Iraq Force Majeure

Iraq is no stranger to force majeure being invoked, with highly publicised recent examples including Baker Hughes. It has also been reported to be a potential point for the Baghdad government to argue as the reason for not delivering the minimum levels of volume commitment under its intergovernmental Iraq-Turkey Pipeline contract with Ankara.

Ankara’s alleged breach of contract by permitting Kurdistan to use the Iraq-Turkey Pipeline, which Ankara argued is justified as a result of the lack of minimum throughput, is currently the subject of arbitration at the International Chamber of Commerce.

The term force majeure originates from French law but there is no clear meaning under English law. As a result the concept of force majeure in contracts is as wide or as narrow as the parties negotiate to draft it.

The traditional principle of force majeure is that a party is entitled to suspend performance of its obligations, either in whole or in part, as a result of circumstances beyond its control. In Iraq, and other countries in the Middle East such as Libya and Yemen, the risk of operations is heightened by sectarian or tribal tensions which can manifest in protests, roadblocks and vandalism of sites, materials and pipelines.

In the event that such circumstances physically force companies to partially suspend operations or entirely withdraw from a particular site, companies will look to force majeure provisions to ensure that their contractual obligations are suspended alongside their physical operations; and protect themselves from any financial penalty resulting from the delay.

As it is, invoking a force majeure clause to suspend contractual obligations does not prevent the general financial cost of suspending operations as was seen in Iraq in November 2013. As a result of a security incident involving a protest at a facility near the southern town of Basra, Baker Hughes had to temporarily declare force majeure at a reported cost of $80 million.

Contracting parties look to force majeure provisions to protect the integrity of the contract and their positions until the force majeure event has come to an end and the contract can be reactivated. Examples of the positions that parties seek to achieve are often as follows:

Article continues on next page …

Suspension
A force majeure event is considered a reasonable risk of doing business in more volatile jurisdictions with a number of examples being invoked in the Middle East in recent years as a result of protests and violence. It is common for the force majeure provisions to suspend the obligations of the parties under the contract for the duration of the event or unless the parties agree to continue.

Liability
A force majeure event generally results in the party providing the goods or services being unable to fulfil its obligations under the contract. Often contracts will be drafted such that this would result in a financial penalty for the non-performing party. This would be an onerous provision in the event that operations were impossible to resume as a result of security concerns. As such, the party which is likely to be most affected by the force majeure event and therefore unable to fulfil its obligations will be keen to ensure that the contractual provisions be drafted so it is not liable as a result.

Right to terminate
A more controversial and negotiated provision is whether the force majeure clause should provide the parties with the right to terminate the contract in certain circumstances. Typically, the parties may want to see the right to terminate included to deal with an event where the contract becomes commercially unfeasible as a result of force majeure.

However, in volatile regions where the government is a party to the contract, it may be less inclined to permit such a provision to be included given that the likelihood of force majeure being declared is greater and the government entity would not want to provide the other party with the option to terminate as a result in case it was used as a ‘get out’ clause.

Although government entities in regions with greater levels of instability may not want the parties to have the right to terminate, examples show they can be realistic as to the events which could result in force majeure being declared.

Kurdistan’s model production sharing contract (“PSC”), available on the Ministry of Natural Resources’ website, states that a force majeure event includes, amongst others, riots, civil commotion, strikes or other labour conflicts and internal or external hostile acts.

The force majeure provisions of the PSC require the KRG and the contractor to use reasonable endeavours to mitigate the effects of force majeure being declared which commercially recognises that it is not always appropriate to place the requirement to mitigate on one party.

Market speculators have also been keeping a watchful eye on the risk of force majeure being declared in Iraq for concern regarding the impact it would have on oil prices and speculating as to which countries could step in to fill the void in the event of a partial disruption to supplies.

Whilst there has been press speculation that both Saudi Aramco and Iran could step forward to fill any production gap, the issue is politically sensitive given the Western sanctions.

Force majeure provisions are particularly important tools in regions where unrest and volatility have been a feature of operations in the preceding decades. It is commercially preferable for companies providing goods and services to draft force majeure provisions which contractually permit operations to be suspended and recommenced at the earliest possible opportunity to minimise the associated contractual losses.

As a result, force majeure provisions can be the subject of a greater level of negotiation as parties seek to ensure that their positions are adequately protected. It remains to be seen whether those contractual positions will be tested as a result of the current unrest.