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Dealing With Disputes Over Joint Operating Agreements

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imagesJust like good fences make good neighbors, good joint operating agreements (JOAs) are designed to make good business partners in the volatile oil and gas industry.

To cut down on financial exposure, operators who work together typically enter into JOAs to share the risk and expense of oil and gas exploration. However, if a conflict should arise between the operators later, the JOA dispute can end up either in court or in arbitration.

Roseland

The law firm of Mayer Brown recently presented a webinar titled “International Arbitration in the Energy Sector: Joint Operating Agreement Disputes.” Based in Houston, Michael Lennon Jr., a partner in Mayer Brown’s litigation and dispute resolution and international arbitration practices, was one of the speakers at the webinar. Mark Stefanini also was a speaker at the event. He is a partner in the commercial dispute resolution practice of Mayer Brown’s London office and is a member of the firm’s international arbitration group.

Lennon recently discussed the topic of JOA disputes. According to Lennon, disputes in the Texas oil and gas industry involving JOAs “happen all the time.” Lennon analyzed the impact that the current slump in oil prices is having on Texas operators involved in JOAs.

“We expect oilprice driven disputes to rise. Oil and gas operations are capital intensive and the oil price slump has squeezed capital budgets,” Lennon said. “Many operators and nonoperators may not be able to fund operations from cash flow in the current price environment and may not have sufficient operating capital to cover the shortfalls. These financially stressed companies likely will look for ways to avoid their JOA obligations or may sell their interests. This can lead to disagreements. Indeed, we are seeing this happen already and expect it will continue.”

Lennon also explained the possible forums that can be used in Texas to deal with disputed JOAs.

“The forum will depend on the location of the operations and the terms of the JOA itself. Many Texas operations involve the AAPL [The American Association of Professional Landmen] JOA forms. These forms typically do not specify a contrary forum and disputes end up being litigated in state or federal courts in Texas, depending on the domicile of the parties,” according to Lennon.

However, Lennon pointed out that some disputes related to complex Texas oil and gas operations may be more appropriate for international arbitration.

“It is not common for a joint operating agreement dispute related to oil and gas operations in Texas to go into international arbitration, but it is not rare either,” Lennon said. “Where the project is large enough and involves cross-border investment, the parties do sometimes specify international arbitration as the dispute resolution mechanism in the JOA.”

Lennon also described how international disputes would be handled now that a number of Texas oil and gas companies are working with the Mexican government in new drilling ventures in the Gulf of Mexico.

 

“If a three-month conciliation period fails to resolve the dispute, the current Model Production Sharing Contract provides for arbitration. of commercial disputes under the United Nations Commission on International Trade Law (UNCITRAL) Rules,” Lennon said. “Mexican law governs, Spanish is the language of the arbitration and the seat (legal place of arbitration) is The Hague in The Netherlands. The dispute will be heard by three arbitrators, one appointed by each party, and the third selected by the other arbitrators. The Secretary General of the Permanent Court of Arbitration is the appointing authority to ensure constitution of the tribunal if one party fails to appoint any arbitrator or the arbitrators fail to agree on a third.”

According to Lennon, there is an exception to arbitration for matters of administrative rescission. Those matters have been reserved exclusively to the Mexican federal courts.

“Finally, depending on the nature of the dispute and the claims being made, it is possible that a Texas oil and gas company may pursue its remedy under NAFTA, a bilateral investment treaty or a trade promotion agreement,” Lennon said.

Lennon also spelled out how problems can sometimes develop when parties enter into JOAs.

“JOAs based on model forms generally are effective,” Lennon said. “Disputes arise when the terms are abridged or in unique circumstances that a JOA does not address. Problems frequently arise when parties delete standard provisions, add new provisions that conflict with existing provisions or have unintended consequences when put together with existing provisions.”

Illustrating his point about potential problems when parties change standard JOA provisions, Lennon described a dispute over a JOA that his firm is currently handling.

“For example, we are dealing with a situation right now where the parties tried to mix and match default remedy provisions from the 2002 AIPN [Association of International Petroleum Negotiators] Model JOA and the leftover clause does not really work,” he said.


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