«Wasted costs» in the understanding of production sharing agreements

Lawyers from leading law firms «Herbert Freehills Kramer», «ENYOLAW», Smith Jay Leary, Mikayla Ware published articles «Contract damage principles and wasted expenditure», «Fair winds favor plaintiffs in wasted expenditure cases».

Aanalyzing the case law (cases of Cessnock City Council v 123 259 932 Pty Ltd, Robinson v Harman (1848) 1 Exch 850, Hadley v Baxendale (1854) 9 Ex 341, 354, Soteria Insurance Ltd v IBM United Kingdom Ltd [2022] 2 All ER (Comm) 1082, the authors-practitioners created the concept of «futile expenses».

The phenomenon of this concept is that the recovery of costs is indirect.

Wasteful expenses may not be recognized as losses.

The authors highlight their point of view on the role and place of «wasteful (expenditure) expenses» in different ways, arguing that the ideological parties to the investment agreement, due to which «wasteful expenses» were incurred, always try to contradict each other.

The common point of contact is that «wasteful spending» will never be recognized as lost profit or wasted profit.

In the concept of «waste expenditure, the burden of proving that the expenses were not caused by a violation of the terms of the investment contract lies precisely with the investor (operator), as a party to the agreement.

How appropriate is it to apply the «waste costs» approach in production sharing agreements?

It is quite difficult to find an answer to this question because:

1) distribution agreements differentiate the budget at different stages of the investment contract.

2) allow the investor to exceed the costs in percentage terms.

3) do not establish an exclusive list of costs (costs are indicative).

4) there is no upper and lower limit on the cost ratio.

5) costs in oil and gas activities cannot be fixed.

6) the nature of the agreement may change in the long term

7) the impact of force majeure on the implementation of the production sharing agreement.

For production sharing agreements, it is correct to borrow the basic approaches and concepts of «wasteful costs».

For preventing appears of the «waste expenditure:

1) should evaluate costs by investment benefits.

2) should consider the factor of «reasonableness of costs.

3) under any conditions of activity, costs must be fair and justified.