Zaid Mahayni - Future of Take-or-Pay Provisions in a Liberalized European Gas Market - CEPMLP 2000-2001

CENTRE FOR ENERGY, PETROLEUM AND MINERAL LAW AND POLICY

STATEMENT OF ORIGINALITY

FOR RESEARCH PAPERS

NAME OF STUDENT: Zaid Mahayni

MATRICULATION NUMBER: 009943036

PROGRAMME: LL.M. in Petroleum Law and Policy

TITLE OF THE RESEARCH PAPER:

The Future of Take-or-Pay Provisions in a Liberalized European Gas

Market

ABSTRACT OF THE RESEARCH PAPER:

Take-or-Pay (TOP) provisions have, for decades, commonly been included in long-term

gas purchase agreements. However, as gas markets are restructured with the introduction

of competition, TOP provisions can become the source of a crisis, often quantified in

billions of dollars. The European Union (EU), in its attempt to introduce competition, has

taken precautionary measures to avoid the take-or-pay issue. It developed mechanisms to

deal with existing TOP provisions and it hopes that gradually, TOP provisions will not be

renegotiated in long-term gas purchase contracts. This paper will attempt to answer the

following questions: can the EU really expect TOP provisions to gradually disappear?

Should it expect the same results achieved by Canada and the United States when they

opened their gas markets to competition? Or, does the EU face distinct circumstances

that justify different predictions on the future of TOP provisions?

WORD COUNT: 3,945

PRESENTED TO: Professor Peter Cameron

TITLE OF THE COURSE: EC Energy, Environment and Natural Resources Law &

Policy (GP 135)

I, Zaid Mahayni, have read the Code of Practice regarding plagiarism contained in the

Students’ Introductory Handbook. I realise that this Code governs the way in which the

Centre for Petroleum and Mineral Law and Policy regards and treats the issue of

plagiarism. I have understood the Code and in particular I am aware of the consequences,

which may follow if I breach that code.

Signed:________________

Date:__________________

Matriculation Number 00 99 43 036

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Table of Contents

List of Abbreviations ---------------------------------------------------------------------------- 2

1. Introduction ------------------------------------------------------------------------------------ 3

2. Rationale of Take-or-Pay Provisions ------------------------------------------------------ 4

2.1 Definition of Take-or-Pay Obligations --------------------------------------------------- 4

2.2 Background to Take-or-Pay Provisions -------------------------------------------------- 5

3. Introducing Competition in Gas Markets: From Monopoly to Competition --------- 5

3.1 Development Stages of a Gas Industry: The Pre-Competition Phase --------------- 5

3.2 The Main Competitive Market Models -------------------------------------------------- 6

3.2.1 Pipeline-to-Pipeline Competition ------------------------------------------------------- 6

3.2.2 Mandatory Third Party Access ---------------------------------------------------------- 7

3.3 The 1998 EU Gas Directive and the New Gas Market Model ------------------------ 8

4. The Consequences of Gas-to-Gas Competition Introduction -------------------------- 10

4.1.1 Potential Effects on Existing Gas Sales Contracts: The Take-or-Pay Dilemma - 10

4.1.2 Possible Remedies Against the Take-or-Pay Problem ------------------------------- 11

4.2 Potential Effects on Future Gas Sales Contracts --------------------------------------- 12

5. Concerns with the EU Solution ------------------------------------------------------------- 14

6. Conclusion ------------------------------------------------------------------------------------- 15

Annex A ------------------------------------------------------------------------------------------- 18

Annex B ------------------------------------------------------------------------------------------- 19

Annex C ------------------------------------------------------------------------------------------- 22

Annex D ------------------------------------------------------------------------------------------- 23

Bibliography -------------------------------------------------------------------------------------- 24


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List of Abbreviations

ARLR ---------------------------------- Arkansas Law Review

Bcm ------------------------------------ Billion Cubic Metres

BG -------------------------------------- British Gas

B.P. ------------------------------------- British Pound

CEPMLP ------------------------------ Centre for Energy, Petroleum & Mineral Law & Policy

EU -------------------------------------- European Union

FERC ---------------------------------- Federal Energy Regulatory Commission (US)

IEA ------------------------------------- International Energy Agency

IOGLT --------------------------------- Institute on Oil & Gas Law & Taxation

JENRL --------------------------------- Journal of Energy & Natural Resources Law

JLECON------------------------------- Journal of Law & Economics

MIJIL ---------------------------------- Michigan Journal of International Law

MOA ----------------------------------- Mandatory Open Access

OECD ---------------------------------- Organisation for Economic Co-operation and Development

OGLTR -------------------------------- Oil & Gas Law & Taxation Review

TPA ------------------------------------ Third Party Access

TOP ------------------------------------ Take-or-Pay

US -------------------------------------- United States of America

WGI ------------------------------------ World Gas Intelligence


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1. Introduction

As Michael Brothwood noted:

“The problem of the gas industry when facing the introduction of a competitive market is

in many respects comparable to the stranded assets problem which the electricity industry

is facing as a consequence of the introduction of the competitive market in electricity.”1

The problem when introducing competition in the electricity sector is that old

coal-fired power plants are unable to compete with the more efficient gas-fired plants

constructed with the advent of competition. In the same manner, in the gas sector, it is

take-or-pay (TOP) provisions, typical of long-term purchase contracts, which are at the

source of the problem when it comes to ‘stranding’ old natural gas undertakings.

Essentially, one worry is that natural gas undertakings under TOP obligations might be

obliged to buy gas at much higher prices than those of the market. Alternatively, these

undertakings might be obliged to take possession of gas for which there is no demand.

The problem is serious and can be quantified in billions of dollars.

The European Union (EU), in its desire to introduce competition in the gas sector,

is conscious of the TOP difficulty. It has as a model the unfortunate experience of

Canada, the United States (US), Western Australia and the United Kingdom (UK).

However, can the EU simply apply the same solutions used in these markets? Or, is it

faced with circumstances that justify a different approach? These two questions will be

the focus of this paper.

First, before addressing the essence of the problem, this paper will start by

defining TOP provisions and will explain the reasons behind their adoption. In a second

chapter we will explain the different approaches that could be used to introduce

competition. In a third chapter, the competitive models will be examined in regards first,

with old gas purchase agreements and secondly, in regards with new ones. The final

chapter of this paper will study the EU solution and will examine its potential impacts on

the geopolitics of European gas industry, mainly with its external suppliers.


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2. Rationale of Take-or-Pay Provisions

2.1 Definition of Take-or-Pay Obligations

TOP provisions are contained in gas purchase agreements. They entitle a buyer

to take a minimum quantity of gas each year and oblige that buyer to pay for that

minimum quantity whether or not it is actually taken. TOP provisions must be

distinguished from send-or-pay (SOP) provisions, found in gas transportation

contracts. 2 For the purposes of this paper, only TOP provisions will be examined, first

because of the similarities between TOP and SOP provisions, and secondly, because

difficulties have mainly tended to reside in TOP provisions when it comes to introducing

competition in the gas market.3

Typically, TOP provisions contain limitations in case of force majeure or in case

of under-deliveries made by the seller.4 In practice, gas purchase agreements may contain

various clauses alleviating TOP obligations. Under these clauses, the buyer’s TOP

obligations will be averaged out over the whole or part of the contract.

For instance, the purchase agreement may contain a make-up clause. Essentially,

if in one year the minimum quantity has been taken then the buyer may take free of

charge quantities of gas not taken in previous years.5

The contract may also contain a carry forward clause, which stipulates that a

buyer that takes more than the minimum required quantity in any one year might carry

forward the balance and offset it against obligations from following years.6

1 M., Brothwood, The EU Gas Directive and Take or Pay Contracts, [1998] 8 OGLTR 318, p.

318. 2 H., Davey, “Take or Pay” and “Send or Pay”: A Legal Review and Long-Term Prognosis,

[1997] 11 OGLTR 419, p. 419. 3 Ibid. 4 Ibid. 5 Ibid. 6 Ibid.


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2.2 Background to the Take-or-Pay Provision

TOP provisions have first been introduced in US gas sales contracts as a way to

protect gas producers against cyclical market conditions. Indeed, without such provisions,

producers will see their wells shut-in when demand for gas is low, especially in summer

periods. As a consequence of shut-in wells, gas producers suffer enormous financial

difficulties. They may have difficulties servicing their bank debts and can become unable

to meet gas field operating costs and taxes.7

3. Introducing Competition in Gas Markets: From Monopoly to Competition

3.1 Development Stages of a Gas Industry: The Pre-Competition Phase

The gas industry has been for a long time the perfect example of natural

monopolies. This is explained by the high infrastructure costs and the desire of States to

regulate through ownership.

“A gas transportation system involves huge sums of investment and little or no salvage

value, in general pipelines are protected by appreciable barriers to entry and face high barriers to

exit. Therefore, once established, a pipeline is often in a good position to exercise market power.

In some government’s view this in itself is an argument for regulatory supervision.” 8

Javier Estrada, Arild Moe and Kare Dahl Martinsen have identified five different

stages that gas industries tend to go through from their birth to their achievement of full

competition. These are: the ‘infancy’, the ‘childhood’, the ‘adolescence’, the ‘transition

towards maturity’ and the ‘maturity’ stages.9 The Estrada study concludes that, generally,

competition is introduced late in the development of a gas industry, only in the stage of

‘transition towards maturity’.10 Until this stage, TOP provisions are inevitable and even

desirable in the monopoly market model. Indeed, under this model, not only such

provisions are risk-free but they also help reduce costs.11

7 T. G., Johnson, Natural Gas Sales Contracts, [1983] 34 IOGLT 83, pp. 108-110. 8 International Energy Agency, Natural Gas Transportation: Organisation and Regulation, p. 69. 9 J., Estrada, et al., The Development of European Gas Markets, pp. 19-31. 10 Ibid. 11 S., Hampshire, and S. A., Wardlaw, The EU Gas Liberalisation Directive: Facing the Future,

[1998] 8 OGLTR 295, p. 297.


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The ‘transition towards maturity’ stage is really where the EU could now be

situated. In this stage, natural gas has been able to penetrate all profitable segments of the

market and now authorities are under national and foreign pressure to break-up

monopolies. Interestingly, liberalisation has been on the agenda since the mid-1970s not

only in the energy sector but in various other sectors as well. The justification behind this

tendency is that competition leads firms to greater economic efficiency and the lowering

of prices so they reflect the cost of supply. Furthermore, politicians perceive monopoly in

gas transmission as an obstacle to inter-regional trade.12

Therefore, an alternative model must substitute the monopoly model in order to

achieve gas-to-gas competition. The literature has identified different competitive models

that can be adopted (Please refer to Annex A). These models will be examined in the next

point. 13

3.2 The Main Competitive Market Models

As it is clearly demonstrated in the North American experience, gas-to-gas

competition must inevitably be introduced through some government intervention to

protect the new entrants and to break up natural monopolies. There are mainly two

models that policy-makers may adopt to achieve gas-to-gas competition: pipeline-to-

pipeline competition or mandatory third party access (TPA). These two models have

different degrees of market opening and different levels of competitive pressure.14

3.2.1 Pipeline-to-Pipeline Competition

Under the first alternative, liberalisation can be achieved through the introduction

of pipeline-to-pipeline competition. Here, new transmission companies are allowed to

build competing pipelines to those already in place. The threat of new pipeline

construction is believed to help limit prices and excess profits, even when prices are not

12 International Energy Agency, Natural Gas Distribution: Focus on Western Europe, p. 22. 13 International Energy Agency, Natural Gas Pricing in Competitive Markets, pp. 21-22. 14 International Energy Agency, supra note 12, p. 21.


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directly regulated. This model has been adopted to a certain extent in Germany, where

Wingas competes between Ruhrgas for gas sales to the industry.15

This first suggested model has suffered heavy criticism on the grounds that the

already established gas pipelines will enjoy initial economic advantages. Indeed, not only

their infrastructure has been partially or totally amortized but they also count on the

required gas supplies to maximize pipeline use.16

Further, it is feared that this model will simply lead to a duopoly instead of a

monopoly or to an oligopoly instead of a duopoly. In fact, as demand grows, the situation

between the pipelines may become that of complementarity instead of a competitive

one.17

3.2.2 Mandatory Third Party Access

The second competitive model, mandatory TPA, can be either directed solely at

the transmission system or it can cover part or all of the regional and local distribution

system as well.18

Under the first possibility, there is competition in the wholesale and bulk markets.

TPA is non-discriminatory. Transportation services are unbundled from gas sales

activities. Shippers, which may include producers, traders and end-users may use the

pipeline grids upon payment for the use of the system. The required charges may be

regulated or left to negotiations.19

Under the second hypothesis, mandatory TPA is expanded to the retail level to

cover distribution networks. Here, there is no price control on gas sales. Transportation

and gas sales are unbundled at all levels. Moreover, all end-users are free to select their

15 International Energy Agency, supra note 13, p. 21. 16 J., Estrada, et al., supra note 9, p. 25. 17 Ibid. 18 International Energy Agency, supra note 13, p. 21.


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supplier. Presently, only the United Kingdom has achieved this level of competition. As a

matter of fact, such competition in retail is not fully implemented in the US and Canada

since it is not available to small-scale end-users.20

3.3 The 1998 EU Gas Directive and the New Gas Market Model

Directive 91/296/EEC of 31 May 1991 on the transit of natural gas through grids

and Directive 90/377/EEC of 29 June 1990 concerning a Community procedure to

improve the transparency of gas and electricity prices charged to industrial end-users

constituted what the EU considers as the first phase of the completion of the internal

market in natural gas.21 Directive 98/30/EC concerning common rules for the internal

market in natural gas (hereafter referred to as the 1998 EU gas Directive) is a giant step

in the same direction.

The 1998 EU gas Directive will drastically alter the balance of power in the

European gas industries’ contractual matrix. Indeed, it was adopted as an expansion of

the EU’s raison d’être to the gas sector: the establishment of a single market “without

internal frontiers in which the free movement of goods, persons, services and capital is

ensured”22. In other words:

“[t]he directive aims at creating an internal market for natural gas in the European

Union, which means opening the national gas markets to one another. As such, it obliges

the EU Member States to open their gas markets at least to the extent required by its

provisions and rules.”23

In content, the 1998 EU Gas Directive permits new entrants to build pipelines.24

The Directive also allows, unless a derogation is justified, all natural gas undertakings25

and certain large customers to access existing pipeline networks and storage facilities.26

19 International Energy Agency, supra note 13, p. 21. 20 Ibid, p. 22. 21 Directive 98/30/EC, Preamble, art. 4. 22 1998 EU Directive, Preamble, art. 1. 23 International Energy Agency, supra note 12, p. 25. 24 Article 4. 25 Please refer to Article 2 (1) of the 1998 EU Gas Directive for a definition. 26 This includes gas-fired power generators, irrespective of their annual consumption level and

other final customers consuming more than 25 million cubic metres of gas per year on a


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As stated in Article 1427, Member States may choose either negotiated access or

regulated access or both procedures for the organization of access to the system. Under

the negotiated access procedure, outlined in Article 15, the parties must enter into

commercial negotiations for access. Moreover, as imposed by the second paragraph of

the same Article, gas companies must publish their main commercial conditions for the

use of the system. Under the regulated access procedure, outlined in Article 16, Member

States shall take the necessary measures to provide access on the “basis of published

tariffs and/or other terms and obligations for use of that system”.

The 1998 EU Gas Directive sets minimum levels of market openings, as

enunciated in Article 18.

The obligations contained in Articles 14 to 16 are subject to various possible

derogations. These are mainly: TOP derogations28, derogations for Member States

dependent on one main external supplier for a market share exceeding 75%29, derogations

for Member States not connected with the system of other Member States30, derogations

for emergent markets31, derogations for public service obligations32. For the purposes of

this paper, only TOP derogations will be examined. The procedure required to obtain a

TOP derogation will be outlined in chapter 4.1.2 of this paper.

One further requirement of the 1998 EU Gas Directive is the unbundling by gas

utilities of their internal accounts for transmission, distribution, storage, and where

appropriate non-gas activities.33

consumption-site basis. Local distribution companies (LDCs) are therefore not eligible consumers

for TPA. Please refer to Article 18 (2) of the 1998 EU Gas Directive. 27 Pertinent Articles are reproduced in Annex B 28 Articles 17 and 25. 29 Article 26 (1). 30 Article 26 (1). 31 Article 26 (2). 32 Article 17. 33 Articles 12 and 13.


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The Commission already notes the following results from opening up the EU gas market:

“More Member States than expected (eight) have chosen regulated TPA rather than negotiated

TPA to the network and have also gone further with regard to unbundling and independence of

gas TSOs (transmission system operators) than required by the Directive.”34

4. The Consequences of Gas-to-Gas Competition Introduction

4.1.1 Potential Effects on Existing Gas Purchase Contracts: The Take-or-Pay

Dilemma

Without competition, there is no problem since only one single company plans

supply and demand and ensures against serious imbalances.35 However, when

competition is introduced in a gas market, the result may be chaos and significant amount

of money being paid for gas that has not been taken. What typically happens is that new

gas traders purchase gas from new gas fields and thus, increasing the supply while

demand remains constant.36

For instance, when competition was introduced in the United States, the only way

gas merchants were able to seize short-term increases in demand was by engaging in new

long-term gas purchase contracts, which included TOP obligations. However, in 1981, as

supply exceeded demand and as spot prices fell, pipeline companies could not take nor

pay anymore. 37

In the United Kingdom, a similar TOP crisis occurred when competition was

introduced. Indeed, when British Gas38 (BG) still had the monopoly of the gas market, it

signed numerous TOP provisions with gas producers. However, as BG’s market share

34 Communication from the Commission to the Council and the European Parliament, Completing

the Internal Energy Market, Annex 2. 35 J. S. Huggins, ‘Take or Pay’ Gas Contracts: Is Disaster Looming?, [1996] 3 OGLTR 99, p.

100. 36 Ibid., p. 102. 37 International Energy Agency, supra note 8, p. 76. 38 BG was later succeeded by Centrica.


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shrank due to competition, it could not take the contracted gas quantities. Eventually and

by the end of 1997, these contracts were renegotiated at a cost of over 750 million B.P.39

It should be noted that, according to legal doctrine, the introduction of

competition does not seem to equate to force majeure and does not relieve gas buyers

from their TOP obligations.40

Jonathan P. Stern has summarized the TOP Problem posed by gas-to-gas

competition in a table format. This table is reproduced in Annex C. According to the

table, the most difficult TOP problems occur where producers are competing for existing

and new markets through the same transmission networks.41

4.1.2 Possible Remedies Against the Take-or-Pay Problem

In order to mitigate the TOP dilemma, some scholars have advanced a solution

that could be quite effective. As they noted:

“The issue of stranded long term contracts can be tackled through market mechanisms.

For example, if a gas company would like to be relieved of one of its long term contracts

[and of its TOP obligations], the corresponding obligation could be taken by the state

which could then auction the contract to all market participants. Any difference in value

arising from the sale, as compared to the initial contractual price clauses, will then

become a stranded cost to be recovered from the totality of the gas users (or the tax

payers).”42

Another solution would be to share the TOP burden with new gas traders, even if

these haven’t entered the market yet. This solution was used in Western Australia in

prevision of the introduction of competition and before the materialization of a TOP

crisis.43

Sharing the problem with the producers is another avenue possible in resolving

39 J. P., Stern, Competition and Liberalization in European Gas Markets, p. 128. 40 J. S. Huggins, supra note 35, p. 103. 41 International Energy Agency, supra note 8, p. 96. 42 International Energy Agency, supra note 12, p. 107. 43 J. S. Huggins, supra note 35, p. 102.


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the TOP dilemma. Actually, it was the solution used in Canada but it was justified by

special circumstances. As it happens, TransCanada Pipelines was on the verge of

bankruptcy and stopped paying its bills to producers. In reaction, these producers

accepted to carry part of the burden since they would have lost more if TransCanada

Pipelines was in effect declared bankrupt.44

The mechanism adopted by the EU to avoid the TOP problem is the following:

Article 17 of the 1998 EU Gas Directive allows a natural gas undertaking to refuse access

“on the basis of serious economic and financial difficulties with take-or-pay contracts

having regard to the criteria and procedures set out in Article 25”. Now according to

Paragraph 1 of Article 25, “[i]f a natural gas undertaking encounters, or considers it

would encounter, serious economic and financial difficulties because of its take-or-pay

commitments accepted in one or more gas-purchase contracts, an application for a

temporary derogation from Article 15 and/or Article 16 may be sent to the Member State

concerned or the designated competent authority.” If the Member State grants a

derogation, then it has to notify the Commission without delay of its decision. Paragraph

2 of Article 25 imposes this obligation.

In deciding whether to grant a derogation or not, the competent authority of the

Member State must take into account the criteria set in Paragraph 3 of Article 25

(reproduced in Annex B). Interestingly, it was concluded in the Madrid Forum that

derogations should not be granted for newly concluded contracts.45

4.2 Potential Effects on Future Gas Purchase Contracts

What any policy-maker hopes to achieve when introducing competition is to see

TOP provisions become less common and less onerous.46 Under the competitive model,

small players will be contracting for the purchase of smaller quantities of gas. Such

expectations are to a certain extent legitimate since they have indeed been achieved in

44 Ibid. 45 P., Cameron, Effects of the Madrid Forum on the EU Gas Market, p. 20. 46 International Energy Agency, supra note 13, p. 48.


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industries that have introduced competition some years back.

For example, in the Canadian experience, the introduction of mandatory TPA in

1985 has significantly reduced the volumes of gas sold under long-term contracts. As the

International Energy Agency notes:

“In 1985 the total long-term contract volume constituted around 88% of total marketed

gas production in Canada, then 96.4 bcm. By 1991, the share had declined to around 56%

while the total marketed production had grown to 131.3 bcm.”47

The Canadian experience also denoted a decline in the number of contracts

containing TOP provisions and a reduction of TOP thresholds. Annex D shows the

Canadian volumes backed by TOP before and after the introduction of mandatory TPA.

Undoubtedly, a more important quantity of gas will be purchased via the spot

markets. As the Commission notes:

“[n]ew financial instruments are emerging in the gas market which may underpin the

financing of future gas supply for Europe complementary to take-or-pay contracts.”48

Forward purchase agreements and futures are good examples of these new

financial instruments.49

Various new mechanisms have been introduced into gas sales contracts in order to

reach a more equitable balance between the obligations of sellers and buyers. Examples

of these mechanisms are: pipeline demand charges, disposition of unused pipeline

capacity, no self-displacement clauses, buyer’s and/or seller’s right to reduce contract

quantities, operational demand volume adjustment, dedicated reserves, corporate

warranties, seller indemnities, etc.50

47 International Energy Agency, supra note 8, p. 113. 48 Communication from the Commission to the Council and the European Parliament, Completing

the Internal Energy Market, Annex 9. 49 S., Hampshire, and S. A., Wardlaw, supra note 11, p. 297. 50 For a description of these mechanisms, please refer to International Energy Agency, supra note

8, pp. 121-124.


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5. Concerns with the EU Solution

The EU is conscious that an internal market in natural gas needs to be established

gradually. This is essential in order to enable the industry to adjust in a flexible and

orderly manner to its new environment and in order to take account of the different

market structures in the Member States.51 Here, the EU acted rightfully since its Member

States will need time to merge their gas interests. It is important to understand that for a

long time it was a contradiction in terms to speak of an inter-regional gas industry. The

cost of transporting gas from one region to the other was just too uneconomical.

The EU is also conscious that the external supply of natural gas is of particular

importance to Member States highly dependent on gas imports.52

However, there is a contradiction. On one hand, the EU is concerned with its

security of supply and on the other hand, it imposes indirectly and unilaterally

unfavourable conditions on its external suppliers. It must be stressed that by 2020,

Europe will be importing 57% of its gas from external producers.53 As the Council of the

European Council concluded in one of its meetings:

“A laissez faire approach would lead to very great reliance on imports, especially from

Russia, which would expose the European Union to the possibility of supply interruptions

disrupting the gas and electricity industries simultaneously.”54

The EU cannot hope to accomplish as promptly the levels of competition

achieved in the US, Canada or even the UK. The reasons are manifold. First of all, the

EU cannot solve the problem of TOP provisions unilaterally even if it had the consensus

of all its Member States. The future of TOP provisions is also dependent upon the will of

main suppliers such as Russia, Algeria and the Middle East. Moreover, the EU must

balance the interests of 15 players, not counting those of its external suppliers and not

51 Directive 98/30/EC, Preamble, art. 7. 52 Directive 98/30/EC, Preamble, art. 10. 53Anonymous, Power “To Overtake Oil by 2015” in European Gas Pricing, [1999] 10:16 WGI

10, p. 10. 54 Council of the European Union, Press Release 8835/00 (Presse 186-G), 2267th Council

Meeting, Brussels, May 30, 2000.


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counting possible expansions. The natural gas that flows to a consumer in the UK is

likely to travel a much shorter distance than gas travelling to a consumer in France. While

the UK is self sufficient in terms of supplies55, France imports 93% of its gas supplies.

Indeed, 26.8% of total French gas supplies come from Russia, 25.4% from Algeria and

29.2% from Norway.56 When the UK is said to have experienced a TOP crisis, at least the

money stayed in large amounts in British hands. The situation would be much more

dramatic in France where a TOP crisis will mean the flow of large amounts of money

outside of France and even outside of the European Union and into the hands of foreign

suppliers.

Additionally, taking into account the transportation distances, it is fair to say that

France pays much less for gas imported from Norway than from Russia. If French

(eligible) consumers could select the source of the natural gas they use, who would want

to buy gas from Russia if Norwegian gas is available at a much cheaper price? What

keeps a large consumer from buying its gas directly from Norwegian gas fields instead of

even resorting to spot markets?

If it were not for its gradual implementation and for its numerous possible

derogations, the EU would have witnessed complete chaos. It is unlikely that Algeria and

Russia will feel comfortable to sell their gas to hundreds of little (eligible) European

customers. For one, Algeria and Russia will have to conduct verifications for available

credit. Furthermore, if these customers pool together, then antitrust concerns are raised.

As E.-J. Mestmacker notes:

“In connection with state supervision of the gas industry, Member States often implement

restrictions on competition through public or private measures. However, the fact that

special rules apply in Member States does not mean that the rules on competition under

Community law (articles 85-90) cannot be applied to companies in the gas industry”. 57

6. Conclusion

55 The UK imports only 5% of its gas supplies from Norway. 56 International Energy Agency, supra note 12, pp. 145 and 237. 57 E.-J., Mestmacker, Natural Gas in the European Internal market: A Comparative Analysis

Common Carriage and Price Transparency, [1990] 11 MIJIL 691, p. 705.


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The EU probably did not need competition in the first place to reduce consumer

prices. Scholars have been predicting for a while now the materialization in the near

future (around the year 2010) of a Russian gas bubble.58 In other words, it is expected

that around the year 2010, Russian gas supplies will exceed European gas demand. Under

such a scenario, the dumping of Russian gas into Europe will have as an effect the

significant reduction of gas prices.

Nevertheless, the EU is determined to introduce competition and in doing so, the

TOP issue is not negligible. The 1998 EU Gas Directive is brilliant and takes into account

the experience of other gas markets that have already introduced competition. However,

Europe as a whole, unlike Canada, Western Australia or the UK, is dependent on foreign

imports. Therefore, security of supply is a major concern. Competition should be

introduced in a way that foreign suppliers do not decide to go sell their gas elsewhere, in

the emerging Asian markets for example.

Certainly, Asia is not as financially stable as Europe. Just some years back, in

1997 it was hit by a financial crisis. Nevertheless, Russia and other large gas producers

are negotiating with relatively large players, mainly state-companies that are ready to

sign TOP provisions and thus, offer a security of market.

Furthermore, TOP provisions are justified by the high cost of gas projects,

especially in the new Liquefied Natural Gas (LNG) era. Without TOP provisions,

investors (often foreign supply companies) might feel that there are not enough

guarantees of adequate returns on their investment.

Therefore, for all of the above reasons, this paper concludes that TOP provisions

will most likely “remain a key feature of the EU gas industry”59. The EU is expecting

58 Please read on this topic J. P., Stern, The Russian Gas Bubble: Consequences for European Gas

Markets. 59 C., Spottiswoode, UK Gas Deregulation - There’s More in the Pipeline, [1998] 65:10

Petroleum Economist 20, p. 20.


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small European gas undertakings with reduced bargaining powers to negotiate gas

purchase agreements with large suppliers such as Gazprom without the inclusion of TOP

provisions. Is this realistic?


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Annex A

Main Competitive Models

International Energy Agency, Natural Gas Pricing in Competitive Markets, p. 22


19

Annex B

Selected Articles from Directive 98/30/EC concerning common rules for

the internal market in natural gas, 22 June 1998

Preamble - Article 30 Whereas long-term take-or-pay contracts are a market reality for securing Member States'gas supply

whereas, in particular, provision should be made for derogations from certain provisions of this Directive in

the case of a natural gas undertaking which is or would be in serious economic difficulties because of its

take-or-pay obligations whereas these derogations should not undermine the purpose of this Directive to

liberalise the internal market in natural gas whereas any take-or-pay contracts entered into or renewed

after the entry into force of this Directive should be concluded prudently in order not to hamper a

significant opening of the market whereas, therefore, such derogations should be limited in time and scope

and granted in a transparent manner, under the supervision of the Commission.

Article 15 1. In the case of negotiated access, Member States shall take the necessary measures for natural gas

undertakings and eligible customers either inside or outside the territory covered by the interconnected

system to be able to negotiate access to the system so as to conclude supply contracts with each other on

the basis of voluntary commercial agreements. The parties shall be obliged to negotiate access to the

system in good faith.

2. The contracts for access to the system shall be negotiated with the relevant natural gas undertakings.

Member States shall require natural gas undertakings to publish their main commercial conditions for the

use of the system within the first year following implementation of this Directive and on an annual basis

every year thereafter.

Article 16 Member States opting for a procedure of regulated access shall take the necessary measures to give natural

gas undertakings and eligible customers either inside or outside the territory covered by the interconnected

system a right of access to the system, on the basis of published tariffs and/or other terms and obligations

for use of that system. This right of access for eligible customers may be given by enabling them to enter

into supply contracts with competing natural gas undertakings other than the owner and/or operator of the

system or a related undertaking.

Article 17 1. Natural gas undertakings may refuse access to the system on the basis of lack of capacity or where the

access to the system would prevent them from carrying out the public-service obligations referred to in

Article 3(2) which are assigned to them or on the basis of serious economic and financial difficulties with

take-or-pay contracts having regard to the criteria and procedures set out in Article 25 and the alternative

chosen by the Member State according to paragraph 1 of that Article. Duly substantiated reasons shall be

given for such a refusal.

2. Member States may take the measures necessary to ensure that the natural gas undertaking refusing

access to the system on the basis of lack of capacity or a lack of connection shall make the necessary

enhancements as far as it is economical to do so or when a potential customer is willing to pay for them. In

circumstances where Member States apply Article 4(4), Member States shall take such measures.


20

Article 25 1. If a natural gas undertaking encounters, or considers it would encounter, serious economic and

financial difficulties because of its take-or-pay commitments accepted in one or more gas-purchase

contracts, an application for a temporary derogation from Article 15 and/or Article 16 may be sent to the

Member State concerned or the designated competent authority. Applications shall, according to the choice

of Member States, be presented on a case-by-case basis either before or after refusal of access to the

system. Member States may also give the natural gas undertaking the choice to present an application

either before or after refusal of access to the system. Where a natural gas undertaking has refused access,

the application shall be presented without delay. The applications shall be accompanied by all relevant

information on the nature and extent of the problem and on the efforts undertaken by the gas undertaking

to solve the problem.

If alternative solutions are not reasonably available, and taking into account the provisions of paragraph 3,

the Member State or the designated competent authority may decide to grant a derogation.

2. The Member State, or the designated competent authority, shall notify the Commission without delay of

its decision to grant a derogation, together with all the relevant information with respect to the derogation.

This information may be submitted to the Commission in an aggregated form, enabling the Commission to

reach a well-founded decision. Within four weeks of its receipt of this notification, the Commission may

request that the Member State or the designated competent authority concerned amend or withdraw the

decision to grant a derogation. If the Member State or the designated competent authority concerned does

not comply with this request within a period of four weeks, a final decision shall be taken expeditiously in

accordance with procedure I of Article 2 of Decision 87/373/EEC.

The Commission shall preserve the confidentiality of commercially sensitive information.

3. When deciding on the derogations referred to in paragraph 1, the Member State, or the designated

competent authority, and the Commission shall take into account, in particular, the following criteria:

(a) the objective to achieve a competitive gas market

(b) the need to fulfil public-service obligations and to ensure security of supply

(c) the position of the natural gas undertaking in the gas market and the actual state of competition in this

market

(d) the seriousness of the economic and financial difficulties encountered by natural gas undertakings and

transmission undertakings or eligible customers

(e) the dates of signature and terms of the contract in question, including the extent to which they allow for

market changes

(f) the efforts made to find a solution to the problem

(g) the extent to which, when accepting the take-or-pay commitments in question, the undertaking could

reasonably have foreseen, having regard to the provisions of this Directive, that serious difficulties were

likely to arise

(h) the level of connection of the system with other systems and the degree of interoperability of these

systems and

(i) the effects the granting of a derogation would have on the correct application of this Directive as

regards the smooth functioning of the internal natural gas market.

A decision on a request for a derogation concerning take-or-pay contracts concluded before the entry

http://uk.westlaw.com/Find/Default.wl?rs=WLUK1.0&vr=2.0&FindType=Y&SerialNum=0117481164


21

into force of this Directive should not lead to a situation in which it is impossible to find economically

viable alternative outlets. Serious difficulties shall in any case be deemed not to exist when the sales of

natural gas do not fall below the level of minimum offtake guarantees contained in gas-purchase take-or-

pay contracts or in so far as the relevant gas-purchase take-or-pay contract can be adapted or the natural

gas undertaking is able to find alternative outlets.

4. Natural gas undertakings which have not been granted a derogation as referred to in paragraph 1 shall

not refuse, or shall no longer refuse, access to the system because of take-or-pay commitments accepted

in a gas purchase contract. Member States shall ensure that the relevant provisions of Chapter VI are

complied with.

5. Any derogation granted under the above provisions shall be duly substantiated. The Commission shall

publish the decision in the Official Journal of the European Communities.

6. The Commission shall, within five years of the entry into force of this Directive, submit a review report

on the experience gained from the application of this Article, so as to allow the European Parliament and

the Council to consider, in due course, the need to adjust it.


22

Annex C

TOP and Capacity Problems Posed by Competition Table Prepared by Jonathan P. Stern and reprinted in International Energy Agency,

Natural Gas Transportation: Organisation and Regulation, p. 94


23

Annex D

Long-Term Canadian Gas Contract Volumes Backed by TOP, by Type

of Purchaser International Energy Agency, Natural Gas Transportation: Organisation and Regulation,

p. 115


24

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27

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http://www.gasandoil.com/goc/news/nte75022.htm


28

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Government & Nonprofit

Zaid Mahayni - Future of Take-or-Pay Provisions in a Liberalized European Gas Market - CEPMLP 2000-2001