Risk Rewired E10 – Forensic insights: Navigating energy disputes with EY

Matt Fritzsche, Partner – EY
Hi Chris and thank you very much for having us today. So my name is Matt Fritzsche and I lead the team of around about 40 people within EY’s forensic practice, focused on claims and disputes advice.
Henrietta Crichton, Director – EY
And hi my name is Henrietta Crichton, so I’m a director in Matt’s team, my particular focus is on M&A related disputes.
Chris
[Music] So both, I’d like to discuss with you today your work particularly on energy sector matters and your experience in the sector. So would it be possible for you to cover with me what kind of transactions and matters that you’ve worked on recently, both from a contentious and a non-contentious focus?
Henrietta
Yeah, shall I start first of all by talking about some of the non-contentious matters we’ve worked on and then I’ll hand over to Matt to talk about some of the more contentious ones.
 
So as a team we advise clients both in terms of mitigating their dispute risk and also safeguarding them, safeguarding their value through the later stages when things end up in disputes. From an energy sector perspective, so as a sector that’s characterized by high value and often long term contracts preventing value leakage is particularly important and so we often find ourselves supporting clients when it comes to that preventing value leakage in contracts.
 
To give a recent example where we’ve done that, we were supporting a client in testing whether or not invoiced man hours had actually been performed by one of its suppliers on a large contract, or alternatively supporting clients as they negotiate key financial terms within those contracts. So we’ve been supporting on a large infrastructure project looking at key pricing mechanisms and cost allocation within the agreement.
Chris
Great, and Matt, what kinds of matters of and transactions have you worked on and where’s your expertise, I’m gathering it’s probably more on the contentious side?
Matt
Yes exactly, so probably 70% of my practice is on giving advice as an expert witness in the context of an arbitration or litigation, with my areas of expertise being accounting and valuation. So quantification of loss or valuation of a company in the context of, for example, a warranty claim as well as other forms of accounting advice.
 
So just to sort of bring that to life a little bit, for the energy sector some of my recent matters have involved a shareholder dispute between shareholders in a green electricity supplier, based in the UK, and that was in the context of performing an exit valuation for the minority shareholders. Really interesting case, particularly for me as a valuer, because it involved valuing what was a company having gone through a good amount of growth but with a huge amount of further growth to come, and that can provide a challenge for someone valuing the company, as well as some interesting and quite techy issues around minority shareholder discounts to valuation, which I won’t I won’t bore you with too much now, Chris.
 
Another example would be a recent case, being an insolvency dispute, involving a North Sea oil and gas company and this is in the context of the payment of dividends at a company which was alleged to have been insolvent essentially at the time that the dividends were paid. And that involved, for me, performing an assessment of net assets which effectively became a valuation of the company at relevant dates, as well as an assessment of the financial implications of the creditors having to step into the licensing arrangements of the company that became insolvent. That was a particularly interesting case because the reason the company became insolvent was due to the very large decommissioning liabilities that they had for the North Sea oil and gas interest.
 
And then just a third recent case, again linked to the energy sector, it was a plastic recycling company. Another situation where it was a company that had produced, or developed, innovative plastic-to-plastic recycling technology and was trying to commercialize that technology. I managed to gain very significant amounts of investment to do so, hadn’t quite yet proven the commercial viability of the technology and again that provokes some very interesting questions around how you value that company at different points in time given, although they’d attracted lots of funding they hadn’t yet proven the commercial viability of their business model essentially.
 
And then always have different cases ongoing involving more traditional lost profit analyses and so on.
Chris
The work that you both do seems to pick up with clients at different stages in their development then, is that right? So Henrietta, you were mentioning about the negotiation of contractual terms presumably at the outset of that engagement, and then Matt some of the case studies that you were mentioning were around a project while it’s ongoing and then coming to the end of its natural life, is that right? So you you’re dealing with energy projects at all stages of the of that kind of life cycle?
Henrietta
Yeah that’s correct and one of the benefits that we get from seeing the later stages of the life cycle is that we’re able to feed some of the learnings from that through into the early stages. So our experience of seeing litigation and contentious matters means that we’re well placed to support in setting up the contracts in a way that reduces the risk.
Chris
Because you’ve seen how it’s gone wrong?
Henrietta
Because we’ve seen how it’s gone wrong, yeah.
Chris
Okay. So then, just picking out key trends that you see emerging from your experience of working on matters in the energy sector, as a general trend are you seeing more or less disputes as times going on in the sector generally, and would it be possible for you to discuss the kinds of disputes that you’ve that you’ve seen emerging over time?
Matt
Yeah definitely. So I think I mentioned high growth companies a couple of times in my examples and that’s definitely a feature of obviously particularly companies involved in the renewable energy sector in the UK and globally. And in my experience, you know, companies going through a growth phase can trigger disputes because there’s more of an incentive for shareholders to fall out in that sort of situation and also at times because, and I say this as a forensic accountant, high growth companies sometimes don’t always manage to develop their financial controls and governance arrangements as quickly as their revenue is able to grow. So that’s definitely a recurring theme of the situations that we the dispute situations that we’ve seen in the past few years.
 
The other one, perhaps linked to that, I would highlight would be, and I’ve seen this in two or three different settings including one of the examples I gave before and again linked to the renewable sector, is collaboration between individuals, highly experienced individuals perhaps, who have innovative technology or specialized experience in the field collaborating with more established companies, perhaps trying to transition their business from being focused on hydrocarbons to renewables and you can get this kind of clash of cultures between aerial start-up and more established company. And so yeah, have seen that in a couple of different contexts. At the sort of latter age of the business life cycle, decommissioning has obviously been talked about for a long time as being a significant event on the horizon for the North Sea. I think now we’re actually there and actually the matter that I referred to before was I think one of the first situations where imposition decommissioning expenditure had been enforced on other parties to a joint operating agreement for North Sea oil and gas interest. And you know, in that context the high decommissioning liabilities were a cause of the collapse of a company, so I don’t think we’ve seen lots of that yet but that’s one to watch in the future I think.
Chris
And Matt, just picking up on that point that you said about the kind of clash of cultures and this this difference between established companies in perhaps fossil fuel type businesses with those that are developing new technologies, how do those disputes kind of manifest themselves and what do they look like? How would you explain what a clash of cultures really looks like when a when a dispute emerges?
Matt
It can take a number of different forms, you know, one example would be when signing up to shareholders agreements between those are very different parties, the individuals- the less sophisticated party may not be as quite as clear about what they’re signing up to in terms of targets and the implications of those targets, as written into a shareholders agreement. So in my particular case that meant that when an exit mechanism was triggered, based on them having not met the targets they signed up to, they were sort of left with quite a bad taste in the mouth. Perhaps because they hadn’t quite appreciated the full implications of what they were signing up to at the time and I think that was a function of the relative sophistication and cultural understanding of an M&A or shareholder’s agreement process.
Chris
Okay.
 
Have you seen any trends emerging in terms of geography here, in terms of the identity of the parties to disputes, or the forum in which specific disputes are being brought, are the parties mainly kind of European or North American or have you seen kind of any key developments in that area?
Matt
So in renewables I have to admit most of the renewables related disputes that we’ve seen in the past two to three years have been UK focused. Yeah. I think that may just be a function of, you know, the cases that we as a practice have seen rather than being indicative of the UK renewables sector more generally. I would say, in terms of kind of identities of parties, I have seen actually quite a lot of situations involving international investors coming to the UK and therefore being parties to disputes as inward investors into the UK.
 
As a practice we do a lot of work internationally involving arbitration centres from other parts of the world whether that be Dubai, Singapore, the ICC in Paris and so on, so we end up seeing quite a lot of international matters as well. And in terms of the balance between litigation and arbitration I think for us typically it’s around about 50/50. I think one of the interesting trends in recent years in arbitration has been how much more seems to be going through some of the newer arbitration centres, such as the Singapore International Arbitration Centre, as compared to say the ICC in Paris for example. Yeah, a real rise of more of a, kind of, regionalization of the international arbitration centres.
Chris
So, just looking ahead, both, in terms of future trends, how do you see energy disputes evolving in the future and what do you see are the kind of key changes in the sector which could lead to disputes or specific types of disputes emerging in the future?
Henrietta
So from a transaction perspective there are a lot of factors in the market that mean that M&A activity in the sector is likely to continue. So you’ve got the impact of the current oil price environment, energy transition as a topic, developing technology, all of that means that we’re expecting M&A deals in the energy sector to remain healthy and in particular when it comes to renewables the one of the features of those sorts of transactions often is that you have an earnout type mechanism as part of the deal and we’ve seen quite a few earnout disputes in the few years, in the past few years. So expecting to see more of those carry on into the future.
Chris
I suppose as an ancillary question, how do you see your or EY’s role changing to adapt to those sort of future trends in the market and in the sector specifically? I suppose it’s more of certain types of transaction, right?
Henrietta
Yeah so we work very closely with a team that advises clients going through M&A transactions on the sorts of mechanisms that they should have in their agreements and the financial accounting wording of those. So it’s going to continue to be important to carefully consider what those sorts of agreements look like in the future and particularly how you structure earnout mechanisms in a way that doesn’t create risk.
Chris
So just moving to the final topic that I wanted to discuss which was kind of around mitigation and planning, what were your thoughts on advice to clients and businesses in the sector on how they can adapt and mitigate or prevent disputes emerging?
Matt
Henrietta, one thing that we spoke about in preparation for this and it rears its head in many different situations I would say, many different types of dispute is, as forensic accountants, as valuers, the issues that often end up becoming the most contentious, or ones where we’re arguing over kind of financial or accounting concepts that have been drafted into inter-legal agreements, and sometimes not in the way that an accountant or valuer would recognize as the right way to do it, or the best practice way to do it. So I would advise any lawyer, kind of, signing up to, or signing their clients up to, contracts with financial or accounting principles drafted in, to be thinking carefully, do we understand those concepts? Is it really sufficiently clear what the profit sharing mechanism or cost sharing mechanism means and the underlying accounting principles that sit behind those things. We often support in on that in the context of an M&A transaction and actually I think it has much broader application whether that’s a, you know, production sharing agreement under an oil and gas industry business venture, or some form of cost sharing mechanism for a renewables venture. I think that’s an area where mitigation at the stage of entering into the contracts in the first place could be assisted.
Chris
Great, and then I suppose the question there is, when a party is engaged in litigation or in an active dispute how they can best kind of prepare themselves with your assistance to help bring that dispute to a successful resolution. I used sort of examples of good practice really.
Henrietta
So I think an early assessment of loss is really important. So if you’re bringing a claim or defending a claim you need to understand early on what your risks are from a financial accounting perspective, what the potential quantum is in order to make the best decisions as you go through the dispute process and so where we have supported clients earlier on in the process, understanding those topics, that’s that enabled them to make better decisions through the process.
Chris
Yeah.
Matt
Yeah, I would agree with that. It’s getting us on board to help understand early on what’s the value of that claim, but also what are the right expert issues to be given to the experts and that being a collaborative process to make sure that there’s a full alignment between the legal position and the legal case and the, kind of, the issues that an expert can usefully opine on in the context of that case.
 
The matter I was cross-examined on, only at the end of this week, it was quite apparent that the person cross-examining me was, I think, trying to get me to talk about stuff that actually sat clearly outside of the scope of the issues that the experts had been asked to address and I suspect that was because he’d realized maybe too late in the day that the scope hadn’t quite gone far enough to get him where he needed to get to prove the legal position and the legal arguments.
 
So yeah, I think early assessment not just of the value of the claim but of what are the right areas for the experts to be opining on and giving evidence on is really important.
Chris
That’s really useful advice. All that remains for me to do is to thank Matt and Henry as for their time today. [Music].