An agreement between the parties to a well and a host country regarding the percentage of production each party will receive after the parties participating in all the expenses have recovered a specified amount of costs and expenses. The contractor usually bears all risk and costs for exploration, development and production. In return, if exploration is successful, the contractor is given the opportunity to recover the investment from production, subject to a specific limit. The contractor also receives a stipulated share of the production remaining after cost recovery, referred to as profit hydrocarbons. Ownership is retained by the host government, however the contractor usually receives title to the prescribed share of the volumes as they are produced.

This system is often popular in jurisdictions where the legal system is viewed as not being stable and does not afford sufficient protection for a corporation’s investments. The corporation thus insists on a contract with the state or state company in order to secure some additional measure of security through international law. The host countries also like this system because they feel it gives them some added security as well in that they share in the production, which is oftentimes shared even before all the investor’s costs have been recovered. In these cases production is first split into a cost component – Cost Oil or cost Gas – and a profit component – Profit Oil or profit Gas. The proportion allowed for the recovery of costs in a given year is often limited to ensure that the profit component is positive and that the state will receive at least a minimum level of annual or monthly revenues.

PSC systems typically also include corporate income tax, royalties, bonuses, and land rental fees to form the overall fiscal system. In this way they are similar to concession systems.

Production sharing regimes that place a ceiling on the amount of production available for cost recovery produce an effect that is similar to that of royalty. With a ceiling on the amount of production available for cost recovery, an investor will not share in the economic rent until much later in the project life as it takes longer to recoup its initial investment