The host government contracts should have separate provisions for the disposition of natural gas. It is debatable whether this is necessary. As between the lifting parties, the arrangements necessary to ensure that all forms of crude oil are timely lifted, and underlifts and overlifts properly addressed, are broadly the same as those necessary to ensure that natural gas is also distributed proportionately between the parties. There are close parallels between the provisions of the disposition of crude oil and the provisions of the disposition of natural gas.
Furthermore, the provisions of disposing of crude oil are in style different from those of disposing of natural gas and uses different terminology that may be used for natural gas when it is confusing to do so. For example, provisions for disposing of natural gas should not use the defined term ‘entitlement’ uniformly; it also uses the term ‘participating interest share of production’. Given that ‘entitlement’ as defined to describe the quantity of hydrocarbons (including natural gas) which a party is from time to time obliged and entitled to take, subject to the relevant balancing or lifting agreement, ‘entitlement’ should also be used, whenever applicable.
It would also assist if these provisions did not use the terms ‘overproduction’ and ‘underproduction’ in places where it would be more appropriate to use the expression ‘overtaking’ and ‘undertaking’; for example, for the condition where the parties use the term ‘production’ analogously with the term ‘taking’. Ideally, the agreement must be consistent in using the term ‘production’ to describe the process of bringing hydrocarbons to the delivery point from the wellheads, a process for which the operator is responsible, and the terms ‘lifting’ or ‘taking’ to describe the process of taking custody and title to hydrocarbons in accordance with the provisions of the Right and Obligation to Take in Kind agreement for which the parties are responsible.
The Disposition of Production may not specifically address associated natural gas, being natural gas, which is unavoidably captured and produced in the process of extracting crude oil. Associated Natural Gas may contribute to the economic value of any commercial discovery and equally importantly it is critical to maintaining reservoir pressure and overall production levels.
An alternative condition for natural gas is that it is to be produced from an exploitation area which shall be taken and disposed of in accordance with the rules and procedures set out in the agreement. The parties must recognize that, in the event of individual disposition of natural gas, imbalances may arise with the result being that a party will temporarily have disposed of more than its participating interest share of production of natural gas.
Accordingly, if natural gas is to be produced from an exploitation area, the parties shall, in good faith and no later than the date on which the development plan for a natural gas project is approved by the operating committee, negotiate and conclude the terms of a balancing agreement to cover the disposition of natural gas produced under the contract, regardless of whether all of the parties have entered into a sales arrangement or sales contract for their respective entitlement of natural gas. There should also be the considerations for a natural gas balancing agreement, subject to the terms of the contract, and make the necessary applicable provisions (Fowler 2018).
This option sets out the rules and procedures for the taking and disposal of natural gas from each exploitation area. As with crude oil, each lifter is likely to be underlifted or overlifted compared to its natural gas entitlement at any one time, and the parties are obliged to negotiate and agree in good faith a natural gas balancing agreement for the purpose of redressing such imbalances. Unlike crude oil, the natural gas balancing agreement should be finalized by the time that the development plan for the relevant natural gas project is approved.
The alternative requires the parties to enter into a natural gas balancing agreement even if they also enter into a multi-party natural gas sales arrangement under this option and it should be drafted with the assumption the natural gas will be taken independently from any crude oil. The investing parties are required to enter into a natural gas balancing agreement, regardless of the parties’ natural gas sales arrangements, at the time of the relevant investment decision. This is very prudent. After all, it is unlikely that the parties will have entered into binding gas sales agreements at the time of investment decision. However, the parties will need to have established the expected price for their natural gas to an acceptable level of certainty before making that investment decision.
Notwithstanding the emergence of a global gas market, natural gas prices are driven by regional factors and specific local costs – the parties cannot base their economic evaluations on global gas markers as they might do in relation to a crude oil investment. Thus, the parties are likely to have evolved their gas marketing strategies as a precondition of the investment decision, in a way that is not necessary where the parties are relying on crude oil economics. This, in turn, will mean that the parties are likely to have narrowed their options for gas sales sufficiently by that time to allow them to align on the corresponding terms of the natural gas balancing agreement they need.
The parties may expect to lift their natural gas entitlements by ‘individual disposition’, meaning that they will make separate and independent arrangements to transport or sell their entitlements. Since their transportation mechanisms and gas sales terms are then likely to differ, there is in every likelihood that one or the other lifter will fail to lift from time to time, giving rise to the same undertaking and overtaking circumstances as was discussed in relation to crude oil. The disposition of natural gas should not make the assumption that a natural gas balancing agreement is not necessary in circumstances where the parties dispose of natural gas ‘jointly’, either by selling jointly to a single buyer as contemplated by delivery in common stream to a single gas pipeline or natural gas liquefaction plant.
The parties may have agreed to act in lockstep under the relevant joint gas sales agreement or shared transportation arrangement, but it is not impossible for one or more party’s performance of such agreement to be compromised, by their insolvency, the imposition of economic sanctions or a commercial dispute, for example, causing it to be out of balance in its gas taking. Balancing agreements take a long time to negotiate, so it would be prudent for the parties to any joint arrangement to enter into a balancing agreement, or at least balancing principles, to address ‘individual disposition’ if the need arises.
The agreement should use the ‘entitlement’ in defining the circumstances when an imbalance arises for the purposes of the balancing agreement. The concept of ‘entitlement’ when used in a lifting or balancing agreement defines the amount of hydrocarbons which a party is obliged and entitled to lift at that particular time, taking into account its previous record of lifting, and any overlifting or underlifting which require adjustment to its entitlement.
Such adjustments will mean that a party’s entitlement is rarely the same as its participating interest share of production, though the objective of a balancing agreement is to ensure that each party takes its participating interest of natural gas produced by the time such production ceases.