Canada: The Inconvenient Joint Operating Agreement

Last Updated: March 16 2017
Article by Fraser Wayne (Student)

Introduction

Disputes can become very complicated when two energy companies enter into a joint operating agreement and then proceed to operate in accordance with a completely different set of rules. The recent case of Eon Energy Ltd v Ferrybank Resources Ltd,1 illustrates this point. The case represents a cautionary tale for those tempted to treat an operating agreement as a mere formality. The facts of this case are convoluted, but the key lesson learned is simple: in the event of a dispute, signed agreements will form the primary basis for determining the rights and duties of the parties even if their conduct largely deviates from the agreements.

Facts

Ferrybank Resources Ltd. (Ferrybank) and Eon Energy Ltd. (Eon) (collectively, the Parties) entered into a Joint Operating Agreement (JOA) confirming their respective working interests in the petroleum substances of a number of wells (90% for Eon, 10% for Ferrybank). Despite being the minority owner, Ferrybank was designated Operator of the wells under the JOA and as such was the registered licensee of the wells for the purpose of the LLR Program.

The JOA, however, appointed Eon as Ferrybank's "agent" with full discretion to manage the wells, thus making Eon the de facto operator and Ferrybank the registered Operator.

The unusual arrangement was designed to accommodate the Parties' precarious positions. At the time the Parties entered into the JOA, the predecessor of the Alberta Energy Regulator was implementing changes to the Licensee Liability Rating Program (LLR Program) requiring licensees

to pay a deposit to the Regulator if the combined LLR of a licensee's wells falls below a certain threshold. Ferrybank separately owned some poor quality wells and wanted to improve its LLR under the LLR Program to avoid having to pay a deposit to the Regulator. At the same time, the principal of Eon was planning to move to British Columbia and the Parties believed that this would disqualify Eon from being the registered Operator of the wells pursuant to the Oil and Gas Conservation Act.2 Thus, the arrangement enabled Ferrybank to maintain its LLR by combining these wells with its poor quality wells while also allowing Eon to exercise control over the jointly acquired wells despite being ineligible to do so.

Right from the start the conduct of the Parties did not track the JOA. Ferrybank, despite having a 10% working interest in the JOA, neither received any oil revenues nor contributed to the costs of production, which were borne fully by Eon.

The first disputes arose when the Parties engaged in negotiations to sell some of the wells. Ferrybank claimed it was entitled to 10% of the gross sales proceeds. Eon disputed that Ferrybank was entitled to any sale proceeds because Ferrybank's 10% working interest under the JOA was merely a necessary formality under their scheme.

The Decision

The Court addressed a plethora of issues in the full decision. Salient among them was determining the ownership interests of each party, including which Party was entitled to operate and manage the wells.

Eon did not deny that Ferrybank initially acquired a 10% working interest under the JOA. Rather, Eon asserted that the Parties amended the JOA by subsequent oral agreement whereby Ferrybank relinquished its working interest in exchange for not having to contribute its share of production costs. Again, this assertion was supported by the Parties' conduct.

Relying on the "Entire Agreement Clause" in the JOA, which stated that the JOA represented the entire agreement and any subsequent changes must be made in writing, the Court rejected Eon's claim and held that the Parties were each entitled to their respective working interest as provided under the JOA. Simply put, the Court opted to rely on the clear wording of the JOA rather than Parties' subsequent conduct even though the subsequent conduct clearly supported Eon's position. This ruling would have entitled Ferrybank to receive net oil revenues from Eon for several years of past production. The Court determined that this would not be a fair outcome given that Ferrybank had not paid its share of costs along the way, and drawing on the principle of "estoppels by convention", the Court determined that Ferrybank could not benefit by receiving oil revenues retroactively (i.e. before the statement of claim was filed).

Both Parties sought to remove the other Party from their designated roles under the JOA so that they could manage the wells in accordance with their respective interests. Ferrybank asked the Court to remove Eon as "agent" on the basis that Eon, as an agent, had breached its duty to act in good faith. The Court held that Eon was not a "true agent" under common law and, even if it were, it did not breach any duty to Ferrybank. Eon sought to remove Ferrybank as registered Operator by asserting several fiduciary and contractual breaches by Ferrybank. The Court painstakingly addressed these arguments before ultimately deciding once again to rely on the wording of the JOA, which resulted in both Parties retaining their respective roles of registered and de facto Operators.

Concluding Thoughts

The lengthy decision is challenging to follow at times, perhaps primarily because the Court was tasked with making sense of nonsensical circumstances. In doing so, the Court opted to rely primarily on the wording of the JOA, resorting to common law principles such as estoppels only where it became necessary for equitable reasons.

It is fair to wonder in this case whether the protracted legal proceedings were worth pursuing. Either way, the case serves as a reminder that the relationship between the parties is important and if the parties cannot get along, then what could have been a very lucrative endeavor, could prove quite costly.

Footnotes

1 2016 ABQB 585.

2 RSA 2000, c O-6, s 91(2).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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