UK: Optimising The Opcom: A Discussion On Non-Operator Concerns Under The JOA

Last Updated: 3 December 2014
Article by Peter Harris and Glenn Cheng

Summary and implications

The unique relationship between an operator and a non-operator working together on an oil and/or gas project comes into focus most sharply in the operating committee (Opcom) forum.

The Opcom is not only where most of the critical decisions concerning the fundamental purposes and key practical operating mechanics of the project get made, it also serves as a way of regulating the curious relationship between operator and non-operator.

Governed by the procedure agreed between the parties in the joint operating agreement (JOA), the Opcom serves to navigate the "push-me pull-you" dynamics that tend to arise where the non-operators' and operators' interests stray into potentially misaligned areas. For example, Opcom's typically deal with, amongst other matters:

  •  the approval of budgets;
  •  monitoring of project operations;
  •  exploration and appraisal plans;
  •  estimation of reserves;
  •  production rates;
  •  plugging and abandonment of wells;
  •  appointment of third party advisors or project participants; and
  •  change of control.

It follows therefore that the structure and procedure of the Opcom is a critical ingredient of the JOA and one that is worth spending the time and energy negotiating.

Based on our experience of working with clients within the oil and gas industry as well as a survey of relevant authorities and case law, this article considers the importance of the Opcom to non-operators and suggests ways in which it can be used to manage non-operator risks.

Specifically, this article considers how to use the Opcom to:

  • ensure non-operator input into key areas of risk;
  • retain freedom of choice as to which risks the non-operator wishes to take; and
  • maximise non-operator visibility on a project.

Exercising control

The critical function of the Opcom for non-operators is that it provides a (if not the only) practical mechanism by which the non-operator can have a say in project critical decisions. It follows that at JOA negotiation stage the Opcom clause will be hotly negotiated.

From the operator's perspective, it will be focused on ensuring that it has the freedom to make the decisions and take the actions that it wants to without being delayed or restrained by non-operators with a difference of opinion. Conversely, the non-operator will want to be assured that the operator is not able to go off on a frolic of its own and/or be unrestrained in taking actions that harm non-operators' interests and investments.

At the centre of the JOA provisions concerning the exercise of Opcom control are the voting provisions. While most standard forms and actual JOAs we have come across provide for each party to be represented on the Opcom by only one representative, the weighting of votes is usually proportionate to the size of a party's interest. While, in theory, non-operators and operators must vote in accordance with the fiduciary duties they owe to the joint enterprise, in practice, where there is a gulf between the joint and several interests, it is unlikely that the turkeys will vote for Christmas.

Critical for non-operators, as minority stakeholders, will be the pass mark threshold i.e. the percentage of votes required for a matter to be given Opcom approval. As a non-operator, the starting point for negotiations should always be to seek a pass mark threshold that renders its percentage of voting rights effective as a veto.

Recent JOAs we have advised relating to blocks offshore Indonesia and Vietnam have had a pass mark of 60 per cent and 65 per cent respectively. In the former matter our non-operator client had only a 10 per cent interest and so was unable to have any effective veto right over the operator. In the latter our non-operator client was only able to effectively prevent Opcom approval in circumstances where it collaborated with another non-operator.

Given the difficulty in negotiation, if it is not possible to secure a high enough pass mark threshold to enable you, as a non-operator to veto approval it is still worth pushing for as high a pass mark as possible as this may enable cooperation with another non-operator in circumstances where non-operator interests are aligned. It may also assist where it is contemplated that the operator's stake will diminish at some point in time.

Additionally, as we have seen in some cases, it is possible to carve out a number of matters that require unanimous approval. For example, we have seen agreements where a unanimous vote is needed for:

  • voluntary surrender of all or part of the concession area (applicable in jurisdictions such as Indonesia where the interest in the block is granted via a concession under a Production Sharing Contract (PSC));
  • material amendments to the PSC or JOA;
  • changes to the Minimum Work Obligation under the PSC;
  • decisions relating to whether to seek an extension of time for the PSC; decisions on whether to terminate the PSC; and
  • material amendments to the development plan.

While inclusion of unanimous consent provisions (or a very high pass mark) is generally beneficial to the non-operator there is a risk that it paralyses the joint venture and leads to deadlock. In order to anticipate such difficulties it is important to draft provisions for what happens in circumstances where agreement cannot be reached and, if appropriate, inclusion of mechanisms for forcing the issue such as by expert determination or mediation.

Freedom of risk 

In circumstances where the Opcom may be subject to paralysis or tension as a result of misalignment of interest, other contractual mechanisms may come into play which allow an operator or non-operator to move forward with a particular activity without sharing the risks of it. Many JOAs therefore include so-called "sole risk" provisions which define activities which, despite a lack of Opcom approval a party can take but for which they will be solely liable. On the flip side, a "non-consent" provision allows a non-consenting party to isolate itself from the risk of a particular activity without preventing the other parties from going ahead with it.

An example of such provisions can be found in the JOA that was the subject of the English High Court judgement in Ithaca Energy v North Sea Energy [2012] EWHC 1793 (QB). In this case, the contractual mechanisms were neatly summarise by Mr Justice Popplewell as follows:

"The general principle pervading the JOA, consistent with its joint venture nature, is that participants are bound by the decisions of the Operating Committee and bound to share in the costs and expenditure of such activities, as well as sharing in any of the benefits which may result. By way of exception to this general approach, the JOA also provides for two sets of limited and defined circumstances in which a participant who is outvoted may depart from the default position of joint benefit and burden. The first is where a participant wishes to undertake an activity which the Operating Committee has declined to undertake. In the defined circumstances, it may undertake that activity for its own sole risk and account. This is referred to in the JOA as a Sole Risk Project. The second exception arises where a participant wishes not to participate in an activity which the Operating Committee has decided to undertake. In the defined circumstances the participant may opt out of the obligation to contribute to the costs of the activity (and thereby forego the entitlement to share in any benefits which might result, subject to an ability to buy its way back into a share of the benefits by subsequent election to pay a multiple of what its cost obligation would have been)."

In this case, the controversy surrounded the non-operator's non-consent to drilling of a particular well – the claimant operator (Ithaca) claimed that the non-operator (NSE) was not able to use the non-consent provision because the well was an appraisal well as opposed to a development well. Under the terms of the JOA, the non-consent provision was only effective if the well in question was an appraisal well (defined as a "well drilled as part of an appraisal drilling programme") but not in relation to a development well (defined as a "well drilled within the proved area of an oil or gas reservoir to the depth of a stratiographic horizon known to be productive; a well drilled in a proven field for the purpose of completing the desired spacing patter of production".

It is not explicit in the judgement but based on the description of the non-consent provisions as set out in the excerpt above, the non-operator must have objected to the drilling at Opcom (although overall Opcom approved) otherwise it could not seek to rely on the non-consent provision.

Ultimately the court decided that the well in question was a development well and so the non-consent provision did not apply and the drilling activity was held to be at the risk of both parties.

An interesting feature of this case is that Opcom meeting minutes featured heavily in the evidence because the proposals surrounding the well in question had been discussed at the Opcom and the Opcom minutes had referred to the well as an appraisal well. The judge decided that just because the Opcom had referred to the well as such did not automatically make it so (it depended on the purpose of the well), however, he noted that contemporaneous evidence as to what the parties thought at the time was of relevance to how they understood the purpose of the well to be.

Some lessons may be learned here. Non-operators should keep their own records of Opcom meetings and may wish to build in provision to the JOA which allow them to lodge objections to the official Opcom minutes as a matter of record. Additionally, care should be taken that where sole risk and/or non-consent provisions are contingent non-approval at Opcom, the wording of proposals to Opcom is tight enough to resist any challenge to a non-operators use of the sole risk or non-consent mechanism.

If a non-operator is minded to use and rely on the non-consent mechanism it would also be worthwhile to put the operator and other parties on formal notice of its intention to do so, perhaps in the Opcom forum, to flush out any objection at an early stage and potentially allow for an estoppel defence if later challenged.

Maximising visibility via the Opcom

Without eyes, it is difficult to know, understand and guard against the risks you may be facing. Typically, non-operators will gain visibility by including in the JOA a clause requiring the operator to provide all manner of reports, data maps, policies studies and so forth. This is a useful way of obliging the operator to provide a non-operator with the information it requires to monitor the project on a regular basis.

Such a provision can be supplemented through the Opcom procedure as well. For example, the Opcom clause should include an obligation for the operator to provide information relating to all proposals to be considered at the meeting together with the meeting notice. Additionally, the Opcom should have the power to direct further disclosure of such documents as may be reasonably required to direct that further data and/or reports be disclosed by the operator.

The frequency of Opcom meetings will also affect the non-operators ability to see what is actually happening on the ground (or under the sea, as the case may be). A provision requiring the Opcom to meet at regular intervals, for example, once every six months, is therefore prudent. Additionally, non-operators should have the right to request the Operator to call an Opcom meeting.

In our experience it is also advantageous if non-operators contribute to the agenda for Opcom meetings in particular to ensure that they are kept in the loop regarding any potential claim situations, regulatory approvals, changes in the commercial development plan and any potential farm-ins or farm-outs.

Conclusion

In sum, careful drafting of the Opcom provisions in a JOA, together with strategic inclusion of sole-risk and non-consent clauses can assist operators and non-operators in charting a smooth joint venture.

From the non-operator perspective, the Opcom provisions can provide an avenue for the exercise of influence on the projects, managing misaligned interests and improving visibility.

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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