Shared value, shared responsibility:a new approach to managing oil and gas contracting chains

Emma WilsonInternational Institute for Environment and Development

Judy KuszewskiIndustry consultant

Facts and figures

• 4.9million barrels of oil spilled in the Gulf of Mexico

• 11 people killed

• BP’s bill = USD 8 billion (£5 billion) to date (could reach USD 50 billion)– Compare to Chevron’s bill in Ecuador (USD 27.3 billion for 18.5 billion

gallons of toxic wastewater dumping over 30 years ...)

• BP made pre-tax profits of £16.8 billion in 2009

• BP recommendations included:– strengthening standards and procedures, and

– improving oversight and assurance of contractors/service providers

Who was to blame?

‘We have said from the beginning that the explosion on the Deepwater Horizon was a shared responsibility among many entities. *BP’s Accident Investigation Report+ makes that conclusion even clearer ….’

Bob Dudley, CEO of BP

‘Whatever else we learned and saw yesterday is emphatically not a culture of safety on that rig. I referred to a culture of complacency and speaking for myself, all these companies we heard from displayed it. And to me the fact that each company is responsible for one or more egregiously bad decision, we’re closing in on the answer to the question I posed at the outset of yesterday’s hearing, whether the Macondo disaster was a unique event, the result of special challenges and circumstances, or indicates something larger, a systemic problem in the oil and gas industry.’

William K. Reilly, co-chair of Presidential Commission

I want my life back!

Tony Hayward, ex-CEO of BP

Company Main activities Size

AMECEngineering, construction,

project management, consulting

US$2.5 billion revenue

23,000 employees

HalliburtonDrilling, pipelines,

project management

US$14.5 billion (2009)

50,000 employees

Maersk Oil tankers, drillingUS$48.5 billion (2009)

115,000 employees

Parsons

BrinckerhoffMainly onshore pipelines

US$2.1 billion

13,000 employees

Schlumberger Drilling, cementingUS$22.7 billion

105,000 employees

Transocean Rig-based construction servicesUS$11.6 billion

Over 21,000 employees

Baker Hughes Reservoir development, drillingUS$9.7 billion (2009)

34,400 employees

Context for the study

• Challenging operating environments: deep water, extreme cold, tar sands, indigenous peoples’ lands, sensitive environments

• Complex contracting chains: over 70% of oil industry activities typically contracted out

• Spread of international good-practice standards: Codes of Conduct, ISO 14000 and other standards, sustainability reporting; project finance conditionalities

• Local-content requirements in investment agreements: targets for local sourcing of goods and services

Local Content

• Targets in foreign investment agreements and law (e.g. 70%)

• Governments

– Capturing benefits: technology transfer; national

competitiveness

• Companies: CSR++?

– Competitiveness in eyes of host governments

– Local skills, ‘local knowledge’, cheaper labour [?]

• Challenges

– Corruption, nepotism

– How to measure LC? How to measure development impact?

– Lack of capacity: technical/environmental/social

Need to optimise rather than maximise local content

Key questions

• Who is responsible for ensuring that contractors and subcontractors are properly prepared to address all risks, however unlikely?

• What actions must an operating company take to check that its contractors and subcontractors can meet their contractual requirements and that they work to international good-practice standards?

• How can high standards for environmental and social performance be maintained, even when speed and low cost of delivery are priorities?

What’s in a contract?Engineering Procurement & Construction (EPC) contracts prioritise time, cost and quality.

• Incentive structure prioritises these over environmental and social performance.

Features include:

• A single point of responsibility. The EPC contractor is responsible for all design, engineering, procurement, construction, commissioning and testing.

• A fixed contract price. Risk of cost overruns and the benefit of any cost savings are shifted to the contractor’s account.

• A fixed completion date. Damages payable if this date is not met.

• Performance guarantees. Output, efficiency and reliability. Damages payable if contractor fails to meet these.

• Caps on liability. Liability is capped at a percentage of the contract price (frequently 100 per cent). Damages might be capped at 20 per cent of the contract price.

• Performance specification. Contractor is left to determine how performance criteria are met. Thus, almost all the construction risk is passed to the contractor.

• Control. Operator cedes most of the day-to-day control. The more they interfere, the greater the likelihood of the contractor claiming additional time and costs.

Mallesons, Steven, Jaques. 2004. EPC Contracts – Oil and Gas Sector. pp.7-8

Sakhalin

• River crossings

• EBRD due diligence

• International scrutiny

• Social assessment group

Managing social issues on Sakhalin• Contracts: inclusion of social issues at all

stages of contract process

• Code of conduct: training, awareness raising

• Community liaison officers/grievances

• Russian content and employment: 70% targets, reporting, expectations

• Resettlement: follow due process

• Camp management

• Archaeology and cultural heritage

• Indigenous peoples

• Social investment: contractors’ community development projects

• Monitoring and reporting

Nigeria

• Population of over 110 million people

• 10th largest oil producer in the world

• Oil sector supplies 95% of its foreign exchange earnings

• Total FDI into Nigeria: USD 11 billion in 2009 (20% from UK via Shell)

– (1.4 billion in 2001; 2.1 billion in 2004)

• Oil and gas make up 75% of China’s investment in Nigeria

• 70% local content targets:

– Local Content Development Act 2010 gives ‘exclusive consideration ... To indigenous service companies which demonstrate ownership of equipment, Nigerian personnel and capacity to execute jobs in the Nigerian oil and gas industry.’

• International oil companies must partner with Nigeria’s oil company NNPC

How can Shell guarantee implementation of its Code of Conduct throughout the chain?

Key challenges

• Lack of a sense of shared responsibility throughout the contracting chain and across stakeholder groups.

• Inadequate implementation of systems and procedures to enforce standards and incentivise good performance. (Focus on standards and procedures on paper, predominance of a ‘tick-box culture’ …)

• Cultural and contextual challenges in widely differing regions of the world.

Recommended actions

• Action 1: Collaborate on early-stage planning and assessments.

• Action 2: Invest in capacity building in underdeveloped local markets.

• Action 3: Encourage uptake of standards through procurement processes.

• Action 4: Ensure that contracts incentivise good practice.

• Action 5: Build capacities and trust on the job.

• Action 6: Establish excellent communication/oversight throughout the chain.

• Action 7: Build trust and accountability with external stakeholders.

Shared Value, Shared Responsibility: A new approach to managing contracting chains in the oil and gas sector

Emma Wilson and Judy Kuszewski

IIED, March 2011

The full 50-page report can be downloaded at:

http://pubs.iied.org/G03059.html

and contains company case studies and full

references.

Contact: emma.wilson@iied.org