Issue 8

Summer 2011

LNG FPSOs:
The opportunities and challenges ahead
Glen McAskill and Anthony Patten

UK gas storage: duty now for the future?

Peter Roberts and Joanna Kay

An overview of Vietnam’s oil and gas sector

Anthony McCourt and Ha Luu

Contingent consideration
and bridging the value gap
Renad Haj Yahya and Trinh Chubbock

Investment treaties:
The BITs you need to know
James Arrandale and Tom Cummins

Incoterms 2010: the death of DES

Nicholas Ross-McCall

A new dawn for the French solar market

Michel Lequien

UK power: where do we go from here?

Alan White

Cotswold Geotechnical:
A new era in corporate liability in the UK
Peter Roberts
An overview
of this issue
In this edition of EnergySource we bring
you an illustration of the very width and
the depth of the energy world in which
we work, with a series of observations on
developments in the UK, Europe and the
wider world.
Recent events at Fukushima, following
the Japanese earthquake and tsunami, have
caused many countries to reconsider their
commitment to nuclear power and many
commentators have predicted a resurgent
demand for natural gas as a safe, secure,
alternative energy supply. In this issue, Glen
McAskill and Anthony Patten look at the
opportunities for floating LNG facilities and
how they can enable countries hitherto
denied access to become participants in the
world of the LNG supply chain.
Joanna Kay also examines the prospects
for onshore and offshore gas storage
projects in the UK, a topic of particular
relevance given the UK’s continuing decline
in indigenous gas production and its
imminent nuclear renaissance.
France is, of course, a country with a
significant commitment to nuclear power
but, continuing the theme of diversification
into alternative energy forms, Michel
Lequien of our Paris office looks into the
new French regulatory regime for solar
projects.
Looking further afield, Vietnam is
widely recognised as one of the great “tiger
economies” in Asia and the country also
has great potential for new energy projects.
In an article written jointly with Ha Luu, a
partner with the leading Vietnamese law
firm LDV Lawyers, Anthony McCourt of
our Singapore office offers an overview of
Vietnam’s dynamic oil and gas sector.
The energy sector is always changing,
and of late we have seen the signs of a
return in merger and acquisition activity.
Renad Haj Yahya and Trinh Chubbock
Geoffrey Picton-Turbervill
Head of Ashurst’s global energy team
T: +44 (0)20 7859 1209
E: geoffrey.picton-turbervill@ashurst.com
2 • EnergySource • Issue 8 • Summer 2011
of our London office together consider
the role that contingent consideration
can play in the structuring of upstream
asset acquisitions and divestments. This
is a complex and relatively unexplored
technique, but one which can have a
dramatic change on the way in which asset
sales are structured and which can even
make saleable certain interests which might
not otherwise be so.
Our guest author for this issue of
EnergySource is Alan White of Lloyds Bank,
who offers a fascinating insight into the
current state of the UK power projects
market, his views of the prospects for the
UK Government’s suggested electricity
market reform (EMR) programme and what
perspective lenders are likely to take on
the market. We are grateful to Alan for his
insights.
Finally, we close with two recent
developments which, although very
different in their respective ambits, could
have very far-reaching consequences.
Nicholas Ross-McCall reviews the recent
change to Incoterms and particularly
the death of the DES formulation, which
will be of significance to lawyers and
commercial managers engaged in the
sale and shipment of maritime-delivered
commodities. Peter Roberts examines the
recent decision of the English court in the
Cotswold Geotechnical case – this is the
first time the new offence of corporate
manslaughter has been tried in the UK
and the outcome will have consequences
for companies engaged in any potentially
hazardous activity.
There should be something for everyone
in this issue of EnergySource, and plenty of
food for thought. As the American essayist
Henry Thoreau put it: “it’s not what you look
at that matters, it’s what you see”.
Peter Roberts
Head of energy for the UK, Europe and Africa
T: +44 (0)20 7859 1371
E: peter.roberts@ashurst.com
Ashurst worldwide
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Suite 101, Tower C2, Al Bateen Towers
Bainunah (34th) Street, Al Bateen
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60306 Frankfurt am Main, Germany
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3 Garden Road, Central, Hong Kong
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London EC2A 2HA, UK
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Madrid
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Rome
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Singapore
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Stockholm
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103 87 Stockholm, Sweden
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Tokyo
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Minato-Ku, Tokyo 105-6030, Japan
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Washington DC
1875 K Street NW,
Washington, DC 20006, USA
T: +1 202 912 8000 F: +1 202 912 8050
www.ashurst.com
LNG FPSOs: the opportunities
and challenges ahead
Current status of the LNG FPSO
industry

At present there are no LNG FPSOs in

T: +81 3 5405 6225
E: glen.mcaskill@ashurst.com
In this article, Glen McAskill,
an associate at Ashurst
Tokyo, and Anthony Patten,
a partner at Ashurst London,
explore the prospects for
floating LNG liquefaction
projects, a new technology
that is expected to become
operational for the first time
in the next two or three years.
T: +44 (0)20 7859 2464
E: anthony.patten@ashurst.com
What is an LNG FPSO?
A floating LNG unit or LNG FPSO is a vessel
or barge designed to process and liquefy
natural gas and store and offload LNG
(“LNG FPSO”). All of this is done at sea in
close proximity to the relevant gas field.
The challenge of achieving this on a single
vessel or barge in sea conditions is obvious.
operation but this is unlikely to be the case
for much longer.
On 20 May this year, Shell announced
that it had taken its final investment
decision for the Prelude floating LNG project
off the northwest coast of Western Australia
and Petrobras and the DSME/Hoegh
consortium are also in the advanced stages
of developing their LNG FPSO projects. It is
expected that the first LNG FPSO will come
into operation in 2013 or 2014. The market
is eagerly watching to see which LNG FPSO
will come first.
Some industry analysts are predicting
that the LNG FPSO industry will spend
approximately US$20bn on new LNG FPSO
projects over the period 2010-2016, with
many of the new LNG FPSOs to be deployed
to stranded gas fields across the seas
around Australasia/Asia, South America and
Africa.

With demand for liquefied natural gas

(“LNG”) set to continue to grow over the
coming decades – especially in Asia – the
interest in new technologies capable of
developing stranded offshore gas fields is
gaining strong momentum. LNG FPSO (or
floating liquefaction) projects offer a unique
solution to accessing new gas fields and
meeting the ever-growing market demand
for LNG. A number of oil and gas companies
and specialist offshore contractors alike
are now actively pursuing opportunities
to harness the benefits of LNG FPSOs
worldwide. The question everyone seems to
be asking now is not will LNG FPSOs become
a reality, but when? The race to be the first
to develop and operate this revolutionary
technology is clearly on.

EnergySource • Issue 8 • Summer 2011 • 3


Table 1 – Potential advantages of LNG FPSOs
Potential advantages
Ability to access
stranded gas fields
Construction cost savings
Fast-track construction
Earlier cash flows
Lower CAPEX costs
compared to an onshore
liquefaction plant
Reduced environmental
and social impact
Reduced political risks
Transportability of
the vessel/barge
4 • EnergySource • Issue 8 • Summer 2011
Description
Due to the limited size of many offshore gas fields
(“stranded” fields), it has not been economically viable
to develop them. LNG FPSOs enable gas development,
liquefaction and exporting to occur at the field itself.
Given that the majority of construction activities can
take place in a shipyard or controlled environment, costs
can be controlled more easily. The project will not be
susceptible to local labour or materials shortages as
compared to an onshore liquefaction plant (although
this can be a challenge as producers prefer a percentage
of local content).
The modular construction process and controlled
construction environment for LNG FPSOs should
decrease construction times.
Faster construction times theoretically mean projects
can begin operations sooner and hence begin to
generate revenues more quickly.
LNG FPSO projects do not require the same amount of
infrastructure as is required for a conventional onshore
liquefaction plant (e.g. no jetties or pipelines are
required).
Taking operations offshore means reduced interaction
with the onshore environment and communities.
Having the project operations offshore means there
is less likelihood of expropriation and related events.
Depending on the design of the LNG FPSO, it may be
possible to physically relocate the vessel/barge in times
of increased risk.
Some LNG FPSOs may be capable of being deployed to
new stranded gas fields during their lifespan.
The advantages of an LNG FPSO
The proponents of LNG FPSOs highlight
many potential advantages of an LNG
FPSO over traditional on-shore liquefaction
plants. Some of these include lower
construction costs and shorter construction
periods, the ability to tap into stranded gas
fields, reduced environmental footprints due
to reduced onshore activities and the ability
to reduce political risks. These, along with
other potential advantages, are described in
more detail in table 1.
The challenges facing the LNG
FPSO industry
Although there are many mooted benefits
of LNG FPSOs, these benefits do not come
without some significant challenges. Some
of the most notable challenges facing the
development and operation of an LNG
FPSO include concerns as to whether the
technology will work in the specific field and
whether the vessels or barges will be safe.
LNG FPSO developers are certainly working
hard to resolve these challenges and are
confident they can be overcome. Table 2 sets
out some of the most common challenges
for an LNG FPSO.
Financing LNG FPSOs – what are
the options?
Apart from some of the well-noted
technical and commercial challenges facing
the development of an LNG FPSO, one of
the major challenges facing the expansion
of the LNG FPSO industry as a whole will be
how to finance these expensive, large and
complex vessels.
Equity or corporate financing
As in the oil FPSO industry, it is expected
that a number of the first LNG FPSOs will
be financed by oil and gas companies on
their balance sheets or through corporate
finance. Shell’s Prelude project is an
example of this. Oil and gas companies are
already easily able to finance projects on
this basis and may find this a cheaper and
more straightforward alternative to limited
recourse financing while lenders come to
terms with the risk profile inherent in an
LNG FPSO project.
Debt financing
While oil and gas companies may have the
resources to finance their LNG FPSO projects
through equity or corporate loans, national
oil companies and the offshore contractor
sector is more likely to rely on debt
financing for a significant number of their
new projects. Société Générale is predicting
that a substantial percentage of LNG FPSOs
will most likely be owned and operated by
offshore contractors in the future1. Given
this, the ability of offshore contractors to
access debt finance will be pivotal to the
growth of the industry.

Key risks associated with LNG FPSO projects:

general lender concerns
Below we describe some of the key risks
which potential lenders to an LNG FPSO
project will wish to assess carefully in their
due diligence process. How these risks are
handled will ultimately determine whether
a project will be bankable or not. Table 2 – Challenges for LNG FPSOs

1. Design and construction risks Challenges Description

One of the main risks facing the
development of LNG FPSO projects
is how the project sponsors manage
design and construction risk. An LNG
FPSO project has a number of unique
engineering challenges as compared
to an onshore liquefaction project; for
example, the integration of the topside
and hull and who takes responsibility
for delays and/or any cost increases that
may arise from such interface risk. From
a legal point of view, these risks can be
managed in a similar manner to the
way they are managed in the LNG vessel
and oil FPSO industries (using turnkey
agreements or separate hull and topside
contracts with some kind of “wrap”
agreement), although issues such as
technology and completion testing may
well have more complexity than the
traditional oil FPSO market. Lenders will
also look to the creditworthiness and
technical capability of the contractors
involved. We are already seeing in
the industry that strong shipbuilding
contractors and smaller key component
suppliers are forming consortia in order
to manage interface risk and provide
turnkey construction solutions for their
customers.
2. Technology
Much has already been said about the
technology risks associated with an
LNG FPSO project and it is true that an
LNG FPSO has yet to be installed and
commissioned anywhere in the world.
1 S Craen et al, LNG FPSOs – a financing frontier,
The LNG Review, 2009, p124-126.
Reliability of the new There are a number of technical challenges in developing
technology an LNG FPSO.
Safety concerns Combining so many processes in a small area creates a
higher possibility of accidents as compared to onshore
liquefaction plants which can spread the various
components of the plant across a wider space.
Operational availability LNG FPSOs have to handle potentially extreme sea and
weather conditions. They also have smaller storage
capacity than their onshore counterparts. Both of these
factors have the potential to affect the availability of the
LNG FPSO and mean that regular offtake of LNG from the
FPSO is required.
Government objections Some governments may object to construction of
the project being carried out offshore and prefer
that onshore plants are developed to create more
direct economic benefits for local communities (e.g.
employment opportunities during the construction and
operation phase of the project).
CAPEX requirements and With the minimum cost of an LNG FPSO said to be
financing around US$2bn, developers will require significant
financial resources to develop these projects.
However, it is anticipated that once the there are over 120 operational oil FPSOs
first units are operating, lenders will around the world.
have the opportunity to more closely
assess the technical merits of these 3. Operational risk
projects. Once lenders have gained Aligned with technology risk, lenders
sufficient comfort that the technology are going to be concerned with how
is reliable, projects should be able to be the LNG FPSO unit can be reliably
implemented at a faster rate (bearing operated and maintained to ensure the
in mind that each project will still need ongoing performance of the project
to be adapted for the specific upstream (and, ultimately, the security of the cash
environment). The oil FPSO industry flows which they rely upon for debt
faced a similar challenge back in the service). Given that LNG FPSO projects
early days of its development and now are made up of a combination of critical

EnergySource • Issue 8 • Summer 2011 • 5


Figure 1 – LNG FPSO project structure
Sponsors
(e.g. Offshore
contractor/project
developer(s))
Pay on behalf of owner
Repay construction debt
Equity
Owner
EPCI
Project
contractor
company
components such as the vessel/barge
itself, the topside units and the mooring
and transfer equipment, lenders will
want to see that experienced O&M
contractors with specialised expertise in
these areas are employed. Technical due
diligence on potential O&M contractors
will be crucial for lenders. The ability
to efficiently store (given temperature
considerations) and offload the LNG will
also be a component of any operation
and maintenance regime.
4. Reservoir risks
Depending on how the particular LNG
FPSO project is to be financed, lenders
will look at the level of gas reserves
supporting the project and whether
these reserves are sufficient to generate
enough revenues to pay back the loan
(or indirectly, to support a long-term
charter contract). The level of reserves
will be most critical to a project which is
financed on a limited recourse, project
finance basis.
The limited recourse financing approach –
taking the lead from oil FPSOs
Oil FPSOs and LNG vessels have been
successfully financed on a limited recourse
basis for some years now and they provide
a useful template for future LNG FPSO
financings.
6 • EnergySource • Issue 8 • Summer 2011
Repay construction debt
Bridge
lenders
Bridge loan
Loan Long term
debt banks
Charterer/ Security
Offtaker trustee
Charter of
unit, tolling
agreement,
LNG SPAs Security
FLNG unit
accounts
The diagram above shows the typical
project structure for a bankable oil FPSO or
LNG vessel financed on a charter basis. This
structure can be adapted to suit an LNG
FPSO financing.
Under this financing scheme, the
owner self-finances the construction
phase of the project via bridge loans.
Once final acceptance has been achieved
under the vessel construction contract(s)
(and therefore a significant amount of
construction risk falls away), the long-term
lenders step in to provide long-term limited
recourse finance to the project (i.e. allowing
the project owners to pay out their bridge
loans to the bridge lenders). Here the long-
term lenders look primarily to the charter
hire under the charter contract to satisfy
debt service obligations.
A financing of this nature is often
supported by means of appropriate sponsor
support (e.g. completion guarantees) from
the vessel owners for a period of between 12
to 18 months after final acceptance. Lenders
would also seek a customary security
package which would include security to
be taken over the project’s accounts and an
enforceable mortgage over the vessel itself.
A number of investment bankers believe
that LNG FPSOs can be financed in a similar
manner to that described above. There are,
of course, unique characteristics of LNG
FPSO projects which borrowers and lenders
alike will need to consider. In particular,
lenders will need to come to terms with
how to appropriately size their loan given
the significant CAPEX requirements of an
LNG FPSO project and determine whether or
not the LNG FPSO is re-deployable or has a
residual value.
Project financing – can it be done?
Some commentators have suggested
that LNG FPSOs may be capable of being
financed on a limited resource, project
financed basis similar to some onshore
liquefaction plants. However, this form
of financing would require a much more
rigid review of a project’s economics and
structure and in the earlier days of the LNG
FPSO industry we think it is more likely
that debt financings will be conducted
on a limited recourse basis similar to that
adopted for oil FPSOs.
Conclusion – a bright future
ahead
It is clear that the potential advantages of
LNG FPSOs cannot be ignored. Although
there are still many challenges that lie
ahead, motivation levels are very strong
across the industry. All eyes are now firmly
focused on 2014 and who will be the first to
develop and operate the world’s first LNG
FPSO.
It is of some comfort to the industry
as a whole that Shell, which is actively
pursuing its Prelude floating LNG project,
was the first to develop the modern oil
FPSO with its Castellon FPSO back in 1977
and places great emphasis on developing
new technology in the sector (e.g. GTL
technology). As we have noted, there are
a number of distinct similarities between
the early days of development of the oil
FPSO industry and the present stage of
development of the LNG FPSO industry. We
believe that a number of important lessons
can be taken from the oil FPSO industry
and can be advantageously applied to the
development and financing of LNG FPSOs.
For those units which are to be financed
on a debt finance basis, we expect to
see the employment of limited recourse
financing similar to that used in the
oil FPSO industry. Once the market has
matured and lenders have become more
comfortable with the risk profile associated
with LNG FPSO projects, there may be some
room to develop more aggressive financing
structures where a greater degree of project
risk is take by lenders.
UK gas storage:
duty now for the future?
T: +44 (0)20 7859 1371
E: peter.roberts@ashurst.com
In this article, Peter Roberts,
a partner, and Joanna Kay,
an associate, at Ashurst
London discuss the issues that
surround the development of
gas storage facilities in a gas-
dependent nation and where
indigenous gas production is
in rapid decline.
It is widely accepted that in the UK,
indigenous gas production is declining
while gas demand will remain solid and
continued. North Sea gas production peaked
in 2000 and by 2009, UK production made
up only 55 per cent of UK gas flows. Some
forecasters predict that by 2020, UK gas
import dependency will have reached 70 per
cent. The inevitable shortfall means that the
UK will need to consider alternative sources
of gas supply.
The development of gas storage
facilities provides a partial solution to this
problem as the release of stored gas acts as
a proxy for swing production, but regulatory
uncertainty combined with a lack of clear
direction from the UK Government and
financing constraints have limited the
growth of the gas storage sector in the UK
to date.
T: +44 (0)20 7638 1111
E: joanna.kay@ashurst.com
Key role of gas
Energy in the UK, today and in the future,
will come from a variety of sources. In
the Government’s most recent analysis
of the UK energy market, gas-fired power
generation accounted for 52 per cent of the
UK’s energy mix (the balance being made
up of coal (23.4 per cent), nuclear (15.8 per
cent), renewables – principally wind (5.9 per
cent) and other sources (2.9 per cent) 1).
Gas remains a vital part of the UK’s
energy mix and will continue to be so.
One third of the current coal-fired power
plant fleet is due to be retired from the
generation mix by the middle of the present
decade because of the impact of the Large
Combustion Plant Directive [2001/80/EC]
and new nuclear plants may struggle to
come on stream by 2020 in time to meet
the shortfall from the retirement of the
current nuclear fleet (with 19 reactors due to
close by 2023). Wind farms have been widely
promoted to make good the generation gap
but the intermittent nature of wind means
that this form of generation is only really
viable if it is an integral part of a broader
and more stable energy management
system which utilises conventional
energy resources as a feedstock for power
generation. To make good this intermittency,
the high-efficiency combined cycle gas
1 DECC 2010 Q2 Summary.
turbine (“CCGT”) is widely regarded as the
best option for reactive power generation,
for which a supply of gas will be required.
Why gas storage?
In the face of declining indigenous
production, the UK will need to find an
alternative supply of gas. This could be met
either through foreign imports (whether by
pipeline or LNG cargoes). Currently, the UK
has around 45bn cubic metres per annum
(“bcma”) of LNG import capacity and 90
bcma of imported pipeline gas capacity. An
increase in foreign imports may address
the supply shortfall created by a declining
indigenous production but imports bring
with them additional concerns:
• certainty: reliance on foreign imports
could mean that the UK gas market
runs the risk of becoming increasingly
exposed to the fluctuations of the
global gas market – imports can be
curtailed or redirected so as to flow into
higher-priced non-UK markets; and
• flexibility: the replacement of relatively
flexible indigenous gas production
with less flexible pipeline gas and LNG
imports is likely to affect the UK’s ability
to meet seasonal and short-term swing
needs.
Gas storage provides a potential solution
to these problems. It creates a means
of holding a gas inventory which can be
released into the UK energy market when
needed, supports the ability to meet
daily gas demand and can (compared to
renewable energy and foreign gas imports)
be invaluable in response to anomalous
weather conditions, operational upsets or
geopolitical issues.
Gas can be stored underground in three
types of structure – depleted gas reservoirs,
aquifer reservoirs and salt caverns. Each
type of facility has its own distinct physical
and economic characteristics which
determines its suitability for a given storage
application. For example, storage facilities
developed from depleted gas reservoirs
tend to be better suited to long-term
EnergySource • Issue 8 • Summer 2011 • 7
storage, whereas salt cavern facilities are
more suited to servicing shorter-range,
faster-cycle storage profiles. In the context
of UK gas storage, aquifer reservoirs are not
common.
The gap: UK vs. Europe
Despite a number of onshore and offshore
gas storage projects currently operating
in the UK, our total gas storage capacity
of around 4.7bn cubic metres (“bcm”) is
significantly lower than is the case in many
other European countries. The UK’s storage
capacity is approximately 4 per cent of its
annual gas consumption. This compares
to approximately 21 per cent in Germany
and 24 per cent in France. Mainland Europe
has seen comparatively much greater
investment in gas storage facilities – largely
attributable to storage being developed
in countries having no, or much smaller,
indigenous gas reserves capable of
production in the first place.
There are a number of gas storage
projects presently in the development or
planning stages in the UK. These proposed
facilities would provide the UK with an
additional 18.7 bcm on top of the 4.7 bcm
currently in operation. Not all of these new
gas storage facilities will be built of course.
And if they are, the UK could run the risk
of “overbuild” with the result that there is
surplus, unused gas storage capacity.
The licensing and regulatory
regime for UK gas storage
The EU Security of Supply Directive
(Council Directive 2006/67/EC) brought
energy supply to the forefront of many
governments’ thinking. Many Eastern
European governments reacted to it by
building state-owned and operated gas
storage facilities. By contrast, the UK
Government has traditionally not interfered
in the provision of gas storage capacity
(beyond managing the licensing, permitting
and regulatory functions). Our relatively
high levels of indigenous gas production
from the Irish Sea and the North Sea have
meant that the UK gas market has been
able to meet swing demands with relative
ease. The UK has adopted a “demand-
management” philosophy, where the
expectation is that the markets will react
positively to increased needs for energy.
The UK has one of the most liberalised
energy markets in Europe, characterised
in particular by very low levels of
8 • EnergySource • Issue 8 • Summer 2011
government intervention in essential energy
infrastructure development.
The Energy Act 2008
The coming into force of the gas storage
provisions of the Energy Act 2008 on 6
April 2009 removed one stumbling block
to investment in the gas storage sector.
Prior to the Act, potential developers
had to navigate a maze of overlapping
legislative processes, including opaque
planning consent processes as well as
local planning controls and specialist
development consent regimes administered
by central Government. This generated legal
uncertainties and added to the general
nervousness of the market about investing
in these developments.
The implementation of this bespoke
regulatory framework has helped to give
developers a clearer route to investment,
reducing the administrative burden that
existed under the old system and offering
developers greater certainty over the legal
operation and construction of gas storage
facilities.
Unfortunately, while the licensing
regime has become simpler, the competition
law regime has not.
Third party access
The development and operation of gas
storage facilities is generally subject to
third party access (“TPA”) requirements
principally pursuant to Article 19 of the
Second European Gas Directive (which In UK law, the key requirements for
was implemented into UK law in 2004). facilities that are subject to nTPA are set
These requirements have been reiterated out in section 19B of the Gas Act 1986 (for
and expanded in the Third European Gas onshore facilities) and section 17D of the
Directive, which came into force in the UK Petroleum Act 1998 (for offshore facilities).
in September 2009 (but subject to later Under these statutory provisions, the
implementation, mostly in 2011). owner of a gas storage facility is required
A gas storage facility will only fall to publish its main commercial conditions
outside the scope of the TPA rules if third of contract for access to storage capacity
party access is not “technically and/or at least once a year and to negotiate in
economically necessary for providing good faith and to endeavour to reach
efficient access to the system” or the an agreement with any applicant for
facility has obtained an exemption from storage capacity (without discriminating
the TPA rules. against any applicants). If parties are
The Gas Directives allow EU Member unable to reach an agreement, the price
States to choose between negotiated TPA can ultimately be determined by the
rights (“nTPA”), where third parties must gas regulator, the Office of the Gas and
be able to negotiate rights of access to Electricity Markets (“Ofgem”).
gas storage facilities on the basis of good In certain circumstances, an exemption
faith negotiations leading to a voluntary from the TPA requirements could apply in
commercial agreement, and regulated TPA respect of a gas storage facility and some
rights (“rTPA”), where third parties must gas storage project developers (depending
be given a right of access to gas storage on the economic manner in which their
facilities on the basis of published tariffs. project is structured) will require a 100
The UK has implemented the nTPA regime. per cent TPA rights exemption in order to

proceed. A distinction is made between
existing facilities and those built or
substantially upgraded after 3 August 2003,
but essentially an exemption from the
application of TPA rights will be granted
where Ofgem is satisfied that use of the
facility by other persons is not necessary for
the operation of an economically efficient
gas market (popularly known as the “de
minimis exemption”).
For parties looking to acquire capacity in
the gas storage market, the granting of 100
per cent TPA exemptions to facilities creates
greater uncertainty that third party access
can be secured by them as customers. The
only guaranteed way to secure capacity in
this environment would be for such parties
to develop their own storage projects,
potentially flooding the market with a
proliferation of new gas storage projects. It
is not clear how government policy would
react but a likely scenario would be for
government policy to try to temper the
market and seek to encourage widespread
participation in the market without
widespread construction, in order to counter
the risk of overbuild (see above). This could
see TPA exemption applications being
increasingly refused and exclusive capacity
access for a gas storage facility developer
becoming a receding possibility.
Existing exemption holders face a
different concern. TPA exemptions as
granted are conditional and can therefore
be revoked at any time by Ofgem if it
considers that the use of the facility by
other persons has become necessary for
the operation of an economically efficient
gas market. This conditionality, and so
uncertainty, is illustrated by Ofgem’s recent
approach to the Caythorpe gas storage
project. Caythorpe, a proposed onshore
gas storage facility, was bought from
Warwick Energy by Centrica in September
2008. In July 2010, Centrica announced it
was reconsidering its plan to develop the
Caythorpe project because of what it called
“regulatory uncertainty” in light of Ofgem’s
indication that it was minded to review
the TPA exemption which had already been
granted to Caythorpe. On a longer-term
basis, as the gas storage market matures,
the conditionality of the TPA exemptions
could mean that:
• in a contracting flexibility market, the
de minimis exemption is removed from
existing facilities or proposed projects
as that particular facility or project
comes to assume a comparatively larger
percentage of the market; and
• in an expanding flexibility market, an
existing facility or project is granted
a de minimis exemption where it had
originally been denied the exemption
on the basis of its previous larger
market share.
Customers and developers alike lack clear
direction from the Government in this
area. In June 2009, Ofgem issued a letter
indicating that no single test would apply in
the determination of the application of TPA
exemptions. One factor which Ofgem was
keen to stress was the need to have regard
to the share of the flexible gas market
possessed by the exemption applicant or
holder. This was reiterated in an industry
letter circulated by Ofgem in May 2010
which emphasised the need to consider the
market power of any storage player, with
particular reference to vertically-integrated
industry participants. This suggests that the
grant of a de minimis exemption is as much
about the storage facility owner as the
storage facility itself.
A relative shortage of gas storage
capacity in the UK might justify the
imposition of TPA rights, in order to reduce
the risk of possible market power abuse
by a widely-invested energy market
participant. However, this artificial market
stabilisation may have adverse implications
for the economics of new storage projects.
Limitations on a developer’s ability to apply
a gas storage project solely for its own use,
and the manner in which service contracts
are structured for TPA customers, could
undermine the economic value of a storage
project and could affect its commercial
viability.
The economics of gas storage
projects
The economics of any gas storage project
can be broken down into two main
components – the costs of development and
the revenues the project then generates.
The hallmark of a gas storage project,
EnergySource • Issue 8 • Summer 2011 • 9
as with all infrastructure projects, is that
it is capital-intensive. The level of capital
expenditure required to build a particular
facility will depend on the physical
characteristics of that facility – salt caverns
tend to be more expensive to develop than
depleted gas reservoirs which generally
already have proven geological gas storage
capacity. Significant expenses also tend to
be accumulated during the planning phase
and in the location of potential gas storage
sites to determine suitability. Another
substantial cost component is cushion gas,
which can account for up to 50 per cent of
the total capacity of a facility developed
using a depleted gas reservoir. High gas
prices mean high cushion gas prices and
can make project economics much less
attractive.
The revenue generation of any gas
storage project is derived from arbitraging
gas prices over time, injecting gas when
prices are low and withdrawing when
prices are high. This value can be captured
by the facility owner, or by a third party
storage services customer. Facilities can
operate either to take advantage of short-
term arbitrage opportunities or to meet
longer-term seasonal supply demands. The
seasonal valuation of a storage project is
evaluated as the difference between long-
term price spreads (based on the intrinsic
value), whereas a high-deliverability,
fast-cycle storage facility allows its user to
respond to variations in demand and price
according to shorter time cycles (based on
the extrinsic value).
A growing concern for gas storage
project developers is that the markets are
unpredictable and currently price spreads
are narrowing. In the UK, forward summer
gas prices for 2010 were higher than
forward winter gas prices. This was largely
due to the increased availability of LNG
imports and the surplus of supplies on the
international market. In October, the Sunday
Telegraph reported that the seasonal
price spread had reduced to 10p, a figure
described by the newspaper as uneconomic
for investment in facilities which require
a spread nearer to 25p in order to ensure
that a project is economically viable.
This growing uncertainty provides yet
another commercial disincentive to the
development of gas storage facilities.
Government intervention
When it comes to the development of
essential energy infrastructure in the UK
10 • EnergySource • Issue 8 • Summer 2011
(such as LNG import terminals, gas storage
facilities and nuclear, coal, gas or wind
power generation plant), the Government
typically offers no guarantees of economic
or regulatory stability. Thus, such facilities
are essentially developed on a purely
commercial basis and project developers
(and their lenders, where third party debt
finance is involved) will be required to take
a view as to the long-term viability of their
projects.
That said, in certain circumstances the
UK Government has offered indications
of support for certain projects, and these
indications can act as powerful incentives
to developers (and lenders) to proceed.
An example of this is the creation of
Renewables Obligation Certificates (“ROCs”)
banding which promotes the deployment
of renewable technologies requiring greater
support for development (such as offshore
wind or tidal power). This is arguably not
a true subsidy, as demand risk remains
with the generator, but there has also
recently been some governmental talk of
introducing capacity payments for certain
forms of power generation.
The UK Government’s position is
much less clear with regard to gas storage
facilities. In 2009, the announcement
that expenditure on cushion gas would
qualify for capital allowances at 10 per
cent on a reducing balance basis was
taken as a sign of government support for
the development of gas storage facilities.
However, in the three reports commissioned
by the Department of Energy and Climate
Change (“DECC”) from international energy
consultancy Pöyry in 2010, the position
suggested was one which required no
government support. The reports concluded
that the UK should benefit from sufficient
projected capacity and that government
investment in so-called “strategic” storage
should not be necessary.
If government intervention in the
UK gas storage market were to become a
reality (which might particularly be so if the
private sector fails to build) then it could
take a number of different forms:
• rTPA model: requiring rules to be set by
regulators either restricting the level of
profit which can be made by a storage
facility owner or guaranteeing a profit
to those owners where capacity is sold
to third parties. This is the essence
of rTPA, and could become a more
attractive proposition to a storage
facility owner in a heavily populated
project market. However, there are
drawbacks to this approach. rTPA only
guarantees a return if there is a user: it
does not guarantee the use itself, thus
even regulated project returns will not
be a guarantee of project success;
• state-owned facilities: following the
example set by the Eastern European
market, government-owned and
operated facilities could be constructed.
The potential downside of this option is
that it could have an unsettling effect
on UK gas price volatility, defeating
the principal commercial imperative
for private sector investment into gas
storage projects. Its introduction would
therefore require careful reconciliation
with existing and prospective
commercial projects;
• strategic reserves: the establishment
by the Government of a strategic gas
storage reserve, to be used only in times
of national emergency and as a supplier
of last resort. This would at least
mitigate the impact on the commercial
gas market; or
• guaranteed supplies: the imposition of
an obligation, on all UK gas suppliers, to
guarantee the provision of gas supplies
even during periods of peak demand
and consumption. This obligation,
which would be sized in proportion to
each gas supplier’s share of the market,
could be fulfilled by whatever means
are available to the gas supplier –
which could include the provision of, or
securing access to, gas storage facilities.
This was trailed by the Conservative
Party (which now leads the coalition
Government) in April 2010.
Any government investment into the gas
storage market would also probably be
underpinned by a requirement that the
costs of doing so would be socialised,
ultimately by a back-charge to energy
consumers. Those consumers, whose energy
bills are already required to absorb the costs
of various renewable energy incentives,
might be reluctant to accept this.
Financing and the case for PPP
Another issue affecting the gas storage
sector is how the considerable upfront
costs of building and developing a gas
storage project can be financed. The
development of a diverse gas storage
sector has been hampered by the fact
that small, independent developers in the
UK have struggled to secure commercial
debt finance, because their balance sheets
are not sufficiently robust to meet the
credit requirements for banks in respect of
completion support. In addition, reducing
spreads between winter and summer gas
prices have made the commercial rationale
for the utilisation of gas storage facilities
less obvious as narrowing spreads put
downward pressure on tariffs that can be
charged under storage services contracts.
Beyond the commercial concerns, the
uncertainty about the future direction of
government energy policy means that it
is not clear whether the UK Government
is properly committed to natural gas as a
fuel, which in turn makes for uncertainty
about the long-term viability of gas
storage projects and inhibits the successful
promotion of new projects. Where third
party debt finance is involved, then project
lenders share the uncertainty about the
future of gas storage in the UK and will only
lend to new projects with significant levels
of sponsor support and risk mitigation in
order to give them the protection they seek.
This may be unattractive to the developer
and the absence of third party debt finance
on sufficiently attractive terms could
eliminate the prospects of success for a new
gas storage project.
A case for PPP?
One of the more radical ways in which
the UK Government could give comfort
to prospective gas storage facility owners
(and lenders) about the seriousness of its
intentions regarding the UK gas market
would be to develop a gas storage facility
using some of the characteristics of a
typical public private partnership (“PPP”)
project.
PPP represents the combination of
private sector development interests with
the provision of an asset-based public
service, underpinned by the grant of a
concession-based contract from a public
body. The PPP model has hitherto been used
successfully in the UK by the Government
to secure the financing, construction
and operation of key public service
infrastructure items such as schools, roads
and hospitals and is based on the following
components:
• the granting of a long-term (i.e. 20 to
25 years) concession agreement by a
government-owned public authority to a
private sector developer, acting through
a special purpose vehicle (“SPV”);
EnergySource • Issue 8 • Summer 2011 • 11
• guaranteed payment to the SPV under
the concession agreement of a regular
unitary charge, in exchange for the
proper performance of the concession
agreement by the SPV;
• third party debt finance (with the
lenders taking security over the
revenues due to flow from the public
authority under the concession
agreement) in order to finance the
development costs of the underlying
project as well as equity investment
from the SPV’s shareholders (the typical
debt-to-equity ratio of a PPP project is
90:10); and
• the relevant infrastructure asset is built
and operated for its lifetime by the SPV
in accordance with the requirements
of the concession agreement and at
the end of the defined term of the
concession agreement the ownership of
the asset transfers from the SPV to the
public authority.
Glossary
Cushion gas (also known as base gas) – in order to maintain working pressures in the
facility, a volume of gas will be required as a permanent inventory. This cushion gas is not
taken out of the facility. Rather, it provides an essential operational buffer between the
structure of the facility and the working gas volume.
Equity gas project model – the facility owner buys and injects gas when the forward
gas price spread is low (supposedly during the summer period) and then re-delivers and
sells that gas when the demand and the forward gas price spread for that gas is higher
(supposedly during the winter period). The buy/sell arbitrage between these prices leads
to the generation of revenue from the project.
Storage services project model – the project generates revenue through the sale of
storage services (the right to inject a defined quantity of gas into the facility, store such
quantity in the facility and withdraw that quantity from the facility) to third parties in
exchange for a fee.
Third party access – the ability of a person, other than the owner of the facility, to utilise
some of the capacity of the facility (in exchange for payment of a tariff and compliance
with defined contractual terms).

In the particular context of developing a gas Working gas – gas which is injected into and re-delivered from the facility, and the
storage project, the PPP structure outlined working gas volume is the amount of space in the facility which is available for the
above could, for example, be overlaid with injection and re-delivery of gas.
the following embellishments:

• the designated public authority would
secure the licence, lease and other
permits necessary to operate the gas
storage facility (but, critically, with
recognition that the construction
and operation of the facility would be
undertaken by the SPV);
• the SPV would be reimbursed by the
public authority under the concession
agreement on the basis of the number
of gas storage services units which are
made available from the facility;
• the SPV could sell storage services in the
facility to third party users in exchange
for a tariff, which would provide a
return to the SPV. Some of these tariff
receipts might be directed to the public
authority (possibly as an offset to
the payments due to be made by the
public authority under the concession
agreement), which essentially
represents a flow of funds ultimately to
the Government; and
• at the end of the concession
agreement’s term, the public authority
assumes control of the gas storage
facility (and also the associated
decommissioning liability in respect of
the facility). At this point (assuming that
the facility still has residual operational
capacity) the public authority could
elect to sell the facility to the SPV
(which might be the subject of option
rights either way) or by auction into the
wider industry.
Under this structure, the Government
(through the public authority) would
assume primary responsibility for the
development and the operation of the
facility, thus evidencing the Government’s
support for gas storage projects and
reducing the uncertainty which developers
and lenders might otherwise have about
long-term project viability and the support
of the Government for the gas/gas storage
sector. But the costs of developing and
operating the facility are not entirely borne
by the Government, and there is even
the prospect of a modest return for the
Government. In this case, an analogy can
be drawn with waste-to-energy PPP-based
deals which have a proportion of their
overall project revenues coming from third
parties (such as waste suppliers and power
and heat offtakers), supplementing the
unitary charge received from the public
authority.
Conclusions
To quote the now Leader of the Opposition,
speaking in February 2009, “Do we need
more gas storage in the future? I would
unequivocably say yes”.
The UK is predicted to remain heavily
reliant on gas for the near future. As
indigenous production continues its rapid
decline we will need more gas storage
capacity to insulate the UK from the
capricious nature of foreign imports and
to balance the intermittency of renewable
power generation.
The current Government’s view is that
the private sector will be able to meet the
UK’s gas storage needs without additional
state support. However, despite the
confidence of the Pöyry reports and other
government statements, if the commercial
signals and/or the fiscal terms are not
sufficiently attractive to private sector
participants then the Government may
have no alternative but to invest in strategic
gas storage.
This article was first published by Global Legal Group
Ltd in association with Ashurst LLP, London, 2010,
for inclusion in the International Comparative Legal
Guide to: Gas Regulation 2011.

12 • EnergySource • Issue 8 • Summer 2011

Vietnam’s oil and gas sector:
An overview
T: +65 6416 9515
E: anthony.mccourt@ashurst.com
In this article, Anthony
McCourt, a solicitor at Ashurst
Singapore, and Ha Luu, a
partner at Vietnamese law
firm LDV Lawyers, provide
an overview of Vietnam’s
upstream oil and gas sector.
Vietnam has been one of the fastest
growing economies in Southeast Asia in
recent years, with GDP growth averaging
7.2 per cent annually between 2002 and
20101, and the country’s demand for energy
has been growing commensurately. The BP
Statistical Review of World Energy, June 2010,
puts Vietnam’s proven reserves at 4.5bn
barrels of oil (“bbl”) and 682bn cubic metres
(“bcm”) of natural gas. Despite this relative
abundance, production of reserves remains
modest: 345,000 bbl/day and 8 bcm of
natural gas in 20092. Much of the growth in
Vietnamese production capacity is expected
to take place in the natural gas sector,
with the country’s share of the Asia-Pacific
market forecast to grow from an estimated
2.2 per cent in 2010 to 4.3 per cent in 20143.
1 http://www.indexmundi.com/vietnam/gdp_
real_growth_rate.html.
2 BP’s Statistical Review of World Energy (June
2010).
3 Business Monitor International: Vietnam Oil &
Gas Report (Q4 2010).
T: +84 9 0390 6768
E: ha.luu@ldvlawyers.com
Conversely, the country’s market share of
regional oil production is forecast to shrink
from an estimated 4.53 per cent in 2010 to
4.19 per cent by 20144.
Oil
The country’s main oil-producing areas are
located offshore the southern coast in the
Cuu Long and Nam Con Son Basins, with
12 fields providing the bulk of production.
Peak oil production of 427,000 bbl/day
was reached in 2004 after which levels
decreased until 2009 when the Su Tu Vang
field (in the Cuu Long Basin) – described
as Vietnam’s most important oil discovery
of recent years – came on stream. It had
been expected that Block 15-1 (where the Su
Tu Vang and Su Tu Den fields are located)
would become Vietnam’s biggest producing
permit, overtaking Bach Ho, but output
from Su Tu Vang has, so far, been less than
initially anticipated. In May 2007, national
oil company PetroVietnam also announced
that the deepwater Song Hong Basin
offshore northern Vietnam held potential
hydrocarbon reserves of 5bn bbl equivalent,
offering seven blocks in Song Hong to
international investors. Nonetheless,
countrywide setbacks in production and
declining output from maturing fields such
4 Business Monitor International: Vietnam Oil &
Gas Report (Q4 2010).
as Bach Ho have severely hampered the
Vietnamese Government’s efforts to halt
falling oil production, which is not expected
to reach 2004 levels any time in the next
five years.
Natural gas
In 2009, all 8 bcm of natural gas production
was consumed domestically, with a
further 380,000 cubic metres imported
to meet domestic demand. Natural gas
currently accounts for about one third of
Vietnam’s annual power generation and
15 per cent of the country’s primary energy
supply. Although the country’s natural gas
infrastructure is still relatively undeveloped,
natural gas production continues to rise and
is forecast to reach between 15 and 20 bcm
next year5.
Several of the largest oil fields in the
Cuu Long and Nam Con Son Basins also
produce significant volumes of associated
natural gas. As a result, only a handful of
fields have been developed solely for their
natural gas potential. The largest fields to be
developed within these areas are the Lan Tay
and Lan Do fields, which supply the US$1.3bn
Nam Con Son Gas Project. This is an
integrated gas-to-power project, developed
by a consortium of PetroVietnam, BP and
ConocoPhillips, which delivers natural gas
from offshore fields to the Phu My power
complex via a 230-mile sub-sea pipeline.
It is also the largest foreign investment in
Vietnam’s energy sector to date.
There is no independent industry
regulator in Vietnam. Instead, the
Vietnamese Government regulates the oil
and gas industry through the Ministry of
Industry and Trade (“MoIT”).
Exploration and production
Regulatory framework
Three elements underpin Vietnam’s current
regulation of oil and gas E&P activities: (i)
the Petroleum Law (effective as of 1993,
amended in 2000 and 2008) (“Petroleum
Law”), (ii) guiding documents (such as
5 World Bank Report Number 58026 (June 2010).
EnergySource • Issue 8 • Summer 2011 • 13
 Figure 1 – Main players in Vietnamese oil and gas activities
Main players Oil and gas activities

Vietnam National Oil &
Gas Group (PetroVietnam)
• Provided 20 per cent of Vietnam’s oil and half of its gas in 2010◊, active in upstream (PVEP), downstream
(PV Oil) and gas distribution (PV Gas) sectors.
• Key investments include: the Hac Long field in North Vietnam (55 per cent PetroVietnam, 45 per cent
Petronas) described as Vietnam’s “largest gas discovery to date”; and Vietsovpetro, a 50:50 joint venture
(“JV”) with Russia’s Zarubezhneft (the JV accounts for roughly one third of the country’s crude oil
production, and operates the Bach Ho field among others).
• Targeting investment of US$4.5bn annually on exploration and production (“E&P”) activities over the
next five years primarily on gas exploitation.

BP Vietnam • Emphasis on gas rather than oil.

• Key investments include: 32.67 per cent stake in the Nam Con Son Gas Project (BP operates the pipeline
transporting the gas to two power plants in Ba Ria-Vung Tau); a 33.33 per cent stake in the Phu My 3
power plant, which is supplied by Nam Con Son; and a 35 per cent operating interest in Block 6.1.
• Announced the sale of its upstream businesses and associated interests to TNK-BP in October 2010. The
sale is still pending regulatory approval.
• Signed transfer agreements on 6 April 2011 to transfer its participating interest in, and its role of
operator of, the offshore gas Block 06.1 to TNK-BP. PetroVietnam and ONGC Videsh Limited of India also
signed the agreements as TNK-BP’s future partners in the joint venture. The agreements await final
approval from the MoIT†.

Petronas Vietnam • Significant upstream investor and substantial involvement in downstream fuels (especially
petrochemicals).
• Operates four blocks in partnership with PetroVietnam, with interests in a further nine, and operates
two LPG plants in Dong Nai and Thang Long.
• Significant gas discovery in the Hac Long field in 2009 with an estimated 50 bcm of gas and 45m bbl of
condensate.

Zarubezhneft • Russian state-owned company, operating through its JV with PetroVietnam, Vietsovpetro.
• Vietsovpetro accounts for 60 per cent of Vietnam’s total output and remains key to the country’s oil
supply, operating seven fields in the South China Sea.

ConocoPhillips • Largest US energy investor in the country with stakes in six blocks, the most successful being a 23.25 per
cent stake in Block 125-1 in the Cuu Long Basin.

Others Vietgazprom, Korea National Oil Corporation, Talisman Energy, Premier Oil, Total, Chevron, Idemitsu Kosan,
Nippon Oil and Soco International.

◊ Business Monitor International: Vietnam Oil & Gas Report (Q4 2010).
† http://www.tnk-bp.ru/en/center/releases/2011/04/7143/.

decrees, circulars or decisions promulgated
by the relevant government bodies) and (iii)
a model form production-sharing contract
(“Model PSC”), (collectively, the “Petroleum
Regulations”). Under the Petroleum
Regulations, the Government exercises
the State’s right to oil and gas reserves
through state-owned PetroVietnam. The
Vietnamese State is often represented
in the production-sharing contract
through PetroVietnam Exploration and
Production Corporation (“PVEP”), a wholly-
owned affiliate of PetroVietnam. PVEP is
increasing its portfolio and has entered
into various production-sharing contracts
with PetroVietnam where PVEP is the sole
contractor and operator.
Award of blocks
Petroleum prospecting permits are awarded
on a bi-annual basis or as dictated by the
Government, with the procedure for the
award of permits set out in the Petroleum
Regulations. The various stages are broadly
as follows:
Tender procedure
• Tender plans for the exploration of
various blocks prepared by PetroVietnam
and submitted first to the MoIT and then
to the Prime Minister for assessment.
• Following approval of the proposed
tender plans, tender invitation notices
are issued by PetroVietnam (in
Vietnamese and English).
• Bidders have 60 business days from
the last date of publication of a tender
invitation to submit offers and a
commitment to satisfy the tender
conditions.
• Bids are assessed within 20 business
days of their submission.
• The result is then evaluated by various
government ministries within 25
business days of their receipt of the bid
assessment result.
Appointment of contractor
• PetroVietnam proposes the successful
bidders to the MoIT which then
produces and submits an appraisal
report on the appointment of

14 • EnergySource • Issue 8 • Summer 2011

 Figure 2 – Government award of oil and gas blocks
Submission of tender plan to
MoIT and Prime Minister
Tender plan assessment and approval
Tender invitation notices issued
Evaluation of submitted bids
contractors for the various blocks.
• The Prime Minister considers and
approves the appointment of the
contractors based upon the MoIT’s
appraisal reports.
• PetroVietnam and the appointed
contractors have 90 business days to
negotiate a petroleum contract based
on the content of the winning bids,
which is subsequently circulated to the
MoIT and other ministries before it is
forwarded to the Prime Minister for
approval.
• Once approved, PetroVietnam and
the contractor(s) sign the petroleum
contract.
Petroleum contracts
Local and foreign entities participate in oil
and gas E&P activities by partnering with
PetroVietnam in a petroleum contract
(either in the form of a joint venture
agreement or a production-sharing contract,
both of which follow the Model PSC) under
which key commercial terms are negotiated.
The framework for petroleum contracts is
also contained in the Petroleum Law.
It is also usual for (a) contractor(s) to
carry the State’s share of minimum work
obligations until the declaration of a
commercial discovery.
The Law on Investment (effective as
of 1 July 2006) offers some protection to
contractors which have been issued with
an “investment certificate” by the MoIT. The
investment certificate acts as a licence for
the contractor to work on its proposed oil
Successful bidders proposed to MoIT
Appraisal report on appointment
of contractor
Approval of contractor by
Prime Minister
Negotiation of petroleum contract
between PetroVietnam and contractor
and gas activities in Vietnam and enables
the contractor to carry out general business
transactions in Vietnam (such as registering
an office, opening a bank account and
certifying documents).
The Law on Investment provides a
number of investment guarantees for
investors, including:
• preventing lawful assets and invested
capital of investors from being
nationalised or confiscated, unless it is
in the interests of national defence and
security (in which case investors will be
compensated or paid damages based
on the market value of the assets);
• permitting legitimate money and assets
of investors to be transferred abroad;
and
• enabling investors to take advantage
of benefits arising from any newly-
promulgated law or policy from the
date the new law or policy takes effect
(where the new law or policy puts the
investor in a better position than it
would have otherwise been).
Tax and royalties
The State draws value from oil and gas
projects through royalties (also known as a
“natural resource tax”), corporate income
tax, import and export tax, and a share of
petroleum production.
• Royalties: paid either in crude oil
or natural gas, in cash or part cash
and part crude oil/natural gas. In
Petroleum contract submitted to MoIT,
other ministries and Prime Minister
Approval of and signing of
petroleum contract
Issue of investment certificate
accordance with the Model PSC, the
level of royalties increases in line with
production in a royalty payment period.
• Corporate income tax: rate of 32 to 50
per cent decided by the Prime Minister
on the suggestion of the Ministry of
Finance on a case-by-case basis without
exemption or reduction.
• Import/Export tax: The export tax
for crude oil has increased from 4 per
cent in 2007-2008 to its current rate
of 10 per cent, while import tax has
decreased from 15 per cent to 0 per
cent to accommodate the start-up of
domestic refineries.
The amount of export tax payable is
calculated as follows:
Amount of export tax payable =
Amount of crude oil or natural gas
exported x Taxable price x Percentage of
export tax, where:
(i) “Amount of crude oil or natural
gas exported” means the amount
of crude oil or natural gas actually
exported;
(ii) “Taxable price” means the selling
price of crude oil or natural gas
pursuant to an arm’s length
contract; and
(iii) “Percentage of export tax” means
100% – Percentage of provisional
royalties in the tax period x Export
tax rate.
• Share of production: PetroVietnam (and
sometimes PVEP) is entitled to a share
EnergySource • Issue 8 • Summer 2011 • 15
 of petroleum production net of (i) cost rise more than 50 per cent. For encouraged
recovery petroleum and (ii) any royalty. petroleum investment projects, the rate is
30 per cent. The “windfall tax” applies to
On 3 November 2009, the Government petroleum contracts signed on or after 1
issued Decree No. 100/2009/ND-CP January 2010 (unless such contracts were
(“Decree”) in respect of a “windfall tax” on already approved by the Prime Minister
contractors’ shares of profit oil in the event prior to this date).
of an increase in the price of crude oil. Under
the Decree, foreign producers are required Restrictions on exports
to pay 50 per cent of their profit over to There are, at present, no express restrictions
the Government in any quarter where oil on the export of oil and gas (save as set out
prices rise more than 20 per cent. This rate in the petroleum contract with respect to
increases to 60 per cent where oil prices any DMO (domestic market obligation)). The
Figure 3 – Model PSC: Indicative terms
Item Model PSC
Parties (1) PetroVietnam
(2) Contractor
Term Maximum 25 years (30 for encouraged petroleum
investment projects and natural gas projects), subject to
one extension of five years. Additional extension subject
to Prime Ministerial authorisation.
Exploration period Maximum five years (seven for encouraged petroleum
investment projects and natural gas projects) subject
to one extension of two years. See above regarding
additional extension.
Petroleum Law (Article 8) also recognises
a contractor’s rights to export petroleum
without the requirement for an export
permit. Despite this general right to export,
certain governmental restrictions may
apply, particularly as regards domestic
requirements, and all exports are subject to
export duties.
Pipelines
There are two main pipelines that service
the southeast of Vietnam: the Ran Dong–
Bach Ho–Dinh Co–Phu My pipeline and
the Nam Con Son–Phu My pipeline which
have an annual design capacity of 2.2 bcm
and 7 bcm respectively. The southwest
is serviced by the PM3 Ca Mau pipeline,
which has an annual designed capacity of
2 bcm, transporting natural gas from the
PM3 gas field in the area between Malaysia
and Vietnam to the Ca Mau Gas Power
Fertilizer Complex (U Minh District, Ca
Mau Province). The pipeline runs along the
seabed for 298 km and rises above ground
at Mui Tram, where it then runs onshore for
27 km. In 2010, PetroVietnam, Chevron and

Vietnamese participation PVEP participates as carried partner with a back-in right

upon commercial discovery.
Priority given to Vietnamese organisations for the
contracting-out of petroleum services/supplies.

Domestic market At the request of the Vietnamese Government, the

obligation (“DMO”) contractor is required to sell to the Vietnamese market:
• an agreed share of natural gas, at a price agreed
between the parties; and
• an agreed portion of its share of crude oil, at an
internationally competitive price.

Bonus payments Payable to PetroVietnam upon commercial discovery and

commercial production. Non cost recoverable.

Cost recovery Up to 70 per cent of annual petroleum production in

the case of encouraged petroleum investment projects
and up to 50 per cent for other projects, until costs fully
recovered.

Transfer/Assignment of all Subject to a pre-emptive right in favour of PetroVietnam.

or part of a participating Also subject to (i) an undertaking from the
interest transferee to perform all of the transferor’s obligations
under the petroleum contract and (ii) satisfaction of the
conditions on transfer of capital and projects pursuant to
the Investment Law.
Must be approved by the Prime Minister and
becomes effective on the issue of an amended
investment certificate.
Corporate income tax at a rate of 25 per cent is
payable on any income derived from such transfer/
assignment, without exemption or reduction.

16 • EnergySource • Issue 8 • Summer 2011

Thailand’s PTTEP signed an agreement to
construct a 400 km pipeline from fields in
the Cuu Long Basin to power plants in Can
Tho City. The pipeline will have a capacity
of 6.4 bcm/annum. There is no specific
regime regulating the transportation (or
distribution) of oil and gas, for example,
to facilitate third party access to pipeline
infrastructure. However, the Government
is considering introducing a number of
reforms to facilitate foreign investment in
transportation and distribution (as well as
refining).
LNG
Vietnam does not currently import LNG.
No specific regulatory framework exists
in relation to LNG, and regulation of this
area would also fall under the Petroleum
Regulations.
Vietnam’s 2016-2025 gas development
plan (“GDP”) was approved by the
Government in April this year. The GDP gives
priority to LNG imports, cutting LPG imports
and targeting an increase in domestic
output instead. The Government has said
that the country will “speed up negotiations
with foreign suppliers and infrastructure
construction to import LNG for domestic
demand”.
Plans to build an LNG terminal in
Vietnam and import LNG are also currently
under consideration by PV Gas, which as of
1 June this year had submitted its proposals
to the Government. The first phase of the
proposed project, which is expected to be
completed by 2015, will consist of an import
terminal in the southern province of Vung
Tau with an estimated annual capacity of
3 to 5 bcm. The second phase will involve
the construction of an onshore LNG plant
with an estimated annual output capacity
of around 7 to 10 bcm between 2016-2025.
Initial discussions with LNG suppliers,
potential partners and foreign investors
from Australia, Indonesia and Malaysia have
already commenced.
Refineries
The US$2.5bn Dung Quat complex,
Vietnam’s first oil refinery, came on stream
in 2009. The refinery consumes 140,000
bbl/day and meets 30 per cent of domestic
demand for finished petroleum products.
PetroVietnam is in talks with Japan’s JX
Holdings to increase the complex’s capacity
to 170,000 bbl/day. Currently, Dung Quat is
100 per cent owned by PetroVietnam but
plans to sell an equity interest to foreign
investors are being considered.
Two more oil refineries are also under
construction at Nghi Son in the north and
Long Son in the south. Both plants are
expected to commence operations in 2014
and each will have an estimated capacity of
10m tons per annum (about 200,000 bbl/
day).
The increase in refining capacity has
begun to change the pattern of Vietnam’s
oil trade as the country is able to process
and consume its own crude oil. Prior to the
commencement of operations at the Dung
Quat complex, Vietnam was unable to
process its own crude oil, instead exporting
virtually all crude oil production and
importing refined petroleum products.
Since the commissioning of Dung Quat,
oil imports have increased rapidly. At the
same time, the volume of crude oil exported
is declining. Vietnam’s export figures for
2010 show that crude oil6 contributed to
6.9 per cent of the country’s export
revenues compared with 10.1 per cent
in 2009. Vietnam’s growth in domestic
demand for oil and petroleum products
is quickly outstripping the pace of supply
expansion, with some commentators
predicting net crude oil exports to fall to
66,000 bbl/day by 20147.
Conclusion
As economic growth continues in Vietnam,
and the domestic and international energy
demand increases, the country remains an
attractive prospect for potential investors,
particularly in relation to the development
of natural gas projects. Vietnam has a
reasonably established upstream sector
and a developing downstream and refining
sector. However, continued and sustainable
development will require significant private
investment in these areas. The significance
of this is not lost on the Government as it
continues to press ahead with reform of its
regulatory system in a bid to improve the
climate for foreign investors.
6 Vietnam exported 13.3m tons of crude oil in 2009
and 7.2m tons in 2010: http://www.gso.gov.vn/
default_en.aspx?tabid=626&ItemID=9547.
7 Business Monitor International: Vietnam Oil &
Gas Report (Q4 2010).
EnergySource • Issue 8 • Summer 2011 • 17
Contingent consideration
and bridging the value gap
T: +44 (0)20 7859 1661
E: renad.hajyahya@ashurst.com
In this article, Renad Haj
Yahya, a senior associate,
and Trinh Chubbock, an
associate, at Ashurst London
explore the employment of
the contingent consideration
mechanism in oil and gas
M&A transactions to assist in
pricing the relevant assets and
getting the deal through.
The valuation of oil and gas upstream
assets is inherently uncertain, particularly
in respect of undeveloped reserves. This
is due to the factoring into the valuation
of upstream assets of many uncertain
variables, such as predictions of future flow
rates and production levels, development
programmes and costs, oil and gas price
forecasts, the level of reserves themselves,
the emergence of competing fuels and
demand destruction or even market
collapse.
In many M&A transactions, the
valuations by buyers and sellers of assets
tend to differ and this is particularly the
case for oil and gas assets where the
disparity is exacerbated by the uncertainty
of oil and gas asset valuations. The current
economic climate further compounds the
value gap as investors now generally have
18 • EnergySource • Issue 8 • Summer 2011
T: +44 (0)20 7859 3357
E: trinh.chubbock@ashurst.com
less appetite for risk and, therefore, may be
unwilling to place an upfront value on any
potential future upsides that are considered
uncertain at the time of concluding a deal.
Sellers, on the other hand, naturally seek to
achieve the highest value for their assets,
including the value of all potential upsides.
Therefore, one way in which buyers and
sellers may seek to bridge the value gap is
by employing a contingent consideration
mechanism.
Contingent consideration is an
arrangement under which at least part
of the purchase price is calculated by
reference to, and the payment of which is
dependent on the satisfaction of, pre-
agreed future performance indicators or
events. In the case of oil and gas assets,
where the value is heavily dependent on
production levels and the development
status of reserves, contingent consideration
payments would generally be triggered
by a specific event, such as production or
reserves reaching certain agreed levels, or
volumes of reserves being re-classified as
being more certain of being commercially
recoverable (see figure 1). The use of a
contingent consideration mechanism
allows sellers to achieve better prices for
assets which prove to be successful after
completion. As for buyers, the mechanism
enables them to pay more accurate prices
for assets without taking unwanted
equity risks.
The application of a contingent
consideration mechanism in private oil
and gas M&A, however, raises a number of
commercial and legal complexities such
as the issues highlighted below which
buyers and sellers should generally consider
and take into account in negotiating and
drafting the legal documentation.
How to draft the contingent
consideration targets
The contingent consideration targets should
be clearly defined in order to avoid potential
future disputes between seller and buyer as
to whether the targets have been reached.
Where a contingent consideration target
involves levels of reserves, the parties should
include provision for the reserve levels to be
certified by independent third party experts.
In addition, in order to avoid any delays
or debates as to the appointment of such
independent third party expert, the parties
may stipulate in advance a prescribed
procedure for such expert’s appointment.
Further, sellers should avoid “all or nothing”
targets and seek to agree a number of
incremental contingent consideration
targets in order to mitigate the risk of the
single target not being met. For example,
the targets can be structured so that a
contingent consideration payment becomes
due and payable upon proven reserves
reaching x level and then a further payment
being due and payable upon proven reserves
reaching a higher y level.
Where certain contingent consideration
targets are met, but subsequent to the
relevant contingent consideration payment
being made, for example certain volumes of
petroleum are re-classified to a lower level
of certainty thereby bringing the volumes
of petroleum below the relevant target, it
is unlikely that sellers will agree to repay
the contingent consideration. Therefore, in
order to mitigate this risk, for production
level targets for example, buyers could
ensure that targets are maintained over a
prescribed period of time before they are
deemed to be met.
The equity dilemma and the
management of the business
Where a contingent consideration
mechanism is used in the context of
mergers or farm-ins (i.e. where the seller
and the buyer become joint owners of
an asset on completion), the seller and
the buyer may have conflicting interests
as regards the assets which may have an
impact on the management of the business.
During the period in which any contingent
consideration remains outstanding, the
seller’s investment and management
decisions would be aimed at reaching the
pre-agreed targets in order to trigger the
payments of such contingent consideration
(which aim may take priority over certain
market considerations). The buyer, on the
other hand, would be driven by market
realities. For example, in a low oil and/or low
gas price market, the buyer may take the
view that it would rather delay investments
in developing the relevant resources until
the market conditions are more rewarding.
Also, there may be other internal competing
investment priorities which the buyer
may favour over investments that would
potentially trigger contingent consideration
payments.
Standard joint operating agreements
or shareholders’ agreements which deal
with, among other things, the management
of the assets/business generally stipulate
that work programmes and budgets,
declaration of commerciality of discoveries
and development decisions (all of which can
potentially impact the likelihood of reaching
the agreed contingent consideration
milestones) require unanimous approval or
are majority decision matters which require
the approval of both, or the majority, of the
parties (as appropriate). Accordingly, absent
specific provisions in the joint operating
agreement or the shareholders’ agreement
dealing with the decision-making process
in relation to matters that may impact the
likelihood of reaching the agreed contingent
consideration targets, the potential
conflicting interests of the parties discussed
above may hinder the management and
operation of the assets/business.
Therefore, where it is possible to do so,
detailed management provisions covering
the contingent consideration period should
be discussed and agreed by the parties
in advance in order to avoid conflicts
post-completion and in order to afford the
seller a fair chance to earn the contingent
consideration without being unduly
Figure 1
Technically and economically recoverable petroleum resources
The estimation of unproduced petroleum resource quantities is based on a project-
based classification system which determines the likelihood of the petroleum resources
being technically and economically recoverable. Unproduced petroleum resources are
categorised as follows, in order of increasing chance of being commercially recoverable:
prospective resources, contingent resources and reserves. Prospective resources are those
potential resources with a chance of discovery based on trends but require further data in
order to determine and evaluate the prospect (e.g. seismic data). Upon a discovery being
made, the relevant resources are re-categorised as “contingent resources”. The contingent
resources will be appraised and a development plan for those resources may be created
where the appraisal reveals an increasing chance that the resources are commercially
recoverable. Upon a decision to develop, the resources will be re-categorised as “reserves”
and those resources will be developed in accordance with the relevant development plan.
The next stage is production when, of course, the existence of the petroleum will be
known for certain.
Within the categories of resources mentioned above, volumes of petroleum resources
are further classified according to the level of certainty of being commercially recoverable.
For example, in the case of “reserves”, one of the ways to classify volumes of reserves is
as follows, in order of increasing certainty of being commercially recoverable: possible
(P3), probable (P2) and proven (P1). P3 means that there is at least a 10 per cent chance
that certain volumes of petroleum resources will be commercially recoverable; P2 means
at least a 50 per cent chance; and P1 means at least a 90 per cent chance. But increasing
probability of resources also means decreased absolute volumes of petroleum.
The diagram below illustrates the classification system described above*.
PRODUCTION
Reserves
1P 2P 3P
Proved Probable Possible
Increasing chance of commerciality
contingent
resources
1C 2C 3C
UNRECOVERABLE
PRospective
resources
Low Best High
estimate estimate estimate
UNRECOVERABLE
Range of uncertainty
* Excerpt from the Society of Petroleum Engineers resources classification model.
EnergySource • Issue 8 • Summer 2011 • 19
fettered by the buyer’s investment interests.
For example, the parties may agree the
level of investment in the assets/business
required or the steps that should be taken
by the parties in order to reach the agreed
contingent consideration target.
It can become even harder to manage
where the buyer is the sole owner of
the assets on completion. The buyer’s
management of the business or decision-
making, due to either market realities or
investment priorities, may be contrary to
those decisions which would promote
the contingent consideration targets
being met. Potentially, the buyer’s aim
may simply be the avoidance of making
any contingent consideration payments.
In traditional M&A transactions that do
not include any contingent consideration
elements, sellers will generally not be
afforded any rights to control a buyer’s
management and investment decisions
in relation to the assets/business after
completion (and, in most cases, sellers are
also very keen to have a clean break upon
completion). However, in transactions with
a contingent consideration element, in order
to protect sellers’ prospects of achieving,
and benefiting from, the contingent
consideration payments, sellers should
negotiate and agree with buyers provisions
dealing with management strategies
covering the contingent consideration
period. This may be a difficult issue to
negotiate as a buyer will likely resist any
restrictions on its ability to make strategic
or investment decisions as it sees fit for
assets that it owns, especially as such assets/business, i.e. on such a transfer, period in which the buyer remains so
strategic or investment decision will most what happens to a buyer’s obligation to pay liable post-transfer, e.g. a defined period or
likely be dependent on the then prevailing any outstanding contingent consideration indefinitely. The longer the period in which
market realities. Therefore, any agreed which becomes due and payable post- the buyer remains liable for any contingent
operational or management restrictions transfer? consideration payment, the more the
should strike the right balance between Sellers may address this in a number buyer may be unwilling to accept certain
allowing the buyer enough management of ways such as imposing a specific lock-in restrictions on its management of an asset/
and operational flexibility to enable the period whereby a buyer cannot transfer any business.
buyer to make the right decisions at the of its rights or obligations in the assets/ Another option which allows both
relevant time and protecting the seller’s business in order to allow what is deemed parties a clean break and avoids residual
chances to reap the rewards of any by the parties as sufficient time to meet obligations on the buyer to make any post-
contingent consideration payments. the prescribed targets. A negotiation point, transfer contingent consideration payments
therefore, would be the duration of the lock- is for the parties to agree that the buyer
Further transfer of assets in period as buyers generally will not wish may transfer the assets provided that the
by buyer – what happens to be restricted from making investment buyer pays all or part of the contingent
to buyer’s obligation to pay decisions and disposing of assets for a long consideration notwithstanding that the
contingent consideration? period. relevant contingent consideration targets
Alternatively, sellers may agree to have not been met.
Sellers and buyers should consider the transfers by buyers provided that the Any restrictions on transfer or any
relationship between a buyer’s obligation buyer remains liable to pay any contingent post-transfer payment obligations will make
to pay any contingent consideration and consideration that may become due and disposition of assets more complex and
any right of transfer of all or any part of payable after the transfer. A negotiation protracted and, therefore, may restrict the
the buyer’s rights and obligations in the point here would be the duration of the ability of buyers to make future disposal

20 • EnergySource • Issue 8 • Summer 2011


decisions. Accordingly, buyers should
be mindful of this potential complexity
when agreeing contingent consideration
structures.
The need for credit support
for buyer’s obligation to pay
contingent consideration
In uncertain markets, the future ability of
buyers to make contingent consideration
payments once they are due and payable
should be carefully considered by sellers
and, where appropriate, the need for credit
support arrangements should be discussed
and agreed. This can be in the form of a
parent company guarantee, payment of
part or all of the contingent payment into
an escrow account or other forms of credit
support. This depends on the identity of the
buyer, its credit rating and the confidence
the seller has in the buyer’s ability to
discharge its payment obligations when
they are due and payable. Whatever form of
credit support mechanism is selected, this
will invariably add to the overall complexity
of the transaction.
Tax
The use of a contingent consideration
mechanism will typically have tax
implications for sellers insofar as it impacts
what they will need to account for in
terms of capital gains. This may vary from
jurisdiction to jurisdiction.
In the UK, for example, a key question
is whether the consideration is genuinely
unascertainable at the date the asset is
disposed of or whether it is ascertainable
but merely contingent on the occurrence
of certain future events. Consideration will
be considered ascertainable if it can be
calculated by reference to events which
have occurred by the date of disposal. Each
scenario has a different tax treatment.
In the latter case, the full consideration
is brought into charge for tax with no
discount for the fact that some of the
consideration may not ultimately be paid.
There are no tax consequences when the
future amounts are received but, of course,
if the consideration is in a foreign currency
(which could be US dollars in a typical oil
and gas transaction), then the Sterling
amount taxed at the date of disposal
may be different to the Sterling amount
actually received. However, if any of the
consideration is not ultimately paid, then an
adjustment can subsequently be claimed.
Taking detailed tax advice from their
lawyers or other advisers will therefore
invariably be required for sellers of oil and
gas upstream assets where contingent or
unascertainable consideration is involved.
Accounting
Contingent consideration involving
additional cash payments affects a buyer’s
acquisition accounting in that, under
accounting standards1, a buyer must
account for the contingent consideration
as at the date of acquisition. A buyer is,
therefore, required to determine the “fair
value” of the contingent consideration and
recognise such amount as a liability in its
accounts on the acquisition date. Further, a
buyer is required to recognise the change
in such fair value amount in earnings in
each reporting period post-acquisition until
1 SFAS 141R (Business Combinations).
such amounts are settled. As a result, these
accounting requirements may result in
unexpected results and introduce instability
in a buyer’s earnings in post-acquisition
periods. For example, if the acquisition
underperforms, the fair value of the
contingent consideration may be reduced
and, therefore, the liability would also
be reduced, which would result in a gain
reported in earnings. On the other hand, if
the acquisition proves to be successful (i.e.
certain of the milestones are met), there
will likely be an increase in the fair value
and, therefore, an increase in liability, which
would result in an additional expense in the
post-acquisition accounts.
Conclusion
In the current economic climate where
fewer M&A deals are being completed
than usual, taking reserves risks is not
an attractive proposition for potential
buyers. However, applying a contingent
consideration mechanism in a transaction
may, in the right circumstances, bridge
the value gap between sellers and buyers
and enable them to conclude a deal that
would not have otherwise been possible.
As demonstrated above, the application
of a contingent consideration mechanism
in a deal is not without its difficulties and
complexities, and involves a number of
issues that should be addressed by the
parties. Nevertheless, the mechanism
has the potential of solving one of the
important commercial challenges, the price
of the relevant assets reflected against the
inherent development risk in respect of
those assets.
Finally, some commentators suggest
that applying the contingent consideration
structure to upstream private M&A deals
distorts the “fair market value” of the
relevant asset. Sellers tend to argue that
contingent consideration structures deflate
the fair market value of assets, while buyers
tend to argue that they inflate the value.
This remains a complex question that
will no doubt present some challenges to
the different players in the market as the
number of oil and gas M&A deals involving
a contingent consideration mechanism
increases. Whether or not a contingent
consideration mechanism is an appropriate
pricing mechanism is debatable but, given
the current circumstances, it is arguably a
necessary evil.
EnergySource • Issue 8 • Summer 2011 • 21
Investment treaties:
The BITs you need to know
T: +65 6416 0279
E: james.arrandale@ashurst.com
In this article, James
Arrandale, an associate in
Ashurst Singapore’s dispute
resolution practice, and Tom
Cummins, an associate in
Ashurst London’s dispute
resolution practice, explain
how international treaties
are used to protect investors
from political risk. In the next
edition of EnergySource,
James and Tom will discuss
the Energy Charter Treaty,
a multilateral investment
treaty intended to encourage
investment in the energy
industry.
Unrest in the Middle East and North Africa
has dominated the headlines for much of
2011. The importance of these regions to
the energy industry has prompted renewed
consideration by energy players as to
how political events can affect not only
security of supply of oil and gas generally,
but also the security of their investments
in those regions. This is therefore a timely
moment to consider some of the ways in
which energy investors can protect against
political risk.
22 • EnergySource • Issue 8 • Summer 2011
T: +44 (0)20 7859 1051
E: tom.cummins@ashurst.com
Of course, the recent political upheavals
do not represent a new or unforeseen
challenge for the energy industry, which
has always had to contend with political
risks. Tensions between host governments
and energy investors exist in all parts of the
world – and in times of both stability and
instability. Such tensions show no signs of
decreasing in the foreseeable future and are,
in fact, heightened by the ever-increasing
strategic significance of energy resources,
and the consequent political pressures
which are faced by both the governments of,
and investors in, energy-rich states.
In this article we consider the
protections against political interference
which are available to energy investors
under bilateral and multilateral investment
treaties (“BITs” and “MITs”, respectively);
we also look at the mechanisms of
international arbitration that allow
investors to exploit that protection.
Two high-profile ongoing cases give
a useful indication of how BITs and MITs
apply in the energy sector. Firstly, the former
shareholders in Yukos have brought a
claim against Russia of around US$100bn,
seeking damages in relation to the ultimate
sale of that company to the Russian
State. The claim was brought under the
Energy Charter Treaty (the key MIT for the
energy sector). Secondly, in February 2011,
a regional court in Ecuador handed down
a US$8.6bn judgment against Chevron
for environmental damage arising from
operations in Ecuador. Chevron maintains
that these claims are unfounded, and has
brought a parallel international arbitration
claim against the Ecuadorian Government,
under the United States-Ecuador BIT, with
the aim of invalidating this judgment and
any similar proceedings in Ecuador. These
very different examples demonstrate the
versatility of investment treaty protections.
Bilateral investment treaties
BITs are agreements between two states
to protect and promote investments by
nationals of each state in each other’s
jurisdictions. MITs, by contrast, involve
more than two states entering into such
agreements. BITs and MITs list a number of
standards and protections that the state
parties guarantee will be upheld. Crucially,
they also contain arbitration provisions,
which mean that investors’ rights resulting
from these protections can viably be
pursued – the treaties are not simply
statements of good intentions.
As states compete for foreign direct
investment, these instruments have become
increasingly popular. The offer of formal
investment protections coupled with the
arbitration mechanism decreases the risk
profile of investments, making it easier for
investors to obtain funding.
The surge in the number of BITs, and
in the use of investment treaty arbitration,
followed the creation of the International
Centre for the Settlement of Investment
Disputes (“ICSID”) in 1966. ICSID was
formed under the ICSID (or Washington)
Convention, a multilateral treaty promoted
by the World Bank. The highly publicised oil
nationalisations in Iran in the 1950s were
the impetus for its creation.
Currently, there are over 2,600 BITs
and more than 270 other types of bilateral
investment agreements, such as economic
partnership agreements or free trade
agreements, in force. All countries are party
to at least one BIT or similar agreement.1
1 The Role of International Investment Agreements
in Attracting Foreign Direct Investment to
Developing Countries, UNCTAD, 2009 (http://
www.unctad.org/Templates/Download.asp?do
cid=12543&lang=1&intItemID=2068). The only
known exception is Monaco.
 Claims arising under BITs and MITs
have given rise to a significant body of
international arbitration decisions. That
said, it is important to note that awards
of arbitration tribunals are not binding on
subsequent tribunals, and a notable feature
of the “case law” on investment claims is the
varying approaches taken to certain issues.
This can make it difficult to predict how an
arbitration tribunal will decide a particular
claim.
Most BITs offer a similar menu of
protections and have a similar form. We
explain below the key concepts used in BITs
and the legal issues which may arise.
Who, and what, is protected
by BITs? The need for an
“investment” and an “investor”
The existence of an “investor” and an
“investment” as defined in the relevant
treaty (or in the ICSID Convention – see
below) are key threshold tests for a party’s
ability to claim under an investment treaty.
“Investment” is often defined widely in BITs.
Some BITs, for example, provide protection
for “every kind of asset”. This includes not
only assets, such as physical property, but
also contractual rights, such as those for the
exploration and development of oil and gas
reserves. Investors should note, however,
that some BITs define investments more
restrictively and seek to limit claims which
may be brought by investors. Tribunals have
also adopted similar tests to those used to
determine whether an “investment” exists
for the purposes of the ICSID Convention
(see below).
Investors are often unaware that unless
a BIT expressly provides otherwise, the
definition of “investment” extends not only
to contracts entered into directly between
a host state or a state-owned entity and
an investor, but also to contracts between
two, or more, private parties. If the host
state interferes with the performance of
a contract, for example by confiscating
a service provider’s equipment, then the
parties may have claims under a BIT.
BITs only apply to investments made
by investors who are nationals of one
party to the BIT in the territory of the other
party. Consequently, the issue of control or
ownership over the investor company is
important: project companies are often set
up in host states, and are therefore prima
facie nationals of that host state, and would
not be entitled to BIT protection absent
express provision. For this reason, many BITs
refer expressly to direct or indirect control
by nationals of one BIT party as sufficient
for a company to qualify as an investor. So, a
company incorporated in an African country,
but owned by British nationals, might
qualify as a claimant under a BIT between
the host country and Great Britain. However,
tribunals have taken surprisingly divergent
views on what ownership arrangements
will qualify an investor as a national of the
requisite state, so as to access protection
under a particular BIT.
Structuring investments so that
investment companies are incorporated
in specific jurisdictions for the purposes of
obtaining treaty protections is not unusual.
It is often done for taxation purposes. It is
equally important that BIT protections are
considered at the same time.
What protections do BITs offer?
We consider below the main protections
typically provided in investment treaties.
Many of these protections overlap.
Arbitration tribunals considering
investment claims have commonly found
certain state acts to be breaches of several
categories of protections.
Fair and equitable treatment
Providing fair and equitable treatment
(“FET”) to investors is one of the core
protections found in BITs. However, it is
hard to define precisely what FET is. For
this reason, investors often include claims
for breaches of the duty of FET in addition
to claims brought under more specific
provisions.
Claims for breach of the FET obligation
often arise in circumstances where investors
consider that they have been unfairly
treated by the courts of a host state. This
may involve courts failing to consider claims
brought by investors, or dispensing justice
in a discriminatory way.
Claims have also been brought where
administrative decisions have been taken
by host state authorities which are unfair.
This may be because the legitimate
expectations of investors have not been met
or the host state has acted inconsistently –
although the host state’s legitimate right
subsequently to regulate domestic matters
in the public interest will also be taken into
consideration in such cases.2
Protection against expropriation
Expropriation is the taking of property
from its owner, ostensibly for public
use. It is a common misconception that
expropriation is not allowed by BITs. BITs
typically recognise that expropriation
may occur and provide for the levels of
compensation which the investor must be
paid. Expropriation will often be permissible
if it is justified, non-discriminatory
and if prompt, adequate and effective
compensation is paid to the investor.
Expropriation takes different forms.
Direct expropriation might involve the
transfer of an asset to state ownership.
2 Saluka Investments BV -v- The Czech Republic
(UNCITRAL arbitration).
EnergySource • Issue 8 • Summer 2011 • 23
Indirect expropriation might involve
measures by a host state depriving the
investor of the economic benefit of its
investment, such as amendments to the
fiscal terms for exploration. Attention
has been paid in recent years to so-called
“creeping expropriation”, where host states
gradually introduce measures which have
the effect of depriving the investor of the
benefit of its investment over time.
Compensation for expropriation is only
available, in principle, if the investor has
been “substantially deprived” of his rights.3
Whether a substantial deprivation has
occurred will depend on the circumstances.
Full security and protection
The obligation to provide physical
protection for the assets of foreigners is
the most historic of the rights recognised
in BITs. However, it is particularly relevant in
light of the recent social unrest in the MENA
region. Modern BITs commonly require host
states to offer full security and protection
to investors. In other words, host states are
obliged to exercise due diligence and to be
vigilant with regard to the protection of
investments. Importantly, this often extends
to legal, as well as physical, protection.
Related to this, investors are often
concerned that they will not be able
to transfer returns made from their
investments to bank accounts outside the
host state. Most BITs expressly allow this.
Most-favoured nation/national treatment
BITs often contain a most-favoured nation
(“MFN”) provision. This ensures that an
investor is treated no less favourably
than other external investors. Similarly,
“national treatment” provisions ensure that
investors are treated no less favourably than
nationals of the host state.
The MFN provision can be a very
powerful tool for investors. It enables them
to take advantage of favourable provisions
in other BITs entered into by the host state,
despite the absence of any similar provision
in the BIT directly applicable to them, or the
presence of an entirely different and more
onerous provision in that BIT.
Investment treaty claims or
contractual claims?
Where an investor has entered into a
contract with a host state, it will often be
more advantageous for the investor to
3 Saipem SpA -v- The People’s Republic of
Bangladesh (ICSID Case No. ARB/05/7).
24 • EnergySource • Issue 8 • Summer 2011
pursue its claim under a BIT rather than
under the contract (often described as
“elevating” the contractual claim to a treaty
claim). Advantages include avoiding a
contractual obligation to litigate or arbitrate
in the host jurisdiction, as well as the
additional legal bases that a treaty provides
for making claims.
This elevation is possible under the
“umbrella” clauses, or broad dispute
resolution clauses, commonly included in
BITs. Broad dispute resolution clauses give
jurisdiction over, for example, “any dispute
relating to investments”. 4 Under “umbrella”
(or “observance of undertaking”) clauses, the
host state agrees to observe any obligation
which it has entered into with regard to
investments in its territory. These clauses
are, unsurprisingly, heavily contested in the
course of disputes.
Issues of contractual privity may also
block this route: usually it is not the state,
but a state-owned entity with separate
legal personality, who is the counterparty in
energy investments. In such cases, no direct of loans or the occurrence of some political
contractual link exists to the state. It would development which requires the satisfaction
therefore need to be established that the of treaty awards against the state.
actions of the state-owned entity should be ICSID has been ratified by over 140
attributed to the state, before claims based states7 . Since the first ICSID case in 1972,
on the contract itself (as opposed to claims over 300 cases have been registered with
based on breaches of the treaty) could be ICSID, with a marked increase in new cases
pursued against it.5 since 2000. Thirty-nine per cent of cases
registered at ICSID have arisen in the oil, gas,
How are disputes resolved mining, power and other energy sectors.8
under investment treaties?
The requirements for ICSID
As noted above, one of the most important arbitration
benefits of investment treaties is that they
provide for arbitration in a neutral venue The principal requirements for ICSID
between an investor and a host state. A arbitration are:
number of different arbitration options are
often found in investment treaties, usually • party consent to ICSID arbitration in
including arbitration under the rules of writing; and
ICSID, which are tailored to investment • the existence of a legal dispute arising
disputes.6 Any award made by an ICSID from an investment between an ICSID
tribunal is enforceable in a state which contracting state and a national of
has ratified the ICSID Convention as if it another contracting state.
were a judgment of a local court. However,
successful enforcement often requires Commonly a host state consents to ICSID
the co-operation of the host state. Such arbitration in its BITs. An investor then
co-operation may only be forthcoming if consents in writing by commencing a claim
the host state has a pressing need to secure under the ICSID rules.
international assistance, either in the form
7 Note the important distinction between
4 Compania de Aguas del Aconquija S.A. & Vivendi signature and ratification. A significant number
Universal -v- Argentine Republic, ICSID Case No. of states have signed the ICSID Convention
ARB/97/3. but have not ratified it. Perhaps the most high
5 The ILC Articles on the Responsibility of States for profile is Canada, the only member of the G8 and
Internationally Wrongful Acts provide the main one of only three OECD countries which have
authority on this issue. not ratified the Convention (the others being
6 Arbitrations under the UNCITRAL, Stockholm Poland and Mexico which have not signed the
Chamber of Commerce and ICC arbitration rules Convention).
are also popular. 8 The ICSID Caseload – Statistics (2011-1).

The questions of (a) what constitutes
an investment and (b) who is a national
of another contracting state have proven
controversial. It is important to note that,
in order to be able to claim before ICSID, a
claimant must pass as an “investor” with
an “investment” as defined under the ICSID
Convention as well as under the relevant
investment treaty.
The ICSID Convention does not define
an “investment”. Tribunals considering the
point have often adopted, as a starting
point, the decision in Salini Costruttori SpA
-v- Kingdom of Morocco,9 in which it was
held that an investment must involve (i)
contributions by the investor; (ii) a certain
duration of performance of the contract;
(iii) a participation in the risks of the
transaction; and (iv) a contribution to the
development of the host state. However,
tribunals continue to resist an exclusive
set of criteria in favour of “a flexible and
pragmatic approach”.10
In the same way as for BITs generally, it
is important to note that contractual rights,
as well as pure physical rights to an asset,
may entitle investors to ICSID arbitration.
ICSID arbitration is only available to
nationals of an ICSID contracting state
other than the contracting state in which
the investment is made. Similar to the case
with BITs, this rule is qualified by the fact
that parties to a dispute can agree that a
9 ICSID Case No. ARB/00/4.
10 Biwater Gauff (Tanzania) Ltd -v- United Republic of
Tanzania (ICSID Case No ARB/05/22).
national of a contracting state in which an
investment is made shall be considered a
national of another contracting state by
virtue of foreign control.
The approaches of tribunals to the ICSID
nationality requirement has varied.11 As a
result, it is difficult to ascertain principles
upon which investors can rely as to when
an investor will be considered to satisfy
the nationality test. The paradigm case of
an investment being made by a corporate
whose state of incorporation is also its place
of management and major production
centre, remains the safest course.
A common tactic for investors is to
use the threat of international arbitration
proceedings as a means of renegotiating
contracts with host states in circumstances
where their rights have been affected.
Unlike arbitration proceedings between
private companies or individuals,
investment treaty arbitration is often public
and the subject of extensive commentary.
The possibility of high-profile ICSID
proceedings and their association with
the World Bank often act as an incentive
for host states to engage with investors,
particularly if they fear adverse publicity will
affect their ongoing ability to obtain foreign
investment.
Multilateral investment treaties
MITs are frequently concluded on a regional
basis and are intended to promote trade
and mutual investment. Many contain
similar protections to those provided in
BITs. Often, free trade agreements between
states also contain investment protections.
Important examples of MITs/free trade
agreements are:
(a) the North American Free Trade
Agreement (“NAFTA”) between Mexico,
Canada and the United States; and
(b) the Association of Southeast Asian
Nations (“ASEAN”) Agreement for
the Promotion and Protection of
Investments between Brunei, Cambodia,
Indonesia, Laos, Malaysia, Myanmar, the
Philippines, Singapore, Thailand and
Vietnam.
Of greatest significance for investors in
energy infrastructure is the Energy Charter
Treaty (“ECT”), which has been ratified by
11 Contrast TSA Spectrum de Argentina S.A. -v-
Argentine Republic (ICSID Case No. ARB/05/5)
and Tokios Tokeles -v- Ukraine (ICSID Case No.
ARB/02/18).
nearly 50 states. In our next article, we will
examine the ECT and legal issues which
have arisen from it.
How can investors take
advantage of investment treaty
protections?
We set out below a list of questions which
investors considering energy projects
overseas should consider. The list is not
intended to be exhaustive. It illustrates
steps which can be taken to enhance the
likelihood of benefiting from investment
protections.
• What are the options available to
the investor? What BITs, or MITs, are
available which may protect the
investment? Would the investor, and the
investment, fall within the protections
of any BIT or MIT?
• If there are multiple options, which
substantive provisions in different
treaties are most favourable to the
investor? There is some variety in
the provisions offered by investment
treaties. Which treaties are best suited
to protecting the particular investment?
• Can a contractual structure for an
investment be adopted which increases
available protections? Could the
investment be made by a company in a
state which has entered into favourable
investment treaties? Can a holding
company be incorporated which
would permit access to investment
protections?
• What dispute resolution provisions
are available? Do the available treaties
provide for efficient resolution of
disputes? If the treaties provide for
ICSID arbitration, would the investor
and investment qualify?
What other mechanisms may
mitigate the risk of investing?
Finally, it is important to note that, beyond
investment treaties, there are other
techniques available to reduce investment
risk. One method is to arrange political risk
insurance. Another is to insert stabilisation
provisions into the investment agreement. A
third is to obtain finance from a multilateral
institution such as the World Bank or
European Investment Bank, which may
indirectly serve as a disincentive to political
interference by the state.
EnergySource • Issue 8 • Summer 2011 • 25
Incoterms 2010:
The death of DES
T: +44 (0)20 7859 1782
E: nicholas.ross-mccall@ashurst.com
In this article, Nicholas Ross-
McCall, a senior associate at
Ashurst London, discusses the
new Incoterms 2010 and their
key reform – the replacement
of the Delivered Ex-Ship rule –
as well as the implications for
energy practitioners.
While the Incoterms 2010 represent
evolutionary, rather than revolutionary,
changes as compared to the previous
Incoterms 2000, there are a few
developments which are worthy of note, in
particular the replacement of the Delivered
Ex-Ship rule (“DES”) with a new concept.
The Incoterms
The Incoterms have been produced by
the International Chamber of Commerce
since 1936 to facilitate trade in tangible
goods. The new edition, which came into
effect on 1 January 2011, is the eighth
revision of the internationally-recognised
standardised terms. Many standard
petroleum product contracts, including gas
and LNG sale and purchase agreements,
refer to the Incoterms. Use is voluntary but
extensive in practice, for decades in the
case of international trade agreements,
and now increasingly in the domestic
26 • EnergySource • Issue 8 • Summer 2011
sphere – even in the United States where
they are beginning to displace the Uniform
Commercial Code. While the Incoterms
cover which party does and pays for what,
insurance, export and import clearances,
delivery and passing of risk, they are not a
stand-alone agreement in themselves. In
particular they do not cover, among other
things, passing of title, detail on payment
obligations, termination events, liability,
insolvency, force majeure and specific ship
requirements. So a particular rule is either
incorporated by reference into a contract
in full (usually subject to the contract
taking priority in case of any inconsistency),
or certain definitions or terms from a
particular rule may be incorporated into a
contract.
Abolition of DES
While energy practitioners will probably
be pleased to note that the Free on Board
rule (“FOB”) is substantially unchanged in
the Incoterms 2010, DES (along with the
Delivered at Frontier and Delivered Duty
Unpaid rules) has been replaced by a new
Delivered at Place rule (“DAP”), the ICC
considering it would make the rules more
user-friendly if substantially similar rules
were abolished.
FOB is supposed to apply only where
both the delivery and unloading points and risk are essentially unchanged for DAP,
are ports, and DES provided specifically for i.e. these are borne by the seller (except
delivery at a port. By contrast, DAP can be for import clearances). Under DAP, if the
used for any form of transport (road, air seller incurs costs in relation to unloading,
or sea) or even a combination of types of it cannot recover these from the buyer, and
transport, because delivery merely has to the seller is obliged to clear the goods for
occur at any specified destination when the export.
relevant goods are at the buyer’s disposal
ready to be unloaded from the delivery Implications for existing
vehicle at the delivery place (i.e. the buyer contracts
pays for unloading). Note that LNG sale and
purchase agreements are more specific, Existing contracts which refer to or
referring to delivery occurring when the incorporate all or part of DES should be
LNG passes the flange coupling between checked to ensure they refer specifically
loading port and ship (in the case of FOB) or to Incoterms 2000 and that references
the ship and unloading port (in the case of to Incoterms 2000 are not automatically
DES/DAP) so care should be taken to ensure changed to refer to updated versions.
the contract does not create a conflict if the Interpretation clauses often specify that
Incoterms are used. references to laws or rules are to those laws
The old DES terms relating to costs or rules as amended or replaced from time
to time. Ideally, the parties to a contract
should discuss and agree any amendments
required to ensure there is no confusion
or argument in future as to the applicable
Incoterms provisions.
Going forward
Precedent contracts (and traders’ internal
guidelines) should also be checked and,
if necessary, updated to ensure conflicts
are not created. Parties are free to select
whether to incorporate Incoterms rules and,
if so, which version to incorporate (as well as
any amendments to them). So if parties are
comfortable dealing on the Incoterms 2000
version of a rule then this can be specified.
Given the Incoterms 2010 represent a
general update and clean-up, it is suggested
that they be used going forward, with
DAP being used in place of the old DES.
References to Incoterms without specifying
the version of the rules should, of course, be
avoided.
Other changes
The Incoterms 2010 make many other
material changes to the rules in order to
deal with developments in trade since 2000,
including the increased use of containers.
These include:
• grouping the now 11 separate rules
into two groups, those for all modes of
transport and those for sea/waterway
transport, with clearer guidance notes
to aid correct use of the rules;
• allowing electronic communications;
• changes to the insurance provisions to
fit the current Institute Cargo Clauses;
• a tweak to prevent double charging for
terminal handling fees;
• updates to deal with increased security
and information-sharing concerns;
• tweaks to allow for “string” sales of
commodities; and
• changes to cater for customs-free zones.
Conclusion
The changes to the Incoterms are to be
welcomed but existing contracts and
standard forms should be checked and
updated to ensure disputes are avoided.
More experienced practitioners may lament
the abolition of the concept of risk passing
at the ship’s rail in FOB contracts and
debates about an imaginary line stretching
up into the atmosphere; risk now passes
when the goods are on board.
EnergySource • Issue 8 • Summer 2011 • 27
A new dawn for the French sola
The new tariff regime for larger solar projects in France

In this article, Michel Lequien, a partner at Ashurst Paris, discusses

how recent developments in France are expected to lead to the
eventual restabilisation of the legal framework for larger solar
projects and provide more certainty for participants.

T: +33 (0)1 53 53 55 77
E: michel.lequien@ashurst.com
As a result of the “Grenelle de
l’Environnement” initiative, France has
undertaken that by 2020, 23 per cent
of its final energy consumption will be
generated from renewable sources, an
objective that is in line with that set
for France by the European Union1. The
Grenelle de l’Environnement initiative, which
was launched in May 2007, was a wide
environmental consultation process which
subsequently led to the adoption of two
important laws dated 3 August 2009 and
12 July 2010 (the so-called “Grenelle I” and
“Grenelle II” laws) for the implementation
of the environmental undertakings
(engagements) adopted in the initiative.
Various incentive mechanisms have
been established in order to stimulate
the implementation of renewable energy
projects in France. The key incentive for new
entrant energy producers consists of the
obligation for Electricité de France (“EDF”)
and local electricity distributors (“DNN”)
to purchase the electricity generated by
production facilities using renewable energy
sources on the basis of a purchase contract2.
The feed-in tariff at which EDF or a DNN
will be obliged to purchase the electricity
is, in most cases, set by government order.
In certain cases, however, where a tender
for the development of new capacity is
organised by the State and implemented by
the Commission de régulation de l’énergie
(“CRE”), the tariff is determined by the
bidders, in accordance with the terms and
conditions of the tender.
The additional costs incurred by the
purchaser resulting from the feed-in tariff

2 See article L314-1 of the Energy Code and article

1 See directive 2009/28/EC of 23 April 2009, which 3 of Decree no. 2000-1196 of 6 December 2000
sets out a mandatory target of a 20 per cent setting out for each type of installation the limits
share of energy from renewable sources in overall on the capacity of installations entitled to benefit
Community energy consumption by 2020. from the electricity purchase obligation.

28 • EnergySource • Issue 8 • Summer 2011


ar market
are offset by a contribution paid by end-
consumers of electricity (la contribution au
service public de l’électricité).
In order to meet its 23 per cent goal, the
French Government has set an objective
of 5,400 MW of solar energy production
capacity3 to be developed by 31 December
2020. To achieve this, the Government
intends to promote the development of a
strong French solar industry covering the
entire production, supply and maintenance
value chain.
This article focuses on the regulatory
regime applicable to larger solar roof
installations and solar plants (i.e. on-ground
solar facilities and larger roof installations
with a capacity in excess of 100 kWp). We
will see that 2010 has seen significant
regulatory changes which have created
legal uncertainty and risks for developers
of solar projects in France while in 2011 new
regulations have been implemented, the
long-term impact of which on the solar
industry in France still remains unclear.
3 Covering both solar photovoltaic and solar
thermal systems.
2010: Successive reviews of
the feed-in tariff regime and
regulatory uncertainty
At the end of 2009, the French Government
announced, by way of a simple press
announcement, that it was planning to
reduce the feed-in tariff (or “FIT”) applicable
to the purchase of electricity generated by
solar facilities. At the time, the purchase
tariff was set by a government order (arrêté)
of 20064.
Under the 2006 arrêté, the triggering
event for the application of the tariff to
a given project was the date of filing of
the request for an electricity purchase
contract (contrat d’achat d’électricité) with
EDF or a DNN. Following the Government’s
announcement, and in the wake of
the upcoming feed-in tariff reduction,
developers and operators rushed to
file requests for an electricity purchase
contract with EDF in order to secure
the more favourable tariff provided by
the government order of 2006 for their
project before the announced change. The
number of applications soared to 26,200 in
December 2009, for an aggregate capacity
of 3,167 MWc (against approximately 2,500
to 9,000 applications per month before the
announcement5), leading to a huge backlog
of projects and the fear, on the part of the
Government and the regulator, that the
solar industry was facing a “speculative
bubble” that would rapidly become much
too costly for EDF and, ultimately, the
electricity consumers.
As announced, a new tariff regulation
providing for a reduction in the feed-in tariff
was adopted by the Government in a series
of orders of January 2010. The new regime
also provided that the tariff applicable to a
project would be determined by reference to
the date on which the developer has applied
to Electricité Réseau Distribution de France
(“ERDF”) (or, as the case may be, to Réseau
de Transport d’Electricité (“RTE”)) for the
connection of its facility to the distribution
(or transport) network. However, the order
did not provide details as to the date from
which the new rules were to be applied,
so developers who had filed a request for
4 Government order of 10 July 2006 setting out the
terms applicable to the purchase of electricity
produced from facilities using solar energy as
mentioned in point 3 of article 2 of decree no.
2000-1196 of 6 December 2000.
5 Source: J.-M. Charpin, A. Siné, Ph. Helleisen, C. Tlili
and C. Trink, Mission relative à la régulation et
au développement de la filière photvoltaïque en
France, September 2010.
an electricity purchase contract before the
entry into force of the orders were uncertain
as to which tariff regime would apply to
their project.
The Government then adopted a new
order in March 2010 in order to clarify and
regulate the transitional period. The order
did not achieve its purpose and created
a very complex and uncertain regulatory
framework. The application of the order by
EDF was challenged on the basis that the
order would have applied the new tariff
retroactively to projects that should have
benefited from the former, more favourable,
tariff of 2006.
Given the risk of successful legal
challenge against the new regulatory
system, the orders of January 2010 were
validated by the Parliament (validation
législative) as part of the Grenelle II law of
12 July 2010 in order to prevent any claim
before the French courts.
Then, at the end of August 2010, at a
time when the solar industry and other
stakeholders were exploring different
options for a complete overhaul of the
system, the Government decided on a
new general cut in the feed-in tariff of
approximately 12 per cent6 . The order
provided for another transitional system,
similar to that provided for in the order of
March 2010.
Finally, in December 2010, and in
light of the fact that notwithstanding
the two successive tariff cuts of March
and August 2010, the number of projects
entering the “waiting list” (file d’attente)
of projects awaiting a purchase contract
and connection to the electricity grid had
not decreased, the Government adopted
a decree providing for a three-month
moratorium “suspending” the purchase
obligation regime applicable to on-ground
solar facilities and larger roof installations
with a capacity in excess of 3 kW7. This
suspension applied to all projects that
had not reached a sufficient “degree of
maturity”, for a total aggregate capacity of
approximately 3,257 MW8.
A project that is insufficiently “mature”
6 Government order of 31 August 2010 setting
out the terms applicable to the purchase of
electricity produced from facilities using solar
energy as mentioned in point 3 of article 2 of
decree no. 2000-1196 of 6 December 2000.
7 Decree no. 2010-1510 of 9 December 2010
suspending the electricity purchase obligation
generated by certain facilities using solar energy.
8 Source: J.-M. Charpin and C. Trink, Rapport de la
concertation avec les acteurs concernés par le
développement de la filière photovoltaïque,
17 February 2011.
EnergySource • Issue 8 • Summer 2011 • 29
is a project for which the operator had
not confirmed by 2 December 2010 to
the relevant electricity network operator
its acceptance of the network operator’s
“technical and financial proposal for the
connection to the network” (proposition
technique et financière de raccordement au
réseau or “PTF”).
In fact, the “suspension” meant that
suspended projects will not enjoy the 2010
tariffs and will have to be restarted from
scratch. The same will happen to projects
that are not suspended as a result of
the decree but which (i) are not put into
operation within 18 months following the
acceptance of the PTF, whether for technical
reasons or inability to finance the project
within such deadline, or (ii) are not put into
operation by 2 September 2011, in those
cases where the PTF was given before 2 April
20109.
The Government has used the
moratorium to design the new regulatory
FIT regime to be applied to larger solar
projects.
2011: Implementation of a new
feed-in tariff regime
The new FIT regime has been adopted
following intense consultation between
the Government, developers, operators and
representatives of the French solar and
renewables industry, local authorities and
environmental groups. The consultation
resulted in the Charpin-Trink report (named
after its authors) which was published in
February 201110.
The new incentive regime aims at
fostering the development of 500 MW of
installed capacity per year over the next
years. However, given the backlog of non-
suspended projects still on the “waiting list”,
it is expected that 2011 and 2012 will still
see the development of between 1,000 and
1,500 MW per year. The annual target of 500
MW will be reviewed in 2012 and may be
increased to 800 MW.
The new regime is established by a
government order of 4 March 2011 and
sets out different tariffs depending on the
type and the capacity of the production
installation.
For roof installations with a capacity
9 It is generally thought that almost half of the
“non-suspended” projects will not be completed
within the applicable deadline, i.e. approximately
1,625 MW of installed capacity.
10 See: J.-M. Charpin and C. Trink, Rapport de la
concertation avec les acteurs concernés par le
développement de la filière photovoltaïque.
of less than 100 kWp, the regulated tariff
system currently in place is maintained but
with a further 20 per cent cut. In addition,
the tariff may be further reduced by the
application of a reduction factor (coefficient
de dégressivité) on a quarterly basis by
reference to the number of ongoing projects
and the applicable production target as set
by the Government.
For roof installations with a capacity in
excess of 100 kWp, including in particular
larger roof installations of a capacity in
excess of 100 kWp, and for ground-mounted
installations, the base tariff is set at €0.12/
kWh, which tariff progressively reduces on a
quarterly basis by application of a reduction
factor. The tariff is low and the Government
has indicated that, for these larger projects,
it will favour a system based on the
tendering of new projects by the State in
accordance with article L311-10 of the Energy
Code. This will allow the Government
to control the volume of projects in
development and prevent the creation of a
new photovoltaic “bubble”.
For roof installations with a capacity of
between 100 kWp and 250 kWp (1,000 to
2,500 m2 of roof), there will be a simplified
tender (appel d’offres simplifié), on the basis
of standard terms and conditions and with
only one selection criteria, being the price
per kWh; the annual development target
(cible annuelle) is 120 MW.
For roof installations with a capacity in
excess of 250 kWp and ground-mounted
installations, the CRE will organise several
tenders over the coming years and the
selection criteria will comprise not only the
price per kWh bid, but also environmental
considerations and innovation, etc. The
annual development target is 20 MW for
roof installations and 160 MW for ground-
mounted installations. Bidders will be
required to satisfy environmental as well as
industrial criteria11 in order to foster energy
efficient and innovative projects.
The first calls for tenders are expected
to be published in the summer of 2011. As
in the case of the offshore wind tenders, a
public consultation phase will be organised
by the Government in advance of the
launch of the first tender in order to assist
the Government in the determination of the
main technical terms and conditions of the
terms of reference of the tenders.
There is still little information available
on the format and key terms of the tenders.
It is likely, however, that the choice of the
tendering system will favour primarily the
biggest players on the French solar market,
which are better equipped to participate in
competitive processes and have sufficient
financial means to bear the costs thereof.
After a period of transition in 2010 and
2011, one can expect the French solar market
for larger projects to restart on a new and
stabilised legal framework.
11 In a context where the French Government
has indicated a strong desire to foster the
development of a French solar industry,
developing a French base or partnering with
French players will be seriously considered.

30 • EnergySource • Issue 8 • Summer 2011

UK power:
Where do we go from here?

T: +44 (0)20 7158 3521

E: alan.white@lloydsbanking.com

In this article, Alan White,

Head of Conventional Energy,
Project Finance at Lloyds Bank,
offers his insight into the
current state of the UK power
projects market.

“Where do we go from here?” was the

question posed by Ashurst’s lawyers at a
recent roundtable dinner which I attended
along with other industry specialists from
the utilities, independent power developers,
commodity traders and banks.
The topic had been prompted by the
announcement in December 2010 by the
UK Government of a wholesale reform of
the electricity markets as part of its overall
strategy to move towards a low-carbon
economy, of which the power sector plays
a significant part. At present, generators
and suppliers of electricity trade power
on a bilateral basis, with suppliers obliged
to obtain an increasing proportion of
electricity to meet the needs of their
customers from renewable sources – the
Renewables Obligation (“RO”).
Under the RO, the renewable generators
are paid a premium for their electricity
above the market price based on the volume
of electricity produced. This effective subsidy
is evidenced by Renewable Obligations
Certificates which electricity suppliers are
required to buy as proof of purchase of
“green” power.
While the drive for a low-carbon
economy is a perfectly valid approach to
adopt in these times of climate change, the
very nature of renewable energy sources,
which tend to be weather influenced,
is their intermittency along with their
comparatively high capital cost when
compared to traditional generation plants
fuelled by coal or gas.
The only truly low-carbon-based
generation which can provide base load
electricity irrespective of the weather
conditions is nuclear, which is itself very
expensive and has other questions linked to
it around the general public perception of
nuclear energy.
The UK Government is therefore faced
with a dilemma. How does it encourage
the development of new low-carbon
generation, without the need for significant
public subsidies, and also maintain a steady
availability of electricity for consumers?
In seeking to address this, the
Government has embarked on a programme
of consultation which will be followed by
a White Paper setting out a mechanism
that will be designed to encourage the
development of new nuclear capacity. This
new capacity will be fully paid for by the
developer (and therefore the consumer), and
will not require the taxpayer to separately
support the sector. In fact, in 2013 the
Government will further incentivise the
development of low-carbon capacity (in

EnergySource • Issue 8 • Summer 2011 • 31

particular nuclear) through the imposition
of a price for every tonne of carbon dioxide
emitted by fossil-fuelled generators;
effectively, a carbon tax.
Alongside this, the expectation is that
renewable electricity generators, e.g. wind
and solar, will be able to sell their electricity
to a central agency for a guaranteed price
under a long-term contract.
While this all sounds very sensible,
the more pressing issue is that a large
portion of the existing electricity generation
capacity in the UK is due to close over the
next few years through a combination of
age and environmental legislation. This will
put considerable strain on the remaining
plant and, without new plants being built,
will result in a shortage of generation.
This is a real issue and one which the
Government and the regulator are trying to
address while maintaining the drive for low-
carbon emissions and minimising the cost
to the consumer.
While the growth of low-carbon
generation will continue, incentivised by
the measures expected to be introduced
in the White Paper later this year, the
development time for a new nuclear plant
is a minimum of six years and the growth
of large-scale wind farms (many of which
will be offshore) carries with it the lengthy
timeframe for construction, which itself is
heavily influenced by the weather, and the
inherent intermittent nature of generation
from wind.
So, where do we go from here? The easy
answer is to build more gas-fired generation
plants as these are relatively quick to build,
relatively cheap and relatively low-carbon
compared to coal or oil. The general
availability of gas in the UK, through
pipelines and LNG imports, is also well tried
and tested. Why, then, are we not seeing
these plants being built?
Although gas-fired plants are relatively
cheap, they still require a significant
investment from the developers and also
have to go through a planning process
which takes time. Once those hurdles have
been cleared, the issue then is how do they
sell their power and can this be done in a
way that would encourage banks such as
Lloyds Corporate Markets to provide project
finance?
When the UK electricity industry was
privatised in 1990, the market operated
on the basis of a pool with a clearing price
which meant that all generators received
the same price for their electricity. This led
to a situation where those with low costs
32 • EnergySource • Issue 8 • Summer 2011
were making windfall profits and so, in 2001,
the market moved to a bilateral contract
structure. While this reduced wholesale
prices it also restricted construction of
new assets which did not benefit from the
support available under the Renewables
Obligation.
The main buyers of electricity are the
major utility groups which all have their
own supply businesses providing electricity
to consumers. When the industry was
privatised, the supply companies at the time
were willing to write long-term contracts
for the purchase of electricity at prices
which provided a strong basis for project
finance. As their appetite for long-term
contracts reduced over time, generators
have been forced to look at shorter-term
contracts, however the banks, which would
prefer not to take price risks in relation to
long-term finance, have so far rejected this
as a basis for the provision of finance.
Developers of gas-fired plants also face
the problem of investing with a 20-year
plus horizon when they expect that their
position in the market will change from
providing base load capacity to more mid-
load or eventually peaking capacity which is
inherently more volatile.
If we are to see the development of new
gas-fired capacity we need a combination
of a market-based recognition of the value
of capacity combined with a recognition by
investors and lenders alike that if a contract
is available now for a medium term then
there is a strong likelihood that similar
contracts will become available over time.
A conclusion of the discussion over our
roundtable dinner was that the current
reforms of the electricity markets have market conditions which prevail and also
introduced further uncertainty in the sector, recognise the risk appetite which exists in
leading to a lack of appetite for developers the wider project finance market.
to make major decisions until there is This has been specifically evidenced
greater clarity from the White Paper. Many recently when Project Finance led the
of the attendees were concerned that this closing of the first project to be financed
would, in fact, be only the beginning of a under the Government’s newly-established
process which would take some time to play Offshore Transmission Owners (“OFTO”)
out, putting further pressure on the existing regime for the ownership and operation of
plants and increasing the risks of power the electricity transmission links between
shortages. the UK’s offshore wind farms and the
While this may all sound very onshore national grid network. This first
pessimistic, there remains general optimism project represents clear evidence of the
that new capacity is needed and therefore thought leadership available within Project
will be built and furthermore that the Finance in the energy sector and has further
independent sector, supported by project served to cement Lloyds Corporate Markets
finance banks including Lloyds Corporate as a leading provider of project finance to
Markets, will have a major part to play in the sector.
the future of the electricity sector in the UK. The bank market needs to work with
Within Project Finance we continue to the regulator in establishing further
strive to find a way of working within the mechanisms and regulation which will

enable developers of new generation
capacity, both renewable (low-carbon)
and fossil fuelled, to raise project finance
debt, including accessing the debt capital
markets.
The OFTO regime is designed to
encourage investment in the development
of offshore wind farms around the UK
coastline which forms a major part of the
pipeline for Project Finance in the coming
years.
While we are committed to the
renewable energy sector as it stands
currently, which in the UK is primarily in
relation to the wind, solar and biomass
sectors, Project Finance is also working to
ensure that it is well placed to respond
to clients’ requests for finance in the
fossil-fuelled and nuclear segments of the
electricity generation mix.
We are working with senior
management to explore the appropriate
financing approach for merchant-based
generation post the expiry of the contracts
available from electricity buyers which, as
indicated above, are not sufficient at the
outset to cover the full repayment term
of project debt. The ability to manage
exposure to market-based risks has already
been shown to be perfectly possible with
the right knowledge of the type we have
within Lloyds Corporate Markets and Project
Finance in particular.
Concurrent to this work on the short-
term solutions to the UK’s electricity
generation investment requirements, we
are also working with Group Risk and other
colleagues to establish a basis on which
we will be able to provide finance to the
development of nuclear generation
capacity – a key platform of the current
electricity market reform (“EMR”) process.
The tragic events in Japan have
introduced a further complication in
relation to the development of new
nuclear power generation in the UK and
elsewhere. While a number of plants are
under construction around the world, the
willingness of governments and regulators
to commit to new build without the benefit
of full knowledge of the issues which
arose at the Fukushima Daiichi plant has
to be regarded as unlikely at best. It is very
difficult to believe that any inspectorate or
similar body will be willing to sign off on a
particular design or technology before the
full facts are known and assurances can be
given to the public that all the facts have
been taken into account and addressed
appropriately. By way of example, we need
look no further than Germany’s reaction
to the Fukushima disaster by committing
to close down all nuclear power stations in
Germany.
There were already questions around
the general timeframe for the delivery of
the first new nuclear plant in the UK and
the target of 2018 was already looking
very tight given that the final design and
planning process had yet to be completed.
The process of preparation and analysis of
the reports from Fukushima Daiichi will
undoubtedly take time. In the meantime,
the pressure on the generation portfolio
in the UK will continue as plants reach the
end of their operational life with the real
potential for a widening of the energy gap
as new nuclear base load plants slip further
into the future.
We have seen the immediate impact of
the closure of a large fleet of nuclear plants
on the global gas markets, with demand for
LNG increasing dramatically and this having
a knock-on effect on the price of natural gas
in Europe.
The case for gas-fired generation
therefore becomes stronger from the
standpoint of stable generation in the short
to medium term, however this now has to
take into account the increase in global gas
demand and the rise in gas prices which
will inevitably lead to higher electricity
prices and further pressure on the Office
of the Gas and Electricity Markets and the
Department of Energy and Climate Change
to ensure that other costs or incentives
introduced into the system through EMR
are kept to a minimum.
Introducing these new aspects into an
already complex equation is not going to
result in a solution being found any quicker.
EnergySource • Issue 8 • Summer 2011 • 33
Cotswold Geotechnical:
A new era in corporate liability in the UK
T: +44 (0)20 7859 1371
E: peter.roberts@ashurst.com
In this article, Peter Roberts,
a partner at Ashurst London,
discusses the implications –
for any company engaged
in a potentially hazardous
activity – of the first
successful prosecution of
a company in the UK for
corporate manslaughter
under the new law.
In February of this year, Cotswold
Geotechnical Holdings (“CGH”) became
the first company to be convicted of the
new offence of corporate manslaughter
which was established by the Corporate
Manslaughter and Corporate Homicide Act
2007 (“Act”). The Act came into force in the
United Kingdom on 6 April 2008.
The Act introduced the new offence
of corporate manslaughter, principally
to facilitate the successful conviction of
corporate entities and other organisations
for gross failings leading to preventable
deaths, in response to several unsuccessful
prosecutions of large corporations for
manslaughter under common law (including
in particular the proceedings brought
against P&O Ferries arising from the sinking
of the Herald of Free Enterprise in March
1987, where nearly 200 people died).
34 • EnergySource • Issue 8 • Summer 2011
The penalty for the new offence of
corporate manslaughter is an unlimited
fine. The relevant guidance on corporate
manslaughter and health and safety
offences causing death prescribes that for
corporate manslaughter “the appropriate
fine will seldom be less than £500,000 and
may be measured in millions of pounds.”
The fundamental problem under the
old law was the “identification principle”
which required the prosecution to identify
one single individual who could be
described as being the controlling mind of
the company being prosecuted. This was
almost impossible when, in fact, in large
organisations no such person existed. Thus
it had become virtually impossible to obtain
a conviction for manslaughter against large
companies, leading to a popular perception
that such organisations were almost
immune from being held to account for
failings resulting in a loss of life.
In the CGH case, Alex Wright, a
27-year-old geologist employed by CGH,
was investigating soil conditions in a deep
trench on a development plot in Stroud
when the sides of the trench collapsed in
and killed him.
During the course of a three-week
trial of CGH at Winchester Crown Court,
the court was told that Mr Wright was left
working alone in the 3.5 metre-deep trench
to “finish up” when CGH’s sole director, Mr
Peter Eaton, had left for the day. The two
people who owned the development plot
decided to stay at the site as they knew Mr
Wright was working alone in the trench.
About 15 minutes later they heard a muffled
noise and then a shout for help.
Upon investigation they found Mr
Wright buried up to his head. Despite the
swift removal of some of the soil to enable
Mr Wright to breathe, the trench suffered a
further collapse.
Mr Wright was covered completely and
died of traumatic asphyxiation.
The prosecution’s case was that Mr
Wright was working in a dangerous trench
because CGH’s systems of working had
failed to take all reasonably practicable
steps to protect him from working in that
way. In convicting the company, the jury
found that their system of work in digging
trial pits was wholly and unnecessarily
dangerous. The company ignored what
was described as well-recognised industry
guidance that prohibited entry into
excavations more than 1.2 metres deep,
instead requiring employees to enter into
and work in unsupported trial pits, typically
from 2 to 3.5 metres deep.
What made this criminal prosecution
novel was that there was no person in the
dock at Winchester Crown Court during
the trial. The company, rather than any
particular individual, was charged with
corporate manslaughter. Mr Eaton, 61,
was unable to stand trial on a separate
manslaughter charge in his personal
capacity on the grounds of serious ill-health
but the jury was nevertheless directed to
assess his conduct in reaching a verdict.
The original trial judge said that Peter
Eaton was in substance the company and
his approach to trial pitting was “extremely
irresponsible and dangerous”. The jury
returned a unanimous verdict in less than
90 minutes.
Later in the same month, CGH was
sentenced and was fined £385,000.
CGH appealed unsuccessfully against
the conviction in May of this year. The
conviction, and the fine, was upheld by the
Court of Appeal, despite a recognition that
it would be inevitable that in order to pay
the fine CGH would probably have to go into
liquidation. The CGH case should be of keen
interest to company directors, managers
and health and safety professionals.
The new law of corporate manslaughter
is different to previous corporate
manslaughter laws in that the company
being prosecuted can be charged in its own
right, without any director or employee of
the company also being prosecuted. The
essential test which a jury must consider
is whether the conduct of the particular
company has fallen below the standard
of the relevant legal duty towards the
deceased, causing his death.
Under previous legislation, prosecutors
would usually attempt to prove this by
securing a manslaughter conviction against
an individual within a company. Now a
company itself can be found guilty, without
the need to prosecute an individual as well.
In making its decision, the court can also
consider the attitudes, policies, systems and
accepted practices within the particular
company that may have contributed to the
death, and can also consider any accepted
industry guidance that governs the
particular activity.
Despite the focus of the new law on the
company itself, in the CGH case the Crown
Prosecution Service still decided to pursue
a case against Mr Eaton as an individual – a
decision viewed by some commentators
as being unnecessarily vindictive, and
indicative perhaps of some early uncertainty
over the likelihood of success under the new
law.
CGH represented an interesting choice
of defendant against which the new law
was first applied.
This was a small company, with just
eight employees and an annual turnover of
just £300,000.
Mr Eaton was the sole director of
the company and was effectively the
embodiment of that company.
Paradoxically, if a prosecution had been
brought under the old law, the likelihood is
that Mr Eaton would almost certainly have
satisfied the identification principle that
proved such an obstacle under common law.
How the new law works in relation to a
much larger corporate entity, with collective
management failure and in respect of
greater loss of life, remains to be tested.
But the early victory in the CGH case
will give encouragement to prosecutors
that the new law can be applied
successfully – and the size of the fine
imposed on CGH, relative to the size of the
company, demonstrates that organisations
convicted of the new offence of corporate
manslaughter can expect to be sentenced
severely, with significant (and even ruinous)
financial penalties.
EnergySource • Issue 8 • Summer 2011 • 35
Stop press!
Two new partner
appointments in Dubai
Judith Kim was promoted to
the partnership in Dubai on
1 May. Judith joined the global
energy team as counsel in
2010 from Shell Gas & Power.
She is an experienced projects and corporate
lawyer specialising in the oil, gas and
petrochemical industries and has been based
in the Middle East for the past seven years.
David Charlier also joined
the Dubai team as a partner
on 1 June from Linklaters
Dubai. David specialises in
the development, financing
and acquisition of energy and infrastructure
assets advising sponsors, lenders
(including Islamic banks and export credit/
multi-lateral agencies) and government
institutions.
Both appointments are a welcome addition
to our strong global energy practice and will
assist us in the development of our business
and relationships in the region.
Ashurst opens in Rome
A team of three partners and ten
associates joined Ashurst in March this
year to establish our second office in
Italy. Partners Francesco De Gennaro, a
corporate, restructuring and insolvency
expert; Domenico Gullo, who specialises
in antitrust; and Carmine Bruno, a real
estate expert, head up the Rome office,
strengthening and widening our Italian
practice.
Anthony Patten relocates to
Ashurst Tokyo
Anthony Patten, a partner
and oil and gas specialist
in Ashurst’s global energy
team, is relocating to
the Tokyo office this
summer. Anthony is an M&A and project
development lawyer specialising in work
in the international oil and gas industry.
With a particular emphasis on upstream
and midstream oil and gas, and a focus on
LNG, he is already working with several of
Ashurst’s most prominent Asian clients.

Energy partners

Douglas Bird (New York) Michel Lequien (Paris) Antony Skinner (London)
T: +1 212 205 7008 T: +33 (0)1 53 53 55 77 T: +44 (0)20 7859 1360

Matthew Bubb (Singapore) John McClenahan (Tokyo) Cameron Smith (London)

T: +65 6416 0272 T: +81 3 5405 6200 T: +44 (0)20 7859 1125

Nick Bryans (London) Carloandrea Meacci (Milan) Huw Thomas (London)

T: +44 (0)20 7859 1504 T: +39 02 85 42 34 62 T: +44 (0)20 7859 1238

Rupert Burrows (Tokyo) Carl Meyntjens (Brussels) Philip Thomson (Singapore)

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Louise Eccleston (London) Anthony Patten (Tokyo) Franco Vigliano (Milan)

T: +44 (0)20 7859 1976 T: +81 3 5405 6200 T: +39 02 85 42 34 51

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© Ashurst LLP 2011 Ref:D/Jul 11