The Supreme Court of Norway has upheld the validity of reduced tariffs for the transportation of gas and confirmed the state’s wide discretion in exercising its regulatory authority. The Court’s decision is summarised in our previous Law Now (available here). One basis on which the tariff reduction was challenged was that it breached the European Convention on Human Rights (“ECHR”), in particular, the right to peaceful enjoyment of possessions under Article 1 of the first Protocol (“A1P1”). The Court thought it possible that there was interference with protected possessions, but determined that such interference was not disproportionate such as to constitute a breach of ECHR A1P1. As the UKCS regulator starts to make use of its powers, it is interesting to consider whether there are useful parallels regarding the potential relevance of ECHR A1P1 to be drawn for the UKCS.
The world’s biggest offshore system for the transportation and processing of gas is owned by ‘Gassled’, a joint venture established in 2003. Nearly all Norwegian gas sold to the United Kingdom and Central Europe is transported through the Gassled system. The tariff paid by third parties for shipment through the network is set by certain regulations (the “Tariff Regulations”). In 2013, the Norwegian Ministry of Petroleum and Energy (the “MPE”) amended the Tariff Regulations, reducing the tariffs Gassled owners were able to charge for new contracts from 1 October 2016 – substantially reducing Gassled’s future income. Four Norwegian companies with a 45% total ownership interest in Gassled (the “Appellants”) claimed that the amendment of the Tariff Regulations was invalid and that the State was liable for the loss of revenues they incurred.
The Appellants’ arguments in the Supreme Court
Before the Supreme Court, the Appellants contended that the amendment of the Tariff Regulations (i) went beyond the scope of its legal basis; and, in any event, (ii) interfered with the Appellants’ right to enjoy their possessions under ECHR A1P1. The former argument is discussed in our previous Law Now (available here).
On the latter, the Appellants contended that an A1P1 breach comprised any interference with ownership rights to existing property, including the right to a return on the possessions in question. The ‘possessions’ in this instance were the licences granted to Gassled; the positive economic value of ownership in the gas network lay in the expectation that the licences would generate future shipment revenues.
It was argued that extensive European Court of Human Rights (“ECtHR”) case law demonstrated that various forms of price control had been regarded as interference. If that interference was to be legitimate, it must be foreseeable and not disproportionate. The Appellants claimed they acquired Gassled ownership interests in the belief that the tariffs would remain stable throughout the licence period. They had no realistic chance of predicting if or when the tariffs would be adjusted, or how large any such adjustments would be.
Moreover, the tariff adjustments were said to be disproportionate in that they subjected the Appellants to an individual and disproportionate burden, involving a transfer of substantial value from infrastructure owners to the shippers. Exacerbating matters, the four Appellants raising the claim were the only Gassled owners with no shipping interests; their complaint was that they bore the entire burden of the adjustments.
The Decision of the Supreme Court
Ultimately, the Court did not reach a final view on whether there had been an interference with the Appellants’ property rights falling within the scope of A1P1. It considered it was possible there had been interference largely because of a lack of transparency before 2013 as to the approach or method that would be used to calculate prospective returns and therefore assess whether the tariff should be adjusted. It did determine, however, that even if there had been an interference, the amendment of the Tariff Regulations could not be said to be disproportionate and so there was no breach, for three key reasons:
- The Appellants had knowledge of the tariff regime and were aware of the risk of adjustments when they acquired their ownership interests. The Court appears to have taken into account that a considerable due diligence exercise including assessment of regulatory risk had been undertaken in connection with the Appellants’ acquisitions. The Supreme Court stated that: “the fact that a well-known risk is realised for one of the parties to a contract cannot be given much weight in a proportionality assessment under P1-1. The parties themselves may consider the risk in their negotiations on price and other terms”.
- The MPE’s decision to reduce the tariff was well-founded. It was said to have provided an “exhaustive” explanation in favour of the tariff adjustments. There had been an extensive consultation exercise to which the Appellants had responded; in those responses they did not raise any arguments relating to A1P1. The balance between individual and community interests was acceptable. The court found no reason to suggest that the MPE had based its decision on illegitimate considerations, and quoted from the regulator’s policy documents in reaching this finding, notwithstanding some criticism of the lack of transparency from the MPE in earlier years.
- The adjustment had not affected the Appellants particularly harshly:
- Most of the capacity until the licence period expires at the end of 2028 had already been booked before 1 July 2013 and was therefore not affected by the change;
- The tariff revenues for those shipper agreements already entered into are approximately NOK 112 billion, which provides substantial income;
- The MPE did not reduce the new capital element of the tariff to zero, even though the prospective rate of return had been recovered. The owners will still have substantial income under the new shipper agreements, estimated at NOK 10 billion;
- There will still be a real return of around 7% on new integrity investments (i.e. those investments that are required to preserve the integrity of the Gassled system); and
- The MPE postponed the implementation of the tariff regulation until shipments after 1 October 2016, which constituted a compensatory value for the Appellants of approximately NOK 5 billion.
The Court found that all operating costs during the licence period to 2028 will be covered by separate components in the tariff formula, despite the reduced capital element of the formula. As a result, the Appellants had and will receive a real return of around 7% for the aggregate investments in Gassled – which the Court had already decided to be a “reasonable” return.
The Court considered the legitimate expectations the Appellants had as to the future economic exploitation of their ownership, given the overall regulatory set of rules that applied. It was found that they had no legitimate expectation that the tariffs for future agreements would remain unchanged. They had in fact accepted that in the lower courts. As the UK industry moves towards increased mid-stream ownership of infrastructure unrelated to production interests, companies entering into commercial negotiations in the UKCS would be equally well advised to keep one eye on the potential effects of any possible regulatory changes or decisions on rates and costs.
However, the judgment reinforces the principle in Norwegian legislation that “profit is earned from the fields and not the infrastructure”. It is not clear that the UK regulator shares the same view. Unlike in Norway, the state does not have any ownership interest in the UKCS infrastructure. The OGA has encouraged various new investment structures since its inception, including arm’s length or separate ownership of mid-stream infrastructure by non-traditional owners, backed by private equity finance. For those new approaches to work commercially, it is necessary that the infrastructure can be treated as a separate profit centre in its own right, rather than (as has traditionally been the case) an adjunct to core production business.
Arguably the greatest differentiating factor between the Norwegian and UKCS example can be found in precisely what parties have ‘signed-up’ for. In the circumstances of Gassled, the owners agreed to form Gassled as a joint venture and, in doing so, knowingly agreed to be regulated by the MPE and to have the MPE set tariffs. In contrast, there are no direct regulatory restrictions on tariffs in the UK and the UK government holds no ownership interests in the infrastructure.
Having said this, though, the Energy Act 2011 transfers to the OGA a power afforded to its predecessors since the 1960s to settle disputes relating to access to infrastructure by determining that access be provided and on what terms – including the basis on which tariff levels are set. In offering and considering terms of access for third party infrastructure users, OGA has indicated that it expects negotiating parties to comply with the Industry Code of Practice on Access to Upstream Oil and Gas Infrastructure on the UK Continental Shelf (“ICOP”), and OGA has made clear that, in certain situations, the tariff charged may not be as high as the infrastructure owners may in the past have sought to charge.