Mitro has no analysis to validate claim that Guyana is losing big on 75 per cent cost oil deduction

Dear Editor,
I am tired of responding to first world “so called experts” who have their own agenda and, based on their absurd pronouncements on Guyana’s affairs, probably believes that we are an uneducated population and lacks critical thinking abilities.

I will never stop, however, to challenge, expose and discredit their arguments and pronouncements because that notion is not true and I will never allow these foreigners to treat us as such. It is totally disrespectful and derogatory on their part, and what’s even worse, local media houses give them a platform to propagate their nonsense. We, as Guyanese, must never allow this level of disrespect, as there is no foreigner on this planet that is superior in intellect than Guyanese.

According to the publication, Mitra argued that the country is losing primarily through the deductions being made by the operator and not necessarily in profit-sharing aspect of the deal.

Mitro contended that one such provision allows Exxon to recover all interest on loans borrowed to fund the development of related oil projects. In practice, he said this means that the operator and its partners are able to charge Guyana for the cost of borrowing from their affiliates with no limits.

“Contracts typically have cost recovery mechanisms, but usually with limits,” Mitro said, explaining that without written limits, companies can abuse the amount of borrowing they do within the conglomerate.

Now, let’s deconstruct Tom Mitro’s wild and careless assertions as was reported by the Kaieteur News edition of June 24, 2022. The current Production Sharing Agreement (PSA) does in fact stipulate limits in two forms. The first being the 75 per cent cost recovery ceiling, this is a limit; the second is not administered by limits for each line item per se, but, the PSA prescribes what expenditure is cost recoverable and those that cannot be, it also speaks to approval having to be sought for certain costs to be in the cost recoverable bank. Mitra is, therefore, incorrect when he suggested that there is no limit within the PSA on costs.

With respect to imposing limit on items such as financing cost, that would be imprudent and in contravention of basic, fundamental accounting principles.

Let’s take it to the basics. In elementary economics or even at the CSEC/CXC level business subjects, students are taught about the “factors of production” which is divided into four categories:
i) Land
ii) Labour
iii) Capital
iv) Entrepreneurship

This means that to start any type of business and to ensure it remains a going concern, the investor (s) need to have land (the building or property where the business will operate out of); labour which is the people resource and everyone bring their own unique skillsets and competencies, financial capital and entrepreneurship acumen. These are four crucial elements to ensure the success of any business.

Further, each of these attract a cost for the acquisition of same – that is, there is a cost for land, building, furniture, equipment, labour and there is also a cost for capital.

Financial capital is usually in two forms, equity and debt. Equity is shareholders or the owners’ money that they accumulate in savings or sale of an asset, and debt is borrowed capital. Both forms of capital, like the other factors of production, has a cost to obtain same. Typically, equity is more expensive that debt and that is because shareholders demand higher returns for their investments.

In the case of ExxonMobil, the cost of debt capital is around 4.25 per cent and the cost of equity is around 8.65 per cent, giving rise to weighted average cost of capital (WACC) of about 8 per cent.

The cost of capital (financing cost) is treated as an expense and, therefore, deducted from the profit and loss account as an expense. In other words, the interest expense, for example, charged on a loan which is a form of debt, is a financing cost which must be deducted as an expense from the profit and loss account. This is a standard, fundamental, universal accounting practice, thus, there is absolutely nothing unusual about it.

Further, Tom Mitro did not conduct any analysis to support his view that “Guyana is losing big” as a result of deducting financing cost as an expense. Hereunder, let’s look at the actual financing cost based on the 2021 financials of ExxonMobil, Hess and CNOOC and the amount of debt financing the company actually employed in its capital structure relative to equity.

Towards this end, an examination of the statement of comprehensive income for the oil companies ending Financial Year (FY) 2021, total revenue amounted to G$545 billion, financing cost amounted to $822 million representing 0.15 per cent of revenue; lease interest (another form of debt financing) amounted to G$6.6 billion representing 1.21 per cent of revenue, altogether the (lease interest plus financing cost) represents a mere 1.36 per cent of revenue – thus having a very minimal impact on profit.

Most importantly to note is that oil companies typically employ a low level of debt in their capital structure. This is largely because of the complex nature and high-risk factor of the industry where the life cycle between exploration stage, development and production stages can be as long as 10–20 years.

In the case of Guyana, for example, exploration commenced shortly after the 1999 agreement was signed with ExxonMobil, oil was discovered in commercial quantities in 2015, approximately 16 years later, and production commenced another five years later following the development stage. Altogether, the exploration to production cycle in Guyana spanned almost two decades.

Then, another two years later, into production, the oil companies made a profit for the first time.

That said, the long term debt-to-equity ratio for the oil companies operating in Guyana is 0.2 per cent or 20 per cent. This means 80 per cent of the companies’ capital structure comprise of equity financing (typically, this ratio for other industries is as high as 50 per cent – 70 per cent).

Moreso, owing to this low level of long term debt, the financing cost as shown in the statement of comprehensive income represents less than two per cent of revenue. Consequently, the companies financing expense has an extremely low impact on profit-oil for Guyana and the oil companies share of profit.

In view of the foregoing, the argument put forward by Tom Mitro is unmeritorious.

Yours faithfully,
Joel Bhagwandin
Corporate Finance Advisory | SPHEREX Analytics


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