11 march 2009

Review of the new law on subsoil and subsoil use

The given information is made exclusively as the general management and cannot be used as the specialized legal conclusion.

Dear Sirs,

GRATA Law Firm provides you with the review of the Draft of the Law on subsoil and subsoil use, we hope, it can be useful for your company’s activity.

Review of the new law on subsoil and subsoil use

The draft law (further the Draft law) combines the norms of the Law “On Subsoil and Subsoil use” of RK dated January 27, 1996 (further the Law on Subsoil) and the Law of the RK “On Oil” dated June 28, 1995 (further the Law on Oil), and also involves the conditions and requirements of certain governmental resolutions and other legal acts.

It is worth noting that one of the principles of the legislation on subsoil use is the “creation of favorable conditions for raising investments in the subsoil use operations sector”. Although, in fact, the law toughens the conditions of carrying out operations on subsoil use, introduces certain provisions, which, quite the contrary, worsen the investment attractiveness of the mineral resources sector of Kazakhstan. On the other hand the project involves provisions that explain many matters on the application of Law in practice.

We would like to point out some specific features of the proposed Draft law.

1. Definitions and related provisions

The Draft law introduces two different definitions: “concentration of the rights to carry out operations on subsoil use” and “concentration of the rights under the contract”.

The first definition is directed on restriction of concentration in hands of one entity, group of entities from one country of shares in subsoil users or in contracts on subsoil use if such concentration will create threat to economic interests of Republic Kazakhstan.

The definition “concentration of the rights under the contract” is new and relates to “joint users of the license for subsoil use”, which are related under the Draft law to subsoil users (i.e. several co-Contractors) working under the same contract.

The Draft law proposes the definitions of and provisions on the operating state agencies, which control the  subsoil use operations, and their functions. These agencies are the “Inter-Agency Committee on Issues of Exercising by the State of its Pre-emptive Right”,  “Central Commission on Exploration and Production  of Mineral Resources (CCP)” and  “Expert Commission on Subsoil Use Issues”. Except for the common definitions of “exploration” and “production”, it is proposed to introduce more detailed definitions of the particular stages in subsoil use operations – “appraisal works”, “exploration works”, “production testing”, “ test industrial production”, “test industrial development”, and ”commercial development”. Also, detailed definitions and provisions concerning the project documentation are introduced into the Draft law: the project of test production, the project of appraisal work, the project of researching works, the project of production testing, project of deposit development, and the technological scheme of deposit development.

2. Provisions on the pre-emptive right of the state

There is a new Article in the Draft law called “Pre-emptive rights of the Republic of Kazakhstan in subsoil use sphere”. The Article involves provisions of the current law on subsoil use concerning pre-emptive right of the stateto:

• acquire mineral resources, and
• acquire the subsoil use right , participating interest (shares) in a subsoil user or in a legal entity that directly or indirectly influences on decision-making process of the subsoil user.

2.1. The pre-emptive right to acquire mineral resources.

Regarding realization of the pre-emptive state right on purchase of minerals from subsoil user the Draft law provides, that Republic of Kazakhstan has the pre-emptive right to purchase of minerals under the prices which are not exceeding the prices, applied by subsoil user  in transactions with the corresponding minerals, formed on the date of transaction, excluding transport charges and expenses for realization. Under current legislation the Republic of Kazakhstan has the pre-emptive right to purchase the minerals under the prices which are not exceeding the  world market prices. Thus it is not clear, concerning which transactions are meant and how transport charges and expenses for realization will be deducted.

Moreover, in the Draft law it is established, that the order of realization of Kazakhstan’s pre-emptive right on acquisition of minerals is defined by the Government. This can cause acceptance of the governmental resolutions, that in turn will complicate the realization of the subsoil users rights and can provide the terms and conditions profitable to the state and defined by the state unilaterally.

2.2. The pre-emptive right to acquire the  subsoil use right.

We would like to note that the Draft law has essential modification in the state’s pre-emptive right to acquire the  subsoil use right  or participating interest (shares) in the subsoil user or the entity that influences the decision–making of the subsoil user.

Foremost, we pay your attention to the fact that such PRE-EMPTIVE RIGHT NOW APPLIES TO ANY KINDS OF TRANSACTIONS! Article 71 of the current Law on subsoil use provides that the state’s pre-emptive right shall apply in case of alienation of subsoil use right  or participating interest (shares) in a subsoil user or entity that influences on its decision-making process. Under alienation any kinds of transactions are contemplated. Meanwhile, the indication that the state shall exercise its pre-emptive right on the terms and conditions that are not worse than those offered by other buyer’s means that Article 71 of the Law on subsoil is applicable only to transactions on purchase and sale. The Draft Law provides that the state’s pre-emptive right applies to cases, when the  subsoil use right or a participating interest (shares) in the subsoil user or the entity that influences the decision-making of such subsoil user are alienated on a gratis and non-gratis grounds.

In Draft Law there is a new provision on the procedure for exercising by the state of its pre-emptive right. According to these provisions the pre-emptive right is applicable to the following entities:

• Entities, which alienate their  subsoil use right;
• Entities that transfer their subsoil use right or an object associated with such right to the charter capital of a legal entity;
• Entities that alienate objects, which associated with the subsoil use right .

Such objects associated with the  subsoil use right involve:

А) Participating interest (blocks of shares) in a subsoil user;

B) Participating interest (blocks of shares) in a legal entity that:

• carries out the main activities related to subsoil use in Kazakhstan (neither the Draft Law nor current Law does not provide what exactly is contemplated under “main activities related to subsoil use”), and
• has the possibility to directly or indirectly define the decisions of a subsoil user or influence such decisions.

It was noted above that the state has the pre-emptive right with regard to any gratis or non-gratis transaction related to alienation of the right to subsoil use or any above-mentioned object associated with such right.

The Draft Law provides for the following procedures for exercising the pre-emptive right:

1) The application to be sent to the Competent body;

2) The Competent body submits the application and relevant materials attached for consideration to the Inter-agency Committee (IAC) within 5 working days;

3) IAC reviews all the material within 30 working days, and:

• In case of making of the offer on purchase of the alienated subsoil use right (its parts) and (or) object associated with it the IAC on  realization of the state’s pre-emptive right:

- defines the national company, authorized on purchase of the alienated subsoil right and/or the object associated with it and

- directs the Protocol (Minutes) to the Competent body.

Further, the Competent body on the basis of IAC’s offer concerning realization of the state’s pre-emptive right within 5 working days from the moment of reception of the Protocol, makes a decision on purchase (refusal of purchase) the alienated subsoil use right and/or associated object which goes to alienator. If the decision is to get the alienated object the state body or the national company should finish the transaction on purchase not later than within 6 months from the moment of making  such decision .

• In case of making the offer on refusal of purchase of the alienated subsoil use right, such offer is executed by the Protocol. The Protocol should be sent to the Competent body. The Competent body on the basis of IAC’s offer makes a decision on refusal of purchase within 5 working days. The decision of the Competent body should be sent to the entity that is carrying out alienation of the subsoil use right.

The same as in the current Law, the Draft Law provides that the state exercises its pre-emptive right on the terms and conditions that are not worse than those offered by other acquirers. In the case of gratis transactions, the acquisition by the state of the subsoil use right or the associated object will be effected at a market price, defined in accordance with the laws on appraisal activities. The Law  “On Appraisal Activities” gives a definition of “market price”, stating that this is the most probable price, at which an object can be alienated in the conditions of competition, providing that the parties act without coercion and in their own interests, and have full information on the object.  

Thus, we can make a conclusion that when exercising the pre-emptive right on a gratis transaction, the state will make payment to the party that alienates the object. In this case the state will exercise its right under the price, to be defined on the basis of competitive prices for the alienated object , which the other concerned parties could offer. On the other hand, it is unclear, how the valuation process will be conducted, if the  subsoil use right or associated object is transferred as part of assets under the gratis transaction. Also, it is unclear, how the valuation would be made, if the gratis transaction is carried out outside Kazakhstan, when the alienated party is a foreign subsoil user or foreign participant of a foreign subsoil user?

3. Changes in the conditions of requisition of mineral resources

In Draft Law the right of the state to the requisition of mineral resources proposes some changes in the terms of requisition.  There are two aspects that were changed:

1) Entities, to which the requisition can be made.

If under the current Law on Subsoil  the requisition shall be made to every subsoil user, whereas in Draft Law to any subsoil user. I.e. during application of the Draft Law in practice, there is a risk that the Government can make a decision on the requisition to, for example, only to certain subsoil user or certain subsoil users. It is possible that in practice in future  the requisition shall not obligatorily be made to national companies or facilities, with which subsoil users have relevant relations.

2) Payment of compensation to a subsoil user for requisition of mineral resources.

In a current Law on subsoil use the compensation for mineral resources under the prices of the world market at date of requisition.

In the Draft Law it is stipulated, that the price of compensation shall be not exceeding:

- the prices applied by subsoil users at transactions with corresponding minerals, settled on date of the transaction, or

- the price settled on world market price on date of the transactions.

In any case, from the price applied at requisition transport charges and expenses for realization of minerals (for example, charges on storage, sale and other costs) are deducted (excluded).
Thus, the Draft Law provides application of the smaller price for a requisitioned minerals at payment of indemnification, than is stipulated by a current Law on Subsoil.

4. Changes of the functions of the Expert Commission and grounds for getting authorization from the Competent body

Draft Law establishes the functions of the Expert Commission on Subsoil Use Issues.

We should pay special attention to the fact that now there are more cases, when the Expert Commission gives proposals to the Competent body as to issue or refuse to issue the relevant permit. Except for cases specified in Article 14 of the current Law the Expert Commission now considers applications for the issue of permits in the following cases:

1) Transfer in pledge of a participating interest (blocks of shares) in a legal entity that has the relevant  subsoil use right;
2) Participation in public auction on selling of:

• The subsoil use right (its part), participating interest (blocks of shares) in a subsoil user, in the event of charging, including when in pledge, such subsoil use right (its part), participating interest (blocks of shares) in the subsoil user;
• Bankruptcy assets, which involve the subsoil use right(its part), participating interest (blocks of shares) in a subsoil users, when carrying out the bankruptcy procedures;

3) Acquiring by the pledgee of the pledged subsoil use right (its part), participating interest (blocks of shares) in the subsoil user, in the event of announcement of the bids as failed on selling the pledged subsoil use right (its part), participating interest (blocks of shares) in a subsoil user;
4) Acquiring of the right to a shareholding in a subsoil user, as a result of increase in the authorized capital, in the event of admitting a new participant in the legal entity;
5) Initial public offering on the organized securities market of stocks of a subsoil user and legal entities that have participating interests (blocks of shares) in legal entities – subsoil users;
6) The right to the initial public offering on the organized securities market of stocks of such legal entities issued as an additional issue of stocks.

The question is still open how the legal provisions will operate with regard to the initial public offering and additionally emitted shares of foreign joint stock companies, which have a subsidiary-subsoil user in Kazakhstan?

5. Changes in the guarantees of the subsoil user’s rights

Article on guarantees of the subsoil user’s rights also underwent considerable changes.

The Draft Law provides that the changes in the legislation shall not apply to subsoil users, if such changes “directly worsen the results of commercial activities of subsoil user”. Article 71 of the current Law on Subsoil provides guarantees in case of worsen the position of subsoil user. The Draft Law does not contain the following norms:

• What is the commercial activity?
• What is the result of commercial activities?
• Who will define this result – a subsoil user itself or jointly with the Competent body, by engaging some financial experts?
• How will this result be defined – under some agreement, opinion, by the decision of a certain public agency or by court decision?
• How will the fact of any worsening be defined, by which parameters?

It is obvious, that the absence of the mechanism in the legislation will complicate the application of the given provisions in practice.

6. Innovations in the governing of transfer of the  subsoil use right.

The Draft Law provides for additional cases, when the permit of a Competent body is required. Besides those specified in the current Law (Article 14), the permit of the Competent body is required in the below cases:

• Foreclosure on the subsoil use right, participating interest (blocks of shares) in a subsoil user, including those pledged. I.e., for example, this norm can be applied in the event, when any third party forecloses on the subsoil use right under the court decision in order to liquidate debts and other liabilities of the subsoil user. But, to exercise such a decision of the court the permit of a Competent body is required. The Draft Law provides for the procedure of foreclosure, described in Article 39;
• Emergence of the right to a share in a subsoil user, as a result of increase in the authorized capital in the event of admittance of a new participant in the legal entity (i.e. the given norm shall not apply to JSC and parent companies of the subsoil user);
• The initial public offering of stocks of a subsoil user on the organized securities market and legal entities that have participating interests (blocks of shares) in legal entities – subsoil users, including the initial public offering on the organized securities market of stocks of such legal entities issued as an additional issues of stocks;
• Transfer in pledge of a participating interest (blocks of shares) in a subsoil user (earlier, the authorization was required only for the pledge of the subsoil use right);
• The transfer of the subsoil use right or of a participating interest (blocks of shares) in subsoil user as a succession in the event of reorganization of the subsoil user or participant (shareholder) of the subsoil user (Article 36 of the Draft Law).

The Draft Law defines more specific cases, when the permit of a Competent body is not required. Such cases involve:

1) Transactions on alienation of stocks and or derivative securities of a subsoil user, which are traded on the organized securities market;

2) Transferring in whole or in part the subsoil use right or participating interest (blocks of shares) in a subsoil user in favor of a 100 per cent subsidiary;

3) Transferring, the whole or the part in the subsoil use right or participating interest (blocks of shares) in a subsoil user between legal entities that are 100 per cent affiliated companies. The Draft Law points out that 100 per cent affiliated companies are those, 100 per cent of the shareholding (a 100% blocks of shares) of which directly or indirectly is held by one entity.

Also, Draft Law describes the procedure for getting permit from the Competent body. Namely, the Draft Law describes in detail the following:

• Procedure for applying to the Competent body;
• Data, to be obligatorily specified in the application;
• The term for consideration of the application and relevant materials is extended from the currently effective 45-day period to 65 business days;
• The conditions are set forth, and if they are met, the Competent body shall issue the relevant permit. One of the conditions is the incompliance of:

А) The applicant with the requirements set to subsoil users and claimants to the subsoil use right ;

B) Application produced with the requirement set forth in the Draft Law.

It is clear that in case of revealing such incompliance, the Competent body has to return the application without consideration and give a chance to the applicant to amend the document as necessary and again produce the application for consideration. However, the Draft Law does not describe what the Competent body shall do in such a case – to return the application and any materials attached or to reject to issue the authorization.

The Draft Law also contains a provision on a two year moratorium for the transfer of the subsoil use right, but takes into consideration the amendments with regard to exceptional cases. Thus, the moratorium shall not apply to the following cases:

• foreclosing on the subsoil use right. Under the current legislation in effect, the moratorium is not applied only to the pledged subsoil use right.
• Reorganization of the subsoil user. Besides reorganization, the current legislation in effect points out also liquidation of the subsoil user.
• Transferring subsoil use right to national company and its subsidiary company.

7. Termination of the  subsoil use right.

There is a new article concerning the termination of the subsoil use right . Among evident reason for termination of the subsoil use right (termination of the contract), the liquidation of the subsoil user is also specified. When applying this article, certain risks are likely for the subsoil users in the case of reorganization by way of affiliation, merger or division, which provide for liquidation of one of the legal entities being reorganized.

8. Changes in the terms of conducting the bids for the subsoil use right

The terms of conducting the bids for the right to use subsoil are also changed.

1) The Draft Law describes in many details the procedure of contest and the content of the bids. The competitive offer instead of “size of deductions on development of social sphere” should contain size of deductions on “Social and economic development of region and development of its infrastructure”. Thus of the obligation and intentions on participation in social and economic development of region and its infrastructure are established exclusively in money terms and paid in the income of the local budget” instead of “the size of deductions on development of social sphere” i.e. the legislator requires to specify in the competitive offer of the particular sums not the percentage from investments which it will be necessary to pay in the budget.

From the list of data which should contain in the application are removed the following:

• Data about financial, technical, administrative and organizational opportunities of the applicant, including qualification of the personnel;
• The document confirming maintenance of the application.

The requirement that the term given for application cannot be less than one month from date of publication of the announcement of carrying out of the open competition or from the date of finishing up to data of potential participants on carrying out of the closed competition has been removed, i.e. now it will be possible to establish smaller term for application.

2) The term between the date of announcement of the terms of bids and date of beginning to summarize the results of bids is amended from 3 months as in the current Law in effect to 4 months. The term for summarizing the results of bids reduced from 2 months as in the current Law in effect to 15 days as in the Draft Law. Nevertheless, under the decision of the Commission the term of summarizing can be prolonged for one month.

3) The list of criteria, by which the winner has to be selected, is reduced. Now there are only 2 criteria (instead of 9) proposed by the Draft Law:

• Amount of signature bonus, and
• Amount of deductions to local budget for social, economical and infrastructure sectors development.

4) Under the current Law, in case of recognition of the bids as failed, the conducting of repeated bids is provided. The Draft Law provides also  the possibility of changing the bids documentation and conducting repeated bids. And in case of the repeated bid with only one bidder, the Competent body may conclude a contract with this bidder through direct negotiations.

5) The Draft Law contains an article about the recognition of the bids as invalid. Article 45 of the current Law specifies only cases, when a contract can be recognized as invalid. We would like to note that besides the provisions of Article 45 of the current Law on Subsoil, the Draft Law now specifies that the knowingly false information that affected the decision on selecting the winner also involves “the change in composition of the participants or shareholders of the legal entity that was recognized the winner before the date of entering into the relevant contract”. In other words, if “Х” LLP becomes the winner, and, for example, upon expiry of some period of time after conducting the bids one of the participants (founders) of this “Х” LLP sells its share in “Х” LLP, such change in composition of the participants the Competent body shall recognize as misleading information that affected the decision on selecting the winner. In the given definition of the Draft Law there is a contradiction, since the falsity of any data supposes that the bidder knows about the discrepancy of some data to real facts as of the time of submission of the bid application, and deliberately and knowingly fills in and leaves such data in the application. With such characteristics of “knowingly false information” the change in composition of the participants (shareholders) of the winner after the ending of the bids, i.e. in the future, cannot be regarded as knowingly false information! 

9. Changes in the governing of the procedure of granting the  subsoil use right through direct negotiations.

Some provisions concerning the granting of the subsoil use right through direct negotiations are now brought out into a separate chapter. We would like to note  that the legislator  provides  following provision in the Draft Law:

“In case if the applicant disagrees with the terms proposed by the Competent body, the Competent body shall make a decision to refuse to grant the subsoil use right  through direct negotiations, whereas the applicant that discovered and made an appraisal of the deposit shall lose its pre-emptive right to enter into the contract of production, and further the given area (areas) are offered by the Competent body for bids”.

I.e. it is come out that the state in behalf of the Competent body can dictate unilaterally the terms and conditions of the contract. Moreover, the Draft Law does not explicitly and clearly specify, in the case of disagreement with exactly what conditions the Competent body can refuse to conclude the contract for production.

Nevertheless, the Draft Law provides that in case of refusal by the Competent body to conclude the contract for production, the applicant will be refunded its expenses borne in connection with the contract of exploration and production of the given area and commercial discovery. Such expenses will be refunded by the new winner of the tender for the given area within 3 months from the date of conclusion of the contract for production.

10. Changes in the  subsoil use contracts.

With regard to subsoil use contracts, we would like to note the following provisions of the Draft Law:

1) Among the types of  subsoil use contracts there is no production sharing agreement. I.e. from the moment when Draft Law comes into force the production sharing agreement as a type of subsoil use contract will not exist and be concluded;

2) It is obvious that on each type of the subsoil use there will be one’s own model contract;

3) The Draft Law provides that the contract should include penalties for failure to fulfill the contractual obligations with regard to payments of non-tax nature. Thus, for the failure to fulfill the obligations, for example on, financing the training of Kazakhstani personnel or development of social infrastructure (and other similar obligations), the subsoil user shall pay the penalty. The Code on administrative violations of RK also provides for the responsibility for failure to fulfill the contract obligations (Article 264). I.e. for violation of financial terms of the contract, the subsoil user can be brought to two kinds of responsibility – civil responsibility and administrative responsibility. The Draft Law does not take into consideration the fact that the target indications and expenses are laid as a basis of obligations in the project documents, working program, annual working program, and other documents. The market conditions change constantly with ups and downs. Many conditions and target indications planned by a subsoil user do not depend on it, but depend on market and terms offered by suppliers of goods and services. In such a case, if at the beginning of the year some financial expenses are planned, and within the year they turn out to be less (for example, the supplier of equipment delayed the delivery and the obligations of the subsoil user are thus extended to the next year), then the subsoil user will bear risks of liability to the state. Such risk of liability involves not only penalties, but possible withdrawal of the contract as well.

4) The current Law on Subsoil provides for approval of the contract working program simultaneously with the contract analysis. The Draft Law sets forth that the contract shall be concluded on the basis of an approved working program and project documents. I.e. all project documents and programs shall be approved before preparation of the draft  of subsoil use contract.

5) The number of mandatory approvals and expertise of the contracts has reduced from the current 7 to 4. The Draft Law provides for going through three examinations (legal, economic, and ecological) and getting one approval from the body for exploration and use of subsoil. The draft law excludes examination for health and sanitary issues, mining and tax issues (that is likely the result of cancellation of the tax stability regime). The term of conduction of expertise, to the contrary, increased from one month to two months.

6) The draft law provides a list of all project documents, on the basis of which the operations on subsoil use will be carried out. The Draft Law contains the description of the said documents, procedure and the term of their reviewing and approval. In particular, the Draft Law will contain provisions on the projects of researching and evaluation works, production testing, commercial production and test, and initial field development plans.

7) The terms of payment of the signature bonus are also changed. The Draft Law on subsoil contains provisions on the payment of the signature bonus by stages:

• 50% shall be paid by the winner of tender within a month after announcement of the tender results;
• The other 50% shall be paid within a month after registration of the contract.

If the winner of tender fails to pay the signature bonus in requisite above order, the commission has a right to reduce the decision about recognition the winner . The Competent body may conduct the bids again. The Draft Law also provides that in the event of failure to conclude the contract within the established time limits through the tender’s winner’s fault, the signature bonus will not be refunded. Nothing is said in the Draft Law whether the signature bonus will be refunded or not, paid by the winner of tender, in the event the contract is not concluded through the fault of a relevant state body (for example, when the process of getting approvals and examinations is delayed, or any delays in conducting negotiations in connection with job shuffles of public servants etc.). It is also unclear, whether the paid signature bonus will be refunded (like other tax and financial payments under the contract) in the event of recognition of the contract as invalid. Under the Civil Code of RK, in the event of recognition of the contract as invalid, the parties shall return to the original state of matters and refund to each other any amounts received on the transaction. However, taking into consideration the zeal of public servants to share the state interests, the practical application of the civil code norms to such cases raised doubts.

8) The Draft Law provides for particular time limits for entering into the contracts of exploration, to be 18 months, and the contract of production, to be 24 months from the date of announcement of the tender bidder and date of signing the minutes of the direct negotiations (in case of granting the  subsoil use right through direct negotiations).

9) The provisions on the term of validity of the contracts are now changed in the Draft Law:

• With regard to the contracts of exploration, only a six-year period is provided.  Prolongation can be possible only in the event of commercial discovery and only for a period required for its appraisal. Thus, the current right of the subsoil users provided by the current Law to prolong twice the period of exploration for two years is now excluded in the Draft Law;
• At carrying out of oil operations on the sea the contract on exploration can be prolonged by competent body until two years;
• With regard to contracts of production, there is no fixed term set. The term of validity of the contract of production now depends on the approved project of operations on production.

The Draft Law is added by regulations about interaction of two and more subsoil users, operating within the limits of one contract territory. Between such subsoil users the agreement which defines the order of conducting works should be reached. If subsoil users, carrying out  subsoil use operations within the limits of one contract territory, but under different contracts cannot come to the agreement on the order of conducting works then the right to an establishment of the order of conducting works in contract territory possesses subsoil user, carrying out operations on exploration or extraction of minerals under the contract concluded with Competent body.

However it is not clear, to whom it will be preferred according to this norm if all subsoil users have the contract with Competent body, otherwise they cannot be subsoil users.

10) The Draft Law now contains the changed grounds for termination of the  subsoil use contracts. Under Draft Law, there are only three grounds for termination of the contract before time. It is necessary to have following grounds :

• Violation of obligations under the contract, Working Program, or project documents,   made two or more times;
• Failure to comply with the provisions on the state’s pre-emptive right in the event of alienation of the subsoil use right or any associated rights;
• Expiry of the contract term (the given item of the Draft Law was incorrectly included by the legislator into the paragraph concerning the contract termination before time).

At the earlier termination by the Competent body of the contract the National company accepts contract territory in the conducting. Being in the specified territory property, constructions, the equipment of ex-subsoil user are transferred  to the republic property.

We would like to note that one more thing that compared to the current Law on Subsoil (Article 45-2), the Draft Law entitles the Competent body to terminate the contract if any violation of the contract, working program, or project documents are made. The current Law gives such right only in the event of a material breach of obligations, which are provided only by the contract or work program. Also, the current Law on Subsoil does not specify the number of violations and what violation can be deemed material. Thus, compared to the current Law, the Draft Law contains tougher terms for subsoil users. Any violation by it of the contract, Working Program, plan of works can serve as a ground for the Competent body to terminate the contract unilaterally.

The Draft Law also provides the subsoil user’s right to:

• Terminate the contract before time in accordance with the judicial procedure, or
• Refuse to fulfill the contract unilaterally.

A subsoil user can exercise such rights, if there are the grounds set in the contract. It is obvious that such grounds will be specified in a Model contract, or should be specified by parties in the contract itself. If such grounds are not provided in the contract, this means that the subsoil user will not be capable to exercise such rights. On the other hand, the question is still open whether a subsoil user will be capable to use grounds provided for in the Civil Code of the RK for termination of the contract before time or not? The contract and Draft law on subsoil does not contain (or cannot contain in accordance with the Draft Law):

• References to the grounds, provided not only by the contract, but Civil Code as well; and
• The Draft Law itself does not specify any obligations of the Competent body or other public agencies that relate to fulfillment of the contract. Accordingly, once there are no obligations, this means that there will be no violations of such obligations by the other party to the contract.

It is also unclear in the Draft Law, whether the breach of a balance of the economic interests of the party to the contract can be considered as the ground for the subsoil user to terminate it unilaterally or not? Whether the subsoil user is entitled, when terminating the contract on its own initiative, to claim damages or loss of profit to the Competent body?

Thus, the Draft Law limits the possibilities for a subsoil user to terminate the contract unilaterally or to refuse to fulfill it, as well as limits the exercising of the subsoil user’s rights in practice.

11) The Draft Law provides the right of the Competent body to renew the validity of the terminated contract. The grounds for renewal of the contract can be:

- Invalidation of data, on the basis of which the Competent body took a decision to terminate the contract (including the absence of documents, certifying the fulfillment of contractual obligations on reasonable grounds)

- Ascertaining and confirmation of reasons not depending on the will of the subsoil user, as a result of which the subsoil user failed to fulfill or fulfilled improperly the contractual obligations.

The Draft Law establishes the procedure and time limits for exercising by the Competent body of the right to renew the terminated contract.

11. Added obligations of the subsoil users

The Draft Law amended the rights and obligations of the subsoil user with an obligation to develop and use high technologies, processing enterprises, and pipelines, and to build and use infrastructure facilities. Such obligations have to be fulfilled by the subsoil user in accordance with provisions of the subsoil use contract. Accordingly, if there are no such provisions in the contract (the contracts concluded in the nineties), thus there are no relevant obligations of the subsoil user.

The Draft Law has an article, describing the obligation of a subsoil user to provide a temporary conservation of the field in case of suspension of the subsoil use operations. Herewith, the Draft Law does not provide in what cases and on whose initiative the suspension of the  subsoil use operations can be made.

12. Disposal of trunk pipeline.

There is a new article in Draft Law that regulates questions of possession, use and disposal of a trunk pipeline. The Draft Law refers the pipeline and the rights associated with it to the strategic facilities, namely:

• Trunk pipeline;
• Participating interests (blocks of shares) of the entities/persons, which can directly or indirectly define or influence the decisions of legal entities, which are the owners of trunk pipelines.

Such strategic facilities are of social and economic importance for the state, and transactions with them can affect the condition of national security. In connection with this, any transactions on encumbrance or alienation of the said facilities shall be carried out with approval of the Government. The state has the pre-emptive right to the other party to transaction in case of alienation of such facilities.

13. Issues of liquidation of fields

The Draft Law contains an article, which describes in detail the provisions on liquidation and conservation of the fields.

The Draft Law provides the mandatory development of the field liquidation or conservation project by the project organization having the relevant license. The liquidation project shall be:

• Approved by 5 state agencies (supervising the environment protection, study and use of subsoil, industrial safety, regulating the land resources, sanitary & epidemiological protection)

• Approved by the subsoil user.

Some provisions on the liquidation fund existing in current legislation are also included in the Draft Law, namely:

• Using a banking deposit account for the purpose of creation of the liquidation fund, and

• Using the means of the fund under permission of the Competent body and approval of the state body on survey and use of subsoil.

Any other provisions of the liquidation fund (procedure, terms,  amount of payments) shall be specified in the contract.

Thus, the Draft Law on subsoil contains a number of modifications and changes. But some questions as to the future application of the new Draft Law and other legal acts are still open. It is obvious that a lot of issues and problems will appear in practice, related to the further performance of the existing licenses and subsoil use contracts, issued and concluded in the nineties.

Best Regards,

Saule Akhmetova
Partner

Tel.: +7 (727) 2 445-777
Fax: +7 (727) 2 445-776
Mob.: +7 (701) 722-32-80
sakhmetova@gratanet.com

Timur Yuldabayev
Senior Lawyer

Tel.: +7 (727) 2 445-777
Fax: +7 (727) 2 445-776
Mob.: +7 (701) 724-83-46
tyuldabayev@gratanet.com