June 16, 2016

1/3LY oil & gas disputes: Gas price reopeners – Is there a better way?

Most long-term gas supply agreements contain a mechanism for determining the contract price for the supply of gas, usually by reference to external factors such as the oil price, or more recently, the price at a specific trading hub. Such agreements also normally contain price review mechanisms to deal with changes in circumstances over the contract term. When triggered, these provisions require the parties to attempt to renegotiate the contract price to reflect those different circumstances or, failing agreement within a specified period, to refer the request for a price review to arbitration.

There are many reasons why arbitration became the default option for breaking the deadlock in price reopener negotiations. Arbitration offers numerous advantages over the obvious alternative, litigation: the ability to appoint ‘expert’ arbitrators; a speedier resolution; enforceability of arbitral awards in different jurisdictions, afforded by the New York Convention; and confidentiality which, in commercially sensitive matters such as pricing, is essential.

The problems with arbitration

Reality seldom reflects the theory. Many parties’ experience of gas price review arbitrations has been a lengthy and frustrating process which gets bogged down in technical legal arguments. Among the problems are the following:

  • In practice, the parties seldom appoint anyone other than a lawyer as an arbitrator, and even then, one of a small group of experts in the field. This could be because the arbitration clause requires it (demonstrating a disconnect between the lawyer who drafted the clause and the lawyer who will conduct the arbitration); or because the parties are cautious, wanting the security of an experienced lawyer to administer what is a legal process; or because of simple laziness of thought, a "this is the way we do things in arbitrations" approach. Sometimes it is because the parties want to run technical legal arguments rather than engage on the economic merits.
  • Choosing one of the small band of "expert" lawyer arbitrators creates its own set of problems:
    • First, a tribunal of "expert" arbitrators, who are involved in a large number of gas price arbitrations, will have less availability which can cause delays.
    • Secondly, in an industry where there are a limited number of participants who all trade with one another, the chance of there being a conflict of interest of the type appearing on the IBA Guidelines’ Red or Orange Lists is increased.
    • Finally, a tribunal of lawyers will require expert economic evidence, which will often be voluminous and expensive.
  • The parties’ legal representatives, and the arbitrators themselves, can often approach a gas price review arbitration mechanically i.e. as if it were an international commercial arbitration relating to a breach of contract/tort/restitution etc. claim. Arbitrations are often run without recognising there is no true "dispute" and neither party is "at fault" – this is a mechanism to bring a deadlocked renegotiation process to a conclusion. That can result in the parties producing unnecessary evidence, and/or adopting a timetable which could be dramatically shortened with a bit of creative, focussed thought.

  • The fact that the price renegotiation issue will be referred to arbitration can encourage a party to stall, or not engage properly with, the negotiation process. A party may know that it is weak on commercial/economic arguments but has a reasonable technical legal argument (e.g. the price review notice was not served on the correct address), or has spotted that the tribunal’s terms of reference are limited such that the award they can render will be less harmful than the result of a negotiated deal. It might simply be that one party can bear the cost of a lengthy arbitration better than the other party, so it can use this pressure to negotiate a better deal some time into the arbitral process

Instead of the arbitration being a speedy, cheap and expertly-determined conclusion to a consensual negotiation process, it can actually subvert that process and become a Pandora’s box of cost, delay, procedural applications, jurisdictional challenges and tactical manoeuvring.

In the following we look at two alternative methods of dispute resolution – expert determination and Med-Arb – and assess their suitability in resolving gas price reopener disputes.