WHEN DAVID NEGOTIATES WITH GOLIATH: THE POWER DYNAMICS OF NEGOTIATING INTERNATIONAL PETROLEUM AGREEMENTS.

“You only have power over people so long as you don’t take everything away from them. When you’ve robbed a man of everything he’s no longer in your power-he’s free again.”

- Aleksandr Solzhenitsyn

Introduction

A Petroleum Agreement (“PA”) is an agreement, often, between a sovereign state (“Host State”) and an International Oil Company ( “IOC”) in which the Host State grants to the IOC a concession to petroleum resources located within its boundaries. Like other agreements, the PA is negotiated. The negotiation is a multivariable negotiation between officials of the Host State and executives of the IOC. The terms that are included in a particular PA and the language used in each clause largely depend on the relative bargaining power of the parties.

This article considers the nature of bargaining power and some relevant factors influencing bargaining power in the negotiation of PAs. The article explores two bargaining models applicable to petroleum negotiations namely, the Petro-Political Cycle and the Obsolescing Bargain Models. The article concludes by making a case for a collaborative, problem-solving approach to be adopted for petroleum negotiations.


What is Bargaining Power?

The Collins Dictionary defines Balance of Power (also referred to in this paper as Bargaining Power) as “the ability of a person, group, or organization to exert influence over another party in a negotiation to achieve a deal which is favorable to themselves”. 

In a negotiation, the Balance of Power matters because the party that holds the balance of power has a greater scope to control the agenda and process. Further, that party has a greater scope to influence the climate, style, strategy, and possibilities. For example, it provides the opportunity to choose between being competitive or collaborative. The Balance of Power could also be used to nurture or exploit. Gates notes in the Negotiation Handbook that for the party holding the Balance of Power, the purpose is not to win and that the negotiating parties are not in competition. Rather the purpose of holding the Balance of Power is to realize value from the negotiation. 

Gates identifies 7 factors that likely influence the Balance of Power in negotiations. In this article, I review 2 of these factors:

  1. The level of dependency:

    • As explained by Gates, who needs whom most or the level of dependency between the parties, directly influences the Balance of Power. The party that needs the other less wields the Balance of Power. This concept of the level of dependence is evident in the negotiation of PAs. At the beginning of the relationship, the Host State, especially where it is a developing country with a nascent oil and gas industry (just as Ghana was about 10 years ago), is more dependent on the IOC for capital to develop its new oil fields. This dependence by the Host State on the IOC gives the IOC more leverage in the negotiation. 

    • In Getting to Yes: Negotiating Agreements Without Giving In, Fisher et al suggest that to protect oneself from a counterpart that has a stronger bargaining power the other party must develop a viable Best Alternative to Negotiated Agreement (BATNA). But I ask: what is a viable BATNA for a developing country with a nascent oil and gas industry- leave the resources aground?

  2. The power of the brand and the relative size of the parties

    • Gates explains this factor in the context of the brand power of mega brands such as Coca-Cola, Rolex, Apple, and Microsoft. He explains that a business of this type could use its brand power to its commercial advantage.

    • In the context of negotiating petroleum agreements, brand power refers to the brand of the Host State and that of the IOC. For a Host State, issues of political stability, ease of doing business, and the proven geology of its oil and gas blocks affect the brand of that Host State and impact its Bargaining Power. Similarly, the brand of the IOC impacts its Bargaining Power and the terms that it obtains. In this regard, think of an ExxonMobile, a BP, or a Chevron.

    A relevant question would then be this: between a Host State and an IOC which party is likely to have more brand equity and thus have the Balance of Power? One would think that the Host State, being a sovereign would be the Goliath wielding more Bargaining Power than the little David - the IOC. As the biblical story teaches, however, power is not merely a function of size or in this case, the function of sovereignty. 

    Often, the Balance of Power lies with the IOC, at least, at the start of this long-term relational contract because the IOC has the capital and the technology that the Host State needs to develop its newly discovered oil fields. Hence the Host State is more dependent on the IOC at the outset of the relationship.

Overview of Balance  of Power (Bargaining Power) models used in petroleum negotiations

Although the IOC has the Balance of Power at the outset of its relationship with the Host State, the nature of the oil and gas industry is such that the Balance of Power does not rest in the hands of the IOC for the term of the PA. Two models that explain the oscillating nature of the Balance of Power in the oil and gas industry are discussed below.

  1. The petro-political cycle

    The petroleum industry is generally known to be a cyclical industry with alternating periods of high and low oil prices. The cyclical nature of the industry is depicted in Wilson’s model of the world oil market – the Petro-Political Cycle (PPC).  

    According to the PPC model, when the market is performing well and oil prices are rising, Host States gain leverage whereas when the market is not performing well and oil prices are falling, IOCs gain leverage. The PPC model suggests that in times of rising prices, Host States which tend to occupy a subordinate position in the international system have real incentives to change the rules of the game and reverse the status quo. Several authors on the subject have noted that the cyclical change in the relative Bargaining Power of the Host States and IOCs is reminiscent of the cyclical nature of the oil and gas industry. 

  2. The Obsolescing Bargaining Model (OBM)

    While the PPM model explains Bargaining Power as a reflection of the cyclical nature of oil prices, the Obsolescing Bargain Model (OBM) explains bargaining power as a function of goals/interests, resources, and constraints on both parties. The model assumes that the goals of IOC and the Host State are in conflict - the conflict often relates to the division of rents and expresses itself in the negotiation of the fiscal terms.

    According to this model, the initial bargaining favors the IOC. However, as the IOC makes its investment in technology, establishes a presence in the Host State, and incurs other sunk costs, the relative bargaining power shifts to the Host State and the government of the Host State then imposes more stringent conditions on the IOC. Thus the original bargain obsolesces, giving the model its name.

Conclusion

Given the oscillating nature of the Balance of Power between a Host State and an IOC, it is my view that a joint problem-solving approach to negotiating a PA as opposed to a hard-bargaining approach, is more likely to produce mutually beneficial and equitable agreements that will not likely be subject to unilateral changes by a Host State when the Balance of Power is in its favor.

Footnotes

  1. “Host State” refers to developing countries that have a nascent oil and gas industry.

Disclaimer: This article is an abridged version of an academic paper produced in the winter of 2015 and are my personal views on the subject. The views expressed here do not represent the views of any company that I have previously worked with or that I currently work with.

Joan Michaels