Fixing Flawed Environmental Clauses in Joint Venture Legal Agreements

  
How Operators and Non-Operators can live up to their environmental stewardship promises.1

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broken car_squaredCOMPANIES IN THE OIL AND GAS, chemicals, and mining sectors are among those with the highest environmental, social, and governance (ESG) risk profile2. Concern about this risk profile is growing significantly among investors, who no longer appear willing to accept certain behaviors as the cost of doing business. For evidence, look no further than the CEO of Rio Tinto and a set of direct reports, who resigned in late 2020 amidst a shareholder revolt over their legal – if not ethical or moral – decision to destroy an aboriginal cave as part of mining iron ore3. A heady combination of growing societal demands, increased regulatory pressure, and investor activism is driving natural resource companies to raise the bar on ESG stewardship – and a reasonable starting point is addressing the fact that natural resource companies contribute more, directly or indirectly, to GHG emissions than all other industries combined (Exhibit 1). Some companies like BP are now shedding GHG-emitting upstream and petrochemical assets and redirecting capital towards clean energy in a self-styled shift from an integrated oil company (IOC) to an “integrated energy company” (IEC).


Exhibit 1: ESG Risk Profile and Emissions

Exhibit 1 ESG Risk Profile and Emissions

Source: S&P Global ESG Industry Report Card; UN Report; EDF Report; IEA Emission Tracker; Public Filings. Ankura ©.

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But if natural resource companies are to make meaningful improvements in environmental performance, joint ventures – assets where multiple companies hold economic interests and governance rights – are a critically underappreciated part of the solution, as they contribute significantly to the ESG risk profile of these companies. Joint ventures have been party to some of the largest environmental incidents in history, including Macondo4 – a JV between BP, Anadarko, and Mitsui – which led to the largest maritime oil spill on record of 3.19 million barrels of oil spilled over 87 days, and Grasberg Mine5 – a former JV between Rio Tinto and Freeport – which is expected to generate six billion tons of mining waste over its lifetime6,7. In upstream oil and gas, at least 50% of the production of the largest international and gas companies, including Royal Dutch Shell, ExxonMobil, Chevron, BP, and Total, is generated through joint ventures (Exhibit 2). In downstream and chemicals, 14 of the 100 largest petrochemical refineries globally are JVs, and companies routinely enter JVs to develop and operate various derivatives and chemicals plants. In mining, JVs account for 38-76% of production of the ten largest assets in nine commodity classes, including bauxite, coal, copper, diamonds, iron ore, and lithium. And from a geographic perspective, on average 85% of oil and gas production in resource-rich countries like Qatar, Australia, Iraq, Russia, Nigeria, UAE, and Norway is generated through joint ventures.8


Exhibit 2: Importance of Natural Resource JVs

Exhibit 2 Importance of Natural Resource JVs
Source: Rystad (Upstream Oil & Gas), Water Street JV Database (Mining); Water Street partners’ analysis. Ankura ©.

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Among the various types of JVs, non-operated JVs are a critical and especially challenging place to drive improvement. The largest international oil and gas companies all depend extensively on non-operated ventures, with Total, ExxonMobil, and Shell now generating more than half their upstream production from ventures operated by partner companies or by independently-managed joint operating companies9. Meanwhile, in mining, at least one third of the JVs of BHP, Rio Tinto, AngloAmerican, and Glencore are non-operated – including some of the world’s largest mines10. But despite the importance of non-operated JVs, most natural resource companies say little about the environmental performance of their non-operated portfolio, and routinely exclude such assets from public commitments to change in their annual reports; as of 2020, only Rio Tinto, BP, and Chevron from amongst the large oil and gas and mining majors have extended any portion of their greenhouse gas commitments to include their non-operated assets. 

This reticence is not unexpected. Generally speaking, companies cannot simply dictate day-to-day changes in their non-operated JVs in pursuit of improved environmental performance; they may not receive the same health, safety, or environmental information from a JV’s operator as from their controlled assets; or the data may come in different formats, be measured using different approaches, or otherwise challenging to compare. Plus, companies have the freedom under global emissions reporting protocols to decide for themselves whether to even report their equity share of emissions from non-operated JVs, or to restrict their reporting to company-controlled assets11. This regulatory freedom coupled with a lack of control disincentivizes companies on reporting on or extending performance improvement commitments to their non-operated JV portfolio.

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1 Note: A version of this article was originally published in an ESG special edition of Oil, Gas, & Energy Law Journal.

2 See S&P Global’s ESG Risk Atlas, 2019 for ESG Risk Profile of different sectors; Factors contributing to higher ESG risk profile of natural resource sector as compared to other sectors include: Greenhouse House Gas Emissions (e.g., CO2, Methane, Nitrogen Oxide), use and conservation of water/other resources, use and conservation of land and biodiversity, impact on local demographics and people (e.g., demographic changes), safety and human capital management; GHG Emissions data sourced from IEA emissions tracker.

3 See “Rio Tinto CEO and senior executives resign from company after Juukan Gorge debacle,” The Guardian, September 2020.

4 See “Macondo partners parry payment claims from BP for oil spill”, Oil and Gas Journal, November 2010.

5 Prior to 2018, Rio Tinto held a 40% interest in Grasberg Mine. See “Rio Tinto sells $3.5 billion stake in Grasberg copper mine to Indonesian state miner”, Reuters, July 2018.

6 See Jane Perlez and Raymond Bonner, “Below a Mountain of Wealth, a River of Waste”, 2005, New York Times.

7 Our analysis of 130 HSE incidents since 1960 which involved at least one fatality showed no empirical evidence to suggest joint ventures are more or less susceptible to environmental incidents as compared to wholly-owned assets. See Lois D’Costa, “Are JVs more prone to HSE incidents?”, August 2017, Water Street Insights.

8 Source: Rystad and Water Street Partners’ JV Database.

9 BP’s production from non-operated JVs is substantially higher than 50% if its 19.8% equity interest in Rosneft is taken into account. 

10 Source: Water Street Partners’ JV Database.

11 Only 34% of 29 natural resource companies include non-controlled JVs in their quantitative reporting. Of the ones that do, these companies report on metrics including GHG emissions, community value creation, fatalities, and energy usage.