As turmoil unfolds globally, few would have thought that the oil industry could escape entirely unscathed. However, few had anticipated the recent price plummet of oil. World news was made as West Texas Intermediate (the benchmark for US crude oil) futures price dropped to a negative $37.63 per barrel on Monday, 20 April.
To put it in context, the drop of $55.90 in a day led to a negative price for the first time in history. In simplest terms, entities were willing to pay for oil to be taken off their hands due to vast oversupply and insufficient storage facilities. This is largely due to Covid-19 restrictions, which the International Energy Agency estimates caused a decline of one third global demand for April. There are also concerns that all viable storage facilities will be fully committed in May. This left the industry in a game of "hot potato", each trader trying to pass the burden of physical delivery to someone else.
However, this is not the full picture, as these prices only concern delivery of May contracts, which expired the following day. In the run up to every final trading day, there is a degree of volatility. June delivery WTI futures were still traded at $20 p/bbl and Brent futures (the benchmark for Europe and London) were still above $25 p/bbl.
Despite attempts at managing supply, oversupply has now peaked. This economic downturn has undermined the OPEC+ deal's recent measures to reduce global supply by 10%. Petro-centric nations such as Saudi Arabia and Russia will be hit the hardest. In the long term, the repercussions are more severe as investor confidence dwindles and deflation could sweep their primary markets from beneath them.
Entities in the oil & gas sector are already considering ways of managing their risk. It is likely that financial indebtedness, restructuring, decommissioning obligations, contract terminations and disputes will be high on their agendas. It will become increasingly important for parties to familiarise themselves with their contractual terms (especially termination rights and guarantees) and prepare for the possibility of insolvencies (whether supply chain or co-venturers).
In addition, JOA parties will be alive to the risks associated with failure to pay cash calls and disagreement in management strategies (e.g. work programmes and budgets). Depending on a JOA's terms, failure to remedy defaults may also give rise to other issues including forfeiture, withering and other remedies. Parties will need to contemplate these terms in light of legal challenges, particularly in relation to the enforceability of forfeiture provisions, applicable insolvency regime and practicalities of taking security. Another factor co-ventures should consider is decommissioning infrastructure, as decommissioning activities may be accelerated as margin fields are shut-in earlier than estimated.
This article has been authored by Slava Kiryushin and Fergus Kiely