand the market, which, as at 2018 showed that only 100 out of out of the 210 approved blocks are already at the exploration stage.
Are there any barriers or restrictions to foreign investment in your jurisdiction?
Foreign entities have several options for investment in Indonesia and which one will be most suitable in any instance will depend primarily upon the intended activity.
In almost all fields, foreign interests may own shares in, or establish, an Indonesian foreign investment company (PMA) upon application to and approval of the Investment Coordinating Board (BKPM), as governed by the Foreign Investment Law, currently Law No. 25 Year 2007. This route is not open for upstream oil and gas exploration, nor onshore drilling services or power plant transmission, but it is for most downstream activities and for geothermal or mineral mining, at percentages ranging from 49% to 95%, depending on the actual activity. The government periodically promulgates regulations containing the “negative lists” of which industries are open for such investment and the maximum foreign interests permitted, ranging from 0 - 100%, as well as the duration such interest may endure before some divestment to Indonesian interests. The most recent such list may be found in Presidential Regulation No. 44 of 2016.
Oil and gas exploration and exploitation is normally undertaken by the foreign company directly (sometimes through an offshore subsidiary) by contracting, usually Production Sharing Contracts (PSCs) with the regulatory body, SKK Migas on behalf of the government.
Another route would be through a representative office (“KPPA”), which may supervise and market, but not actually produce nor sell any products on its own.
What are the benefits of sustainable investment in your jurisdiction?
Sustainable investment, particularly in the energy sector, has since the Jokowi Era become an important alternative to older forms of energy production.
Government Regulation No. 79 of 2014 on National Energy Policy has thus stated that the new and renewable energy mix target is at least 23% by year 2025 and 31% by 2050, Oil at less than 25% in 2025 and less than 20% in 2050, Coal at a minimum 30% in 2025 and a minimum 25% in 2050, and Gas at a minimum of 22% in 2025 and minimum 24% in 2050.
Indonesia has tremendous potential in new and renewable energy to meet the primary energy mix target in the Hydro, Geothermal, Bioenergy, Solar, Wind and Ocean Energy, which have not been maximized to produce energy as of this point.
As of today, there are not as yet many contractors focused on these sectors, as evidenced by an investment target reach of only 57.7% of the USD 2.01 Billion in late 2018. Thus, investing in the new and renewable energy sector could be considered to have great potential in long term returns, considering a lower rate of competition amongst contractors.
This is supported by the tax incentives framework, including Government Regulation Number 18 of 2015 regarding Income Tax Facilities for Investments in Specific Business Sectors and/or Areas. Such incentives include the ability to deduct up to 30% of the investment made from otherwise net taxable income, , accelerated amortization, income tax rate of 10% for dividends received by foreign tax regulators/collectors (only for non-permanent businesses in Indonesia), and, compensation for losses inccurred for over 5, but not exceeding 10, years.
What markets currently provide the best opportunities?
Oil and gas have long been one of, if not the, major sources of revenue for Indonesia. Considering the increased incentives, which are mainly driven through taxation measures by the Ministry of Finance, it would be safe to say that Indonesia is focusing upon oil and gas exploration to expand further in years to come, as the government is trying to fill up its exploration areal blocks (sectors).
This is evidenced by the introduction of a new Gross Split Production Sharing mechanism under the Minister of Energy and Mineral Resources Regulation Number 8 Year 2017 (MoMR 8/17), replacing the old Cost Recovery Production Sharing mechanism, which seemed less attractive to investors than the state would have hoped. The gross split adopts a gross split approach for the joint revenue, rather than a net split plus cost recovery.
This is further supported by the aforementioned Financial Minister Regulation 122/PMK.03/2019, which abolishes certain taxes on the upstream oil and gas sector.
Thus, it might be said that the upstream market currently provides the best opportunities for business actors.
What considerations need to be taken into account for energy & natural resource contracts?
There are, of course, many considerations either a producer or contractor must take into consideration before commencing a project in the oil and gas sector in Indonesia (as anywhere):
- First and foremost the block or project site:
- Estimated reserve quantum/value/duration
- Environmental issues
- Likelihood of seismic or volcanic occurrences
- Proximity/availability of manpower
- (note that one company is permitted to operate in one single block, through a license granted to by the government)
- Secondly, contractual and other administrative considerations:
- The profit sharing contract terms with the government
- Requirement to provide 25% of the total production for domestic use
- Taxation incentives and schemes under the different ministerial regulations
- State Audit requirements for Contractors
- Production Restrictions – It must be noted that the Indonesian Constitution states that all all minerals under the earth, including oil and gas, remain the property of the state up until the delivery at the point of export or other delivery point, and may only be utilized for the greater benefit of the Indonesian people.
- Assignment of Interests – Under Indonesian law, there are different approval requirements for the transfer of participating interests under a PSC.
- Environmental Impact and Decommissioning requirements
Foreign Investment Considerations which would include establishment, capital, labour, content, and reporting requirements
(Indonesia does not restrict capital movement, so repatriation of profits is not a problem here.)
About Mirza Karim
One of Indonesia's leading resources practitioners, Mirza Karim served as House Counsel for Caltex Pacific for twelve years prior to joining KarimSyah Law Firm. Mr. Karim attained his legal degree at the University of Indonesia and a Master's from American University in Washington, D.C.
A member of the Indonesian Bar, Mr. Karim sits as arbitrator for the National Shariah Arbitration Board and as Mediator in the National Mediation Centre, teaches Islamic Finance and Resources law at various institutions throughout the archipelago and publishes in a number of professional journals. His primary practice areas include Resources and Energy, Transportation, General Corporate, Investment, Islamic Finance, Forestry, Real Estate and Employment.
Mirza can be contacted by email at firstname.lastname@example.org