Price Revision In The Long-Term LNG Supply Contracts

The long-term LNG SPAs typically include a price review clause which provides that in certain circumstances, such as a substantial change of economic circumstances in the buyer`s market, a contracting party may request the revision of the contract price formula. The party requesting the price revision must give a notice for price review to the other party, mentioning the reasons for such request. If the contracting parties agree on the terms of the price revision within the time limit provided for in the supply contract, the revised contract price shall apply from the date of the price review notice until either the date of the next price revision provided for in the supply contract or, if there will be no further price revision, until the end of the supply period provided for in the supply contract. Thus it shall apply to all LNG cargoes delivered under the supply contract on or after the date of the price review notice.
Until the price revision is agreed by the contracting parties, the price of each cargo delivered, from the date of the price review notice until the date when the price revision is agreed, can be determined on a provisional basis using the existing price formula.
After the price revision is agreed, the contracting parties shall calculate the difference between the revised price and the price provisionally applied to the LNG cargoes delivered from the date of the price review notice and such difference shall be paid by the contracting party from which it is due.
If the contracting parties cannot reach an agreement on the terms of the price revision within the time limit provided for in the LNG supply contract (usually stipulated as six months after the date of the price review notice), the LNG supply contracts stipulate that they have the right to settle the dispute by arbitration.
An example of such case was the US law case Gas Natural Aprovisionamientos, SDG, S.A. v.  Atlantic LNG Company of Trinidad and Tobago<sup>1</sup>. In that case Atlantic LNG Company of Trinidad and Tobago concluded in the year 1995 a long-term LNG supply contract with the Spanish gas supplier Gas Natural Aprovisionamientos for the period between 1999 and 2019. The LNG cargoes were to be delivered FOB basis at Atlantic LNG terminal in Point Fortin, Trinidad and Tobago.
The contract price formula consisted of a Spanish base price and multiplier indexed quarterly to the European prices of oil products. The contract price formula was agreed based on the assumption that the LNG cargoes will be delivered and sold in the Spanish market.
However, after the conclusion of the LNG supply contract in 1995, the Spanish gas market was substantially liberalized and the Spanish gas price decreased. The unexpected decrease of the gas price in the Spanish market has not been proportionate to the change in the value of the oil price index in the contract price formula.
Although the liberalization of the Spanish gas market was foreseen by the contracting parties in 1995, they expected that the contract price formula would allow the contract price to increase proportionally with the increase of the natural gas price in Spain. That did not happen. There was a substantial difference between the expected and the actual prices at which Gas Natural Aprovisionamientos re-sold the gas from the LNG cargoes.
The LNG supply contract had a "price reopener clause" which stipulated that in the event of a substantial change of economic circumstances in the Spanish gas market compared to what was reasonably expected at the time the contract was concluded, either party to the contract could notify the other to request a revision of the contract price provisions. The revised contract price had to allow the buyer "to achieve a reasonable rate of return" on the LNG delivered by the seller under conditions of "sound marketing practices and efficient operations".
The LNG supply contract prohibited the contracting parties to submit a request for price revision earlier than twelve months following the date of the first cargo delivery. It also prohibited a contracting party to request a further revision of the contract price to become effective at a date which was earlier then three years after the date on which such party had last requested a price revision.
The LNG supply contract provided that in the event that the contracting parties could not reach an agreement on the terms of the price revision within six months from the date of the price revision notice, they had the right to request the settlement of the dispute by arbitration.
After a year from the commencement of the LNG deliveries, the buyer sought to obtain a lower price adjustment due to the low prices at which the gas from the LNG cargoes was re-sold in Spain. Unable to obtain a lower price, since October 2002 the buyer re-sold the LNG on the higher-priced US market (in New England).
The seller contended that the re-sale of LNG in the US market was a substantial change of economic circumstances and on 21 April 2005, sent a notice to buyer requesting an upward revision of the contract price formula to reflect the price of the natural gas in the US market. Because the seller and buyer were unable to agree a new price formula, on 21 October 2005, the seller requested the settlement of the dispute by arbitration. The seller claimed that after October 2002, when the buyer started to re-sell the LNG in the US market (in New England), the US market became the "buyer`s end user market" and therefore, the contract price formula had to take into consideration the price of the natural gas in the US market.
The arbitration panel held that the contract requirements for requesting the price revision had been fulfilled, because there was a substantial difference between the expected and the actual prices, that difference occurred consistently over a meaningful time period and was reasonably anticipated to persist. The substantial difference between the expected and the actual prices over a three years` period (between 21 April 2005, the date of the price review notice and December 2007, when the arbitration proceedings were held) was considered a substantial change of economic circumstances.
The arbitration panel decided that for the purpose of price revision, the buyer`s end user market was either Spain or United States (New England) depending on where the LNG was ultimately delivered  and that the revised price formula had to be constructed with terms that could be adaptable depending on the buyer`s end user market at the time. Therefore, the arbitration panel maintained the contract price formula designed for the Spanish market (with the Spanish base price), but it added to it "a New England Market Adjustment factor".
The revised price formula became effective from 21 April 2005, the date of the price review notice.
As a result of the contract price recalculation, the seller, Atlantic LNG Company, had to pay over USD 70 million to buyer as the price difference for LNG cargoes delivered between 21 April 2005 and 31 December 2007².
The arbitral tribunal declined to impose interest on the recalculated price for that period of time for that period of time, in the absence of contractual provisions covering this matter. Therefore, the LNG supply contracts should stipulate whether the price difference resulting from the contract price revision is to be payable with interest or not.
It should also stipulate how the fees and expenses due to the arbitral tribunal will be shared by the contracting parties and who shall bear the liability for the costs of legal representation in the arbitration proceedings. The art. 42 of the UNCITRAL Arbitration Rules provides that:

"1. The costs of the arbitration shall in principle be borne by the unsuccessful party or parties. However, the arbitral tribunal may apportion each of such costs between the parties if it determines that apportionment is reasonable, taking into account the circumstances of the case.

2. The arbitral tribunal shall in the final award or, if it deems appropriate, in any other award, determine any amount that a party may have to pay to another party as a result of the decision on allocation of costs."

The parties can stipulate in the contract arbitration clause that each party shall bear its own costs relating to the arbitration (i.e. the costs of legal representation) and that the parties shall share equally all fees and expenses incurred by the arbitrators.

by Vlad Cioarec, International Trade Consultant

This article has been published in Commoditylaw`s Gas Trade Review Edition No. 3.

Endnotes:

1. S.D.N.Y. 2008
2. The date of the final award was 17 January 2008.