Japan: LNG Sale And Purchase Agreement Destination Restrictions Likely Anticompetitive

Last Updated: 22 August 2017
Article by Hiromitsu Miyakawa, Darren Murphy, Shinya Watanabe, Alex Cull, Toshiaki Takahashi and Kok Jin Ong

Most Popular Article in Japan, August 2017

In Short

Background: Contracts for the sale of LNG traditionally limit the ability of the liquefied natural gas buyer to freely resell the cargoes acquired under the contract. This helps LNG sellers manage their markets and operations but also limits the ability of LNG buyers to optimize their supply arrangements over time. With Japan entering a period of excess LNG, such restrictions are receiving increasing scrutiny both from buyers and the Japanese government.

The Report: The Japan Fair Trade Commission conducted a survey and published a report finding that destination restrictions in many LNG sale and purchase agreements (especially those with FOB delivery terms) are likely to be in violation of the Antimonopoly Act. This finding itself was not unexpected, but the detail of what this nonbinding finding means for different classes of existing and future LNG contracts warrants careful attention.

Looking Ahead: For future LNG sales contracts into Japan with FOB delivery terms, destination restrictions will likely need to be avoided. For contract extensions, this may require existing contract terms to be amended. For existing contracts, care will need to be taken with exercising existing rights, and some provisions may even need to be renegotiated. The analysis will differ between sales with delivery at the supply source (FOB sales) and sales with a delivery point in Japan (Ex Ship sales), with restrictions harder to justify for FOB sales.


On June 28, 2017, the Japan Fair Trade Commission ("JFTC") published a report based on a survey conducted from July 2016 to May 2017 ("Report"), concluding that destination restrictions provided in liquefied natural gas ("LNG") sale and purchase agreements ("SPAs") in certain cases are likely to be in violation of the Japan Antimonopoly Act ("AMA"). As a result, sellers and buyers of LNG into Japan will need to modify their future contracting approaches and review their existing contracts and contract management processes.

Background and Context

After the Great East Japan Earthquake in 2011, Japan increased LNG imports mainly because all the nuclear power plants in Japan were shut down, and instead, thermal power plants started to consume larger amount of fossil fuel. However, nuclear power plants are restarting operation little by little following tightening of regulations on safety, and at the same time, renewable energy has increased its presence in Japan. As a result, we are likely entering into a period of excess LNG in Japan, which is the largest LNG importer in the world. With such excess LNG, buyers will be looking for ways to manage their supplies going forward; however, it will not be easy for buyers to resell surplus LNG to third parties due to destination restrictions contained in a large number of LNG SPAs.

In the meantime, in light of the increased significance of LNG as an energy resource, the Japanese government started to show an interest in destination restrictions in LNG SPAs. In April 2014, the Basic Energy Plan—referring to removal of destination clauses in LNG SPAs—was endorsed by the Cabinet. In addition, in May 2016, the Ministry of Economy, Trade and Industry published "Strategy for LNG Market Development" at the G7 Energy Ministerial Meeting, which expressed that Japan considers it is essential to relax and abolish destination restrictions in LNG SPAs in order to facilitate free trade of LNG and as part of the strategy to become an Asian LNG trading hub.

Other forces have also combined to put pressure on destination restrictions, including review and regulation by the European Union in the 2000s, the rise of destination-free sales out of the United States (where approved), Japan's desire to create an LNG trading hub, and the general "buyer's market" in LNG that has persisted for some time.

Against this background, the JFTC conducted the survey and published the Report in June of this year. The Report, while not legally binding, is likely to have significant impact on LNG contracting into Japan and perhaps more widely as well.

Key Points of the Report

Destination and Diversion Restrictions. The Report examined "destination restrictions," which include "destination clauses" (clauses listing acceptable ports for delivery) and "diversion clauses" (clauses preventing nomination of other ports for delivery), and assessed their likely status under the AMA, looking at the impacts of these clauses under both FOB and Ex Ship (DES) contracts.

Under FOB contracts, title to and risk of LNG are transferred from sellers to buyers at the loading terminal of the LNG shipping port, and sellers are not responsible for the transportation of the LNG thereafter. As the seller is not responsible for shipping, the JFTC did not see destination clauses as necessary and stated that they are "likely" to be in violation of the AMA. Further, the JFTC concluded that "the restrictions on diversion as well as the provision of destination clauses are not generally considered as reasonable" and are "highly likely" to be in violation of the AMA.

Under Ex Ship contracts, since the title to and risks of LNG are transferred from sellers to buyers at the unloading terminal of the destination port and sellers are responsible until the unloading of LNG at the destination port, the JFTC accepted that destination clauses are necessary and are unlikely to have AMA issues. Also, the JFTC stated that because sellers need to confirm whether they can bear responsibility for diversion, "the provision to require 'seller's consent' to diversion or the provision of the necessary and reasonable requirements to diversion does not have in itself any issues" under the AMA. However, even though having destination restrictions in an Ex Ship contract may not itself violate the AMA, the JFTC stated that if a seller does not give consent to a diversion, where a buyer's request meets any requirements of necessity and reasonableness, such refusal is "likely" to be in violation of the AMA. In addition, the JFTC cautioned that if a seller imposes competition-restraining requirements for diversion, such as the prohibition on commercial resale, it is "highly likely" to be in violation of the AMA.

Profit-Share Clauses. Profit-share clauses are those imposing an obligation on buyers to share with sellers any profits derived by reselling LNG to third parties by means of a diversion.

For FOB contracts, since title to and risk of LNG are transferred from sellers to buyers at the loading terminal of the shipping port, the JFTC saw no reasonable ground for profit sharing. Therefore, the JFTC concluded that profit-share clauses are "highly likely" to be in violation of the AMA.

In contrast, under the Ex Ship term, since the title to and risks of LNG are transferred from sellers to buyers at the delivery point of the destination port and sellers are responsible until the delivery, profit sharing as a result of resale of LNG through destination diversion can be regarded as a kind of compensation for changing contractual requirements, and it may be considered reasonable. Therefore, the JFTC concluded that "(p)roviding profit share clauses does not have in itself any issues" under the AMA. The JFTC said, however, that it is "likely" to be in violation of the AMA when profit-share clauses "contribute to unreasonable profit sharing with a seller" or "when such clauses have some effects to prevent a buyer from reselling due to a seller's request for the disclosure of the profit or cost structure."

Take or Pay Clauses. Take or Pay clauses are those imposing an obligation for buyers to pay for all the contracted volume of LNG even if buyers do not actually receive that volume. Since an LNG project needs a large amount of initial investment and loans, the JFTC concluded that providing Take or Pay clauses "does not have in itself any issues" under the AMA. The JFTC stated, however, that strict minimum purchase obligation as well as providing Take or Pay clauses are "likely" to be in violation of the AMA as Unfair Trade Practices (Abuse of Superior Bargaining Position) "when a seller's bargaining position is superior to that of a buyer and the seller unilaterally imposes Take or Pay clauses and strict minimum purchase obligation without sufficient negotiation with the buyer even after the seller has already got sufficient return for initial investment." This is a potentially significant finding that warrants further consideration.

Implications

At the end of the Report, the JFTC gave a warning to LNG sellers that: (i) at the time of concluding a new contract or renewal of existing contracts, LNG suppliers should not include provisions or adopt trade practices which anti-competitively prevent resale of LNG by buyers; and (ii) even in case of the existing contracts before expiration, anti-competitive trade practices to prevent resale of LNG by buyers are required to be reviewed and amended. Also, as a future course of action, the JFTC expressed that the "Japan Fair Trade Commission will keep monitoring the LNG market and take strict actions against any violations of the Antimonopoly Act." Precisely what steps it would take is not stated.

In addition to the uncertainty as to next steps that might be taken by the JFTC, it should also be noted that not all contracts fit neatly into the categories used in the Report's conclusions. For example, delivery terms can use variations on "FOB" or "Ex Ship," and those variations could be relevant to the AMA analysis. Also, destination, diversion, and profit-sharing terms themselves can differ significantly. For example, a restriction that can be used only when there is a genuine operational challenge for an Ex Ship seller would appear less likely to offend than an unfettered restriction, although all clauses will need to be considered. Further, when interpreting any contractual provision, governing law and context also may affect the meaning of a provision, noting that the AMA can apply irrespective of the governing law of a contract.

For these reasons, each buyer and seller of LNG into Japan will need to audit its existing contracts and contract management approaches. For example, decisions around diversion approvals may require referral to legal departments and need to be properly documented and recorded. Also, sellers and buyers should consider whether certain provisions will need to be renegotiated.

Participants in other markets should also consider these changes, both in terms of possible opportunities for broader LNG trading and also for possible knock-on effects such as responses by other regulators, particularly in Korea and China, or general changes in contracting practices.


Three Key Takeaways

  1. Those negotiating contracts for the sale of LNG into Japan, whether new contracts or extensions of existing contracts, must have careful regard to the findings in the Report. In particular, it would appear very difficult to include destination restrictions as they are in FOB contracts, and any restrictions in Ex Ship contracts would need to be carefully considered and drafted.
  2. In addition, those managing existing LNG contracts into Japan will need a strategy in response to the Report. We would recommend sellers conduct an audit of their existing contracts and implement appropriate changes to their contract management procedures.
  3. Those interested in the broader LNG market should take time to understand the findings of the Report and consider what other risks and opportunities they may trigger.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions