Identifiable logic - a growing trend in interpreting commercial contracts

Spirit Energy Resources Ltd & others v Marathon Oil UK LLC [17.01.19]

A recent Court of Appeal ruling strongly reinforced the principle that contracts will be interpreted in a manner consistent with their natural and ordinary meaning and where appropriate, will give that effect to commercial common sense.

Background

Spirit Energy Resources Ltd & others (the partners), were joint venture partners, operating hydrocarbon fields in the North Sea. Marathon Oil UK LLC (the operator), were part of the joint venture and acting as the operator. The partners and the operator entered into two joint operating agreement (JOA) in relation to the work programme for the joint venture, dating back to 1980. Included with the JOA was the provision to hire employees and thus included the cost of salaries and pensions.

A dispute arose between the operator and the partners due to a shortfall in the pension scheme requiring deficit recovery charges to be paid. These had been paid by the partners until 2014, but after that time, only one of the partners continued to make their payments, with the remainder arguing they did not need to pay.

The operator brought proceedings against the partners, arguing they all had an obligation to pay the deficit as the JOA had a ‘purpose’ clause requiring them to bear all costs. At first instance, the High Court agreed with the operator that the partners had to pay their portion of the deficit. The partners appealed the decision.

Decision

The appeal was dismissed. The Court of Appeal unanimously agreed with the High Court in favour of the operator. They came to this conclusion by taking into account the express purpose clause in the JOA to mean the partners must bear the charges together.

The court believed it would be contrary to ‘identifiable logic’ for the partners to enjoy the benefit of the operations without any risk and the operator must be neutral to both gains and losses. The partners could not be permitted to carve out unknown or unknowable costs - the operator had entered into employment contracts with the relevant individuals and the associated costs of that were approved activity under the JOA.

Comment

This decision supports the notion that an operator should neither profit nor suffer a loss and provides useful guidance on the rights of an operator under a JOA to require participants to bear costs where such costs were neither foreseen nor approved by the operating committee as part of an approved work programme and budget. This however creates uncertainty over liability for unforeseen costs not expressly approved for.

The Court of Appeal’s approach to the interpretation of contractual obligations here was different because of the inclusion of a ‘purpose’ clause, which is not ordinarily included in a contract as it can limit a party in an agreement. Such an express purpose clause is not always present in commercial contracts (but does often crop up in JOAs) and parties in JOAs should therefore check their agreement terms closely due to this decision. Parties to a JOA should also be prepared to consider specific cost overrun clauses to protect from uncapped liabilities related to over-expenditure.

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