Oil and Gas Contract 1

OIL AND GAS CONTRACT

By
Benard Odiyo
For more similar papers, please contact me via
benardodiyo@gmail.com
 Oil and Gas Contract 2

Table of Contents
Title page …………………………………………………………………………………………1
Introduction ..................................................................................................................................... 3
The role of Indemnity Clauses in the Contracts.............................................................................. 3
Effectiveness of contractual provisions....................................................................................... 4
The Macondo Disaster ............................................................................................................. 4
The Piper Alpha Disaster ......................................................................................................... 6
Conclusion ..................................................................................................................................... 7
References ...................................................................................................................................... 9
 Oil and Gas Contract 3

Introduction
Upstream oil and gas production and exploration entail high risks that require cost-
effective and effective means for risk allocation, indemnity, and assessment of liabilities between
contractor and operator (Taverne, 2008,p.380). The oil and gas offshore industry has come up
with proper rules and guidelines governing the contracts used to preside over the allocation of
liabilities and risks (Schramn, 2009). Depending on the nature of the operations and the degree
of risks involved in the oil and gas industry (Jahn, 2008,p.332)it is the mandate of concerned
parties to indemnify the most likely risks and has themselves committed to addressing such risks
throughout the contract’s lifetime (Agar, 2013).
The segment of an oil field, which is also referred to as upstream oil and gas, is not only
capital-intensive field, but also involves a huge amount of risk. It is therefore extremely
important for parties to have a comprehensive and sophisticated scheme of allocating risk put in
place. This majorly begins with the incorporation of the standard Joint Operation Agreement
(JOA). This promulgated document addresses the issues of basic risk allocation between the
non-operating and operating parties (Houston, 2016,p. 9). However, on several occasions, the
parties involved are required to have improved risk allocation structures that can easily isolate
risk to the subjecting parties as well as giving protection to other parties to the pact. Therefore, a
Contractual provision like mutual hold harmless and indemnity clause is a very vital tool which
can be used in risk allocation (Zulhafiz, 2015, p.2).In this article, a discussion of the of
contractual risk management has been presented about the offshore gas and oil industry by
focusing on mechanisms of risks allocation through indemnity as well as other liability clauses
that govern the contract between parties in practice. The effectiveness of these provisions has
also been presented with relevant case studies and concrete examples.

The role of Indemnity Clauses in the Contracts

In offshore gas and oil jurisdiction like those dealing with drilling contracts, agreements
sharing, and Joint Operating Agreements (JOA), the allocation of risks is done with the aid of
amendments of contractual such as insurance clauses, party obligations, and indemnity clauses.
In this article, the focus is mainly on the indemnity clause as the most vital contractual clause
through which allocation of risks is done. Indemnity is defined as an agreement between two
parties whereby one party commits to be responsible for damage or loss that would be incurred
by the other party or a third party when the risk insured against occurs which could be an act,
damage, or condition, resulting in total damage or claim (Parker, 2016 ,p. 1353. ).
A typical provision of indemnity clause (Bennett, 2016) demands that:
“ the contractor admits to compensate, hold inoffensive, and protect the company,
the company’s employees as well as officers, against and from all causes and claims of
losses and action on account of death, property damage, or personal injury , resulting
from or in any way related to the contractor’s performance as well as sub-contractor of
the hereunder services’ contractor”
There are two types of indemnities: mutual and simple indemnities (Makarov, 2014,P.1).
In simple indemnity clause, the “Indemnitor” accepts to responsible financially for the losses
suffered by another party under some circumstances (Gordon, 2011,p.400). While in mutual
 Oil and Gas Contract 4

indemnity, the contract agreement demands that each party involved in the drafting of the pact
admits being liable financially for, and have other parties indemnified against loss of life,
damage even resulting injury, no matter the fault. It is evident that the main deviation between
them is that; the former is omnidirectional or simply unilateral, whereas the latter seems to be
binding on both parties.
The degree of indemnity coverage is a question of negotiation between the involved
parties and may virtually come to an agreement on any incident and inclusive (in some
situations) of those cases that are beyond the principles of the law. In the field of offshore
exploration of gas and oil, the mutual indemnity clause is primarily applicable. In a well framed
JOA, the non-operating parties’ assent to have the operator indemnified against any damage or
loss incurred while undertaking its obligations under the JOA framework. This is deemed to be
the starting point for any perceived agreements about the ultimately responsible party and
liability (Hewitt, 2008,p.10). The so-called non-operating parties would sometimes excerpt and
carve out of liability, a mechanism that will render the operator not being indemnified. A typical
scenario is when the acts of willful misconduct and gross negligence are excluded. However, in a
well framed JOA, no provision is made for the willful misconduct and gross negligence by the
non-operating parties to the operator. It may be extremely difficult, time-consuming and
expensive to clearly give an account of what is termed as gross negligence, a well-stipulated risk
allocation guidelines is mandated to clearly define gross negligence and give a clear outline of
the types of actions that would be treated under the principle of willful misconduct exclusion
(Lam, 2007, p.485).

The effectiveness of contractual provisions

The peculiarities of oil and gas industry are catered for by mutual indemnity clauses. This
is because alternative contractual provisions that are founded on the principle of the “guilty party
pays,” the negligence law or the required statutory duties are inefficient and impracticable in the
event of oil and gas industry (Hurst, 2014,p.3). When there is no indemnity clause to be applied,
on the inquiry principles basis, a court can only dispense the risk resulting from a particular
contract, perhaps several years later. Allocation of liabilities and risks in the principles of
contractual provisions allows the involved parties to not only have a proper plan but also
anticipate the extent to which their obligation can be deemed rightful as well as procuring the
insurance cover. Minus the mutual indemnity clause, the oil exploration sector would be
compelled to procuring several insurance covers, leading to several overlapping insurance layers
as well as attracting higher premiums. Finally, this would have the overall project cost raised by
a very large margin (Egbochue, 2013,P.8).
Instead of the above, the offshore oil and gas industry contracts normally prefer mutual
indemnities because the provisions are not only reducing the costs regarding evading insurance
layers which would otherwise attract high premiums, but also shorten the contractual periods of
negotiations, simplifying it, and facilitating the contracts regulation. The use of the indemnity
clause extensively in the modeling of contracts as outlined by famous associations and
institutions in the oilfield sector affirm to their preference, effectiveness and a larger range of
usability. The indemnity clause model that would be used in future has been developed by some
renowned associations such as the Association of International Petroleum Negotiators (AIPN),
 Oil and Gas Contract 5

the IADC (IADC, 2014), and the Leading Oil and Gas Industry Competitiveness (LOGIC)
(LOGIC, 2017).
There are several disaster incidents the have occurred in the offshore upstream industry
of oil and gas that have proved and in some situations challenged the legal framework of
allocation of risks between the involved parties in the sector of offshore gas and oil exploration,
more so between the operator and the contractor (Vann, 2014,p.2). The most catastrophic
incidents that have been so far witnessed in these are Macondo disaster and Pipe Alpha disaster.
The two incidents pave the way on the effectiveness of liabilities and indemnities as far as the
architecture of contractual risk allocation is concerned (Cary, 2010).

The Macondo Disaster

This was in an incident that occurred at the “Macondo well.” The disaster involved the
Deepwater Horizon, an Oil and Gas drilling company which was hired to BP by Transocean
contracting company. The oil well busted on 20th April 2010, killing 11 personnel out of 126
operators who were on duty during the disaster incident ( Deepwater Horizon Study Group,
2011). The company was stationed 41 miles approximately off the coast of Louisiana in
Mississippi Canyon Block 252 where it had its contract initiated to the BP (Jonathan & Hagery,
2014,p.8). The incident proved to be one of the deadliest oil spillages in the history of offshore
upstream industry in the US waters, and for that reason, the involved industry had assessed the
risks of offshore drilling before and after the catastrophe. Later on, there was a chain of very
critical legislative and litigation and regulatory actions to be taken. Following the disaster, there
was a floodgate of lawsuits initiated in the United States, totaling to not less than 7,000 lawsuits.
(Graham, 2011,p.3).
The Applicable Law
Even though several regulations and laws would have been applied to the well incident at
Macondo, there was much attention given to the subsequent litigation such as the Clean Water
Act and the Oil Pollution Act (U.S.C, 2015). For instance, the government of the United States
initiated claims for damages against both the operators and the contractors under the Clean Water
Act. Furthermore, there were a series of criminal charges that were outlined under the false
statement and Clean Air Act (Thibault, 2013,P.1-14). There was a lot of legitimate claims but
mostly pegged to property damage and the environment ( United States Environmental
Protection Agency, 2012), insurance coverage, tort, contract, and personal injury.
As in the case of Transocean Offshore Deepwater Drilling and others as well BP PLC
and others, become the most recent and profound cases initiated as a result of Macondo incident.
In such a situation, Transocean(others) and Transocean Offshore Deepwater Drilling were sued
by BP in demand for $40 billion as a result of damages caused as well as other costs in the New
Orleans federal court because of their negligence (Jonathan and Bansal, 2011). Also, BP too
sued, for their negligence, the Cameron International Corporation (Cameron) claiming that
Cameron’s Blowout Preventer manufactured by the company (Cameron) never prevented the
catastrophe (Cavnar, 2011). They also argued, before U.S District Judge Carl Barbier, that the
judge should compel the company (Cameron) to reimburse it for “all or part” of the accrued loss
(Stempel, 2011,P.6).With regard to the agreement laid under the contract of Drilling (Buzard,
 Oil and Gas Contract 6

2008)between Transocean and BP where the two parties had promised or agreed to indemnify
one another ‘unlimitedly and with no regard to cause or incident causes’ as well as breach
‘whether such tort is the only one, concurrent or joint, gross or active.’
In simple terms, there was a provision of mutual indemnities the contact, favoring the
contractor and the operator about pollution. The provision is well outlined in Article 24.1 which
outlines the terms of the contract between the contractor and the operator as follows:
“ The contractor will not only protect but also fully authenticate responsibility to
defend, release ,hold harmless, and indemnify Company together with its joint
stakeholders against any damage, fine, loss, demand, expense, penalty, liability, and
claim for contamination or pollution, encompassing removal and control thereof, above
the land surface or originating from the water bodies, leaks, discharge, or spills of motor
oils, fuels, solvents, pipe dope, lubricants, bilge sludge , paints, air emissions, garbage or
any solid or liquid which is in the control and possession of contractor regardless of
negligence of parties or any party and more so regardless of whether the discharge, spill,
or the leak is as a result of the wholly or partly negligence or the fault of the company’s
contractor, the company itself, other parties, agents, joint ventures, or employees. On top
of that, the contractor is entitled to defend the claims of the company and release
indemnity to a maximum of fifteen million dollars for the damage or loss caused to the
third parties resulting from any form of pollution caused by the drilling unit at a time
when the unit is away from the drilling location, in operation or in the event of drive off
as well as drift off from the point of drilling (William, 2015, p.2).”
In Article 24.2, the provision dictates as follows:
“ The drilling company fully authenticate responsibility to defend, release ,hold
harmless, and indemnify Company together with its joint stakeholders against any
damage, fine, loss, demand, expense, penalty, liability, and claim for contamination or
pollution, encompassing removal and control thereof, resulting from or linked to
principles of operations outlined in this contract hereunder and those that have not been
assumed by the contractor as outlined in Article 24.1 above, regardless of any party or
parties negligence more so regardless of whether the contamination or pollution is
caused in full or partly by the fault or negligence of the contractor (Pisano, 1987).”
The two clauses of the mutual indemnity became the epicenter of the reasoning between
the contractor and the operator, as each side tried to confuse the Louisiana federal court to give
jurisdiction in its favor. On the side of BP, they claimed that it never had a standing contractual
indemnity and for that reason, it would be good if the contractors share some of its liabilities
(Moomjian, 2012)i.e. Halliburton and Transocean. On the other side, Transocean repudiated the
claims of BP because there was a very clear term of the contract as far as the indemnification of
contractors as concerned no matter the gross negligence and is well stipulated standard guideline
in the international oilfield sector.

The Piper Alpha Disaster

The disaster occurred on 6th of July 1988 at a company which was under the control of
Occidental Petroleum (Caledonia) Ltd, which is fully owned by Occidental Petroleum
 Oil and Gas Contract 7

Corporation (UKHL, 2008). The contractor employed several people who lost their lives
including the survivors were (Caledonia v. Ldn Bridge, 2002). They brought the claims,
concerning compensation, for indemnity to compensate the claims against the personal injury
and the deaths that resulted — the disaster to the loss of insurance of about 1.4 billion (McGinty,
2009,p.40). A more detailed investigation of the incident showed that it was initially triggered by
the recklessness of two parties-the operators’ employee and the contractor’s valve specialist
(Brake, 2016,p.185).
Basing on the sub-clause of the agreements section 15.1, the liabilities and claims were
indemnified by the contractor to the operator, inclusive of death and personal injury caused by
the employees of the contractor, regardless of any contributory recklessness, if and only if the
death or the injury was as a result of sole recklessness or operator’s willful misconduct.
Under clause 21, excluding consequential loss or indirect liability, depreciation, business
interruption or loss of profit. There were three propositions put forward by the contractors to
dispute the claims: that firstly, they could only be liable to indemnify the operator if and only if
they were responsible for their employees’ negligence or statutory duty breach. Secondly, that
the payments made by the insurers of the operator have discharged their liability; thirdly, that
the damages were not recoverable since they are consequential losses and are falling under
clause 21 according to Scotland insurance policy.
The court never acknowledged the argument posted by the contractor on the ground of
ration as stipulated on Sainsbury v Mason, which states that the policy has no mandate to relieve
the third party from being liable to a scenario where there is a claim in tort or contract by the
insured as held in the among other things. It was also maintained that there was no basis for the
suggestion of liability on the contractor under the agreement and that would depend on whether
there was a payment made by the insurer or not towards the insurance claims. For that reason,
there was no provision made in the agreement that would make the operator procure an insurance
cover (Centre of Risk, 2010).In simple terms, Lord Bingham based his arguments mostly on the
mutual indemnity that secured employees as “market practice, “and has been used to safeguard
some key features of upstream offshore oil and gas industrial activities.” Also, it was maintained
that the operator was entitled to indemnity, as outlined in the mutual indemnity property, even in
situations when the operators were not liable for breach of statutory duty, a common law about
injuries and fatalities. On top of giving direction on risk allocation on contractual laws through
liabilities and indemnities, the jurisdiction of the court in most decisions has identified that some
limitations do hold in the enforcement of indemnities (Greene, 2015).

Conclusion
Contractual risk allocation of in the oil and gas agreements has a unique significance and
effectiveness in the field of law because of many risks that are involved and how complex the oil
and gas industry has become (Gordon, 2011,p. 50). The risk allocation in the upstream offshore
oilfield industry has been developed accordingly with the aid of mutual indemnity clauses
because of the industry’s capability to allocate contractual risks effectively between the involved
parties. As parties try to take various insurance coverage, transactional costs would drastically
rise when mutual indemnities are not put into consideration in the contract. Regardless of mutual
indemnities being acknowledged by the oil and gas industry as the best approach to management
 Oil and Gas Contract 8

of contractual risks, there has been a limit on the scope imposed by Courts (Hogue, 2010,p.6). In
whatever case, mutual indemnities may be applied continuously to allocate more risks, with
some modifications albeit.
Due to the ongoing increase in expense and cost of oil and gas exploration, the most vital
consideration and measures to be taken is the risks involved and is mandated to compensate for
those risks whenever they occur (Leffler, 2011). The incorporation of new parties into the
operation results into a unique set of risk variables as well as their remedies, and because of that,
every party, as well as risk variables, must be treated differently. This includes even the larger
part of the group consisting of all parties that are involved in the project. Today more than ever,
understanding of contractual risks in the upstream oil and gas industry during and after some
disastrous incidents in the offshore when contesting on the issues of indemnities and liabilities as
far as the contractor and operator is concerned, will help minimize exposure to loss which would
be key to the success of the oilfield.
 Oil and Gas Contract 9

References
Agar, R. S., 2013. Contractual Risk Management Part I: Definition. [Online]
Available at:
http://www.pennprime.com/index.asp?Type=B_BASIC&SEC=%7B79B0BCE7-2674-
4FA5-AF1D-10C03B7712D5%7D
[Accessed 8 March 2017].
Bennett, M., 2016. Drafting Effective Indemnity Clauses. [Online]
Available at: http://www.13wentworthselbornechambers.com.au/wp-
content/uploads/2016/02/2016-Drafting-Indemnity-Clauses.pdf
[Accessed 9 March 2017].
Brake, E. t., 2016. International Law on Liability and Compensation in the Offshore Oil & Gas
Industry. Journal of Shipping and Ocean Engineering, 6(7), pp. 185-190.
Buzard, V., 2008. The Drilling Contract is public. [Online]
Available at:
https://www.sec.gov/Archives/edgar/data/1451505/000145150510000069/exhibit10_1.pd
f
[Accessed 3 March 2017].
Caledonia v. Ldn Bridge (2002) Caledonia North Sea Limited v. London Bridge Engineering
Limited and Others.
Cary, A. .., 2010. IADC Contracts Committee. Contractual insurance and risk allocation in the
offshore drilling industry, 2(1), pp. 6-8.
Cavnar, B., 2011. Disaster on the Horizon: High Stake, High Risks, and the Story Behind the
Deepwater Well Blowout. 1st ed. Texas: Chelsea Green Publishing Co.
Centre of Risk, 2010. Piper Alpha accident. [Online]
Available at: http://www.smd.qmul.ac.uk/risk/yearone/casestudies/piper-alpha.html
[Accessed 10 March 2017].
Deepwater Horizon Study Group, 2011. Final Report on the Investigation of the Macondo Well
Blowout. [Online]
Available at: http://ccrm.berkeley.edu/pdfs_papers/bea_pdfs/dhsgfinalreport-march2011-
tag.pdf
[Accessed 9 March 2017].
Egbochue, C., 2013. Reviewing ‘Knock for Knock’ Indemnities following the Macondo Well
blowout. Construction Law International, 7(4), p. 8.
Gordon, G., 2011. Risk Allocation in Oil and Gas Contracts. In: G. J. P. a. E. U. Gordon, ed. Oil
and Gas Law: Current Practice & Emerging Trends. Aberdeen.: Edinburgh University
Press, pp. 50-67.
Gordon, G., 2011. Risk Allocation in the Oil and Gas Contracts. In: a. P. Gordon G., ed. Oil and
Gas law: Current Practice and Emerging Trends. Dundee: Dundee University Press, pp.
Chapter 14,p.400.
Graham, B., 2011. Deep Water: The Gulf Oil Disaster and the Future of Offshore Drilling ..
[Online]
 Oil and Gas Contract 10

Available at: https://www.gpo.gov/fdsys/pkg/GPO-OILCOMMISSION/pdf/GPO-

OILCOMMISSION.pdf
[Accessed 10 March 2017].
Greene, J. S., 2015. Offshore Drilling. Mitigating Risk in Offshore Exploration and Development
Activities, 1(1), pp. 20-29.
Hewitt, T., 2008. Who is to Blame? Allocating Liability in Upstream Project Contract. [Online]
Available at: www.herbertsmith.com/Publications/Upstreamprojectscontracts.htm.
[Accessed 9 March 2017].
Hogue, H., 2010 Congressional Research Service: Reorganization of the Minerals Management
Service in the Aftermath of the Deepwater Horizon Oil Spill. [Online]
Available at: https://fas.org/sgp/crs/misc/R41485.pdf
[Accessed 10 March 2017].
Houston, H., 2016. Mineral Law Foundation. International Oil & Gas Law, Contracts, and
Negotiations, 1(2), pp. 9-14.
Hurst, I., 2014. Alaska Business. Indemnity Agreements in Offshore Oil and Gas Contracts, 1
May, pp. 1-4.
IADC, 2014. The International Association for Drilling Contractors (IADC). [Online]
Available at: http://www.iadc.org/
[Accessed 9 March 2017].
Jahn, F., 2008. Hydrocarbon Exploration and Production. 2 ed. Oxford: Elsevier.
Jonathan and Bansal, 2011. BP sues Transocean for $40 billion over oil spill’ Reuters. [Online]
Available at: http://www.reuters.com/article/2011/04/21/us-bp-cameron-lawsuit-
idUSTRE73J7NR20110421
[Accessed 9 March 2017].
Jonathan & Hagery, 2014. Congressional Research Service, Deepwater Horizon Oil Spill. Recent
Activities And Ongoing Developments, 12 May, 1(2), p. 8.
Lam, K. C. a. o., 2007. Int J Project Manage. Modeling risk allocation decision in construction
contracts, 25(5), p. 485.
Leffler, W. L., 2011. Deepwater Petroleum Exploration & Production: A Nontechnical Guide. 2
ed. Amazon: PennWell Pub.
LOGIC, 2017. Governance for Standard Industry Solutions. [Online]
Available at: http://www.logic-oil.com/
[Accessed 9 March 2017].
Makarov, T., 2014. Indemnity in the International Oil and Gas Contracts: Key Features,
Drafting, and Interpretation. [Online]
Available at:
<http://www.google.co.tz/url?sa=t&rct=j&q=&esrc=s&source=web&cd=2&ved=0CC8Q
FjAB&url=http%3A%2F%2Fwww.dundee.ac.uk
[Accessed 9 March 2017].
 Oil and Gas Contract 11

McGinty, S., 2009. Fire in the Night: The Piper Alpha Disaster. 3rd ed. Amazon: Pan
Macmillan.
Moomjian, C. A., 2012. Drilling Contract Historical Development and Future Trends Post-
Macondo: Reflections on a 35 Year Industry Career. New York, IADC/SPE Drilling
Conference and Exhibition Society of Petroleum Engineers,
Parker, P. a. S. J., 2016. SMU Law Review. Contractual Efforts to Allocate the Risk of
Environmental Liability: Is there a way to make indemnities worth more than the paper
they are written on?, 44(1), p. 1353.
Pisano, C. M., 1987. Louisiana Law Review. Judicial Interpretation of Indemnity Clauses, 48(1),
pp. 6-10.
Schramn, C., 2009. Contracting Strategies in the Oil and Gas Industry. [Online]
Available at:
www.ilf.com/fileadmin/user_upload/publikationen/3R_Schramn_Nov09.pdf
[Accessed 8 March 2017].
Stempel, J., 2011. Macondo disaster. BP sues blowout preventer maker over Gulf spill’ Reuters,
20 April, pp. 1-7.
Taverne, B. P., 2008. Industry and Government. In: 2. n. Edition, ed. A study of the Involvement
of Industry and Government with the Production and use of Petroleum. Bedford: Kluwer
Law International, p. 380.
Thibault, R., 2013. The Post Macondo World of Litigation, Regulation, and Transactions. No
Longer Business as Usual, 11(2), pp. 1-14.
U.S.C, 2015. Digest of Federal Resource Laws of Interest to the U.S. Fish and Wildlife Service,
Federal Water Pollution Control Act (Clean Water Act). [Online]
Available at: https://www.fws.gov/laws/lawsdigest/fwatrpo.HTML
[Accessed 9 March 2017].
UKHL, 2008. Oil and Gas UK, Piper Alpha: Lessons Learnt. [Online]
Available at: <
http://www.oilandgasuk.co.uk/cmsfiles/modules/publications/pdfs/HS048.pdf
[Accessed 9 March 2017].
United States Environmental Protection Agency, 2012. Containment and Disposal of Large
Amounts of Contaminated Water. [Online]
Available at: https://www.epa.gov/sites/production/files/2015-
06/documents/comntainmentanddisposal.pdf
[Accessed 10 March 2017].
Vann, A., 2014. Offshore Oil and Gas Development: Legal Framework. [Online]
Available at: https://fas.org/sgp/crs/misc/RL33404.pdf
[Accessed 10 March 2017].
William, L., 2015. In re Deepwater Horizon - the $750 M Comma. [Online]
Available at: https://c.ymcdn.com/sites/acrel.site-ym.com/resource/resmgr/docs/Locke_-
_Deepwater_Horizon_-_.pdf
[Accessed 10 March 2017].
 Oil and Gas Contract 12

Zulhafiz, W. M., 2015. Paper Proceedings of Second International Conference on

Interdisciplinary Legal Studies. Toronto, Canada, Unique Conferences Canada
Publication .