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Managing relations between project parties
Balancing conflicting interests from Concession to Decomissioning
Many people who have been involved in an oil and gas project will have been involved in some kind of dispute. Most people understand a “dispute” to mean a disagreement between two or more parties which is serious enough to refer to some kind of formalised, institutional forum for resolution. The common dispute resolution forums used in the oil and gas industry are, of course, various arbitration tribunals and the national courts of a chosen country.
The advantages of choosing arbitration or litigation for the resolution of disputes are obvious and attractive: there is reasonable certainty as to the procedure that will be followed, and the parties can be reasonably confident of an award or judgment which will produce some kind of finality to the dispute. However, the costs of arriving at that finality can be high. The risks along the way are also well known. It is also a truism that the time and cost involved in the preparation for arbitration or litigation can be considerable. Lawyers (both in-house and external) are brought in to analyse the documents and prepare arguments (which might not actually reflect the facts but are nevertheless convenient for the position that needs to be taken in order to maximise chances of success). Carefully-worded letters get exchanged between parties, the tone of these letters becomes more and more hostile and, to the dismay of the project managers, the dispute takes on a life of its own.
In my view, once a dispute reaches such proportions that it eclipses the project itself and the reasons why the dispute arose in the first place, it becomes difficult to resolve it quickly, amicably and cost effectively. The more that one can keep the dispute attached to the project itself, the better. This is not to say that there is no way of avoiding a dispute in the first place. Too many people, I fear, think that disputes are something which arise of their own accord – they simply appear one day and are, of course, nobody’s fault.
This paper will attempt to describe ways in which disputes can be avoided, identified in their early stages and, in cases where they do arise, managed positively and effectively and thereby quickly disposed of, allowing the project to continue with the minimum of delay and disruption.
When a dispute has reached the point where it has “crystallised” into the exchange of hostilities between parties, it is often difficult to identify its origin. The dispute somehow just “happened”. It might, therefore, be helpful to try to identify some sources of tension which, if not checked, could develop into serious disagreement and hostile dispute. It is always helpful to have a certain amount of healthy tension between parties, as this produces the best from each of them and, arguably, for the project. This assumes that all of those tensions and interests have been properly balanced. It is also worth identifying the appropriate dispute management techniques (of which more later) which can be applied to ensure that those tensions do not become unhealthy.
In any large scale project there will be numerous participants with different interests and approaches to the project.
When considering the award of a concession or the negotiation of a production sharing contract, and all associated rights, a government or state controlled authority will obviously have its primary purpose of competing for and attracting foreign investment capital. Its objectives will be to achieve the best terms in order to maximise revenue and development opportunities for the state and its people. The government has its constituents to satisfy; it will also have its own internal politics (there might be different departments all competing to demonstrate their superior expertise in this area); there might be politically ambitious individuals who wish to advance their career; there will be tensions between the interests of central government and those of local government (the allocation of tax revenue, the grant of land use rights and so on). There might also be legal tensions between the administrative obligations of relevant authorities and the contractual obligations contained in the agreements that the government enters into with foreign investors.
In any large upstream project, companies will usually need to join together in a joint venture in order to spread the financial and technical risk. Each co-venturer will have its own opinion on the appropriate joint venture structure, the decision-making procedures and the amount of control that the operator should have, the way in which it will finance its participation (some might desire, or need, project financing whilst others might prefer to finance their interest from their balance sheet), the economic assumptions that they make regarding cost of capital, rates of return and payback, and indeed the timing of their own investment decisions and their internal timetable of decision-making and project approval procedures.
A contractor will be under pressure to deliver its goods and services on time and will also need to coordinate activities with its subcontractors. Any delay caused through poor communication or coordination between contractors, or between principal contractor and developers, will have a financial impact on the project. There might also be further tensions if one or more contractors have a longer term interest in the project, perhaps through the provision of operation and maintenance services.
Any offtaker who is negotiating a purchase agreement will have the usual struggle over allocation of risk and will have its own concerns over the surrounding market sensitivities associated with fluctuations in the price for the purchase and resale of the product. It might also be concerned with operations and maintenance reliability. An offtaker might also be present elsewhere in the project and therefore create tensions through potential conflicts of interest. If its own economic return is balanced through different parts of the project, its commercial objectives might not be aligned with the other project participants. This can lead to different negotiating positions amongst parties, some of whom might be on the same side of the table, and is a fertile source of tension.
The lenders might not have been involved from the very outset of the project, therefore the joint venture structure and perhaps even the offtake terms might have been agreed upon in principle without their involvement. This is another source of tension, as of course a lender will wish to ensure the overall bankability of the project: if it is concerned that the offtake arrangements are not sufficiently robust to allow a regular repayment stream, other project participants might perceive the lender as “interfering” in the project. Naturally, the lender will also be particularly concerned to ensure that its repayment stream is protected in the event of default by one or more of the project participants. There will need to be a balance between the protection of the lenders’ interests through secure revenue flows, and the developers’ perceived need to maintain some management autonomy.
3.6 These are the principal participants in a project and it is evident that their different perspectives and interests will create a lively environment for negotiations. There will be tensions within each project party as well as between project parties. Sadly, the process of negotiation of the project documentation does not always result in a clear and satisfactory balance of interests between all those parties. Where there is a deadlock in negotiations, or where there is pressure to conclude the agreements, the parties (and their lawyers) might decide to satisfy themselves with less than perfect agreements. Points might simply be left vague (to allow flexibility of interpretation later), points might simply have been missed, the governing law and jurisdiction clauses might be unclear as to their operation, the main agreements might be well drafted but some of the agreements perceived as ancillary (for example the operation and maintenance agreements) might be less clearly drafted and might have received less attention. Sometimes, it is in these “ancillary” agreements that real value might be achieved, or lost. Important milestones or completion criteria might have been unclearly drafted, valuation structures and payment mechanisms (often very complicated) might not have been rigorously drafted, and the project agreements might not have been fully reviewed to ensure that important provisions are harmonised or at least compatible – for example clauses relating to force majeure, events of default, price adjustment, changes in circumstance and renegotiation.
The attached schematic (“Sources of Tension”) shows how some key elements of the project can generate tensions, how they interact and are related.
4.1 Issues relating to value or valuation will generate differences of opinion. Joint venture contributions might be in money but might also be in money’s worth. Individual co-venturers’ economics relating to their own participation might differ – though these can, for the most part, be eliminated by agreement of a set of project economics. Because of pressures of competition law in certain jurisdictions, negotiations for the sale of the product cannot be carried out jointly and will need to be carried out separately. This will generate different sales prices (and therefore different individual corporate economics). That is not necessarily a problem in the early stages of a project but can create difficulties later in project life when there are discussions about upgrading facilities and further investment. A co-venturer who has achieved a lower sales price might simply decide to abandon the project there and then, whilst others who have a higher sales price will be interested in continuing the life of the project through further investment, which for them will be economic. What happens if that first party wishes to withdraw? What arrangements need to be put in place regarding its decommissioning and abandonment responsibilities? These are issues which, although they might only arise fifteen or twenty years later, need to be addressed (and are often hotly argued) at the very early stages of a project.
Different parties will have different credit strength and therefore the cost of their credit (going externally) will itself give rise to discussion as to the overall credit-worthiness of the project and the quality of guarantees to be obtained. Co-venturers who have a strong balance sheet could object to the provision of an ultimate parent company guarantee as they might feel that this is some form of subsidy to the rest of the project.
4.2 Issues relating to control will arise not only in the negotiation of the joint venture agreement (or joint operating agreement) but also in terms of the overall management of the project. These can arise as between operator and principal contractor regarding the amount of responsibility to be given to the contractor during the construction phase, between sponsor group and lenders regarding the agreed events of default and the lenders’ step-in rights, and between the sponsor group and the government regarding the amount of uncertainty that is acceptable relating to changes in domestic laws, and what will amount to an event of force majeure.
4.3 Related to the issue of control is the question of management (this will be discussed in greater detail later). Not only will co-venturers have different agendas, but different lenders (commercial, development finance institutions and export credit agencies) will have different priorities. One should never underestimate the importance of cultural differences in the success of a project. By cultural differences I do not simply mean differences in national background and characteristics. The individual organisational cultures displayed by governmental institutions, lending agencies, developers and contractors will all need to be handled carefully.
4.4 One last area that should not be underestimated as a source of tension is the project documentation. It is not only the drafting of the documentation that can cause tension (poor or unclear drafting, bad translation of difficult or culture-specific concepts) but also the way in which the various agreements interact. In addition, the very process of drafting, redrafting and circulating the documents to project parties is important to the smooth progress of a negotiation. The transaction management skills involved in this process are, I think, underestimated.
4.5 When I first went into the oil industry I remember speaking to a senior executive who asked me what I thought was the most important aspect of a long term, capital intensive, high risk project in the oil industry. I said I thought that stability was very important. I think I must have got the answer at least partly right, because the senior executive nodded sagely and approvingly. All of the key issues that we have been discussing – balancing value, ensuring clear decision making procedures and other aspects of control of a long term project, understanding the tensions, short and long term, relating to management of the project, and putting in place documentation which, although after it is signed will stay on a shelf and might not be read on a daily basis, will nevertheless be the first point of reference for any query or dispute – all of these elements interact and should contribute to a stable equilibrium for every stage of the project.
What happens if that equilibrium is not maintained? What happens if something occurs which undermines the stability of the project, something which perhaps nobody could have foreseen at the time of negotiating the agreements? Perhaps even to ask these questions is a misguided approach. It assumes that there is nothing to be done before an undesired event occurs and leads to a dispute. This next section will discuss the concepts not only of dispute resolution, but also dispute management and, even before that, dispute avoidance.
as important in the process of maintaining good relations between project parties. Skilled negotiators and project managers will take time and effort (alas, the rewards of dispute prevention do not come without some effort) into developing initial contacts between project parties and building trust at a personal level. The individuals involved in the project might be around for some time – it makes simple, good business sense to ensure that there is a strong basis of trust between all parties. That takes time and commitment, both at corporate level and from the individuals who are involved in the project. The building up of the relationships progresses, of course, through the contract negotiations and project planning stages.
In my view, care should also be taken to ensure that there is no break in continuity after initial closing of the project documentation. Wherever there is a change in personnel there is obviously a risk of loss of historical knowledge of the project and of the reasons why some things were negotiated and structured in the ways eventually agreed. Particularly during the capital-intensive construction phase of a project, most people generally assume that some kind of disagreement or dispute will arise. Even after this stage, during the supposed steady-state operations phase of the project, the external factors that have been discussed earlier could create new or unforeseen tensions, leaving the parties in a commercial position which they did not originally bargain for. If any of these difficulties arise, it would benefit the project if there were clarity as to how they should be managed.
A key activity throughout all these stages is, of course, communication. It has been said that no-one has ever been fired for communicating too much. In nearly every organisation I have worked in, and on most projects, people complain that there is not enough communication – nobody properly explains to anybody else what they intend to do, what they want to achieve and when they want to achieve it. (At least, that is the perception that some people have.) This seems very basic but the fact that there are so many successful consultants and training courses specialising in communications techniques proves that there are still a lot of people who need to improve this basic business skill. (By the way, I do not pretend that I am a perfect communicator either.)
The chart attached to the end of this paper (headed “The Dispute Management Landscape”) gives an indication of how communication, or the lack of it, can affect relations at various stages of the project. The chart focuses, in particular, on the potential use of ADR-style techniques in the management of disputes at all stages of a project.
The flowchart showing the “Fight and Flight” model (below) further demonstrates
how something can evolve from a simple difference of opinion (perhaps poorly communicated) to a
full-scale dispute. This model is worth bearing in mind at the initial stages of a
project, when relationships are being formed and when negotiations are in progress.
So much for identifying when and how disputes can arise. How can they be managed, or otherwise dealt with, during the life of a project?
There are a number of techniques that can be employed, either alone or in combination, in sequence or in parallel, depending on the circumstances of the project and the nature of the particular dispute. The following dispute resolution, management and avoidance techniques are not exhaustive but I hope provide a useful indication of the range of options that are available to project parties. They start with the most formal and move towards the more informal techniques that might be used. A further challenging element of multi-party disputes is the attempt to manage different disputes through joinder? of proceedings. This is an attractive idea but parties will also be sensitive to potential abuse of procedural aspects of the disputes.
In a large, multi-party project involving numerous documents that need to be properly coordinated, it might be useful to have a separate, stand-alone dispute resolution agreement. Although this is not very often used – nobody wants to spend time at the beginning of a project working out in such meticulous detail what they will do when they fail to agree with each other – it could nevertheless provide a framework of certainty which might help the long-term stability of the relationships between the parties. A further challenging element of multi-party disputes is the attempt to manage different disputes through joinder of proceedings. This is an attractive idea but parties will also be sensitive to potential abuse of procedural aspects of the disputes.
Most of the issues that would need to be addressed in a stand-alone dispute resolution agreement would arise in the negotiation of a full-scale, “multi-tier” dispute resolution clause appearing in one or more of the main project agreements. Any or all of the following elements might appear in such a clause – the basic idea is that the parties try to sort things out amicably and if that fails, they move, step by step, along a dispute resolution path that becomes gradually more formalised and institutional.
The idea here is to appoint representatives from each party who are familiar with the project, maintain regular contact and carry out regular reviews of progress of the project. In this way, it is hoped that problems are avoided and that, if they arise, they can be dealt with quickly and efficiently by people who are in the best position to know what is best for the continuity and stability of the project. These mechanisms are well-used in the construction industry. Even if something such as a Project Review Board is not formally constituted, it is nevertheless advisable for parties to consider some slightly less formal forum in which parties can discuss or even “report” issues that arise.
A recent concept that has gained greater acceptance and credibility is the idea of a “project neutral”. An example of this is where a dispute resolution clause appoints a neutral individual third party, to whom disagreements or disputes are referred. That “Project Neutral”, working with the disputing parties, discusses and assesses the most appropriate form of dispute resolution – it might be some form of mediation or early neutral evaluation, or it might be established that the most appropriate route is to go straight to arbitration. This kind of structure can be seen in the Dispute Resolution Procedure for PFI and Long-Term Contracts adopted by CEDR – the Centre for Effective Dispute Resolution in the United Kingdom[2]. A similar concept is offered through the ICC ADR Rules, which were adopted in July 2001[3]. Under those ICC ADR Rules, parties may freely choose the settlement technique they consider most appropriate to their situation. These include mediation, neutral evaluation or a mini-trial.
Many of the elements of dispute prevention and dispute management that I have described above have found a name, at least in the construction industry. The concept of partnering has gained increasing popularity. It is, of course, based on common sense and most people will be surprised (and yet, given the nature of human behaviour in negotiations and projects, not surprised at all) how simple the ideas are. My own view is that although these concepts appear to be simple, they are also difficult to define with any clarity, as they rely on the more “touchy-feely” aspects of human relationships and the need to develop trust, rather than the clear-cut issues of agreeing technical specifications, financial structures and precise drafting from the lawyers.
“In order to complete this contract most beneficially for all parties, the parties of this contract agree to form a partnering relationship. This partnering relationship will draw on the strengths of each party in achieving a quality project. Within [ ] days of the date of execution of this contract, the parties will request from the [name of appointing authority] the appointment of a neutral facilitator for the partnering retreat. The partnering retreat will take place as soon as is practicable, but in any case within [ ] days of the date of execution of this contract. The parties to this contract agree to good faith participation in such partnering retreat. Individual participation in such partnering retreat shall be agreed upon by the parties, but shall include at least the following project personnel:
[list personnel names here]
The cost of administering the partnering retreat and the fees and expenses of the partnering facilitator shall be borne equally by the contracting parties.”
With wording like this, it is perhaps not so difficult to see why many project parties are reluctant to agree to something other than a formalised, rights-based dispute resolution procedure where the procedure and the outcome appear to be more certain. However, it would be misguided to regard such an approach as a “soft” option. The procedures can often be more formalised and in any event require intellectual and procedural rigour.
The concept of partnering as a consensus-building mechanism is discussed in an interesting article by A H Gaede, Jr in the International Construction Law Review, 1995[4]. With regard to the structuring of a partnering relationship on a project specific basis he views the basic principles as including the organisation of workshops with key personnel from all parties, with an experienced facilitator, early in the project; the need to develop a mutual understanding of each parties’ goals; “developing a ‘we’ attitude in place of the customary ‘us versus them’ attitude”; and evaluating the progress of the work and the meeting of the common goals at regular intervals.
A discussion of a more formalised and strategic approach to partnering appears in an article by my colleague, Patrick Leece[5], in which he discusses the Procurement Guidance of the UK Office of Government Commerce regarding partnering in the construction industry. Partnering is seen as an extension of the concept of teamworking by including more formal structures into a partnering charter agreed by the project parties. Various activities are suggested, including the setting of partnering objectives, targets and incentives, transparency through open book arrangements, and tiered problem solving mechanisms in the form of a “resolution ladder”.
Much of what has been said in this paper is not new or original. Indeed, it will probably be very familiar to most people working in oil and gas projects. Furthermore, the ideas for dispute avoidance and dispute management, as opposed to dispute resolution once the matter has crystallised into a hostile situation, are gaining greater currency. Nevertheless, they are still more talked about than applied. It is my strong belief, based on experience from working in-house in an oil company on various projects around the world, that these techniques are capable of saving a great deal of time and, therefore, money. These techniques are still under-valued, perhaps because they are so difficult to value in conventional terms. I remain firmly of the conviction that, as an adviser (either in-house or external), I will be acting in the best interests of my company, or client, and of the project as a whole, if I am contributing to the efficiency of the project, at every stage of its life.
This paper cannot hope to be exhaustive on the subject of dispute management but I hope that at least it will generate some discussion.
Richard Shoylekov
March 2003
