JOINT OPERATING AGREEMENTS: Marriage of convenience or just a seat at the table

Are Joint Operating Agreements Partnerships or not- a comparison of the AIPN and UK Model Agreements?


By Gizel Thomas-Roberts

‘Just as the fool said in his heart that there is no God’, so too is the laughable premise that the contractual nature of Joint Operating Agreements makes them partnerships in the true sense of the word. It is common knowledge that the business of petroleum exploration and production is both risky and expensive, with billion dollar capital investments and equally exorbitant costs.

The brave hearted who invest and are successful in securing a host government instrument (contract) oftentimes cannot ‘standalone’ financially and even technically in performing the obligations of the project themselves. They therefore form themselves into a consortium of sorts with several companies becoming joint titleholders. These joint titleholders operate under a contractual structure termed a ‘joint operating agreement’.

The basic purpose of a ‘joint operating agreement’ (JOA) is to establish a contractual framework for joint exploration and exploitation operations by several parties that each own undivided interests in a host country (HC) petroleum contract.[1] What parties to a JOA do is that they ‘seek to pool resources, share burdens and spread risks including geological, commercial and political risks among owners.[2] To do this there must be a legal instrument. This legal instrument will proscribe the respective rights, interest and obligations, inclusive of the various structures for the conduct of joint operations, cost allocation and sharing production.

Of concern is whether these JOAs are partnerships per the Partnership Act 1890. This Act defines a partnership as ‘the relation which subsists between persons carrying on business with a view to a profit.’ This article seeks to illustrate the dichotomy of views as to whether JOAs are partnerships per the Partnership Act 1890 or whether the amalgamation is just a marriage of convenience. In order to do this the similarities and dissimilarities of both forms of business will be assessed. I will provide a synopsis of Joint Operating Agreements, their scope and characteristics. This will be followed by a similar discourse on partnerships inclusive of their similarities. My next article will offer a comparison between the AIPN model contracts and the UK model. All this analysis will be with a view to illustrating that though there may be similarities the differences far outweigh them as such JOAs cannot be classed as partnerships.

JOINT OPERATING AGREEMENTS- THEIR SCOPE, FORM AND FEATURES

Consortia can be organised in a variety of ways. One such way is’ through a body corporate, in which each of the joint venturers holds shares. Another method is through a partnership in the strict sense of the word, or through an unincorporated association established by contract, generally referred to as a ‘joint venture.’[3] However, a myriad of issues abound some of which will be included in this article. Among them is the fact that ‘a company incorporated under the Companies Acts is subject to strict statutory rules of governance and has a number of tax disadvantages to the co-venturers. Further and the essence of the argument of this article is that a partnership involves joint and several liability on the part of all co-venturers. This defeats the prime aim of risk sharing with each participant being liable only pro rata its own percentage interest in the venture.[4] This is the major bone of contention regarding the nature of JOAs as partnerships.

As a result of all these nuances and idiosyncrasies the claim by Daintith and Willoughby [5] is that ‘UKCS upstream consortia have invariably been organised as unincorporated associations established by contract, namely a joint operating agreement (JOA). This begs the further question as to whether these ‘creatures’ are in law partnerships. According to the writers mentioned supra, the general view prevailing within the industry is that JOA’s are not partnerships. This is so because it is invariably provided in the JOA that each participant has a right of lifting its own share of the production and to dispose separately according to its own purposes. Therefore, the argument (to which I subscribe) is that the parties to the JOA are therefore not carrying on business with the common view of profit maximisation, instead theirs is several businesses being carried on with a view to making separate profits, even though there is a commonality of performance in the way they do business.

SCOPE OF A JOA

The award of a production licence to joint licensees necessitates the signing of a JOA.  Under certain circumstances this JOA may very well have been negotiated during the crucial bidding stage and in others the JOA may be the ‘new kid on the block.  This JOA in and of itself constitutes the basic consortium agreement between all the players and will be the governing document as it relates to the conduct of operations under the licence.

The typical JOA will geographically define the ‘contract area’ or ‘license area’. Normally, the agreement covers only exploration and exploitation activities within the area covered by the underlying IPA (International Petroleum Agreement) and excludes from its scope any activities downstream from the defined delivery point for the hydrocarbons produced within the contract area (such as construction of processing facilities, transportation, or marketing, financing and sales). It also excludes the acquisition of rights to explore or develop hydrocarbons outside of the contract area other than as a consequence of unitization.[6]

Though they may be limited in scope, some JOA’s allow for the pursuance of downstream matters. One such illustration can be gleaned from the under mentioned excerpt from the UK Model JOA:

1.    Scope and Understanding

1.1          Scope

1.1.1      The scope of this Agreement shall extend to:

(a)  The exploration for, appraisal, development and the production of Petroleum under the Licence;

(b)  ..., the consideration of the treatment, storage and transportation of the same(using Joint Property)

(e)  the decommissioning or other disposal of the Joint Property; and

(f) the conditions for the carrying out of Sole Risk Projects in the Licence Area

3.1.2  This Agreement shall not extend to:

(a)  any joint financing arrangements or any joint marketing or joint sales of Petroleum.

(c) the consideration of any commercial terms in connection with the use of Joint Property by third parties.[7]

Crucial Aspects of a JOA

Pivotal to any JOA are two key players, the operator and the operating committee. However there are numerous other important aspects of this document which touches and concerns the smooth running and good relations among the parties.

·           Relationship between and among parties-  Since prima facie the parties to the JOA are averse to establishing a partnership it therefore holds that the joint interest held under the licence is ‘ as between themselves, to be severed into several interest’.[8] The JOA will itself specify in one of its clauses that there is no intention to create the legal relations of a partnership and as such liabilities ought to be joint or collective. Individual members are thus responsible for their own obligations. The argument is that the foremost reason for entering into a JOA is that of risk sharing and as such this aspect will be jeopardise and compromised if parties were to have their liabilities joint or joint and several.

·           Operator’s Appointment- the JOA has as one of its functions the appointment of a single operator. This person bears the responsibility of performing actual operations on behalf of the entire consortium. The reasoning behind this is that it is much easier that efforts and resources be more efficiently concentrated in this manner. It is also normal that the operator be the party with the majority percentage interest or even one of its affiliated companies. Among the operators numerous functions include (but are not exclusive) to the preparation of annual budgets and programmes for operations in the designated licence area, preparation of production forecasts, and preparation of appropriate data.

·           Specifies percentage interest- one of the most essential provisions in an operating agreement and especially those in the United Kingdom is that the JOA should specify the percentage interest of all the parties. This is because the production licence itself does not specify the respective interests. All the licence does is establish that there is joint entitlement. The JOA by specifying the respective percentage interests does its part in severing the joint tenancy created by the licence and establishes the tenancy in common between the participants.

NUTSHELL:

This is the first in a 3-part series on Joint Operating Agreements by Gizel. According to her, Risk sharing and high cost of activity in the Oil and Gas industry underscores the need for a workable arrangement for the myriad of players involved in exploration activity. She further elaborates that parties may, through a 'marriage of convenience', organize themselves into consortia or joint ventures with the sole aim of sharking risk and may be the added impetus for transfer of technology. Look out for the remaining instalments. To view Gizel's professional profile and for more information on this article please click here: -->