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Legal Aspects of Oil and Gas Management Coursework Writing Sample

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Legal Aspects of Oil and Gas Management

Introduction

The constitutional role of international law offers procedures and mechanisms for settling disputes and supervises the compliance and implementation with treaties and customary rules. The aim of the international law is to promote and facilitate cooperation between states, international organizations as well as non-governmental organizations (Birnie, et al., 2009). In the modern world, petroleum is one of the most critical commodities and is acknowledged to play a crucial role in national strategies and international politics. Modern petroleum industry developed in developing countries, in which the state universally owns the petroleum and international oil companies having the necessary capital and expertise control petroleum exploration and exploitation. The international oil companies tend to be in a uniquely complex business arrangement in regard to their operational in a foreign company. The arrangement between the state and the companies are likely to involve very high stakes, risks and profit margins. Consequently, questions are bound to arise relating to the allocation of profits in the arrangement between the state and the international oil company (Coale, 2003). Such tend to act as sources of risks to the contract. The current paper seeks to examine the function and aims of stabilization clauses and the way the seek to attain the stability desired by the parties. With political changes likely to lead to policy reversal measures, stabilization clauses have proved necessary to provide guarantees for investments in oil and gas contracts.

Legal Aspects of Oil and Gas Management

Future risks are inevitable in any contractual arrangements and are more pronounced in arrangements seeking to create long-term obligations. Firoozmand (2006) advanced that such is particularly the case in long term international petroleum contracts because of their technical, contractual and political attributes that are seemingly more vulnerable to a varied range of future risks. In addition to the distinctive political and technical dimensions of the petroleum contracts, the agreements often represent long-term arrangements spanning several decades, which render them more susceptible to a wide range of risks. Coale (2003) observes that the international oil companies make large initial outlays of capital in exploration, appraisal and development that have to be recouped from the oil earning and such expose the companies to significant risk over an extended period. As well, the unpredictability of petroleum prices means that it is possible for the initial agreement to look undesirable for the host country afterwards, especially if the company experiences high productivity. Such factors encourage the host government to seek renegotiations over the long-tern agreements largely because of the changed circumstance and political pressure (Coale, 2003). These risks prompt parties to these kinds of contracts to adopt risk management techniques and strategies to manage the risks. Firoozmand (2006) noted that one approach to this includes including in their contracts a specific definition of the consequences that the occurrence of an anticipated event would have for the parties to either suspend, terminate or renegotiate the obligations of the parties. Stabilization clauses are one form of contingency clauses used to achieve this aim.

A central consideration that any international oil company has to bear in mind in contracting with a state party is that its counterparty is a sovereign state and is capable of using various regulatory and legal instruments to expropriate the entire de facto fields or blocks, or lower the revenue that the international oil company receives from the fields or blocks. For instances, the state can alter laws retrospectively, raise taxation rates or decide against issuing export permits (Picton-Turbervill, 2009). As provided, Halabi (2011) noted that stabilization clauses are one of the mechanisms that international companies and host countries ensure that the commitments they enter into are credible. While not all investment contracts include stabilization clauses, the clauses are usually included together with renegotiation clauses to provide for changes if there arise circumstances that affect the interests of the contracting parties. The states and the international oil companies rely on the stabilization clauses as part of ground rules on which the project operations are based. In such a case, the clauses provide guidelines on formal negotiations and informal dealings that the parties to the agreement exhibit and provide protection of the rights should there be a dispute. Furthermore, Halabi (2011) added that the clauses are also likely to offer the oil companies with the legal basis of resisting compliance with new laws even in instances where the host state exhibits unwillingness or inability to monitor the compliance of the oil companies, and there are no formal disputes arising. The effectiveness of the stabilization clauses is based on the fact that the international case law has been shown to maintain that stabilization clauses are not only lawful but also legally binding based on international law. As well, the international case law supports the proposition that parties in a contract treat the stabilization clauses as binding.

International oil companies are likely to attempt to minimize risks through contractual provisions. However, numerous risks prove impossible or difficult to control using contract clauses. Coale (2003) noted that among the risks include financial, commercial, technical, geologic, managerial and natural disasters. However, stabilization clauses have emerged as an applicable strategy to specifically address political risks. It is possible for a contract to affect this kind of risks. With the host state having the sovereign power over resources and capable of changing laws, oil companies are keen for the country to provide specific assurance enforceable under international to lower the tension likely to arise between the powers of a state and the imposition of contractual limitations on those powers. Consequently, stability clauses are designed to secure specifically the agreement entered against changes in law or government action in future either regulatory or legislative (Coale, 2003). In particular, stabilization clauses are a commitment that the host country makes that it will not alter the terms established in the agreement, legislatively or through other means, without the consent of the oil company that is the other contracting party.

The International Law assumes a central in the operation of stabilization clauses. First, Ṣabāḥī (2011) advanced that the international law confers host states with the sovereign right of expropriating their resources and regulating activities that take place within their respective jurisdiction on the basis of the principle of permanent sovereignty that states have over natural resources. The principle of the sovereignty of states was affirmed by the passage of the UN General Assembly Resolution 1803 passed in 1962 and this is normally acknowledged to be the main principle of customary law. Nevertheless, the same international law provides conditions under which the states that expropriate assets of international companies have to comply. Hereby, any taking that states make must for public purposes, based on due process and in a non-discriminatory ways and against the payment of compensation (OECD, 2008).

Types of Stabilization Clauses

Stabilization clauses can be split into a number of categories. Coale (2003) advanced that agreement to a stabilization clause implies that the host government purports to alienate the rights that it enjoys to unilaterally alter the rights that an international oil company has been promised. Clauses requiring the government not to terminate or modify the contract unilaterally is referred to intangibility clause and is the first category of stabilization clauses. The second category often referred to as ‘stabilization clause stricto sensu’ advances that the governing law of the contract is to involve that of the contracting state when the contract was executed with an aim to prevent the application of changes in the laws of the contracting states afterwards. The third form of stabilization clauses advances that the agreement is to be observed consistently in ‘good faith’ to preclude unilateral termination and modification. Hereby, the international law acknowledges expropriation, but require compensation. Such a stabilization clause can assist in providing the oil companies with some form of protection when appropriation is established. These three categories of stabilization clauses are likely to be either in broad or narrow form to stabilize specific aspects of the contracts, for instance, the applicable tax regime (Coale, 2003).

Considering the commitment that the host state makes that it will not alter the regulatory framework that governs the contractual arrangement, there is still another categorization of the various forms and shapes of the stabilization clauses. According to Merino-Blanco & Razzaque (2012), one category of the stabilization clauses includes the ‘freezing clauses, in which the national law that is applicable is considered to be one that was inforce when the parties entered into the contract, in the process excluding subsequent legislation. Whereas, the consistency clauses involve that clauses advancing that the national law would only apply if it is in line with the investment contract. Another form of the clauses provided by Merino-Blanco & Razzaque (2012) includes the economic equilibrium clauses’ responsible for linking alterations of the terms of a contract to the contract regeneration to restore the original economic equilibrium of the contract, and where the equilibrium is not achieved, to guide in compensation payment.

Effects of Stabilization Clauses

The stabilization clauses entered into in a contract would bear legal significance particular in cases involving higher compensation amounts in comparison to instances where the stabilization clauses are not included. Particularly in response to resource nationalism, stabilization clauses assume valuable roles as a pressure mechanism, capable of deterring the host state from adopting actions that would harm the oil company. Some of the oil companies cling to their fate, which may even involve shying away the rule of law for some time. An example of this that Jasimuddin & Maniruzzaman (2016) raise arose when ExxonMobil and Conoco-Philips refused to submit to the demands that the Venezuelan government set. Instead, they continued invoking the rule of law. In the end, ExxonMobil won court order freezing up to $12 billion global assets that Venezuela owned. Such was a notably bold response that any company had taken against growing resource nationalization. However, such does not imply that stabilization clauses are sufficient considering that even though the oil companies have the option of threatening legal actions against government to prohibit state intervention, the companies are likely to risk losing access to oil resources for upsetting the oil-endowed nations (Jasimuddin & Maniruzzaman, 2016). In such cases, there are likely to be geological facts that are likely to render the use of legal weaponry riskier in comparison to not using it.

A major concern that arises in the context of stabilization clauses relates to the fact that the balancing of economic, environmental and social considerations tends to be at the heart of sustainable development initiatives. For investment contracts with long durations, investors are likely to be concerned by regulatory changes likely to adversely affect their investments, especially when the balancing of the negotiating power has shifted in favor of the host government within the contract implementation period (Merino-Blanco & Razzaque, 2012). On the other hand, host governments advance that the stabilization clauses constrain the sovereignty of their legislative power and the permanence of the sovereignty over their natural resources. Furthermore, stabilization clauses have often attracted attention as there are instances when they prove counterproductive. By seeking to stabilize the applicable law, the clauses are likely to restrict the ability that the host state has in taking action in the public interest. In several instances, improving environmental and social safeguards can affect the economic equilibrium of the contract adversely, for instance, by delaying the implementation of the project or raising project costs. Application of stabilization clause forces the host state to exempt the project from compliance with the improved standards or to compensate the international oil company for the losses suffered (Merino-Blanco & Razzaque, 2012). According to Sauvant (2013), civil society actors often criticize the freezing type of stabilization clause for undermining the ability and willingness that the host state has in fulfilling human rights obligation consistent with the international law on human rights especially in relation to health and safety, environment protection, cultural heritage and employment and labor rights.

Conclusion

Stabilization clauses represent efforts that international oil companies adopt to restrict the administrative or legislative power of the state to take advantage of its sovereignty in its country or legal system to alter the contractual regulation or to annul the agreement. In establishing the clauses, the international oil companies negotiate with states or state entities entrusted with the administration of petroleum resources in the public interest. The aim of having the clauses is to facilitate the stability of central conditions of the agreement likely to affect the return on the investment. However, the stabilization clauses have attracted debate and criticism. Nevertheless, they still assume a crucial role in oil and gas management because of the protection that they provide against political risks as well as the legal certainty that the international oil company has in investing in petroleum exploration and exploitation.

Reference List

Birnie, P., Boyle, A. & Redgwell, C., 2009. International law and the environment. Third ed. New York: Oxford University Press.

Coale, M. T., 2003. Stabilisation Clauses in International Petroleum Transactions. Denver J. International Law and Policy, 30(2), pp. 217-237.

Firoozmand, M. R., 2006. Force Majeure Clause in Long-Term Petroleum Contracts: Key Issues in Drafting. Journal of Energy & Natural Resources Law, 24(3), pp. 423-438.

Halabi, S. F., 2011. Efficient Contracting between Foreign Investors and Host States: Evidence from Stabilization Clauses. Northwestern Journal of International Law & Business, 31(2), pp. 261-312.

Jasimuddin, S. M. & Maniruzzaman, A. F. M. (., 2016. Resource Nationalism Specter Hovers Over The Oil Industry: The Transnational Corporate Strategy To Tackle Resource Nationalism Risks. The Journal of Applied Business Research, 32(2), pp. 387-400.

Merino-Blanco, E. & Razzaque, J., 2012. Natural resources and the green economy : redefining the challenges for people, states and corporations. Leiden: Martinus Nijhofff Publishers.

Organisation for Economic Co-operation and Development, 2008. OECD investment policy perspectives. Paris: OECD.

Picton-Turbervill, G., 2009. Oil and Gas: A Practical Handbook. London: Globe Business Publishing Ltd.

Ṣabāḥī, B., 2011. Compensation and restitution in investor-state arbitration: principles and practice. Oxford: Oxford University Press.

Sauvant, K. P., 2013. Yearbook on international investment law & policy 2011-2012.. Oxford: Oxford University Press.

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