The announcement of Shell’s withdrawal from Cambo came at the end of a turbulent year of oil prices, with Brent Crude trading in the low 50s at the beginning of 2021 and peaking in the mid 80s before dropping to the high 70s by the beginning of 2022. Without getting into the politics of the withdrawal, Shell’s move (which is now being reconsidered in light of recent economic and political events) is reflective of a growing trend amongst the supermajors ever since the beginning of COVID, as they strategically reassess their activities. The decision has been taken by many players to pull out of non-core assets and focus on key fields, whilst redeploying existing capital towards a myriad of renewable investments, even though the oil price has rebounded to sky-high prices over the last few weeks.
Whilst this has usually been achieved through sell-offs of unwanted interests, for certain assets there has been a tendency instead to simply withdraw. Withdrawing from a venture typically involves drawing a line under any costs, with the withdrawing company remaining liable for previously committed obligations and liabilities (which can often include a share of future decommissioning costs, potentially involving great expense) and being released from future burdens.
A significant proportion of joint operating agreements used by operators and co-contractors worldwide are based on a version of the JOA model form published by the AIPN (the “Model Form”) (the inaugural version of which was published in 1990). Whilst the merits of having an industry standard that is familiar and contracted by many oil and gas players cannot be understated, it appears that the provisions dealing with withdrawal are throwing up all sorts of new questions in the current climate that were not necessarily at the fore when the last Model Form was published.
The Model Form
The Model Form’s withdrawal provisions are drafted on the basis that the withdrawing party has decided to pull out and write off its investment, requiring it to assign its participating interest to the non-withdrawing parties “without any compensation whatsoever”. This provision is reflective of the fact that in ordinary times, such as when the price of oil is buoyant and the world’s thirst for it continually increases (which has been very much the case over the last few decades), withdrawal by a party was usually driven by its individual strategic or economic reasons. One could go so far as to say that the Model Form was drafted with the assumption that where one player decides to withdraw, the other contracting parties would generally be more than willing to step in and take on additional exposure for the asset in question. This premise has now been upended with the energy transition in full swing and oil companies feeling increasingly trapped between wanting to fulfil the world’s oil demand and wanting to adapt their business model by redeploying cash for energy transition investments. The upshot of this has been (and will continue to be) that withdrawal has become a thornier issue leading to more protracted discussions and negotiations.
Taking a look at the withdrawal terms of the Model Form, once a withdrawing party issues its withdrawal notice it is then required to take all steps to assign its interest to those not withdrawing, including securing any necessary state approvals for its withdrawal from the PSC/licence, alongside the JOA. The non-withdrawing parties must use reasonable endeavours to help it to secure such approvals but it will ultimately be up to the withdrawing party to secure its own release. If a party is pulling out of a non-operated asset, its withdrawal might be straightforward. However if an operator itself decides to withdraw, a state will normally not grant it a release unless it can also transfer its operatorship to one of the other co-contractors (being one which the state approves of and trusts to be able to operate the asset) or find a third party buyer. If a withdrawing party is the sole participant that is willing and capable of being operator in a given asset, the end result is that it will be “trapped” – a situation that is more likely to present itself in assets with junior/start-up O&G companies who, with their lower operating costs, have been flooding into mature basins. Whilst the operator will likely be able to withdraw from the JOA and relieve itself of future liabilities thereunder, it will not be able to compel the state to release it from the PSC/licence, resulting in an incomplete release and a situation that would not be ideal.
Under the terms of the Model Form, a withdrawing party will largely remain liable for the following, unless otherwise agreed:
- costs of joint operations that are part of a work program and budget (“WPB”) approved prior to its withdrawal notification, regardless of when such costs are incurred;
- any minimum work obligations (“MWOs”) for the current period of the PSC/licence;
- expenditures relating to an emergency occurring prior to its effective date of withdrawal, regardless of when such costs are incurred;
- its general obligations and liabilities under the JOA relating to the period prior to its effective date of withdrawal;
- any costs of plugging and abandoning wells in which it participated, or the costs of which are in an agreed WPB; and
- providing security satisfactory to the remaining parties for the above obligations (unless otherwise agreed).
The Model Form provides a sensible list of obligations which, though onerous, are traditionally viewed as reflective of the minimum exposure that a party is willing to commit to when entering into a JOA (and later withdrawing). As noted above however, this issue is more contentious now than it once was, meaning that it will be important for all participants to understand in detail what they will remain liable for in order to determine what may be up for negotiation on an exit.
Room for negotiation
We set out below some considerations and practical tips for withdrawing parties to consider, borne out of our recent and historic experience in helping oil companies with their withdrawal and exit strategy.
- Consider the timing of the withdrawal notice. Is a new WPB about to be approved or has one just been signed up to? Once a withdrawal notice is issued, the exiting party will normally be relieved of any liability for future WPBs so it could be advantageous to issue a notice before any WPB is put to a vote at an operating committee meeting.
- What MWOs are left to satisfy for the current phase of the PSC/licence? If for example there are wells still to be drilled, how much are these likely to cost? Will the cost be in addition to any minimum spend obligations or can the two be wrapped in together?
- How are the decommissioning liabilities apportioned? Consider when the decommissioning liabilities kick in and who will be responsible for what costs. This has become a hot topic especially in mature basins such as the UKCS where, under the 1998 Petroleum Act, existing and previous JOA parties can be held statutorily jointly and severally liable for decommissioning. As a result this has led to several high profile M&A deals where the seller has retained all or part of the decommissioning liability in order to seal a deal with a buyer. The economics of a withdrawal are very different but it is worth exploring whether a similar approach can be taken.
- Is the party withdrawing the operator? As mentioned above, in order to be released from the PSC/licence by the state, a replacement operator approved by the state will need to be found. The operator should bear in mind that from the moment it issues its notice it won’t be able to vote on operating committee decisions other than decisions for which it has financial responsibility. The latter is open to interpretation, but it can sometimes result in an undesirable scenario of being forced to operate without having a say on key decisions.