Unqualified rights to terminate an operator are not qualified by any implied duties

Case Comment: TAQA Bratani Ltd. et al v RockRose UKCS8 LLC

On January 17, 2020, the United Kingdom Commercial Division of the High Court of Justice held that there are no implied terms or duties that will qualify the circumstances in which a party can exercise its unqualified right to discharge an operator under a joint operating agreement. Judge Pelling QC presided over the trial and found that where contractual language clearly and unambiguously granted an unqualified right to discharge the operator, it was improper to imply terms into that contract that would qualify that right.

TAQA, JX, Spirit and Marathon were parties to numerous Joint Operating Agreements

TAQA Britani Limited, TAQA Britani LNS Limited (together, TAQA), JX Nippon Exploration and Production (UK) Limited (JX), Spirit Energy Resources Limited (Spirit, and together with TAQA and JX, the Claimants), and Marathon Oil UK LLC (Marathon), hold petroleum licenses to extract oil and gas from five blocks on the UK Continental Shelf referred to as the Brae Fields. The blocks are each operated as an unincorporated joint venture and are governed by a number of Joint Operating Agreements (the JOAs), which are materially similar for the purposes of this dispute.

Each of the JOAs provided for the removal of the Operator in three scenarios: (1) resignation; (2) immediate termination in the event of one of a number of specified events occurring, (e.g. if the operator became insolvent, if the Operator defaulted on any of its obligations under the agreement, etc.); and (3) by votes of all, or a majority, depending on the JOA, of the non-operator participants on not less than 90 days' notice to the Operator. Marathon was the Operator of the Brae Fields from the outset.

The Claimants voted to terminate Marathon as the Operator under each of the JOAs

On July 1, 2019, RockRose Energy Plc purchased 100% of the share capital in Marathon and subsequently renamed the corporation RockRose UKCS8 LLC (RockRose). On February 28, 2019, TAQA learned that RockRose Energy Plc was acquiring Marathon and, at that time, raised concerns it had about Marathon's performance as the Operator to its fellow non-operators. As a result of their discussions, the Claimants ultimately decided that it was in their best interests that TAQA should become Operator in place of Marathon. On June 6, 2019, the Claimants voted unanimously to terminate Marathon's appointment as Operator under each of the JOAs. As part of the transition, TAQA agreed with JX and Spirit that notwithstanding the terms of the JOAs, TAQA would cap their transition costs of transferring the operatorship at £5,000,000.

RockRose asserted that the termination of Marathon's operatorship was invalid and of no effect

RockRose argued that the termination of Marathon's role as Operator was invalid and of no effect because the apparently unqualified right to terminate the operatorship was either: (1) on its true construction, not an unqualified right; or (2) was subject to various implied terms that qualified the circumstances in which the Claimants could exercise the right to discharge the Operator. RockRose asserted that these implied terms precluded the Claimants from exercising their powers of termination capriciously or arbitrarily and instead could only exercise them in good faith and in the best interests of the operation of each of the Brae Fields blocks. RockRose claimed that the Claimants breached these implied terms and therefore Marathon's discharge as Operator was improper.

The Claimants subsequently brought this action seeking a declaration that the notices of termination were valid and took effect in accordance with their terms.

Judge Pelling found that the Claimants notice to terminate was valid

Judge Pelling first considered whether the contractual language of the JOAs conferred an unqualified right to discharge the Operator. After finding that the termination provision was unqualified, he went on to consider whether there were any implied terms that qualified when the Claimants could access their right to terminate and, if so, whether Claimants were in breach of those implied terms.

The JOAs conferred an unqualified right to terminate the Operator role

The Court found that the JOAs clearly and unambiguously conferred an unqualified right to discharge the Operator. Judge Pelling cited four reasons for his conclusions.

• First, the clause granting the non-operator parties the right to terminate by voting stated "... [the] Operator may be discharged … at the end of any calendar month by the Operating Committee giving not less than ninety (90) days' notice to it …". This clearly and unambiguously conferred an unqualified right.
• Second, the language used elsewhere in the contract emphasized that the parties intended the provision to be unqualified. Judge Pelling asserted that if the parties had intended the clause to be qualified, they could have done so, as they did in other provisions.
• Third, if the parties had intended the clause to be qualified by the concept of good faith or other similar concepts they could and would have expressly stated so.
• Fourth, the inclusion of an unqualified right to discharge the Operator reflected and was consistent with the common understanding of the parties as to the nature of the relationship. Judge Pelling noted that the contract specifically stated that the relationship was "not intended to be a partnership" and accordingly, the "parties were fully entitled to vote at [Operator Committee] meetings in accordance with what they perceived to be their own best interests."

Judge Pelling considered the factual and commercial context at the time the agreement was executed and concluded there was no evidence that the parties intended the termination right to be qualified.

There were no implied terms that qualified the manner in which the Claimants could exercise their termination rights

Marathon next argued that the termination provision was qualified by either: (1) an implied term that qualified the manner in which it may be exercised by concepts of good faith and other similar duties that arise between contractual parties; or (2) qualifications to a similar effect arising from the mutual trust, confidence and loyalty allegedly owed by parties to a joint venture. Judge Pelling found that any argument based on an implied term was difficult given his conclusions regarding the interpretation of the contractual language and implying terms in the circumstances was inappropriate. In coming to this conclusion he noted that all the relevant authorities support the same concept—"where the parties choose to include within their agreement a provision that entitles one or more of the parties to terminate the agreement between them, that clause takes effect in accordance with its terms." Since Judge Pelling found that the contracts clearly and unambiguously provided the Claimants with an unqualified right, he found he could not imply any duties into that right where it is not necessary to give effect to the agreement.

None of the Claimants improperly exercised their right to terminate Marathon as the Operator

Although Judge Pelling concluded that the JOAs provided the Claimants with an unqualified right to discharge the Operator, in case the termination provisions did in fact contain any implied terms or duties, he proceeded to consider whether any of the Claimants improperly voted to discharge Marathon as the Operator. After a thorough review of the evidence surrounding each of the Claimant's intentions, Judge Pelling concluded that none of the parties acted improperly. Instead, he found that each Claimant was motivated by its own commercial considerations and acted according to its own individual self-interests. Given the relationship between the parties, the Claimants were under no obligation to consider the other parties' interests in choosing to vote to terminate the operatorship.

Additionally, Judge Pelling found that there was nothing improper with TAQA capping the transition costs of JX and Spirit. He noted that it was well within the parties' rights to contract with each other outside of the JOAs and there "is no reason why, as between two or more participants, there should not be a local agreement between them for the sharing between them of some or all of the costs otherwise due under the terms of the [JOAs] from one or both of them." Since the JOAs did not constitute a partnership or similar relationship, what each party agreed to outside the JOAs was immaterial and there was no breach of any alleged implied duties by the Claimants.

Takeaway: parties to joint operating agreements are entitled to pursue their own self-interests in exercising rights under unqualified contract terms

While this case was decided in the United Kingdom and therefore has limited authority in Canada, the concepts and underlying principles are similar and can be helpful for Canadian companies.

Nigel Bankes commented that if this fact pattern were to arise on the same terms in Canada, it is "fairly clear that Canadian courts would arrive at the same conclusion." Under Canadian law, RockRose would likely argue that the Claimants breached their implied duty of good faith and honest contractual performance recognized in Bhasin v Hrynew and Can-Am (Bhasin). In Bhasin, the Supreme Court of Canada found that "parties generally must perform their contractual duties honestly and reasonably and not capriciously or arbitrarily." While discussing the limits of this duty, the Supreme Court of Canada noted the following:

The duty of honest performance that I propose should not be confused with a duty of disclosure or of fiduciary loyalty. A party to a contract has no general duty to subordinate his or her interest to that of the other party. However, contracting parties must be able to rely on a minimum standard of honesty from their contracting partner in relation to performing the contract as a reassurance that if the contract does not work out, they will have a fair opportunity to protect their interests. [emphasis added]

In the Claimants' case, there was nothing to suggest that any of the Claimants acted "capriciously, arbitrarily or in bad faith". Instead, the evidence supported that TAQA, JX and Spirit each sought to promote and protect their own individual self-interests. Absent any evidence of dishonesty, this conduct would not be enough to establish a breach of the duty of honest contractual performance under Bhasin.

Canadian oil and gas companies that are parties to joint operating agreements and joint ventures can take comfort in the certainty this decision provides. Subject to any specific contractual language to the contrary, while parties owe a general duty of good faith and honesty in their contractual performance, this duty will not lessen a party's entitlement to act in its own best interests while exercising the rights it has bargained for. Accordingly, operators should be aware that there will be no implied qualifications on provisions granting termination rights to non-operators, unless those qualifications are expressly provided for in the governing agreement(s). Where contracts clearly and unambiguously grant unqualified rights, regardless of whether the parties are participating in a joint operating arrangement, there will be no implied terms that will subsequently qualify that right.