Guide to the Oil and Gas Authority’s power to determine disputes and impose sanctions

The OGA and the Principal Objective of Maximising Economic Recovery of UK Petroleum

It is widely known that the Energy Bill, which has now reached the House of Lords Committee stage, implements certain of  the recommendations made by Sir Ian Wood in the Wood Review, where he looked at ways of maximising the economic recovery (MER) of oil and gas from the UKCS.

Key provisions include:

1. The  introduction of a new body, the OGA, as  an independent, “arms-length” regulator with full regulatory powers over domestic oil and gas recovery;
2. The implementation of a Strategy (“the MER Strategy”) for achieving the Principal Objective of maximising the economic recovery of UK petroleum as set out in section 9A of the Petroleum Act 1998 (“the Petroleum Act”);
3. The granting to the OGA of responsibility for developing and implementing the MER Strategy, which, once in force, will be a legally binding document;
4. The granting to the OGA of powers to consider and make non-binding recommendations in relation to certain “qualifying disputes” concerning offshore petroleum (“the Dispute Resolution Powers”);
5. The granting to the OGA of a power to impose civil sanctions for non-compliance with the MER Strategy (“the Sanctions Powers”) on licence holders, operators, owners of upstream petroleum infrastructure, those planning and carrying out the commissioning of upstream petroleum infrastructure and owners of offshore installations  (“Stakeholders”).

Access to Infrastructure Issues

Access to infrastructure has always been intended to be at the heart of the MER Strategy. The Infrastructure Act 2015 (which amended the Petroleum Act) states that the Principal Objective of MER is to be achieved, in particular, through development, construction, deployment and use of equipment, including upstream petroleum infrastructure.

In the past, DECC dealt with access to infrastructure issues on the basis of the principles set out in the guidance issued by them in July 2013 (the “DECC Guidance”), which provides a power for the Secretary of State to require an owner of upstream oil and gas infrastructure to grant access to a third party and to specify the terms on which access should be granted, in the event that the parties were unable to agree satisfactory terms of access. Very few such applications to the Secretary of State were, however, made.

In order to achieve the MER Strategy and protect vitally important corporation tax revenues, the thousands of jobs in the oil and gas industry and its extended supply chain, the UK Government has realised (many will say far too late) that it must take further active steps to avoid North Sea hydrocarbons becoming stranded for want of access to infrastructure. This can only be done by forcing licensees, operators and infrastructure owners to take account of the objective of maximising the value of petroleum which can be recovered from the entire UKCS at all stages of a project’s lifecycle, from planning infrastructure, to exploration and production and ultimately decommissioning.

The result is the Energy Bill and the proposed MER Strategy.

Depending upon your point of view, the Energy Bill and the draft MER Strategy (published on 18 November 2015), are either a master stroke of pragmatism, effectively forcing companies to comply with the MER Strategy via the ultimate threat of licence removal, fines and other sanctions, or a mishmash of legally binding and non-binding dispute resolution and sanctions processes, which in truth overlap.

The Energy Bill is, without doubt, a somewhat unusual marriage between a dispute resolution process (“the Dispute Resolution Powers” ) under which the OGA may make only non-binding recommendations in relation to certain disputes between parties, and a separate but, in reality, clearly related set of powers (“the Sanctions Powers”) to impose civil sanctions for failure to act in compliance with the MER Strategy: these include fines, removal of licences, removal of operators, as well as powers to require Stakeholders to take specified action.

For the large established global oil and gas players, the whole concept of MER goes against the grain. Where’s the problem they say? Of course we would give a third party access to the key infrastructure we control, on a tariff.

However, for the junior E&P companies who need access to that infrastructure, the MER Strategy and the Dispute Resolution Powers of the OGA represent a new and potentially powerful way of exerting leverage in order to achieve a more favourable outcome than might once have been available from the larger players.

The Draft MER Strategy

Those who were expecting the recently published draft MER Strategy to be a rather watered down set of low level obligations will be disappointed. The draft MER Strategy published by DECC on 18 November 2015, which, when final, will give rise to legally binding obligations, imposes a number of specific and potentially onerous legal obligations on Stakeholders.

Most significantly it imposes substantial obligations on owners and operators of infrastructure which could lead to sanctions being imposed by the OGA if not complied with.

These obligations include:

At every stage therefore, a company is expected to be looking to safeguard the overall value of petroleum which can be recovered from the UKCS. This obligation to be good corporate citizens will inevitably, on occasion, conflict with companies’ obligations to maximise returns for shareholders. From such situations, disputes will undoubtedly arise, as we discuss below.

Balancing Competing Interests

The draft MER Strategy seeks to reassure Stakeholders that the OGA will exercise its powers carefully. Its stated safeguards include the following:

However, there is no doubt that, whilst the OGA does not expect Stakeholders to engage in unprofitable conduct, it does anticipate that a company may have to accept a less profitable return than it would want to make/could otherwise make, in order to benefit the UKCS as a whole. The draft MER Strategy clearly states that: “it will not be the case that all companies will be individually better off”.

The draft MER Strategy also makes it clear that where a party is not happy with a proposed rate of return but the OGA considers they would receive “a satisfactory expected commercial return”, that party “must”  divest itself of its licence interest or asset in order to allow a third party to exploit it on terms the OGA considers satisfactory.

Likely Areas of Dispute

We anticipate that a high proportion of disputes will centre around what a “satisfactory expected commercial return” means in a given context, particularly as the definition is deliberately vague and appears to suggest that the individual position of the company is not relevant to what will be considered “satisfactory” and that the evaluation of this issue will be dependent only on the nature of the investment itself.

The OGA’s explanatory notes for the draft MER Strategy have now indicated that factors such as the cost of capital for a company and its shareholder expectations will “all play a part” in the OGA’s consideration of whether a company would obtain a “satisfactory expected commercial return” on a project.  However, this has not led to a broadening of the definition included in the draft MER Strategy and is likely to be the subject of considerable debate during the consultation process.

What is clear is that it is likely to be Hobson’s choice for a Stakeholder who disagrees with the OGA that a “satisfactory expected commercial return” can be achieved: either accept a lower rate of return than anticipated or divest.

Other key areas for disputes will, in our view, centre around the following:

So what exactly are the separate Dispute Resolution and Sanctions Powers that the OGA will be operating and how do they overlap?

The OGA’s Dispute Resolution Powers and Sanctions Powers

The OGA has sought to tread a near impossible line between not interfering directly in a party’s contractual relationships, and punishing them if they do not do what the OGA considers to be in keeping with the MER Strategy. The Dispute Resolution Powers therefore ultimately lead to non-legally binding recommendations by the OGA.

However, it seems highly likely that, in some cases, if a party does not comply with the OGA’s non-binding recommendation on an issue relating to MER, the OGA might subsequently use its Sanctions Powers under Chapter 5 of the Energy Bill on the basis that the party is not complying with the MER Strategy.

We set out below the essence of the 2 different types of process and how they work.

The OGA’s Dispute Resolution Powers

The OGA will have power to determine “qualifying disputes” involving one or more “relevant parties” relating to “qualifying issues”.  There is no statutory definition of “dispute” but it is likely to be widely interpreted, in our view, as any situation where the parties are not agreed.

A “relevant party”, means a party to the dispute of the type listed at section 9A(1)(b) of the Petroleum Act which includes:

In addition, the Energy Bill will expand the definition of “relevant party” to include “owners of relevant offshore installations”.

So, at least one party must fall within one of the categories above.

The Energy Bill also makes clear that a party which is not a “relevant party” – e.g. a party seeking to acquire North Sea assets – has no right to insist on the OGA exercising its Dispute Resolution Powers. This is potentially an obstacle for parties seeking access to infrastructure. However, it is open to such a party to notify the issue to the OGA and the OGA may then decide of its own initiative to use its Dispute Resolution Powers.

“Qualifying issues” are defined as issues relevant to: (i) maximising economic recovery of UK petroleum (MER), or (ii) an activity carried out under an offshore petroleum licence (although not applications under section 82 of the Energy Act 2011).

The OGA is under no obligation to accept a reference by a “relevant party” but will consider the matter. Key reasons for rejecting a matter (apart from not being a “qualifying dispute” or a reference from a “relevant party”) are that:

It is unclear what a “satisfactory recommendation” is, as this is not defined. Will the OGA use it to duck out of intractable disputes with no obvious solution or will it be limited to situations where no economically viable solution exists for both parties? It has been left deliberately vague.

We can see that there might be some parties who are aggrieved at a refusal of the OGA to accept a reference. Such refusal may itself give rise to litigation in the form of a judicial review in the Courts.

If the OGA chooses to accept a reference, what powers does it have?

The OGA’s major powers are set out below.

1. Power to draw up its own timetable and issue directions to relevant parties:

The OGA has a wide power in relation to the procedure for determining a dispute and making a recommendation. It can determine its own procedure and can, if it thinks it appropriate, adjourn consideration of a dispute to enable the parties to negotiate.

2. Power to acquire information:

The OGA can make a request for information (“a Request”).  The recipient of such a Request must provide the information sought in such manner and within such reasonable period as specified by the OGA in the Request.  The explanatory notes which accompany the Energy Bill (“the Explanatory Notes”) state that the OGA will be able to request information from non-relevant parties, but that such persons could not be sanctioned if they fail to comply with a Request.

This power raises a number of issues in relation to the confidentiality of the information supplied.  In order to make a recommendation, some highly valuable and sensitive commercial information, such as potential drilling sites, financial projections, profitability of operations and competitive strategy, may be relevant.  It is not clear how the OGA will protect information of this nature from abuse by the counterparty and / or other competitors, as presumably the underlying reasoning for the recommendation will need to be explained to the parties, and the Energy Bill specifically states that such information may be disclosed in the course of publishing recommendations or details of sanctions.

The DECC Guidance states at paragraph 27 that “[t]o maintain transparency in the consideration of cases and to provide an opportunity for both parties to agree as many of the facts as possible or, where appropriate, provide their own view of the negotiations, the Department expects each party to copy to the other party its submissions to the Department unless there is good reason not to do so”.

Given that many E&P players are likely to be listed companies, care and attention will have to be given to how such price sensitive information will be properly protected.

There may also be a possibility of challenges to Requests on the basis of companies’ rights to privacy under Article 8 of the European Convention on Human Rights.

3. Power to require attendance at meetings:

The OGA may require relevant parties to send a representative with the necessary knowledge and expertise in relation to a dispute to meet with the OGA.  Again, the Explanatory Notes state that a non-relevant party may be called to a meeting with the OGA, but the OGA has no powers to sanction such parties for non-compliance.

The DECC Guidance states that if meetings with officials occur, DECC will encourage both parties to agree to the other being present.

4. Power of a representative of the OGA to attend meetings:

The Energy Bill places a rather wide obligation on companies to notify the OGA where a meeting between 2 or more relevant persons takes place to discuss “relevant issues”. So if 2 parties are meeting and discussion involves issues relevant to MER, the OGA should be notified and may attend and participate (without voting). A note of any such meetings not attended by a representative of the OGA must be provided within a reasonable period to the OGA.

5. Power to publish recommendations:

The OGA’s recommendations are not legally binding.  However, the OGA is entitled to publish recommendations (after giving each party the opportunity to be heard).

No Appeal

Importantly, the recommendations themselves are not appealable to the First-tier Tribunal, which can hear appeals from sanctions under the Sanctions Powers (as explained below). The reason for this is that the recommendations are not legally binding.   However, it is generally thought that such recommendations are likely to be judicially reviewable by the Courts, given that they are important decisions given in the exercise of a public function and could have serious consequences.

Judicial Review

Grounds for judicial review would be on the basis that:

The remedies available are discretionary and may include:

The OGA’s Sanctions Powers

The OGA can impose sanctions under Chapter 5 of the Energy Bill if a relevant party fails to act in accordance with the MER Strategy or fails to observe any (procedural) directions imposed by the OGA under the Dispute Resolution process.

As stated above, sanctions cannot be imposed directly for failure to comply with the OGA’s non-binding recommendation under the Dispute Resolution procedure. However, as we have commented, the Dispute Resolution procedure does encompass MER issues. Therefore, it seems likely that the OGA could decide to serve a sanctions notice for failure to act in accordance with MER Strategy where it has previously made a recommendation under the Dispute Resolution Powers regarding a MER issue, which has not been complied with. This would be a separate process and not a sanctions notice for failure to comply with the recommendation per se, but clearly the 2 matters do in reality overlap.

Examples of not complying with the MER Strategy might include: situations where an infrastructure owner refuses to allow a third party access to a pipeline, or refuses to do so on what the OGA considers “fair and reasonable terms”, or takes a decision to decommission without considering whether the infrastructure could be used by an adjoining licence holder.

Sanction Warning Notice

Before imposing a sanction via a sanction notice, the OGA must give a sanction warning notice in respect of any failure to comply with the MER Strategy.  It must detail the failure to comply and inform the recipient of the notice that they may within a specified period make representations to the OGA in relation to the matters in the notice. The period allowed for making representations is such period as the OGA considers appropriate. We think it unlikely that the OGA would consider a period of less than 28 days to be appropriate.

Sanctions which may be imposed

Sanctions which can be imposed include:

Enforcement Notice:

An enforcement notice requires the recipient to comply with the notice. It will specify that the recipient must comply with the MER Strategy, give details of the failure to comply, and set out any directions as to the measures to be taken by the recipient and the period within which action should be taken.

Financial Penalty Notice:

A financial penalty notice imposes a financial penalty which presently must not exceed £1,000,000, although there is scope for penalties to be increased to £5,000,000 in the future if the OGA decides that the limit of £1,000,000 is not sufficient to persuade companies to comply. The recipient of the notice must be given at least 28 days for payment of the financial penalty.

It is worth noting that, if a financial penalty notice is served on two or more persons e.g. two licence holders, they will be jointly and severally liable to pay the penalty. If one does not pay, the OGA can recover the full amount from the other.

Revocation Notice:

A revocation notice states that a licence holder’s licence is to be revoked on a certain date no earlier than 28 days from the date of the notice.

Operator Removal Notice:

An operator removal notice requires that, from a certain date no earlier than 28 days from the date of the notice, the licensees under whose licence the operator operates will be required to remove the operator.

Challenging Sanctions

There is no doubt that the exercise of sanctions is going to be a contentious business. Unlike for the Dispute Resolution procedure, specific rights of appeal are contained in the Energy Bill.

In the first instance, this takes the form of an appeal to the First-tier Tribunal, as explained below.

Appeal to First-tier Tribunal:

Appeals can be made to the First-tier Tribunal of the General Regulatory Chamber of HM Courts and Tribunals Service (“the First-tier Tribunal”), in respect of sanctions.

An appeal against sanction notices can be made either:

Where appealing against the sanction itself, in the case of an enforcement notice, the appeal can be against the measures required to be taken or the period for compliance. In the case of a financial penalty, the appeal can be against a decision to impose a financial penalty or as to the amount of the financial penalty. In the case of revocation of the licence or an operator removal notice, the appeal can be against the decision to revoke the licence or require the removal of the operator.

The Energy Bill provides that the grounds in the case of an appeal against the sanction imposed are:

The First-tier Tribunal will comprise of one senior judge and one or two panel members with oil and gas industry expertise.

The Energy Bill grants the First-tier Tribunal various powers, including to:

Decisions of the First-tier tribunal will be appealable to an Upper Tribunal with permission from either the First-tier tribunal or the Upper Tribunal. The Upper Tribunal will consist of senior members of the judiciary.  From the decision of the Upper Tribunal, a party may appeal to the Court of Appeal.

As the Energy Bill sets out an appeal process, it is highly unlikely that judicial review will be available in respect of sanctions.

A further potential route for companies seeking to challenge interference by the OGA in relation to how they use their assets is to allege that such interference would be a breach of their rights under Article 1 of Protocol 1 of the European Convention on Human Rights (peaceful enjoyment of possessions).

Conclusion

The draft MER Strategy gives the OGA serious powers to intervene at any stage of a company’s lifecycle.

It is clear that companies will be expected to demonstrate a new mind-set which goes beyond acting in the best interests of their shareholders and, at times, may even conflict with those interests.

Whilst companies will not be expected to engage in conduct which is unprofitable, the draft MER Strategy makes it clear that they may have to accept a less favourable return than they would otherwise desire, failing which they will have to sell up their licence interest or asset to someone willing to accept the lower level of return.

It remains to be seen whether such powers will cause new entrants to shun the basin or large established players to leave the basin, or whether the OGA will be able to successfully balance the competing interests of the UKCS as a whole against companies’ individual drive for profits.

It also remains to be seen whether the OGA will be able to make a real difference, at this late stage, in fulfilling the Principal Objective of maximising the economic recovery of oil and gas from the UKCS.

Jane Marsden
Ryan Lynch
Eleanor Hassani