Legal trends shape Asia Pacific contracts

‘Gross negligence,’ liability caps, regulatory changes among risk management considerations

By Denys Hickey and Robin Acworth, Ince & Co Singapore

As with any other region, in the Asia Pacific there are a variety of issues that the negotiator of a drilling or associated service contract must deal with in order to manage the risk to which its employer will be exposed when the contract is performed. This article discusses some of the particular risks that commonly arise in the Asia Pacific region.

Exclusion of Gross Negligence and Willful Misconduct

The oil and gas industry has seen an increasing use of expressions such as “gross negligence” and “willful misconduct” in associated contracts. Such terms are usually found in exclusion clauses, where a party seeks to exclude liability for acts constituting “gross negligence” and/or “willful misconduct” or to carve out such acts from the scope of an exclusion or indemnity.

Gross Negligence

Under English law, difficulties arise where an exclusion is expressed to extend to “gross negligence” because the term is not defined clearly under English common law (as opposed to criminal law, which employs the term in relation to manslaughter). However, increasing use of the term has led to its general acceptance as meaning something more than simply “negligence.”

In the leading case of The Hellespont Ardent (1997), the court stated that, “‘Gross negligence is clearly intended to represent something more fundamental than failure to exercise proper skill and/or care constituting negligence” and that the concept is “capable of embracing not only conduct undertaken with actual appreciation of the risks involved but also serious disregard of, or indifference to, an obvious risk. However, the court added that it “does not involve necessarily any subjective mental element or appreciation of risk.”

Willful Misconduct

The English Court has considered the meaning of “willful misconduct” in several cases, including TNT Global v Denfleet International Ltd (2007) where it was held that for “willful misconduct” to be shown, the actor must have either (a) intended to do something that he knew to be wrong or (b) have acted recklessly in the sense that he was aware that loss could result from his act and yet did not care whether loss would result.

Enforceability

English law does not prevent parties from seeking to exclude liability for “gross negligence” as a matter of policy. Likewise, unlike some US states that have enacted specific legislation against the exclusion of liability for damages arising from “willful misconduct,” English law does not provide a general rule concerning the enforceability of such clauses.

In either case, however, as with any exclusion of liability for acts that may be regarded as negligent, very clear words will be required, and any ambiguity in such a clause will be construed strictly against the party seeking to rely on it.

In the interests of certainty, parties contracting under English law (and the laws of most other common law jurisdictions, including Australia, Singapore and Malaysia) should generally be discouraged from using the terms “gross negligence” and/or “willful misconduct.” If they are used, they should be defined as clearly as possible in the contract.

Liability Caps

As with the exclusion of “gross negligence” and “willful misconduct,” provided they are properly worded, liability caps can help to contain risk by limiting a party’s exposure to a particular level, such as the limit of that party’s insurances, in connection with the contract.

As with all attempts to exclude or limit liability, care should be taken to ensure that the clause is clearly worded. Under English law, the words of a contract will be given their natural and ordinary meaning in order to ascertain the objective intentions of the parties at the time they contracted.

Following the recent US Supreme Court decision in Rainy Sky SA v Kookmin Bank (2011), “If there are two possible constructions, the court is entitled to prefer the construction which is consistent with business common sense and to reject the other.” Any ambiguity in the clause will be construed against the party seeking to rely on it.

Care must also be taken to ensure that the wording of the clause is sufficiently wide to cover all the eventualities for which it is intended to apply.  The wording can be so broad as to not require any causal nexus between the injury and the contract work.

For this reason, wordings such as “as a result of,”  “arising out of” or “in connection with” are often used.

It is important to consider whether the clause applies both in relation to performance and non-performance of the work. It is also necessary to consider whether the clause will apply to both contractual and non-contractual liabilities (e.g., negligence) and to consider the class of persons to which it is intended to apply (e.g., just the party concerned or also its affiliates and subcontractors).

Endeavours Obligations

If a contract imposes an obligation on a party to bring about a particular objective, that obligation will be absolute, unless it is qualified, and a failure to discharge it will constitute a breach of contract. Accordingly, it is increasingly common for parties to qualify certain obligations and, when using some standard form contracts, the parties may do so without considering the potential implications on their contractual obligations.

The most common qualifications used are “best endeavours,” “reasonable endeavours” and “all reasonable endeavours.”

Best endeavours

A “best endeavours” obligation is the most onerous of the three common endeavours  obligations. Nevertheless, it is not an absolute obligation or guarantee. While it may require expenditure on behalf of the obligor, it does allow the obligor to maintain some, albeit very limited, regard for its own commercial interests and will not require action resulting in its financial ruin.

Following the case of IBM United Kingdom v Rockware Glass Ltd (1980), an obligor must take all steps that “a prudent, determined and reasonable person, acting in its own interests and desiring to achieve that result, would take.”

Reasonable endeavours

An obligation to use “reasonable endeavours” will generally impose less stringent obligations than a “best endeavours” obligation. In UBH (Mechanical Services) Ltd v Standard life Assurance Co (1986), it was held that it simply means “an honest try” and that any sort of practical, financial or other commercial disadvantage associated with the obligation might justify a party’s failure to take positive action.

In Rhodia International Holdings Ltd v Huntsman International LLC (2007) Julian Flaux QC added that although there may be a number of reasonable courses that could be taken in a given situation to achieve a particular aim, an obligation to use reasonable endeavours probably requires only a party to take one reasonable course, not all of them.

All Reasonable endeavours

An “all reasonable endeavours” obligation is perhaps the most ambiguous of the three common endeavours obligations. Until recently, the main authority on its interpretation was the Rhodia case in which Mr Flaux commented that “it may well be that an obligation to use all reasonable endeavours equates with using best endeavours.”

The obligation has since been distinguished from an obligation to make “best endeavours.” However, in CPC Group Limited v Qatari Diar Real Estate Investment Co (2010), judge Justice Vos said, “It seems to me … that the obligation to use ‘all reasonable endeavours’ does not always require the obligor to sacrifice his commercial interests.”

Practical Guidelines

The degree of uncertainty as to what an endeavours clause may actually require in any given case can be addressed to some extent through precise drafting.

One approach may be to consider what steps the relevant party should take to achieve a particular obligation and make express provision for it in the contract.  This can be done, for example, by specifying which activities the obligor is required to carry out to discharge its obligation, by limiting the amount of time and/or expense that may be required or by stating the extent to which it is required to protect its own interests.

Since questions will often arise as to whether any real endeavours have been taken by the obligor, the parties may also wish to incorporate a provision whereby the obligor must inform the obligee of its progress in meeting the objective.

Regulatory Issues

In response to the Macondo incident and the Montara blowout, a number of national and international regulators have taken the opportunity to review their regulatory regimes.

European Union

On 27 October 2011, the European Commission proposed new regulations on the safety of offshore oil and gas activities, which are intended to apply across the European Union to reduce the risk of major incidents. If adopted, they will apply to all offshore oil and gas activity within the waters of EU Member States, including their exclusive economic zones and continental shelves.

Although they will not apply strictly to the operations of EU-registered operators outside the EU, the regulation currently states, “Licensees, operators and major contractors based in the Union shall endeavour to conduct their offshore oil and gas operations when outside the Union in accordance with the principles set out in this Regulation.”

The regulations propose new rules in a number of areas focusing on safety and the environment and, if they are adopted, they could apply to new exploration and production operations as early as 2013. Operators of installations that are already producing could be required to make those installations comply as soon as 2014.

Australia

The Australian government’s review of oil pollution legislation was initiated in response to the spill from the blowout of PTTEP’s Montara well on 21 August 2009. This resulted in the Montara Commission of Inquiry Report 2010. Many recommendations of this report have been implemented at a federal level through amendments to the Offshore Petroleum and Greenhouse Gas Storage Act 2006 and associated regulations, some of which came into force on 1 January 2012.

These changes include the creation of the National Offshore Petroleum Safety and Environmental Management Authority, which has responsibility for administration and regulation of occupational health and safety, well integrity, environmental management and day-to-day operations in the Commonwealth offshore areas outside the three-mile limits of Australian state waters.

Some states have opted in to this arrangement while others, such as the Department of Mines and Petroleum in Western Australia, have opted out, resulting in a complicated regulatory situation, with state-level regulations applying alongside the federal regime in some states but not others.

New Zealand

In November 2011, New Zealand re-elected its National Party. Despite pressure from opposition parties to put a moratorium on deep-sea drilling, the National Party looks likely to proceed. There appears to be some agreement from politicians across the board, however, that New Zealand is not adequately prepared to deal with significant oil spills in its waters.

Even before the Rena spill, there was considerable opposition by New Zealand’s Environment and Conservation Organisation to deep-sea drilling in the waters off New Zealand’s coastline, particularly outside its territorial waters (12 miles offshore), where there is no legislation controlling oil and gas activity.

Accordingly, it is likely that some degree of regulatory reform will occur that will affect drilling in New Zealand’s waters.

Effect of regulatory changes on contracts

In the event that regulatory changes occur during the period of a contract, different and potentially greater regulatory burdens can be placed on the parties – for instance, by requiring equipment to meet different standards. This may increase the cost to the parties of performing their obligations.  In any case, it should be made clear to what regulatory standards the parties are required to comply and what happens in the event of regulatory changes.

Dispute Resolution

The dispute resolution clause of a contract is something that is commonly left to the end, and parties often agree to such a clause without really putting their minds to its potential effects. In Asia Pacific, as elsewhere, differences between the laws and procedures in particular countries and the availability of a variety of venues for dispute resolution means that the decision should not be taken lightly.

Jurisdiction

The local courts in the Asia Pacific region can vary markedly, and this can have profound effects on the outcome of disputes. A local court near a drilling location, for instance, is likely to have a different level of experience and potentially a very different view, in relation to a complex energy dispute than a court or tribunal in the UK, Australia or Singapore.

Arbitration is particularly popular in the oil and gas sector in this region because the parties can appoint a tribunal with potentially greater experience of the particular type of dispute than the courts in the region. Singapore in particular has become a popular choice of venue for arbitrations and is generally seen as providing an efficient, independent and fair environment.

This article is based on a presentation at the 2011 IADC Critical Issues Asia Pacific Conference and Exhibition, Kuala Lumpur, Malaysia, 23–24 November 2011.