This is an arrangement whereby the oil company is engaged by the government entity as a contractor to infuse the entire risk capital for exploration and production of petroleum
In the event the contractor fails to make any discovery of oil reservoir, the contract is frustrated without any obligation on any of the parties.
However, if the contractor is successful in oil exploration of commercial quantities, he is entitled to recoup expenses and remuneration for the services, in addition to a possible stake in the subsequent enterprise.
If not, the company runs out of pocket.
Such arrangement guarantees the host Government to hold sovereignty over the natural resources at all times.
Similar to a PSA
, risk service contract addresses the situation where a host Government is seeking to use private companies to bear the risk of exploration.
Risk service contracts can be structured in primarily 2 forms.
Contract where the exploration risk is not distributed among the parties
Under such structure, foreign oil company entirely bears the amount of risk and obligation to fund exploration activities.
If the commercially valuable petroleum reserves are not discovered during the agreed term, the contract is usually terminated without any compensation for exploration costs from the host state.
Contract where the exploration risk is jointly and severally distributed among the parties
Such form of risk-service contract is traditionally used by the governments of recipient countries only if they expect high oil-bearing capacity from a potential oil field.
In this structure, the host Government shares a part of the exploration risk with the foreign oil company, to reduce compensation payments to the investor after the discovery of the oil reserves.