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The mechanics of price reviews in LNG SPAs

​“Objective tests need to be considered in the context of time and allow for short term fluctuations, without constantly triggering a review.”

Given the 15 to 20 year contract term of most long term LNG sale and purchase agreements (LNG SPAs), and in recent years, oil and LNG price volatility, many LNG SPAs contain price review mechanics to reset or renegotiate the contract price upon the occurrence of a particular event, or a defined circumstance.

In order to optimise their effectiveness (and minimise the scope for disputes), price review mechanism in LNG SPAs should clearly set out:

  • the price review trigger: in particular:
    • timing: does the price review take place (i) automatically at specified times or frequencies (ii) on the occurrence of a particular change in circumstances (either subjectively or objectively tested) or (iii) at specified times or frequencies provided there has been a change in circumstances;

    • circumstances: the parties should carefully consider subjective triggers involving “substantial”, “significant” or “material” changes in “economic circumstances”, “market circumstances” or the “energy market” of the buyer or seller which can easily lead to dispute as to whether the trigger has been reached. Objective tests need to be considered in the context of time and allow for short term fluctuations without constantly triggering a review.

  • scope of price review: is the implementation of the price review subject to the agreement of the parties (is it essentially an agreement to agree or the result of good faith negotiations), or is it a mandatory process? What is the desired outcome of the review? Does it require an “equitable adjustment” or a re-set to “market” or “comparable LNG sales”? If a market based test is used for the re-set, what is the “market”? How do the parties get access to market information, particularly given the strict confidentiality that exists in the LNG market? Over what time period is the “market” assessed? Needless to say, buyers and sellers generally have substantially different views on what comprises the “market”. What parts of the pricing review mechanism are subject to review? For example, does the mechanism examine the relevant index (e.g. JCC) and, in particular, the method of calculation of the index for the purposes of the contract price formula or is it limited to narrow aspects, such as to the slope, constant and/or inflection point components of an “S-curve” formula, within a contract price mechanism?
  • mechanics for implementation of the price review: while most price review mechanisms commence with “good faith” negotiations, given the very real possibility of disagreement in price review negotiations, contractual mechanisms for resolving deadlocks need to be considered and, ideally, incorporated - including the appointment of an arbitrator or expert. Parties should consider carefully what information can and needs to be disclosed to any independent third party as part of the process,