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Wednesday, 6 November 1985
Page: 1620

Senator GARETH EVANS (Minister for Resources and Energy)(10.25) —I move:

That the Bill be now read a second time.

This Bill proposes the amendment of the Petroleum (Submerged Lands) Act 1967 to provide for a cash bidding system for the award of petroleum exploration permits in highly prospective off-shore areas. The Government is reintroducing this Bill following further extensive examination of the alternatives to cash bidding and, in particular, attempts to identify suitable modifications to the traditional work program bidding system. The end result of this evaluation, reinforced by industry's response to proposed modifications to the work program system, has been to confirm the Government's view that, where competition is expected to be high, the cash bidding system is the most efficient and equitable means of awarding petroleum exploration and exploitation rights.

As other countries and explorers in those countries have demonstrated, to their mutual benefit, the cash bidding system not only allows the industry to determine the amount the community should receive for the granting of these rights, but also represents a self-contained selection process. The system allows the explorer to determine and carry out an exploration strategy in the light of the commercial realities of the day, free from unnecessary government regulation. By contrast, in highly prospective areas, the present work program system-and various proposals for modification to the system that have been put forward by the industry and others-involve what I believe to be an excessive degree of regulation. This regulation does little to incourage exploration activity. In fact, it seems to imply that industry will do nothing unless forced to by the legal requirements of the permits issued by the Government. I would have thought that industry would be keen to see the removal of this form of government regulation and its replacement with a system which enables companies to operate strictly on the basis of commercial judgments. However, as we have seen on previous occasions, industry frequently prefers to operate in the relative comfort of a government regulated environment.

The Government has major reservations about increasing government regulation, particularly when there are better options available which would involve far less government regulation in the day to day activities of the industry. Many of these day to day decisions are best made by explorers in the light of economic and technical circumstances at the time. In many cases government involvement promotes uncertainty, delays and unnecessary conflict between government and industry. I believe government should be setting the broad parameters in this area of off-shore petroleum activity and then letting companies get on with the job of exploration and development.

While I and other members of the Government have on a number of occasions this year put on record the rationale for cash bidding-a rationale that has never seriously been challenged-I believe those arguments bear repeating now. I urge the Opposition to reconsider its position and hope that it will, on reflection, recognise the efficacy of the cash bidding system contained in the Bill. Mr Acting Deputy President, I seek leave to have the remainder of the speech incorporated in Hansard.

Leave granted.

The remainder of the speech read as follows-

The trigger for introducing the cash bidding system has been the significant shortcomings of the work program bidding system where there is high competition for exploration permits. In these circumstances, the work program system first encourages companies to propose substantial exploration programs that may later prove to be uneconomic either because of changes in economic conditions or a downgrading in prospectivity following initial exploration: Secondly, it forces the Government, where a work program becomes uneconomic, either to agree to exemptions from parts of the work program, which undermines the credibility of the system and is inequitable to unsuccessful bidders, or to require the permittee to undertake the uneconomic exploration under threat of cancellation of the permit: Neither course is in the long term interest of the exploration industry: Thirdly, it requires a subjective selection of the winning bid where competition is high, as no amount of technical advice can differentiate readily between work programs of a similar character and size; nor can that advice predict whether the work program will actually be completed by the applicant: Fourthly, it is costly and complex to administer, as work programs must be verified throughout the life of the permit in order to maintain the credibility of the system.

Recent experience in the Gippsland Basin illustrates these difficulties. Applications were invited in 1980 for three permits for highly prospective areas, attracting 29 bidders overall with more than eight for each permit. Most bidders proposed large work programs, but a whole variety of different exploration philosophies were involved, and acute difficulties were experienced in choosing between them even after careful evaluation of the technical aspects of the proposals and detailed discussions with the applicants. In the end, after all this effort, there is no evidence that the Government got it right: One permit was surrendered after only four wells were drilled from a commitment of 12 wells, another is being surrendered after only seven wells have been completed from an original program of 19 wells, and the third permittee has deferred some commitments and applied for a reduced program. There is every indication that the same circumstances may be repeated if the work program bidding system is applied to the award of highly prospective acreage in the Timor Sea region.

Following rejection of the cash bidding legislation by the Senate I proposed a number of modifications to the work program bidding system aimed, to the extent that this is possible, at overcoming its major deficiencies. In summary these proposed modifications, which reflected many of the suggestions industry made earlier in the year, would require applicants to identify minimum guaranteed `dry hole' exploration programs and separate `supplementary' work programs tied to the outcome of the initial exploration. Where a winning application cannot be determined on the basis of the minimum guaranteed `dry hole' program a number of discretionary criteria would be used to differentiate between applications. The proposed discretionary criteria would involve consideration of competing applications on the basis of the level of Australian involvement, whether new explorers are being introduced to the Australian off-shore area, past performance and commitments to source goods and services in Australia, past performance and commitments to undertake research in Australia, and demonstrated willingness to explore in `frontier' areas.

While I believe modifications along these lines would improve the work program system, particularly in its application to less competitive areas, they do nonetheless in several respects lead the Government in a direction quite contrary to that which we-and, I would have thought, the Opposition-would prefer. It is clear that the modified system would significantly increase government regulation of the industry, with no certainty that this regulation would overcome the economic efficiency and equity problems. The need for extensive discretionary criteria in the assessment of applications-a need recognised and in fact proposed by industry-is also at odds with the principles promoted by Parliament through, for example, the Senate Standing Committee for the Scrutiny of Bills.

In short, the inherent weakness of work program bidding systems when used in highly competitive situations cannot be satisfactorily overcome. The efforts in devising a modified system have simply reinforced the Government's views about the economic efficiency, equity and administrative simplicity arguments in support of cash bidding. Accordingly, the release of the more prospective areas in the territory of Ashmore and Cartier Islands adjacent area which were identified earlier this year-the release of which has been held up first by the defeat of this Bill earlier this year and then by the search for an adequate alternative work program system-will be made as soon as possible after this Bill receives the royal assent.

What cash bidding will do is give explorers the opportunity to adopt the optimum and most economically efficient exploration philosophy based on progressive acquisition of information about the permit areas. Commercial judgments can be made about the appropriate level of exploration at any given time, without the heavy, albeit well intentioned, hand of government regulation intruding.

When calling applications for the award of an exploration permit under the cash bidding system, the Joint Authority will specify the period within which an application must be made, the availability of a renewal option for the permit, summary details of the conditions of the permit, and the matters to be taken into account in selecting the winning bid. Applicants will be required to apply for a permit over all the blocks on offer for each specified area.

In their applications, bidders will be required to specify the amount they are willing to pay for the award of the permit. Further, the application will be required to contain details of the technical and financial resources available to the applicant to undertake exploration in the permit, and information on any other matters that the applicant wishes to be considered. The permits will not be subject to an exploration work program commitment. A fee of $3,000, of which 90 per cent will be refunded if the application is unsuccessful, will be payable on lodging the application.

No reserve prices will be set for permit areas, but the Joint Authority will have the right to reject bids if they are considered inadequate on account of insufficient competition or if there is evidence of collusive bidding. Bids may also be rejected if the bidder is considered to lack the technical competence or financial resources necessary to undertake successfully complex off-shore exploration. This right to reject bids is available to the Joint Authority under the work program system. However, unlike the work program system, the cash bidding system requires the Joint Authority to specify these matters at the time applications are called. In this way bidders will be fully aware of all the conditions relevant to the selection of the winning bid. If, after assessment of all the bidders, only one bid remains, the permit will be offered to that consortium. If two or more bids remain, the permit will be offered to the applicant making the highest bid.

In order to provide maximum flexibility to bidders, there is no obligation on the winning bidder to accept the offer of a permit. Not only would it be impracticable to force consortia to accept offers of a permit, but in attempting to do so competition would be restricted. I note that a similar provision also applies under the work program system. If the highest bidder rejects the offer, the permit will be offered to the next highest bidder and so on.

Once a consortium has accepted an offer of a permit and paid the amount bid, the permit will be awarded to that consortium as soon as is practicable which, unless there are some unforeseen circumstances, would generally be within one month. To ensure there is a clear incentive to undertake exploration in the permits and to discourage speculators from `sterilising' the acreage, only a limited renewal option will be available for cash bid permits. All cash bidding permits will be available for an initial six-year period and, where the Joint Authority considers that the permit is sufficiently large, the avail- ability of a single five-year renewal option for up to 50 per cent of the permit area will be announced at the time applications are invited for the acreage. However, given that cash bidding permits will cover very small areas in comparison with work program bidding areas, extended periods beyond the initial six-year term and one five-year renewal will not be necessary to explore the areas. There are already ample opportunities for a permittee to retain tenure over a discovery even after the permit has expired. The introduction of retention leases in separate legislation earlier this year provides an additional avenue for retaining tenure over any discoveries that cannot be immediately developed.

Permittees will, of course, be required to meet all other conditions normal for permit such as any special environmental conditions and the compliance with the directions issued by the Joint Authority which deal, for example, with the manner in which any activities must be undertaken. Summary details of these conditions will be made known at the time applications are called.

Cash bidding is to be used initially in areas solely administered by the Commonwealth. Extension to off-shore areas adjacent to the States and the Northern Territory is to await the outcome of a review of the system after a two-year trial period in the Territory of Ashmore and Cartier Islands Adjacent Area. The legislation provides that the Joint Authority, which consists of the Commonwealth Minister and the relevant State and Northern Territory Minister, must make decisions on which areas are to be released under the cash bidding system. Not only will consultation take place through the Joint Authority process; the Government also intends that there will be separate discussions which will take account of the sharing of revenue derived from cash bids. Accordingly, there are no revenue sharing provisions contained in this Bill. The States and Northern Territory are already aware that cash bidding revenue sharing will be addressed in the context of discussions on sharing of resource rent tax revenue.

As I indicated earlier, I believe it is worth while to address once again the unsubstantiated claims and criticisms that have been made against cash bidding. These are that cash bidding will reduce the amount of money available for exploration, that it will increase the costs and risks of exploration, that small to medium size Australian companies will be disadvantaged and that it is inconsistent with RRT.

First is the argument that cash bidding will reduce the funds available for exploration. The assumption underlying this argument is that the funds available for exploration are fixed-that the Australian exploration industry is a `closed shop' within which a given amount of funds circulate, without either escaping or being topped up. There is no evidence to suggest this is the case. In deciding to bid for a particular permit, a company will design an exploration program that enables it to assess properly the petroleum potential and to estimate the expected return on investment in that program. The extent to which the estimated return from the program exceeds the company's required return will determine the size of the cash bid. If no excess returns are expected, the company will not bid.

Similarly, the payment of a cash bid will not reduce activity in other exploration areas. Certainly companies may need to rearrange their investment priorities in a normal commercial decision-making manner. This, however, will not result in companies neglecting the evaluation of petroleum prospects which are expected to be profitable. Obviously, the most profitable prospects, which are likely to be in cash bid areas, will be explored first-but there is nothing wrong, from the point of view of the national interest or anything else, with exploration taking place in more prospective areas first.

The decision to acquire a permit by way of cash bidding is essentially similar to a decision to acquire an interest in a permit by way of farm-in. When an exploration company decides to pay a premium by way of farm-in, its concern is that the permit, and other permits in which the company has an interest, are explored in a way which is consistent with the commercial realities of the day. Further, it is of no concern to the company what happens to the premium it has paid-whether it remains in the Australian exploration industry or not. A clear example of the cash bidding/farm-in analogy is provided by a farm-in arrangement completed earlier this year, in which an Australian company decided within 30 days to pay tens of millions of dollars to a foreign company for the latter's interest in an attractive permit. The Australian company's exploration budget was unaffected and the foreign company has no current intention to invest the funds in exploration in Australia. Farm-ins are an essential feature of the exploration industry. There is no suggestion that they result in reduced exploration nor can it be sustained that cash bidding will result in reduced exploration.

Rather than reducing funds, there is every prospect that the net effect of the introduction of cash bidding may be to add substantially to the pool of investment funds available for exploration in the medium term. It appears that a number of overseas companies with no previous experience in Australia, which have been very reluctant hitherto to compete against those with local knowledge and experience in work program bidding, have now expressed an inclination to participate in cash bidding, where they see their lack of on the ground experience as no hindrance.

Secondly is the argument that cash bidding will be a disincentive to offshore exploration because of the extra financial risk involved. Companies will take into account the expected risks and costs involved in exploring a permit when they are considering bidding for the permit, and the size of the cash bid will reflect that calculation. The cash bid in no way changes the risks or the costs involved; rather it is the risks and costs which influence the size of the cash bid. Compared with the work program system, the cash bidding system will actually reduce the risks faced by companies. Under the cash bidding system, companies would be free to undertake the most commercially viable exploration program consistent with the prevailing economic conditions and prospectivity assessments. Under the work program system, by contrast, companies are committed to an exploration program designed up to six years in advance, and must face the considerable risk that changing circumstances will make that exploration program uneconomic.

Thirdly is the argument that cash bidding will discriminate against most Australian companies, which do not have access to large amounts of exploration capital. Because of the very high cost, risks and level of technical skills involved, it will always be difficult for the smaller companies to participate in off-shore exploration. Irrespective of the method of awarding permits, it will be the stronger companies which dominate off-shore exploration. It is the applicant who values the permit highest who will be prepared to bid the most under either the cash bidding or work program bidding systems.

As has been the case in the past, it is very likely that consortia including Australian companies would be formed to bid for permits under the cash bidding system. Although there are no Australian equity requirements at the exploration stage, many foreign companies seek to include Australian companies in their consortia because of the 50 per cent local equity requirement should petroleum be found and developed. Under cash bidding, there is no reason whatever to anticipate a change to this practice. Permits will be awarded under the cash bidding system without prejudice to the need to meet foreign investment criteria at the development stage.

Fourthly is the argument that cash bidding is inconsistent with the RRT concept. The Government's view is that they are complementary measures which will collect for the community a share of the economic rent, or super profit, which results from the exploitation of Australia's petroleum resources. They are complementary in other ways as well. The existence of RRT, and the non-deductibility of cash bids against it, is a significant influence on the level of cash bids. Non-deductibility will mean that bids will be lower. At the same time the existence of an RRT regime in place alongside the cash bidding regime means that companies will not face the risk that, in the event of a cash bid proving too low in the light of subsequent discoveries, some additional form of tax will be imposed to increase the community's take. By combining cash bidding with RRT, companies can bid with certainty as to the return the community expects, and can bid conservatively.

There is no foundation whatever for the assertion that the Government's main motive in introducing cash bidding is revenue. The primary objective is to enhance the economic efficiency and equity with which highly sought after permits are allocated, and to overcome the deficiencies I have already detailed in these and other respects in the present work program bidding system. While there is, as I have already said, a secondary revenue objective, that is, to ensure, by the combination of cash bidding and RRT, that the community receives its appropriate share of economic rent, it should be clear from any examination of our proposed cash bidding legislation that the Government is not seeking to maximise revenue from this source. If revenue were the key concern, the Government would be offering large permits with unlimited renewal options; it would be encouraging speculators and it would be allowing deductibility of cash bids against RRT and company tax.

I indicated during the second reading debate on the cash bidding legislation that if the cash bidding proposal was rejected, I would propose the introduction of two new imposts: Signature bonuses for the award of permits in the more prospective offshore areas and retention lease premiums. I have subsequently discussed these proposals with the industry but again I believe these proposals represent a second best approach. As I had anticipated, the industry is resisting these proposals in much the same terms as it resisted cash bidding. However, the revenue shortfall created by the rejection of the cash bidding legislation, coupled with the difficult Budget deficit situation which the Government continues to face, remain important considerations. The Government has not yet finalised its consideration of the details of the signature bonus and retention lease premium measures. However, if the cash bidding legislation is passed, it would not be appropriate to proceed with the signature bonus proposal and not be necessary to proceed with the retention lease premium proposal. No realistic estimate is possible of the amount of revenue that might be raised by the award of permits under the cash bidding system. It will depend on the number of areas released during each financial year and industry's appraisal and response to these releases.

This Bill also proposes the amendment of the Petroleum (Submerged Lands) (Exploration Permit Fees) Act 1967 to exempt permits awarded under the cash bidding system from annual fees. Taking into account the reduction in administrative work and the small size of cash bid permits, it is not sensible to charge fees which might amount to no more than $400 per year. The amendments proposed in this Bill are essential to allow the introduction of an equitable, effective and administratively efficient system of awarding petroleum exploration permits in the more propective offshore areas. I commend the Bill to the Senate.

Debate (on motion by Senator Chaney) adjourned.