Dear Editor,
I seek your gracious space in your esteemed publication to share my insights on the intricacies of “ring-fencing,” its related opportunities and risks, the concept of unavoidable costs, and consolidated financial strategies.
Despite my non-specialisation in the oil industry, my decade-long experience as a financial expert in multinational corporations and as a decorated finance faculty member equips me to offer valuable perspectives. My intention is to educate, offer a humble perspective, and counter some misguided public statements made by a specific media outlet.
It is imperative for self-proclaimed financial experts to comprehend the complexities of these concepts before disseminating opinions in the public sphere. The practical application of financial mechanisms like “ring-fencing” demands careful assessment, the formulation of robust yet flexible policies, and methodical implementation due to the potential adverse consequences affecting finances, socioeconomics, and the environment.
Regrettably, certain sections of the media have casually employed these complicated financial terms, often leading to misinformation and public discord. My hope is that commentators of such calibre grasp the responsibility their public utterances bear, especially in a Guyanese landscape increasingly discerning between misinformation and facts, as evident in the last general election.
The strategy of “ring-fencing” in the petroleum industry involves separating financial aspects of different projects, shielding profits of one segment from the risks of another. While theoretically sound, its practical application demands meticulous consideration. Unfortunately, certain individuals exhibit an absence of understanding regarding its complexities, but continue to peddle questionable information.
Mr. Glenn Lall’s discussions on “ring-fencing” lack depth. While he has a unique style, his oversimplified explanations, like the apple-cutting analogy, miss crucial points on serious finance and macroeconomic matters. In the oil industry, “ring-fencing” acts as a shield, separating the financial risks and revenues of diverse projects. However, this concept goes beyond theory; its practicality demands strategic assessment and thorough adoption.
For Guyana, a country with a developing oil sector, understanding this strategy is vital. To enhance understanding, let’s delve into three critical risk categories: financial and marketing, operational, and environmental and technological considerations.
1) Financial and Market: Managing tax structures and obligations for each ring-fenced project is essential to avoid financial losses. Short-term trade-offs, like front-end loans, must be clearly communicated to the public. Effective capital allocation and risk diversification are pivotal, given global economic fluctuations and market volatility. Considering loan syndication and risk diversification is also vital.
Mr. Lall must recognize that Guyana’s oil projects are not insulated from global economic shifts. If investments become excessively risky, the ability to secure capital and leverage positions can drastically change.
Guyana is susceptible to fluctuations in global oil prices and market exigencies. These variations can impact the profitability of different projects or segments disparately, potentially affecting the overall financial stability of the sector.
Some pundits had even inquired the urgency to extract oil, it is essential to question the timing within the context of the global movement toward renewable energy and climate change mitigation. Given this global swing, strategic decisions about maximising the value of fossil fuel resources have become pivotal.
2) Operational Considerations: Coordinating between ring-fenced projects can be challenging, potentially leading to inefficiencies and increased operational costs.
Additionally, volatility in oil prices and market demands can impact project profitability differently, affecting the sector’s overall financial health.
3) Environmental and technological Considerations: Maximising resource value amidst rapid technological advancements demands astute environmental regulations. Outdated infrastructure could lead to stranded assets and financial losses in specific ring-fenced projects.
Mr Glenn Lall, in his analysis, has focused on one side of the concept, missing a holistic understanding. Ring-fencing is essential in scenarios involving varying tax regulations, complex capital structures, or severe market volatility. In Guyana’s context, understanding the Profit-Sharing Agreement (PSA) is crucial, as it incorporates taxes and allowable costs into profit and royalty computations. In simple terms, excessive taxation on a project or segment cannot coexist with the expectation of substantial profits. Such a scenario would inevitably lead to a diminished bottom line.
Addressing Mr. Lall’s concerns about Suriname’s ring-fencing application, it is essential to note that Suriname’s approach was different from Guyana’s. Suriname had the opportunity to scrutinise initial terms and conditions, unlike the contract signed by the previous administration, A Partnership for National Unity (APNU). The coalition Government APNU would have had ample time to peruse the terms and make necessary objections, but they consented to one of the country’s largest contracts without the basic due diligence and proper technical support; however, this is now history.
The APNU Government signed an unconscionable contract which has bound Guyana to some of the most draconian provisions, but failed to capitalise on negotiating any recognizable industry-standard or modeling around profit-share, royalty, cost containment, or bonus. Now the Guyanese population and incumbent administrative must abide with these provisions.
In my modest legal understanding on sanctity of contract, the conditions are binding. The Honourable Attorney General and Minister of Legal Affairs, Mr. Anil Nandlall, had lucidly outlined those stern provisions in a parliamentary debate.
By contrast, the current Government, the People’s Progressive Party/Civic, has proactively embraced the new sector through public consultations, involvement of technical experts, establishing robust financial investment instruments such as Sovereign Wealth Fund and Local Content Legislation, and ascribing to international framework on transparency, such as the Santiago Principles.
Additionally, when one is spoken on finance and risk mitigation, they also need to fully grasp financial terms such as “unavoidable cost” and techniques such as hedging. Unavoidable costs are essential expenses like rent and salaries, crucial for a business to function, regardless of individual project productivity. Put simple, some projects may have a negative result, but on a consolidated level, discontinuation will have a devasting outcome; therefore, they are cushioned with better performing project or segments.
Whereas financial hedging means businesses use strategies to reduce risks linked to specific projects, these risks can be due to changing interest rates, exchange rates, or commodity prices, affecting a project’s costs and profits. Hedging techniques aim to lessen these effects, making financial results more stable.
Certainly, it’s widely recognized among investors, entrepreneurs, and governments managing various projects that keeping distinct financial records for each venture is paramount. This method enables thorough analysis and targeted enhancements in specific areas. Yet, during both the short- and long-term assessments, stakeholders zero in on the consolidated financial performance and overall result. This holistic view not only highlights the distinctions between immediate gains and long-term goals, but also forms the bedrock of strategic decision-making, ensuring enduring success in the competitive landscape.
Therefore, it is from a consolidated financial viewpoint stakeholders and governments measure and establish a pathway for long-term national development and growth.
In conclusion, informed discourse is essential. Ring-fencing, while a strategic tool, cannot be applied universally with a cookie-cutter mentality. Its success lies in meticulous analysis, ensuring a holistic view that balances short-term gains with sustainable long-term objectives. Therefore, when individuals take public platforms to speak, mere rhetoric cannot be the order of the day; and clearly, elaboration on their proposal will foster healthy dialogue.
Let us advocate for a nuanced understanding, steering Guyana toward a prosperous, informed, and united future.
Sincerely,
Mahendra Hariraj
Chief Financial Officer
& Adjunct Professor
