The Seller`s Liability For Failure To Deliver In The Event Of The Cargo Diversion

The DES prices for the US LNG cargoes sold to the countries in the Asia Pacific region under long-term SPAs are normally higher than the DES price for the EU market due to the higher transportation costs and higher cargo loss through boil-off during the transportation from the LNG terminals in the US Gulf Coast to the Asia-Pacific region.
However, this was not always the case. In 2022, after the Russia`s invasion of Ukraine the European spot prices for LNG imports sky rocketed. In order to take advantage of the higher prices in the EU market, some LNG suppliers to Asia-Pacific region redirected their cargoes to buyers in the EU countries, thereby defaulting on their delivery obligations under the long-term SPAs with the Asian importers.
The seller`s liability for failure to deliver an LNG cargo in the event of the cargo diversion depends on whether or not the contractual provisions allow the seller to cancel the delivery of some cargoes.
In the case of LNG sale contracts that enable the sellers and buyers to cancel the delivery of cargoes, i.e. the portfolio sale contracts, if the seller chooses to divert a cargo to a higher priced market, it can cancel the delivery of the respective cargo with no obligation to deliver a replacement cargo. In such case, the seller shall have to pay a specified amount as cancellation fee which shall be the buyer`s sole and exclusive remedy for the seller`s decision to cancel the delivery of the respective cargo.
In the case of LNG sale contracts that do not allow the sellers to cancel the delivery of cargoes, the sellers have to reschedule the delivery of cargoes which they are unable to deliver within the range of time (scheduled unloading window) stipulated in the Annual Delivery Plan and/or Transaction Confirmation Notice. LNG SPAs provide that in such case the seller and buyer shall, within a specified number of days after the end of the scheduled unloading window, use "reasonable endeavours" to reschedule the relevant LNG cargo, subject to the seller`s obligation to reimburse the buyer all reasonable, documented costs and expenses arising from the rescheduling<sup>1</sup>.
If the seller and buyer are unable to reschedule the LNG cargo within the contractual time limit, then the buyer shall be entitled to cancel the delivery of the respective LNG cargo and the seller shall have to pay to buyer an amount as damages.
The extent of amount to be paid by the seller as damages will be in function of whether or not the buyer is able to procure a replacement cargo.
If the buyer is able to procure a replacement cargo, an amount shall be paid by the seller to buyer for the actual damages incurred by the buyer to procure a replacement cargo. Such an amount shall be equal to the amount by which the buyer`s cost to procure the replacement cargo (including any additional documented transportation and logistics cost) in the spot market exceeds the value of LNG cargo not delivered by the seller on the last day of the scheduled unloading window based on the applicable contract price².
If the buyer is not able to procure a replacement cargo, an amount shall be paid by the seller to buyer as liquidated damages. This amount, commonly referred in LNG SPAs as "cargo underdelivery amount", is typically stated as the product of a percentage of the contract price (usually between 40% and 50%) per MMBtu for the LNG cargo not delivered and the nominal quantity of LNG in MMBtu stipulated in the Transaction Confirmation Notice for the respective cargo.
LNG SPAs provide that in the event that the buyer is unable to procure a replacement cargo, the payment of the cargo underdelivery amount shall be the buyer`s sole and exclusive remedy for the seller`s failure to deliver an LNG cargo, thereby preventing the buyer to bring a claim for other losses. Furthermore, LNG SPAs have a liability limitations clause that expressly precludes the buyer to recover damages for the loss of income or profit or business opportunity, business interruption or consequential or indirect losses.
In 2022, there were sellers who sought to take advantage of the price differentials between the European and Asian markets by diverting Asian cargoes to Europe relying on the liquidated damages and liability limitations clauses to settle the buyers` claims. However, the liability limitations clause does not apply in the case of wilful misconduct³.
A deliberate breach of contract such as a cargo diversion for commercial reasons could be considered a wilful misconduct and invalidate both the liquidated damages clause covering the sellers failure to deliver a cargo and the liability limitations clause.

Can A Force Majeure Declaration Protect The LNG Sellers In The Event Of Cargo Diversion For Commercial Reasons?

Some of the sellers who redirected their LNG cargoes in 2022 to the buyers in Europe sought to declare force majeure as an excuse for their failure to deliver the respective LNG cargoes as per agreed schedules to the buyers in the Asia Pacific region.
LNG SPAs provide that a party claiming that a force majeure event prevents it to perform any of its contractual obligations must give a notice of such force majeure to the other party stating the information available about the event, an estimate of the likely duration of the event, the contractual obligations affected by the event and the actions taken to minimise the effects of the force majeure event.
The sellers who purport to declare a force majeure event should be able to prove the occurrence of the force majeure event and that the event invoked was beyond their reasonable control, that the event prevent them to deliver the LNG cargo on time and the event is not the direct or indirect result of their failure to perform their contractual obligations.
If the notice of force majeure given by the sellers to buyers does not comply with the contractual requirements to provide the required information about the purported force majeure event or the sellers are unable to prove the occurrence of the force majeure event, the sellers cannot rely on the force majeure for their failure to deliver in the case of the cargo diversion. An event invoked as force majeure by sellers does not constitute force majeure if its occurrence or effect is not beyond the reasonable control of the sellers⁴.

by Vlad Cioarec, International Trade Consultant

This article has been published in Commoditylaw`s Gas Trade Review Edition No. 5.

Endnotes:

1. See Sub-clause 3(4) of GIIGNL Master Ex-Ship LNG Sales Agreement 2011.
2. See Sub-clause 3(4) of GIIGNL Master Ex-Ship LNG Sales Agreement 2011.
3. See Sub-clause 14.1 of Trafigura`s Master LNG Sale and Purchase Agreement and Sub-clause 13(1) of GIIGNL Master Ex-Ship LNG Sales Agreement 2011.
4. See Sub-clause 15.3 of BP Standard Form MSA (DES) 2019 Edition.