Macondo-related rulings complicate contractual indemnity questions

Posted on 07 March 2013

Cary Moomjian, CAM Oilserv Advisors, expects drilling contracts to become even more complex due to implications from Macondo-related litigation.

Cary Moomjian, CAM OilServ Advisors, expects drilling contracts to become even more complex due to implications from Macondo-related litigation.

By Katherine Scott, associate editor

The Macondo incident has significantly impacted contracting considerations in the drilling industry and will continue to add complexity to contracts, Cary Moomjian, president of CAM OilServ Advisors, said at the 2013 SPE/IADC Conference & Exhibition in Amsterdam on 7 March. Court rulings in Macondo-related litigation have and will continue to impact operators, drillers, and service and supply companies, particularly in respect to pollution liability in general and contractual indemnity/release provisions in particular, he explained.

A key question that has been debated for years, Mr Moomjian noted, is “whether contractual indemnity will be upheld in the event of gross negligence.” In the January 2012 rulings on summary judgment motions involving the drilling and cementing contracts related to Macondo, the court determined that contractual indemnification may apply even in the event of gross negligence or strict liability but will not be applicable to protect a party against intentional wrongdoing, he said.

“An indemnity involves one party’s agreement to protect, defend and indemnify another party from a third-party claim, such as a pollution liability claim,” he explained, distinguishing it from a release. “A release would be a typical provision where each party releases the other party for damage and loss. Unlike an indemnity, in the case of a release, if the release is valid, I have no recourse and it is not enforced in gross negligence.”

Rulings from January 2012 also found that the scope of indemnification excludes punitive damages. Further, contractual indemnification may apply to protect an indemnified party from penalties assessed under the Oil Pollution Act (OPA) of 1990, although not under the Clean Water Act (CWA), the court ruled.

“Under OPA 90, there is a provision in the act that expressly permits contractual indemnification. The second aspect is that OPA 90 penalties are considered to be compensatory rather than punitive in nature,” Mr Moomjian said. “Compare that to the Clean Water Act, which was adopted later. There’s no provision addressing indemnification one way or the other.” According to the US EPA, the OPA was signed into law largely in response to rising public concern following the ExxonValdez spill. The agency states on its website that the purpose of the OPA was to improve the US’ “ability to prevent and respond to oil spills by establishing provisions that expand the federal government’s ability, and provide the money and resources necessary, to respond to oil spills.” Conversely, the website said the CWA “establishes the basic structure for regulating discharges of pollutants into the waters of the United States and regulating quality standards for surface waters.”

After Macondo renewed the focus on contractual provisions addressing liability for pollution emanating from the well, many operators have been proposing to modify the traditional risk allocation by qualifying the general indemnity relating to subsea pollution to exclude coverage for punitive damages, fines or penalties attributed to the contractor. Mr Moomjian said post-Macondo contracting has also witnessed an increase in proposals by operators to negate indemnity provisions in the event of gross negligence or willful misconduct by the contractor.

From a drilling contractor perspective since Macondo, companies have also been proposing to change drilling contract terms. This includes expansion of the contractor group indemnified parties to include service companies, equipment manufacturers and other parties that have obtained an indemnity from the contractor; provisions stating that a material breach of contract shall not impact the contractual risk allocations; terms addressing recovery of costs incurred to enforce the contractual indemnities; and an obligation to fund defense of potentially indemnified claims.

Should a company decide not to address Macondo rulings in their contract, however, Mr Moomjian noted that his recommendation is “to write your contract as you would pre-Macondo, but state that those indemnities shall be applied to the fullest extent permitted by law.”

Although the initial impact of Macondo primarily has been reflected in contracts for drilling in the US Gulf of Mexico so far, Mr Moomjian said he believes that this “game-changer” event will ultimately impact contracts for US land and non-US operations as well.

To read more about contractual considerations in the post-Macondo world, please see SPE/IADC 163483, “Macondo Litigation and Its Impact on the Offshore Industry – What Every Operator, Driller, Service and Supply Company Needs to Know,” by Cary Moomjian Jr, CAM OilServ Advisors.

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