Oil & Gas: JOAs – Restraining remedies for default

In the event of a failure to pay a valid cash call, under oil and gas joint operating agreements (“JOAs”) the non-defaulting parties are traditionally granted a series of remedies against the party in default. As oil prices have fallen, disputes have increasingly arisen as to whether cash calls have been validly issued and therefore whether the remedies under the JOA are available against the alleged ‘defaulting party’.

In Pan Petroleum AJE Limited v (1) Yinka Folawiyo Petroleum Co Ltd; (2) YFP Deepwater Co Ltd; (3) EER (Colobus) Nigeria Ltd; (4) Newage Exploration Nigeria Ltd; and (5) PR Oil & Gas Nigeria Ltd [2017] EWHC 1102 (Comm) [see: http://www.bailii.org/ew/cases/EWHC/Comm/2017/1102.html] the English High Court demonstrated a willingness to intervene on an interim basis to preserve the status quo, and prevent the JOA remedies being exercised, pending the resolution of the issue by arbitration. The approach adopted by the English High Court could have a significant impact on the conduct of joint operations under JOAs around the world.

Facts

Pan Petroleum AJE Limited (“Pan Petroleum”), Yinka Folawiyo Petroleum Co Ltd (“Yinka”) and the other defendants are parties to an oil mining lease offshore the Federal Republic of Nigeria (the “Oil Mining Lease”). The relationship between the joint venture parties is governed by a JOA.

In the event of non-payment of cash calls, the JOA between the parties contained the types of remedy typically found in international oil and gas JOAs. The JOA between the parties required that a party in Default (i.e. the ‘Defaulting Party’): (i) loses the right to attend Operating Committee meetings or to vote on any matter before the Operating Committee; (ii) loses the right to its participating share of any hydrocarbons; and (iii) if the Defaulting Party does not remedy its Default after a period of time (being 45 days in this case), it can be compelled to withdraw from the JOA and the Oil Mining Lease (or relevant granting instrument). Although not set out in the decision, it seems from the text of the above provisions contained in the decision that the JOA between the parties is based on the old 1995 AIPN Model Form Operating Agreement. It is also apparent from the decision that the JOA requires disputes between the parties to be resolved by arbitration.

A dispute arose between the parties concerning, broadly, the drilling of two development wells within the area covered by the Oil Mining Lease (the “Development Wells”). While not set out in the decision itself, we understand that, in late 2016, Pan Petroleum had refused to pay cash call(s) issued in respect of the Development Wells. It refused to do so on the basis that the drilling of the wells was premature. Further, that such operations required unanimous consent of the joint venture partners that had not been obtained. Accordingly, Pan Petroleum argued that any cash calls to the parties in respect of the Development Wells had not been issued in accordance with the JOA.

However, because of its refusal to pay the cash call(s), Pan Petroleum was issued with a Default Notice.

Pan Petroleum applied to the English High Court for an interim injunction to prevent the non-Defaulting Parties from exercising any rights or remedies under the JOA in respect of the Development Wells.

Decision – Injunction

Pan Petroleum was successful in its application for in interim injunction to restrain the non-Defaulting Parties from exercising any rights or remedies under the JOA in respect of the Development Wells. The decision granting the interim injunction has not been published, but much can be understood about its terms and significance from subsequent proceedings.

When granting the interim injunction, the High Court’s concern was to “hold the ring for a short period”.

In particular, the interim injunction prevented the non-Defaulting Parties from exercising or purporting to exercise any of the rights or remedies in the JOA to:

(i) vest or transfer Pan Petroleum’s entitlement or participating interest in the JOA or the Oil Mining Lease for the non-Defaulting Parties’ own benefit;

(ii) exclude Pan Petroleum from participating in or voting at meetings of the Operating Committee under the JOA; or

(iii) terminate the JOA or any other remedy that would deprive Pan Petroleum from its entitlement and/or participating interest under the JOA and/or the Oil Mining Lease.

Decision - Contempt of Court

However, in January 2017, and three days after a further hearing at which the interim injunction was continued, a meeting of the Joint Operating Committee was held, during which the Joint Operating Committee passed various resolutions relating to operations in respect of the Development Wells. Pan Petroleum was not invited to participate at the meeting, and was treated as being excluded from voting due to being in Default for failing to pay the disputed cash call(s).

Pan Petroleum asserted that the passing of the resolutions amounted to a breach of the injunction and brought an action to hold the non-Defaulting Parties in contempt of court.

At the hearing, there was some debate as to the precise wording of the interim injunction, and whether the resolutions passed at the January 2017 Operating Committee meeting approved the “financial calls and budgets for work on or with those [Development Wells], rather than the approval of the work itself”. However, the High Court was quick to find that the non-Defaulting Parties had breached the terms of the interim injunction and were in contempt of court.

Comment

Whilst the decision provides some insight on how the English High Court might approach the interpretation of the terms of an interim injunction, it will likely be of more interest to those involved in the day-to-day management of oil and gas joint ventures where participants are not aligned on strategy or one party is allegedly in Default.

In the current market, operators have found it more difficult to gain unanimity on approving work programmes and budgets, or extensions to work programmes and budgets. As such, cash calls appear to be more regularly unpaid or disputed than was the case in the past. Further, debates seem to abound concerning whether sums cash called are properly authorised by the joint venture under the JOA.

For any joint venture governed by JOAs following the AIPN Model Form (or the Oil and Gas UK Model Form), the obvious risk for a party that does not wish to pay a cash call is that the operator (or other participant) will exercise the remedies contained within the default provisions of the JOA, and as a ‘Defaulting Party’ it will be prevented from voting on future decisions and will eventually be excluded.

Conversely, the AIPN Model Form Operating Agreement and Oil and Gas UK Model Form are structured so as to allow a Defaulting Party to be excluded swiftly, which allows the joint venture to continue operations in such a way as to ensure that the underlying obligations of the joint venture to third parties will be performed. The risk to the supposed non-Defaulting Parties is that any failure of the remedies mechanism to work in the time-periods envisaged risks gridlock and a failure of the joint venture’s purpose, resulting in losses and liabilities for all parties.

Where London is the seat of arbitration, the English High Court has the power to grant interim injunctions in support of arbitration. In deciding whether to exercise its discretion to grant an interim injunction, the English High Court will consider: (i) whether there is a serious question to be tried; (ii) whether damages would be an adequate remedy; (iii) who the balance of convenience favours; and (iv) any special factors. In this regard, although the actual judgment where the interim injunction was granted is not available, the decision nevertheless shows that the English High Court is willing to intervene, at least for a short period, in order to preserve the status quo.

This could have significant impacts on the conduct of joint operations pending resolution of the dispute. For example, while the injunction might prevent the non-Defaulting Parties from exercising any remedies to compel the Defaulting Party to withdraw from the joint venture, if the terms of the injunction are wide enough, or are otherwise interpreted broadly, the joint venture could conceivably be prevented from carrying out any further operations which are the subject of the dispute.