Thoughts on Long Term Gas Contracts

Speaking at the ONS 2010 Conference in Stavenger, Norway, E. ON Ruhrgas CEO Bernhard Retersberg commented on traditional long term contracts (LTC), which have been the cornerstone of the European gas supply market.

This traditional business model involves the importer absorbing a volume risk and proceeding with a take or pay obligation. The producer takes a price risk and relies on “market reflective” price provisions.

Other main characteristics of LTC include support of long term investments in the supply chain, a contract duration typically around 25-30 years, volume flexibility defined by corridor with a maximum take and minimum take obligation, price indexation based on competing fuels and entitlement to periodic renegotiation to adapt pricing and overall contract situation to market developments.

With liberalization significantly changing the characteristics of the European gas market, Retersberg wondered if these traditional arrangement reflect today’s market features.

The market framework has changed with the abolition of destination clauses, unbundling rules, new capacity allocation and congestion management rules and the commitments of EU gas importing companies regarding release of entry capacities.

The global economic crisis combined with increased US unconventional gas production and new LNG liquefactions capacity coming onstream in places like in Qatar has resulted in a gas glut.

The resulting increased liquidity of spot gas markets have left customers facing intake problems, as conventional LTC policies no longer reflect market prices.

Retersberg concludes that the new market environment requires the traditional LTC pricing to be adjusted to new market conditions.

Read the E. ON Ruhrgas Presentation: Natural gas markets in Europe – Challenges and development