Editor's note: This article appears in the new E&P newsletter. Subscribe to the E&P newsletter here.
FPSOs—the floating production storage offloading facilities—have revolutionized deepwater drilling, enabling oil companies to produce oil in areas that were not previously economically viable. And following a challenging 2020, the FPSO market had a booming start to this year, with more contracts awarded in the second quarter of 2021 alone than during the entire 2020. In fact, there are a significant number of factors supporting a positive outlook for the FPSO market, including government incentives, lower operating costs than traditional offshore platforms, and the opportunity of redeploying existing vessels with increasing ease. Some estimates suggest the market would reach a projected $67 billion by 2027.
But FPSOs have traditionally been a fertile ground for uncertainty, and the pandemic has only exacerbated the risks inherent in these highly complex vessels. The market has seen an increase in disputes over both the order process and then specification after delivery, while the relatively nascent opportunity to redeploy vessels is one that the industry has yet to fully exploit.
Redeployment, new-build or conversion?
Operators have three options when procuring new FPSOs: redeploy an FPSO that has been operating on another field; order a custom-built vessel; or convert an existing tanker.
Traditionally, redeployment has been challenging for the industry but it increasingly offers significant opportunities for those that can make it work because of the potential cost benefits of being able to re-use an asset.
The difficulty in redeployment is that most FPSOs are highly optimized for the exploitation of a specific deposit with its own characteristics, from oil specification to water depth. Moreover, different deposits fall under regulatory regimes with their own requirements.
Adding to these pressures is the need for most vessels tagged for redeployment to require another phase of conversion, especially if the vessel has deteriorated in service, and this can be compounded by the need to ensure compliance with both class and flag regulations.
The key to a successful redeployment is in removing as much of the risk for owners of a new project as possible. This can be done by ensuring that all maintenance, design and specification documentation is correct and up-to-date, helping remove potential pitfalls. Vessels that have a proven track record, and come with an experienced crew who have previously operated the vessel, also allay concerns for potential customers. The initial vessel design, with flexible topsides, also make redeployment more attractive.
Of the remaining two options, there has been a gradual shift towards new-build FPSOs as compared to conversions, on account of growing investment toward exploitation in more challenging environments with more extreme seas or weather conditions. The opportunity to have FPSOs that have optimal design parameters, lower operational costs, the latest offshore technologies and advanced safety features in addition to being flexible to field life extensions are all huge draws for new-build investments. However, significantly higher CAPEX and longer project schedules compared with their converted alternatives remain the major obstacles to the market.
Apparent attractions of conversion as compared to new-build are speed of deployment and much lower capex. In an industry that is highly susceptible to oil price volatility, being able to exploit deposits as quickly as possible is a key driving factor. It also allows operators to drive faster returns on capital, or pursue fast-track projects. Conversion vessels are also typically based on large mature vessels, often more than 20 years old, allowing a degree of recycling to take place.
Causes of disputes
While the nature of the oil and gas industry can create the environment for commercial disputes, the specific complexities of FPSOs creates an additional tension between owners/buyers and builders.
FPSOs are not bought off the shelf; whether converted, redeployed or newly built, they require significant customization and are always individually tailored for a specific resource and lead times can exceed three years. That leaves significant time for changes in market conditions and the viability of projects between order and delivery.
There is also the underlying challenge that FPSO construction and deployment spans two industries and must accommodate the distinct cultures of the oil and gas sector and the maritime sector. Unexpected disputes can arise from this merger between historically different approaches to risk allocation, differing codes and quality standard and different standard-form contracting traditions in the two sectors.
Regardless of where the FPSO is being fabricated and the regulatory requirements of the region to which it is being deployed, delays are commonplace. Owners and builders frequently find themselves in the position of deciding whether to leave the unit at the shipyard for longer than planned, or whether to carry over aspects of the work for completion while the FPSO is being towed to the field.
Even on otherwise successful projects, FPSOs rarely leave the yard in fully finished condition, resulting in the buyer or charterer performing some completion and commissioning works itself. While owner-led commissioning can optimise operation, the scope must be clear to avoid disputes as to whether the vessel was delivered in a satisfactory state within the contract terms.
One of the biggest challenges with favouring a conversion over a new-build is the addition of extra layers of contractual complexity. Indeed, according to Crondall Energy Consultants, conversions tend to have worse outcomes compared to new-builds, both in terms of schedule slippage and cost growth.
FPSO conversion frequently requires the use of additional construction phases and contractors, including engineering and design services, a ship-building or conversion yard to overhaul and modify the hull, and then procurement and fabrication contractors to supply, fabricate and install new equipment on the vessel. These services are usually carried out by different providers and often across different jurisdictions which increases the risk of contractual disputes, and the proliferation of interfaces inevitably fosters a blame-shifting approach should problems arise.
Most conversions are from existing tankers that were designed, operated and had undergone maintenance for a very different purpose. There is almost always a degree of uncertainty over the vessel condition and the degree of hull repairs that will be required.
These issues can create an environment in which cost overruns and extended conversion times can become an occupational hazard of a conversion project, leading to further contractual disputes.
Redeployment projects present many of the same issues as conversion projects.
However, an additional challenge in seeking to redeploy a vessel is that of finding an alternative customer whilst the vessel is still in its development phase where the original client's needs have changed, or those of the overall industry swing with little warning, undermining the economics of the original project. There rarely is an easy fall-back option in this scenario, meaning legal recourse is more likely than in a more traditional plant construction project.
The speed with which redeployments are conducted can cause delays given the level of complexity often involved. Meticulous planning is integral to success, with up-to-date data vital. A properly defined scope of work should be established, thereby leading to realistic timetables being agreed upon. Eliminating changes during a project is crucial, as the knock-on effects created from such decisions are the most common reason for delays, and determining what parts of the vessel can be reused at the very start of the process can alleviate these concerns.
The bottom line
The FPSO market will continue to grow and mature, driven by the shift toward more remote offshore locations at the same time as budgets are being reduced and the oil price remains volatile.
With this platform for growth comes greater challenges, often in the form of disputes, which can be very costly. A greater understanding of the types of conflicts that can arise, particularly in the redeployment space, should enable improved contractual arrangements, better risk management and a more realistic approach to developing projects in the most efficient manner.
Julian Bailey, Clare Connellan and David Robertson are partners at international law firm White & Case LLP.
Daniel Rice, former CEO of Rice Energy who now sits on the EQT board, addressed the elephant in the room earlier this month at Hart Energy’s Energy Capital Conference.
Today’s featured Forty Under 40 honoree is Nick Vandivere, CEO of ThoughtTrace which is a Houston-based software company using AI and machine learning to streamline operations for the energy industry.
Chaparral Energy said Dec. 23 its board of directors has appointed Charles “Chuck” Duginski as president and CEO, effective Dec. 20.