Having just seen the F1 blockbuster film “Rush”, it has made me thoughtful about the speed or delay in our everyday negotiations and the consequences for the industry.
Over dinner recently I asked a senior industry lawyer why agreements in the oil and gas sector seemed to take so long to conclude.
The answer wasn’t entirely surprising to me: “The problem is we don’t trust each other – we spend an age agonising over where the angle is. What is the agenda we haven’t spotted? The other reason is that we are incredibly risk averse.”
Of course, to some extent that is as it should be – lawyers are paid to think about risk – to identify it, and try to mitigate it. Evolution has made us inherently optimistic. However, a lawyer’s job is to balance that inherent optimism.
One of the reasons clients can find lawyers frustrating is that it’s our job to say: “But what if things don’t go so well?”, even when the outcome we are considering is unlikely or even unpalatable.
Even where the hazard is remote, if the consequence is severe it may well need addressing. However, if that approach goes too far, it may inhibit commercial activity and the value of the opportunities lost may outweigh the benefit of the potential protections achieved.
A lawyer will always be concerned about how their actions will be viewed with hindsight if the risk does materialise. It takes a robust client to say: “I understand what you are telling me but that is a risk I am prepared to run to get this commercial opportunity.”
Generally, that’s a call for the client, not the lawyer to make.
The industry is facing some very difficult commercial negotiations in the coming months and years.
For example, we’ve written a lot in this column over the past couple of years about the problem of decommissioning security, which ties up a vast amount of capital against a relatively remote but potentially very severe risk of insolvency.
We’ve described the decommissioning relief deeds which the Treasury has agreed to provide, in order to guarantee tax relief for decommissioning.
The necessary legislation to allow these to be introduced was included in Finance Act 2013 and the first DRDs are expected to be signed this month.
This is a real innovation. Chancellor George Osborne said at Offshore Europe last month: “Never before has any government entered into legally binding contracts with individual companies to guarantee the tax relief they can expect decades into the future.”
However, in order to get the anticipated benefit of this innovation, many existing decommissioning security agreements will need to be renegotiated so that the security is provided net of the tax relief the Government has now guaranteed.
Most of those changes are mechanical but one key commercial question remains. The DRDs are designed to address a change in tax policy but what if a future Government goes further and decides in some way to renege on these contracts?
While this is a remote risk, it could have a severe consequence. The DSA can be drafted to provide that, if this ever happened, the owners of offshore infrastructure would have to increase their net security back to gross.
But if an owner wasn’t able to increase its security at that time (remember, since tax rates in the industry are so high, this is a big increase – in most cases security would double and for PRT fields it might even quadruple), or even went bust before doing so, then its co-venturers or predecessors might be left with the cost of decommissioning its assets and a fund of only half or a quarter of the cost.
The industry has drafted some clauses to address this, but their details will need to be worked out on a field-by-field basis and the longer the industry agonises over those details, the less of the anticipated benefit of the DRDs will be obtained.
Another example (and of course there are many) where delays in negotiating commercial agreements can result in the loss of commercial opportunities is in access to existing infrastructure.
Negotiating this access is critical to producing a lot of small, marginal discoveries on the UKCS. But for a variety of reasons, these negotiations are often slow and difficult – owners of infrastructure are often disinterested, and unwilling to accept any risk when the tariff returns are often negligible compared to the value of their own production, the maximising of which is inevitably their main focus, but marginal fields cannot bear all this risk.
Such negotiations can also sometimes (and wrongly) be used as levers to achieve desired outcomes in other areas. This is something the industry has already recognised and is trying to address through various initiatives within Oil & Gas UK.
Sir Ian Wood is currently carrying out a review for the Government of the future of the oil and gas industry and the imperative to ensure that we maximise production from the remaining reserves in the province.
He is sure to have something to say about commercial behaviour in our industry. Lawyers are, however, a vital part of an industry where virtually all developments are dependent on a dense web of interconnected contracts.
But a lawyer’s aversion to the risks of doing something needs to be balanced by a commercial acceptance of the risks of doing nothing.
Penelope Warne is MD and head of energy at international law firm CMS Cameron McKenna
