by Bram Onck

On January 8th, Gazprom Export appealed at the Vienna International Arbitral Centre [VIAC] following the latter’s verdict on October 4th 2012 that ruled in favour of the Czech defendant RWE Transgas. The origins of their dispute lie in RWE Transgas’ refusal to adhere to previously agreed take-or-pay clauses in their gas import contract with Gazprom Export. According to these clauses, RWE Transgas is supposed to pay an outstanding fee of USD 500 million over the period between 2008 and 2011.

The arbitration court examined the compliance of two symmetric take-or-pay provisions in the contract’s addendum with the European Union’s competition law. Only one of the provisions was condemned, which raises questions regarding the consistent interpretation of competition law by the arbitration court. The following analysis of VIAC’s decision reveals that Gazprom Export should have a good chance of winning its appeal.

Czech Gas Market Essentials

RWE Transgas is the main gas importer of the Czech Republic, accounting for 87.7 percent of the country’s total imports. Following the market liberalization in 2007, RWE Transgas has consistently been losing ground in the downstream market to smaller companies. Last year, the company saw its market share decrease to below 50 percent. The second biggest player in the downstream market is Vemex, which holds a market share of approximately 10 percent. Its majority shareholder [50.14%] is Gazprom Germania, while the remaining shareholders are alleged to have ties with Gazprom as well.

RWE Transgas currently purchases 9bcm/y of Russian gas and will do so until 2035, according to their contract that was concluded in 1998 and extended in 2006. The take-or-pay provision in this contract stipulates that it is obliged to purchase 90 percent of the annual contracted volume. Consequently, RWE Transgas is losing money on its distribution activities; it is forced to lower prices in order to defend its market share, while it is simultaneously bound to import significant amounts of expensive Russian gas.

Vemex currently purchases 0.5bcm/y from Gazprom Export under presumably favourable terms, given that it is a daughter company of Gazprom Germania. Apart from that, it holds a significant competitive advantage over RWE Transgas, as Vemex is to a larger extent able to purchase gas on German and Czech spot markets. Given that spot prices have been generally lower than oil-pegged prices over the last few years, Vemex has been able to penetrate the Czech market at the expense of RWE Transgas. In this sense, Gazprom’s daughter company is very cleverly making use of reverse flow opportunities, which was initially perceived to be a threat to the company’s interests.

Compatibility Contract with Competition Law

When RWE Transgas made clear that it would not fulfil its contractual obligation of paying its outstanding bill, it based this decision on the contract’s addenda. The first addendum lays down that RWE Transgas is entitled to reduce its offtake obligations by the same amounts that the Gazprom Group directly supplies to the Czech market. The second addendum stipulates that Gazprom Export is allowed to increase the offtake obligations of RWE Transgas up to the amount that RWE Transgas supplies to markets outside of the Czech Republic which are supplied by Gazprom as well.

Although both provisions seem to be bear similarity, only the latter has been declared invalid by VIAC. This decision has not been disputed by either party, as it clearly resembles the infamous destination clauses which have been declared to be incompatible with competition law by the European Commission. One would expect that, along the same line, the second addendum would be considered to be an illegal volume agreement as well.

When examining the European Union’s competition law, as laid down in Article 101 of the Treaty on the Functioning of the European Union [TFEU], it does come as a surprise that VIAC did not condemn the first addendum that allowed RWE Transgas to reduce its offtake by the same amount as Gazprom Group directly supplies to the Czech market.

Article 101 TFEU prohibits “…all agreements between undertakings […] which may affect trade between Member States and which have as their object or effect the prevention, restriction or distortion of competition within the internal market […].” In addition, it explicitly refers to agreements regarding fixed purchases, market limitations, market sharing, and the application of dissimilar conditions to equivalent transactions with other trading parties, thereby placing them at a competitive disadvantage.

From this it should follow that the addendum is indeed prohibited under EU competition law. Firstly, it involves an agreement between undertakings that may affect trade between member states. It should be noted that the European Court of Justice has a reputation of strict interpretation of this stipulation. Considering the Czech Republic’s physical interconnection with neighbouring states, their ability to resell excess volumes, and their developing spot market, certain volume agreements definitely potentially affect trade between member states. The addendum basically limits competition on the market by volume agreements that allow for market sharing.

Secondly, the arbitration court will have to prove that the addendum does not effectively prevent, restrict, or distort competition in the internal market. This position is hard to maintain, as it is rather obvious that Gazprom’s presence in downstream markets, with its additional trade volumes, can only enhance the amount of competition in the EU’s internal market. One could argue that the first addendum is essentially an agreement to attempt to fix the potentially traded volume on the EU’s internal market, as both parties make their contracted volume dependent on each other. This, naturally, has a competition distortive effect for both the Czech market as well as for trade between member states. Essentially, the addendum is a volume agreement that restricts gas-to-gas competition in the EU.

Future Outlook

The final outcome of their dispute has the potential to create a precedent, which could result in a multitude of similar trials against Gazprom from clients with whom Gazprom has concluded similar agreements. Nevertheless, the outcome of the trial should not be overestimated at this stage, as we do not know anything about the existence of similar contracts.

Looking at the future, it is unclear when VIAC will come up with its final decision although RWE Transgas has indicated that it expect the matter to be settled before the end of this year. In case Gazprom Export loses again, it can always appeal at the Austrian national court, after which the latter is ultimately forced to ask for a preliminary ruling from the European Court of Justice. Of course, it is clear that this is not desirable for both parties, taking into account both the costs of appealing and a potentially damaged reputation.

Despite the fact that gas-to-gas competition on the Czech and European market is not beneficial for RWE Transgas, it does represent the kind of competitive gas market that the European Union desires to establish. From this perspective, it is odd that the arbitration court’s verdict promoted an anti-competitive agreement between two undertakings. If it is true that the ultimate objective of Article 101 is to promote competition, rather than protecting incumbent companies, Gazprom Export should have a realistic chance of winning its appeal.

Bram Onck is an MA student of the ENERPO programme whose study interests involve financial gas markets and legal issues of market liberalization in the European Union