Estorage - Issue 4

Managing energy disputes in unprecedented times

Global Update April 2020

Introduction

Economic uncertainty, disruptions to supply chains and to ongoing projects caused by the COVID-19 pandemic are all envisaged to last for a significant period of time. Liquidity is being stretched to its limits. In these unprecedented times, managing ongoing transactions and commercial relationships to prevent disputes becomes all the more critical. This is all the more so for companies in the energy space, as the collapse of fuel demand in the face of a global pandemic and an “all-out price war between Saudi Arabia and Russia” has meant that Brent Crude is on a freefall.

Based on our recent experience advising clients on matters arising out of COVID-19, we set out ten tips to manage energy-related disputes in the midst of uncertainty.

Tip #1: Check your contracts for force majeure provisions

A force majeure clause will classically define which “exceptional event or circumstance” may constitute a force majeure event. Typically, a force majeure clause in a contract will set out a list of matters that qualify as force majeure (“FM Event”) and explain the consequences of such FM Events. Importantly, the force majeure provision will also usually include a requirement that a contracting party needs to show that it was not able to reasonably overcome or avoid the effects of the FM Event and thus is unable to perform its contractual obligations. Payment obligations are usually expressly excluded from force majeure provisions.

As force majeure clauses differ from contract to contract, a party that seeks to rely on a force majeure provision needs to carefully consider the following:

(i) What is the event on which a party seeks to rely to claim force majeure under the contract?

(ii) Does the force majeure clause cover that event?

(iii) What are the consequences of invoking the force majeure clause, e.g. does this provide the party with more time to complete a project, or require the party to come up with a remediation plan that is to be discussed with the counterparty?

(iv) Does the force majeure clause contain a “reasonable endeavours” provision? Some energy contracts require that a party demonstrate that it has exercised reasonable endeavours in performing its obligations before it has a right to invoke the force majeure provision.

For example, in LNG supply contracts, a buyer may seek to assert force majeure as a result of circumstances preventing receipt of LNG inventory at the originally designated receiving facility. In contracts where the parties have agreed on specific receiving facilities (including the use only of receiving facilities located within a specific country or specific countries), the impairment or impossibility of receipt at those facilities may be sufficient to constitute force majeure. Where, however, the contract places an obligation on the buyer to agree on alternative receiving facilities with the seller, then the prospects of the force majeure claim will turn on the availability of these alternatives and the manner in which the parties have sought to agree on them.

Some countries are looking to introduce legislation to provide financial and other forms of support to individuals and businesses affected by COVID-19 and the resulting government measures to clamp down on the spread of the virus. For instance, in Singapore, the COVID-19 (Temporary Measures) Bill, passed into law by the Singapore Parliament on 7 April 2020, expressly recognizes COVID-19 as “an epidemic or pandemic”, which removes a lot of the legal debate on whether COVID-19 is an epidemic or pandemic, if such terms are used as examples of force majeure events in Singapore law governed contracts.

Tip #2: Observe notice periods

Having established that a party seeks to rely on a force majeure clause to protect its rights under a contract, it is critical to observe the notice period that is provided in the force majeure clause. Often, such notice period either starts from the date on which the party “first became aware” of the FM Event, or from the date on which the party “first became aware of the effects” of the FM Event on its contractual obligations. The latter is obviously more generous but a party should not use this to unduly delay a notice being sent to the counterparty.

Additionally, a party should note that the “deemed receipt” provision in a general notice provision of a contract can mean that a notice needs to be sent within business hours in a jurisdiction. For instance, a notice sent after 5 pm in a particular jurisdiction could be deemed to be received only on the next business day.

Tip #3: Consider the impact of a force majeure notice on other contracts

This is particularly relevant for energy projects which have “back to back” contracts, and LNG trading contracts which are often back to back sales.

Before COVID-19 became global in its reach, a key common factor in almost all examples of disruptions owing to the impact of COVID-19 was a direct or indirect connection to Chinese corporates or state-owned entities (SOEs), whether as purchaser, seller or supplier of services, labour or equipment. Whilst the People’s Republic of China is now re-opening for business, many parts of the world are temporarily shutting down and this is affecting supply chains.

For instance, an operator of an oil and gas storage facility under construction will need to manage its main contractor and its customer under the EPC contracts (operator/contractor) and the operator-customer contract, both of which may have different force majeure provisions, and different notice periods. The precise scope of obligations under each contract merit careful study, and there should not be any assumption that force majeure under one contract would necessarily result in force majeure under the other. Preventing disputes under both contracts will need to be carefully managed to mitigate the effects on the operator.

Tip #4: Keep a record of evidence of attempting to comply with contractual obligations

Parties should keep detailed and accurate records of their ability to comply with their contractual obligations. This would go towards a party being able to prove that its ability to perform its contractual obligations has been adversely and directly affected by the coronavirus pandemic, which could provide evidentiary support for a potential claim under a force majeure or material adverse change clause and/or frustration. This would also enable a party to issue the relevant notice(s) if any, which should be issued in a timely fashion. The issuance of such notice(s) can often form a prerequisite to a party’s ability to make the relevant claim under the contract(s).

Tip #5: Beware the authenticity of notices

One of the consequences of the lockdown in the PRC is that the China Council for the Promotion of International Trade of the China Chamber of International Commerce started to issue “force majeure certificates”. Such a document will usually “certify” that, according to a notice from the general office of the People’s Government of a certain province, all the companies in that province were forbidden to resume work before February 9, 2020, and that they would resume work from February 10, 2020. Such “force majeure certificates” merely evidence that (i) there was a lockdown in a province mandated by the local government; and (ii) the company was unable to undertake work owing to the lockdown, and would not, despite the titular suggestion, be notices that could necessarily trigger force majeure provisions. Of greater concern is opportunistic behaviour by contractors already in delay seeking to blame the delay in the performance of their obligations on the lockdowns.

As many parts of the world now undergo a similar lockdown, it is critical for corporates to carefully assess the authenticity of any FM notices from a contracting party seeking to rely on such circumstances as reasons for its inability to perform the contract. Among other measures, it is useful to test the authenticity of such notices by checking on government websites or mainstream newspapers as to the details of the government lockdown, what essential services workers are still permitted to perform in such circumstances and what travel restrictions are in place.

For instance, contractors and their sub-contractors may attempt to take advantage of the lockdowns in their particular jurisdictions and collude to create “notices” of forthcoming substantial delays in production of equipment without any credible supporting documentary evidence, including evidence of whether their labourers are in fact subject to lockdown beyond the expiry of the lockdown period, and whether those labourers were in the particular jurisdiction under lockdown. On the other hand, if a party is seeking to prepare a FM Event notice, this should include concrete proof of the factors that are preventing, hindering or delaying the performance of a contract, what obligations of the contract are being impacted and steps being taken to mitigate these factors. This avoids giving the impression that the FM Event notice is opportunistic or seeks to cover up pre-COVID-19 delays or failure to perform.

Tip #6: Keep a record of all informal discussions

In these uncertain times, it is very common for businesses to have informal discussions with their counterparties as to circumstances that are presently affecting a transaction or an ongoing project. Whilst businesses may be sympathetic to the current circumstances, it is still important for businesses to keep an internal, contemporaneous record of all such informal discussions. Taking a cautious approach now can pay dividends later if commercial relationships were to sour in the future and those records may be needed as evidence to protect a party’s interests.

Tip #7: Control communications with counterparties

This may seem all too obvious, but in a time when almost everyone is in a “shared experience” with COVID-19, people may be less careful with what is said in respect of an ongoing project or transaction. Businesses can be put in an invidious position if external communications are seen to admit liability or contain language which is unhelpful to preserving a party’s rights early on in a transaction.

If in-house legal support is available, external communications in relation to transactions impacted by lockdowns or other COVID-19 related circumstances should involve sign-off from in-house counsel and include in-house counsel in copy. If not, then consider if it may be useful to engage external counsel to manage the communications to ensure that a party’s interests are protected.

Tip #8: Make use of legal privilege

Some jurisdictions provide for legal advice privilege to cover legal advice from in-house counsel and this can be useful protection in preventing internal communications from being disclosed in an arbitration or court litigation.1

In jurisdictions in which in-house counsel does not enjoy legal advice privilege, parties should consider whether external counsel need be instructed. Related to Tip #7, apart from ensuring that an overall strategic approach can be taken on ongoing contentious issues, in many jurisdictions the solicitor-client relationship means that legal advice (and communications for that purpose) are subject to legal advice privilege. This can be useful to shield certain communications from later disclosure, if things take a turn for the worse in a commercial relationship.

Tip #9: Future proof contracts

Where possible, efforts should be made to future proof contracts to help manage disputes in the long term.

Some examples:

(i) An FM Event can be defined to include a “pandemic or epidemic as declared by the World Health Organization”, so that there is no doubt as to when a pandemic or epidemic arises and thus qualifies as force majeure. It may even be worth considering making it clear that “public health emergency of international concern as declared by the World Health Organization” is not an FM Event.

(ii) A LNG supply contract can provide that, if a selected receiving facility failed to be useable because a government revoked the permit for use of the facility, then the buyer has an obligation to identify and agree with the seller of LNG on alternative receiving facilities failing which the buyer would be in breach of contract. As an alternative to excluding this from the scope of a force majeure provision, the LNG supply contract could include compensatory provisions in which the buyer pays out the price of the LNG plus interest and any additional charges of the seller. This would arguably not fall foul of rules against penalties.

Tip #10: Mediation can be a way out

If disputes arise out of the global pandemic escalate, international arbitration is not the only avenue for resolving disputes. Mediation can assist particularly for parties looking to preserve their commercial relationships, or having limited cash flow and resources to spare to support an international arbitration.

The United Nations Convention on International Settlement Agreements Resulting from Mediation, also known as the Singapore Convention on Mediation, will enter into force from September 12, 2020. This means that international settlement agreements resulting from mediation, concluded after September 12, 2020 to resolve commercial disputes, will be enforceable in states which have ratified the Singapore Convention, which currently are Singapore, Fiji and Qatar. While the Singapore Convention is still in its nascent stage, with more States ratifying the Singapore Convention, international settlement agreements can potentially be more widely enforceable.


Footnotes

1 See e.g. Section 128A of the Evidence Act (Cap. 97) which provides, by statute in Singapore, for legal advice privilege to cover legal advice provided by in-house counsel in the entity.



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