Unitizing oil and gas fields around the world: a comparative analysis of national, laws and private contracts.

Author:Weaver, Jacqueline Lang
Position::International Energy Issue
 
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I. INTRODUCTION: OVERVIEW AND SCOPE OF ARTICLE A. Introduction B. Legal Framework for Unitization: Overview C. Scope and Methodology 1. The Countries in the Survey 2. Methodology: Twelve-Country Survey D. Definitions E. Unitization: A Primer 1. The Unit Concept 2. In the United States 3. Outside the United States II. SURVEY AND ANALYSIS OF COUNTRY LAWS, REGULATIONS, AND MODEL CONTRACT PROVISIONS A. Summary Overview of the Twelve-Country Comparative Analysis B. Absence or Existence of Unitization Provisions C. Circumstances Triggering Unitization D. Voluntary or Compulsory Unitization E. Purposes of Unitization F. Oil versus Gas G. Area, Depth, and Number of Fields H. Factors Determining Unit Interests or Redetermination I. Recognition for Royalty and Fiscal Purposes J. Recognition for Purposes of Perpetuating the Contract K. Consequences of Failure to Unitize or Secure Approval of Unitization Plan L. Procedures and the Approval Authority M. Unique Provisions 1. Appointment of the Unit Operator 2. What the Unitization Agreement Must Contain 3. Joint Exploration and Drilling under a Service Contract 4. Provisions Dealing with International Boundaries N. Conclusions and Best Practices III. OTHER CONTRACTS RELEVANT TO THE LEGAL FRAMEWORK OF UNITIZATION A. Operating Agreements 1. Conduct of Petroleum Operations 2. Operator 3. Collective Decisionmaking B. Farmout and Acquisition Agreements C. Production Sales Contracts IV. DOCUMENTING THE UNITIZATION A. Pre-Unitization Agreements B. Unitization Agreements V. KEY ISSUES IN UNITIZATION AGREEMENTS A. Unit Area 1. Areal Extent 2. Depth 3. Changes in Unit Area B. Unitized Substances 1. Oil versus Gas 2. Other Substances Used for Enhanced Recovery 3. Diluent Used in Heavy Crude Oil Projects C. Effect of Unitization D. Determination of Tract Interests 1. Principal Basis for Tract Interests 2. Conversion Ratios Between Oil and Gas 3. Pre-Unitization Costs 4. Other Factors Affecting Tract Interests E. Determination of Unit Interests F. Redetermination of Tract Interests 1. Basis for Redetermination 2. Number of Redeterminations 3. Timing of Redeterminations 4. Data Used for Redetermination 5. Proposal and Approval of Redeterminations 6. Effects of Redetermination: Production 7. Effects of Redetermination: Costs 8. Effects on Host-Government Contracts 9. Trend Toward No Redetermination G. Unit Decisionmaking H. Nonunit Operations 1. Priorities 2. Drilling Through Unit Reservoirs 3. Joint Use of Infrastructure 4. Relationships with Unit Redeterminations and Expansions VI. CONCLUSIONS VII. APPENDIX I VIII. APPENDIX II I. INTRODUCTION: OVERVIEW AND SCOPE OF ARTICLE

A. Introduction

Unitization is the joint, coordinated operation of a petroleum reservoir by all the owners of rights in the separate tracts overlying the reservoir. (2) Unitization of oil and gas fields is commonplace in the United States where private ownership of minerals has often resulted in fractionalized ownership of the oil and gas in a common reservoir, such that tens, hundreds, and even thousands, of private landowners (who have leased their tracts in exchange for royalty interests) and their lessees (working-interest owners) have interests in the same reservoir. Without unitized operation of the reservoir, the common law "rule of capture" results in competitive drilling and production with consequent economic and physical waste, as each separate owner attempts to secure his or her "fair share" of the underground resource by drilling more and pumping faster than his neighbor. (3) To conserve its petroleum resources, the United States became the "unitization capital" of the world as measured by the enactment and use of domestic (in international terms "municipal") unitization laws.

Outside of the United States, unitization has not been as prevalent simply because it has not been as necessary to the sound development of petroleum resources. Oil and gas resources in most countries are owned by the country, not by private individuals or entities. (4) When a country, as the single lessor or licensor, issues licenses or enters into production sharing agreements or similar contracts with enterprises to develop these resources, (5) the contracts awarded often cover large areas comprised of many thousands of acres. (6) In addition, government agencies may have used seismic surveys to define the license area to cover an entire geological structure or other trap, thus limiting the possibility of competitive drilling by rival licensees awarded adjacent acreage over a common reservoir. (7)

Nonetheless, interest in unitization outside of the United States has been growing in the past three decades for several reasons. First, the 1973 OPEC oil embargo imposed by Mideastern producing nations against many of the industrialized, oil-importing countries, led to a rapid rise in the price of oil. Western nations and their multinational oil companies sought to diversify their sources of oil imports. Exploration proceeded apace in many new areas of the world, such as the North Sea, South America, and Africa, and many new companies entered the international arena to compete for development rights against the major oil companies that had long dominated the global market. Additionally, state monopolies over exploration and production in host countries were loosened in the 1980s and 1990s, so more competitors could successfully enter to engage in resource development. (8) Second, over the years, exploration blocks offered by host governments have become smaller as host governments have sought to maximize revenue through a greater number of signing bonuses and more rapid development of reservoirs (more likely if there are fewer reservoirs per block). Third, relinquished areas from existing blocks have also increased the number of smaller blocks available. (9) As a result of all of these factors, increasing numbers of reservoirs are being discovered in locations outside the United States that underlie several license areas with different licensees on each area. Some of these reservoirs cross the borders between two or more countries. In addition, as offshore areas have become the new frontier promising the highest potential for large field discoveries, (10) licensees have moved into areas with undefined boundaries contested by rival coastal nations. For all these reasons, the development of petroleum resources between different licensees and different countries through cooperative rather than competitive mechanisms has assumed great importance globally.

B. Legal Framework for Unitization: Overview

Internationally, unitization takes place within a multilayered framework of law. When a reservoir straddles the boundaries of two or more sovereign countries, whether the boundaries are defined (often termed "delimited") or undefined, the layers look like this:

(i) international law--treaties, conventions, and international custom;

(ii) national laws and regulations of the host governments, and contracts between the host governments and the licensees, notably agreements authorizing development (such as a license agreement, concession, or production-sharing agreement). In some countries, the host-government contract has the force of law; and

(iii) private contracts among the licensees and interested third parties, such as operating agreements, farmout and acquisition agreements, and production sales contracts.

This Article examines this multi-layered legal framework from two different perspectives. Parts II and III analyze the unitization provisions of the national laws, regulations, and model contracts of a twelve-country survey (11) and describe the private framework of commonly used contracts that are affected by unitization. Parts IV and V review the unitization process, key issues addressed in a unitization agreement, and the typical treatment of those issues.

C. Scope and Methodology

1. The Countries in the Survey

The focus of the twelve-country survey in Part II of this Article is the legal framework for unitization in countries without a long history of unitization because those are largely the places where new sources of petroleum are being found and produced today. Twelve petroleum-producing countries were chosen for this comparative analysis, as follows:

Angola

Azerbaijan

Brazil

China

Colombia

Ecuador

Egypt

Indonesia

Nigeria

Russia

United Kingdom

Yemen

The United Kingdom was selected for purposes of comparison as one country with an extensive history of unitization under a system of sovereign ownership of mineral rights common to most of the world, in contrast to the private ownership system that prevails in the United States. The United States is less useful as a model for comparison because regulatory jurisdiction over petroleum conservation and unitization there is largely the preserve of each separate state and its conservation commission rather than the federal government. (12)

2. Methodology: Twelve-Country Survey

Several sources were used to collect the legal provisions related to oil and gas unitization in the twelve countries discussed in Part II: (i) the Barrows collection of international petroleum materials, which includes laws, regulations, model contracts, and some unitization agreements that have been negotiated and signed; (ii) the PEPS database of laws, regulations, and model contract provisions from IHS Energy; and (iii) unitization agreements submitted to the authors by members of the Association of International Petroleum Negotiators (AIPN), generally in redacted form without the names of the companies involved. The relevant portions of the laws, regulations, and model contract provisions of these twelve countries are included in Appendix I of this Article.

D. Definitions

To clarify the analysis that follows, the Authors adopted standardized definitions to use throughout this Article. The definitions, with commentary, are as follows:

Unitization: Unitization is the joint, coordinated operation of an oil or gas...

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