Mandatory Gas Market Code of Conduct Released

As previously reported (see here), the Commonwealth Government has been developing a Mandatory Code of Conduct for the East Coast gas market (Code). On 6 July 2023, the Commonwealth Government published the final version of the Code, which commenced on 11 July 2023. Notably, the Code’s final form contains substantive changes from the earlier exposure draft as a result of industry consultation.

Despite its immediate commencement, there is a two-month transition period, which commenced on 11 July 2023 and ends on 10 September 2023, to allow businesses to adapt to the new conduct provisions and record keeping and reporting obligations under the Code.

The Code generally does not apply to agreements entered into before or during the transition period. Additionally, negotiations that commenced prior to the end of the transition period will not be subject to the Code’s timing and information requirements.

With the facilitation of a well-functioning East Coast domestic gas market (with adequate supply at reasonable prices and/or reasonable terms) as its primary objective, the Code applies to ‘covered suppliers’, which includes both producers of ‘regulated gas’ and their affiliates. Under the Code, ‘regulated gas’ is natural gas that is suitable for consumption (but is not LNG or re-gasified natural gas that was imported as LNG). For an affiliate of a gas producer to be a covered supplier, it must have entered into an ‘affiliate supply agreement’ as defined in the Code.

We set out below our comments on the Code and an overview of its key features.

Key Takeaways:

• The Code establishes an initial price cap of $12/GJ designed to anchor wholesale contract negotiations between covered suppliers and buyers; both deemed and conditional exemptions from the price cap are available.
• Last minute amendments to the Code mean there is an express acknowledgement that the price cap does not extend to the provision of gas transportation or storage services.
• The price cap will not be adjusted by the ACCC for a period of two years unless there are substantial changes in market conditions or the Commonwealth Ministers for Energy and Resources authorise an adjustment.
• Re-gasified natural gas that was imported as LNG is not ‘regulated gas’ for the purpose of the Code and is therefore not subject to the price cap applying under the Code.
• The Code includes an exemptions framework that has been designed to incentivise producers to commit more gas to the East Coast domestic gas market and facilitate new investment.
• Automatic (deemed) exemptions apply to small producers (less than 100 PJ of ‘counted gas’ produced in the most recent calendar year) who supply gas exclusively to the domestic market.
• Conditional exemptions are available: eligibility depends on the negotiation of an enforceable domestic supply commitment.
• A further suite of deemed exemptions is included in the Code, some of which we reference in greater detail below.
• The Code imposes good faith obligations on parties in relation to negotiations for gas supply and their conduct under gas supply agreements.
• The Code provides for the imposition of significant penalties in relation to certain conduct in breach of the Code: the maximum penalty for breaching the Code (for a body corporate) is the greatest of $50 million, three times the value of the benefit obtained, and 30% of adjusted turnover.
• Covered suppliers are required to publish details of the availability of uncontracted gas supply available to the market, at regular intervals determined by the ACCC, to boost transparency.
• Notably, the Code replaces the proposed binding arbitration process with a conduct framework, the key provisions of which we discuss below.

Application of the Code

The Code only applies to the East Coast wholesale gas market. The Code does not apply to gas transactions on the Declared Wholesale Gas Market (in Victoria), the Short Term Trading Markets (in Brisbane, Sydney and Adelaide) or anonymous or pre-matched trades on gas exchanges of three days or less.

Price Cap

In an attempt to strike a balance between ensuring affordable gas prices and maintaining a reasonable return for gas producers to continue supplying, the Code establishes an initial price cap of $12/GJ for covered suppliers (exemptions apply).

The Code creates offences not only if a covered supplier and buyer enter into an agreement for a price in excess of $12/GJ, but also if a covered supplier and buyer enter into an agreement under which the price could exceed $12/GJ. Additionally, it is an offence to partake in a scheme with the purpose of avoiding any requirements of the Code, such as the price cap. Accordingly, it will be important for covered suppliers to consider whether any price escalation mechanisms included in supply contracts, or other provisions such as take or pay clauses, could result in a price exceeding $12/GJ.

The price cap is subject to a review by the ACCC after the period of two years from 11 July 2023. As mentioned above, the price cap can be adjusted within that two-year period if there are substantial changes in market conditions or the Commonwealth Ministers for Energy and Resources jointly authorise an adjustment.

In making a determination to adjust the price cap, the ACCC must strive to promote:

• a workably competitive domestic market;
• the affordability and availability of domestic gas supply; and
• the production of, and investment in, natural gas to meet domestic demand.

Exemptions Framework

Deemed Exemption for Small Producers

Automatic deemed exemptions from the price cap will apply to gas producers who:

• are small producers (produce less than 100 PJ of ‘counted gas’ in the most recent calendar year); and
• provide gas exclusively to the domestic market.

The Code now includes provisions with respect to what constitutes ‘counted gas’. Counted gas includes regulated gas produced by a producer in the geographical regions to which the Code applies, as well as regulated gas to which the producer or its related body corporate has ownership rights or rights to the value of sale pursuant to an agreement. However, counted gas does not include gas the subject of a ‘gas swap agreement’ (being a volume-neutral gas swap agreement) or a ‘mandatory government agreement’ (being a gas supply agreement entered into because of a direction under the National Gas Law), in each case as defined in the Code.

A small producer will lose its deemed exemption if it begins to export gas, enters into an agreement (other than a volume-neutral gas swap agreement) with a person that intends to export the gas supplied, or varies an agreement that was in place prior to the commencement of the Code and at the time of variation the gas buyer intends to export the gas. An exempted small producer is under an ongoing obligation to inform the ACCC of any export, or intended export, of its gas.

Other Deemed Exemptions

In addition to the deemed exemption for small gas producers, the Code includes a number of other categories of deemed exemptions from certain requirements of the Code. Some of these categories relate to:

• where the supply of regulated gas is for a period of less than 12 months;
• where the covered supplier has issued a gas EOI in respect of 2 or fewer persons for the purpose of ascertaining whether they are interested in acquiring regulated gas. This exemption only applies in respect of certain requirements of the Code relating to gas EOIs and the provision of information (see below) and not to the price cap;
• where the regulated gas is intended to be exported from Australia as LNG;
• volume-neutral gas swap agreements or mandatory government agreements (see above for further details);
• ‘foundational agreements’, being an agreement where the supply of regulated gas will be sourced in full from undeveloped reserves, future development of contingent resources or prospective resources;
• gas master supply agreements (which the Code leaves undefined); and
• retailers of regulated gas where no more than 50% of a retailer’s annual turnover for the most recent financial year is attributable to its business of producing regulated gas.

Conditional Exemption

Covered suppliers who are ineligible for a deemed exemption may apply for a ‘conditional ministerial exemption’.

Conditional exemptions from the price cap are available to both large gas producers (those that produced at least 100 PJ of counted gas in the most recent calendar year), and small gas producers that sell some gas for export.

Eligibility will require the negotiation of an enforceable domestic supply commitment, which may require the inclusion of certain terms relating to domestic volume, price, and conditions. These commitments may be included as enforceable conditions under the exemption.

The decision to grant a conditional exemption must be jointly made by the Commonwealth Ministers for Energy and Resources. The Ministers are given discretion in deciding whether to grant a conditional exemption. The Ministers may consider a broad range of matters in making their decision, including those matters that the ACCC must strive to promote in making a determination to adjust the price cap (see above).

One new matter to which the Ministers may have regard in deciding whether to grant a conditional exemption is the impact that the grant will have on international relations. The inclusion of this matter would appear to address concerns that have been publicly raised by Australia’s trading partners (such as Japan) in respect of the security of LNG supply from Australia.

Given the Ministers’ discretion in determining whether to grant a conditional exemption, if a covered supplier will be seeking a conditional exemption from the price cap under the Code, then the supplier should include with its application comprehensive and well thought through submissions as to why the exemption should be granted (and which address any relevant matters to which the Minsters may have regard in making their determination). The supplier should also consider including with its application any agreement being negotiated with a potential customer, and the supplier may wish to consider whether appropriate lobbying in support of its application should be undertaken.

A conditional exemption may be subject to additional conditions which the Ministers consider appropriate to support the adequate supply of gas to the East Coast domestic market at reasonable prices and on reasonable terms. An example condition outlined in the Code is that the conditional exemption only applies in respect of a particular gas production area. Any conditions imposed are enforceable and penalties for non-compliance apply.

Covered suppliers may apply for a variation or revocation of a conditional exemption and the Energy Minister may on his or her own accord vary or revoke a conditional exemption if certain requirements are met.

Conduct Provisions

The Code imposes good faith obligations on gas market participants in relation to offers and negotiations for gas supply and their conduct under gas supply agreements. The Code sets out various factors that will be used in determining if a party has acted in good faith, including:

• whether the party has acted honestly; and
• the extent to which the party has not acted arbitrarily, capriciously, unreasonably, recklessly or with ulterior motives.

The Code also imposes requirements where a covered supplier initiates an Expression of Interest (EOI) process. The Code does not mandate that covered suppliers must supply gas through an EOI process; however gas offers are subject to the Code irrespective of whether they were preceded by an EOI. Covered suppliers must also nevertheless publish information on their website about intended EOI processes.

Whilst the EOI process under the Code imposes binding obligations, in situations where there has been a ‘material change in the supplier’s circumstances’ as described in the Code, the ACCC may make a determination which allows a covered supplier to withdraw or terminate a gas EOI, gas initial offer or gas final offer (as the case may be).

If a covered supplier initiates an EOI process, then the Code requires that the EOI contains specified information, that the process must involve an initial offer phase (and a final offer phase where the supply of gas will be for a period of 12 months or more), and that each of those phases remains open for a minimum period. Specific information requirements apply at the various offer phases.

Further, the Code imposes certain obligations during the initial offer and final offer phases even in circumstances where bilateral negotiations have commenced outside of the EOI process (and the duration of supply exceeds 12 months).

As such, covered suppliers will need to ensure they adhere to obligations arising in the initial and final offer phases even where gas was not offered through the EOI process.

In a bid to increase transparency to the market, the Code requires a covered supplier to publish a range of information on its website, including information relating to how much uncontracted gas that the supplier is likely to have available over the coming 24 month period. That information is required to be published by a covered supplier on its website as soon as practicable after each publication date. The earliest publication date is 11 September 2023 (i.e. the day immediately after the end of the transition period) and publication dates thereafter will be determined by the ACCC.

Covered suppliers are subject to various obligations to report information to the ACCC depending on particular circumstances, including whether the supplier is a retailer. The information required to be provided to the ACCC covers a range of topics such as gas availability, gas EOIs, gas initial offers, gas final offers, agreements to supply regulated gas and conditional ministerial exemptions.

Pertinently for joint venture participants, the Code specifies that joint venture participants may, by notice to the ACCC, nominate one joint venture participant to publish or report information on behalf of all joint venture participants.

Penalty Regime

The Code allows for the imposition of significant penalties for parties that contravene it – especially the requirements that are considered core to the Code. Penalties are split into three tiers which reflect a contravention’s severity.

First tier contraventions are deemed to be civil penalty provisions and may attract the default maximum penalty, which will be (in the case of a body corporate) the greatest of:

• $50 million;
• three times the value of the benefit obtained (if the value of the benefit can be calculated); and
• 30% of the body corporate’s adjusted turnover during the breach turnover period of the contravention (if the value of the benefit obtained cannot be calculated).

First tier contraventions include breaches of the requirements of the Code relating to:

• good faith dealings in negotiations or in relation to an agreement;
• supplying gas at a price that exceeds the price cap (where no exemption applies); or
• failing to comply with a condition imposed as part of a conditional exemption.

Second tier penalties apply to contraventions of the requirements of the Code relating to EOI processes and other aspects of the conduct framework. Generally, the civil penalty for contravening these requirements is 6,000 penalty units (currently $1,878,000). Third tier penalties respond to contraventions of the requirements of the Code relating to publication of certain information, record-keeping and the provision of information to the ACCC. Generally, the civil penalty for contravening these requirements is 3,000 penalty units (currently $939,000).

Next Steps

It is imperative that gas producers and suppliers familiarise themselves with the Code prior to the transition period’s end on 10 September 2023, whereby the mandatory conduct requirements and transparency obligations come into effect.

Material published by the Commonwealth Government has indicated that the ACCC will release on its website guidance material in respect of how the ACCC will monitor and enforce the Code. Gas producers and suppliers should review that guidance material once it has been released.

If you would like to discuss the issues raised in this Insight, or how JWS can assist your organisation, please get in touch with us.

Important Disclaimer: The material contained in this article is comment of a general nature only and is not and nor is it intended to be advice on any specific professional matter. In that the effectiveness or accuracy of any professional advice depends upon the particular circumstances of each case, neither the firm nor any individual author accepts any responsibility whatsoever for any acts or omissions resulting from reliance upon the content of any articles. Before acting on the basis of any material contained in this publication, we recommend that you consult your professional adviser. Liability limited by a scheme approved under Professional Standards Legislation (Australia-wide except in Tasmania).