Cyprus: The Deloitte Guide To Oil & Gas In Cyprus - Where Potential Lies

1. FOREWORD

I am pleased to welcome you to Deloitte's guide to the upstream hydrocarbon industry in Cyprus.

Oil and gas exploration in Cyprus is in its infancy. At the same time, there is substantial exploration and evaluation activity by three operators as well as the potential for new licences for future exploration.

In 2008 the first exploratory licence and production sharing contract was granted to a US independent energy company. We at Deloitte Cyprus have been with them since that time, navigating the unchartered waters of Cyprus offshore exploration. We now also advise all the other operators in Cyprus and many of their suppliers. We recognise the challenges in Cyprus that confront energy companies and their suppliers – from the Production Sharing Contract ("PSC") negotiation stage through to production – in relation to the rules and regulations specific to the oil & gas sector. We have also experienced the practicalities of applying local legislation and practice to a fluid and international business environment that the local legislation does not always accommodate.

With significant uncertainty in the Cypriot regulatory and tax environment with respect to the fledgling oil & gas sector, there are rapid changes in the market that demand quick thinking. If you want to participate in this great opportunity and be a winner you'll need to turn these challenges to your advantage and seize the opportunities they create.

As a professional services firm with a long history of working with the oil & gas industry, Deloitte is committed to making oil & gas a success story for our region. I hope and expect that future editions will chart that success.

Deloitte Cyprus is your most valuable partner, ready to support and advise you on your Cypriot oil and gas activities. We look forward to working with you.

Christis M. Christoforou
Chief Executive Officer

2. ABOUT CYPRUS

2.1 Overview

The island of Cyprus is situated in the Eastern Mediterranean at the hub of three continents, linking Europe with the Middle East, Africa and Asia. Cyprus is a former British colony which became independent in 1960.

Cyprus joined the European Union in 2004, resulting in an economy offering numerous advantages within a common European market. Cyprus adopted the Euro as its currency on 1 January 2008, further confirming the country's macro-economic stability and its commitment to low inflation, low interest rates and high growth.

Cyprus has an open-market economy with the private sector comprising the backbone of economic activity. Private enterprise is greatly promoted and supported by decades of consistent government policy and a stable political and legal system.

2.2 Key Facts

Population and Total Area

Located in the Eastern Mediterranean, the total area of Cyprus is 9,250 square kilometres with a coastline of 648 km. The population is 862,000.

Time Zone

The time zone of Cyprus is GMT +2.

Currency

The currency of Cyprus is the Euro. Cyprus has been a member of the European Union since 1 May 2004.

Principal cities

The principal cities of Cyprus are Nicosia (the capital), Limassol, Larnaca and Paphos.

Official languages

Greek and Turkish are the official languages. English is prevalent throughout the Island and is the principal business language. French, German and Russian are also commonly spoken in tourist areas.

Principal economic activities

Tourism, Services, Shipping, Real Estate, Energy.

Weather

Cyprus has a subtropical climate, with an average annual temperature of 24oC during the day and 14oC at night. Average daily sunshine ranges from 9.8 hours in December to 14.5 hours in June. The summer season extends to approximately 8 months (April - November), with the months of July and August marking considerably high temperatures (over 35oC). The winter season (December - March) is mild, while snow falls often in the Troodos Mountains from mid-December through to the end of March.

Political system

Cyprus is a presidential democratic republic. The head of state is the president who is elected directly by the people for a term of five years and appoints the governing Council of Ministers. The parliament of Cyprus is the House of Representatives which comprises 59 members elected directly by the people for a term of five years, including three observer members representing the Armenian, Latin and Maronite minorities.

Legal system

Cyprus has a well-functioning common law legal system based on principles established through historical links with the United Kingdom. The origin of the Cyprus Companies Law and other laws regulating business is UK legislation, updated for 21st century business practice and harmonised with EC Directives.

2.3 Cyprus – An international business and shipping centre

Cyprus has a number of comparative advantages that have contributed towards the Island becoming an important international business and shipping centre:

  • EU and European Monetary Union Member State
  • Simple system of low taxation
  • Strategic geographical location at the crossroads of three continents - ideal for expansion in new markets
  • Well - developed socio - economic infrastructure
  • Broad range and international quality of financial and business services - legal, tax, accounting, investment and brokerage
  • An active Stock Exchange and robust Securities and Exchange Commission
  • Market-oriented economy
  • Macroeconomic stability and performance
  • Highly educated, qualified and multilingual talent
  • Stable and pleasant business environment, accompanied by simple administrative procedures
  • Low set up and operating costs
  • Advanced transport and telecommunications network
  • Renown international shipping centre
  • Enviable quality of life

3. OIL & GAS IN CYPRUS

3.1 Industry Overview

The development of the oil & gas sector in Cyprus continues. The recent discovery of hydrocarbons within Cyprus's Exclusive Economic Zone ("EEZ") has attracted a lot of attention internationally and has created locally a lot of optimism about the future.

At present, 6 licences have been granted with corresponding Production Sharing Contracts (''PSC'') entered into. The first licence was for Block 12, granted to Noble Energy in October 2008. In January 2012 Noble Energy announced a natural gas field discovery with an estimated resource range of 5 to 8 Tcf, revised to a range of 3.6 to 6 Tcf in October 2013. In November 2014, the estimated resources were further revised upwards by 12%.

The Cypriot Government closed a second bid round on 11 May 2012 for licences for an additional 12 offshore blocks. There were 33 applications received for 9 of the 12 blocks from 15 companies or consortia (representing 29 companies in total).

In January 2013, an ENI-KOGAS consortium was granted licences for Blocks 2, 3 and 9. Total E&P was granted licences for Blocks 10 and 11 in February 2013. The ENI-KOGAS consortium began exploratory drilling in September 2014 and plans to drill several exploratory wells within 2015 and 2016.

The Government is continuing its discussions and negotiations concerning the infrastructure required for landing the gas in Cyprus and liquefaction for export, while exploring all the alternatives for Cyprus gas exports, through collaboration with other countries in the Eastern Mediterranean region.

3.2 Regulatory Environment

The hydrocarbon exploration and exploitation activities in the Republic of Cyprus are governed by the Hydrocarbon (Prospection, Exploration and Exploitation) Law of 2007 (No.4(I)/2007) and the Hydrocarbon (Prospection, Exploration and Exploitation) Regulations of 2007 and 2009 (No.51/2007 and No.113/2009).

The legal framework applies to the territorial waters, the continental shelf and the Exclusive Economic Zone of the Republic of Cyprus. Hydrocarbon activities are subject to general Cypriot laws and regulations on environmental protection, health and safety.

The European Union Directive on the conditions for granting and using authorisations for the prospection, exploration and production of hydrocarbons (Directive 94/22/EC) and other relevant EU legislation applies to oil and gas activities in Cyprus. In addition, the Republic of Cyprus ratified in 1988 the United Nations Convention on the Law of the Sea (UNCLOS '82). A number of agreements have been signed between the Republic of Cyprus and its neighbouring countries. The Delimitation of the Exclusive Economic Zone of Cyprus has been agreed and signed with Egypt based on the median-line principle and in accordance with the provisions of the UNCLOS '82. An agreement has been signed on a Ministerial level with each of Lebanon and Israel. Cyprus and Egypt have also signed a Framework Agreement concerning the development of cross-median line hydrocarbon resources.

3.3 Taxation of oil & gas projects

There is no specific regime within Cypriot Income Tax Law concerning the oil & gas sector. Taxable profits from trading operations are taxable at the normal corporate income tax rate and taxable profits are determined under a framework of deductions for expenses wholly incurred in the derivation of income and capital allowances for assets used in the trade. It is expected that the tax authorities will issue some guidance in due course.

VAT Law in Cyprus operates under the framework of the EU VAT Directive. The standard rate of VAT, since January 2014 is 19%. The current position of the VAT authorities is that Cyprus's Exclusive Economic Zone is within the territory of Cyprus for VAT purposes.

In relation to customs duties, Cyprus applies the Community Customs Code, meaning that no customs duties apply to goods traded in Cyprus's EEZ beyond its territorial waters.

3.4 Other dimensions

The potential impact of hydrocarbon discoveries on the future of Cyprus can be extremely significant both on the socio-economic, as well as the geopolitical front.

The Socio-economic Dimension

In addition to the stream of revenues from the future export of the island's gas reserves, the emergence of this new industry and the possible direct foreign investment in significant infrastructure projects such as a liquefaction plant and the pipeline facilities will create the need for a great number of other support services. All these are expected to lead to the creation of thousands of jobs, to boost the construction industry and property market as well as to have a favourable indirect effect on many other sectors of the economy such as financial and professional services.

Furthermore, it will alleviate the over-reliance of the economy on financial services and tourism and will diversify the risk of the economy in the eyes of foreign investors.

There are proven successful models for managing the economic aspects of gas reserves, such as the Scandinavian model, which will require the advice of independent and reputable professional advisors to guide the setting up and administration of such a model.

The Geopolitical Dimension

The discovery of Hydrocarbons in Cyprus's waters as well as in the Eastern Mediterranean region in general has added a new dimension in the geopolitics of the region. On the one hand, it creates new dynamics that could be used as a catalyst to promote the solution of the Cyprus problem, but on the other hand, it could create significant threats.

Therefore, the historic challenge that faces the political leaders of Cyprus is to formulate a common oil and gas strategy that will take into account both the socio-economic as well as geopolitical factors which are interrelated, and which should form the vision of all future governments irrespective of their political positioning.

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