SPECIAL REPORT: European LNG developers face complex commercial landscape

April 9, 2007
Recent trends in Euro-Russian relations have created a powerful political impetus for the development of LNG infrastructure.

Recent trends in Euro-Russian relations have created a powerful political impetus for the development of LNG infrastructure. However, each project will face a unique set of opportunities and challenges, defined by regulatory and market factors unique to its place in the European landscape. Understanding and carefully managing these conditions will determine whether a project developer succeeds or fails in bringing new LNG capacity online in Europe.

Supply security fears

When Russia cut off natural gas supplies to the Ukraine in January 2006, the action sent shockwaves through the European Union-which gets most of its Russian gas through the Ukrainian pipeline network. Ukraine’s state-owned gas company reached a deal with Russia’s Gazprom to restore supply after only 3 days, but the damage was already done to the European sense of energy security.

More than a year later, tensions in Europe remain high. In December 2006 Russia threatened to cut off Belarus in the same way before a last-minute deal was reached on New Year’s Eve. The EU’s senior energy official accused Russia of trying to control Europe’s gas market by forming an OPEC-like cartel for gas. Russia has done little to allay these fears, suggesting it might divert gas exports to China instead of Europe.1 2 And in February Russian President Vladimir Putin explicitly stated he was exploring with Qatar the prospect of “cooperation” among gas producers.

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Amid this uncertainty, Europe’s political leaders are calling for investment in hard assets to shore up European energy security. Some suggest that European states resume building new nuclear and coal-fired power plants, but both of these face tough opposition on environmental grounds.3 4 In this context, LNG regasification projects have gained increasing importance as Europe seeks to diversify its energy supplies. LNG supplies are received primarily from Africa and the Middle East. Tables 1 and 2 indicate European imports for 2004 and 2005 and demonstrate the importance of both LNG and pipeline imports.

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Major LNG regasification projects are advancing in Italy, France, Spain, the Netherlands, and the UK (Fig. 1). Even countries with smaller energy appetites, such as Croatia, Greece, Poland, and Cyprus, are planning LNG-import facilities.

But the urgency with which many of these projects are moving forward belies a complex environment for developing LNG facilities. The prospects for individual projects will be shaped and influenced by many factors, including availability of supply, siting and permitting processes, gas-industry regulation, and numerous market considerations, including the need to manage multiple users.

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The importance of these factors varies among European markets. Gas-supply constraints, for example, are more acute in the UK and Spain because pipeline networks are more limited there than they are in Germany and Italy and provide less access to gas supplies from Norway and Northern Africa.

Market dynamics

Gas-supply concerns affect European markets in different ways, and this diversity in market conditions has major implications for project sponsors. Moreover, given the diversity of the 27 countries of the European Union, every LNG terminal site in Europe is unique, with differences in local siting considerations, permitting requirements, and national regulations.

The contrast between Italy and France, on the one hand, and Spain on the other is most illustrative. While LNG regasification projects in Spain are driven mostly by supply constraints, developments in Italy and France are driven more by the desire to diversify energy sources and encourage supply competition.

Italy and France are relatively well situated, with mature gas transmission networks and good access to North African, Russian, and Scandinavian gas via several major pipelines. In addition, at least two pipelines are planned or under construction to import more gas to the region, from Algeria through the Medgaz subsea line, and from the Caspian region via Turkey, Bulgaria, Romania, Hungary, and Austria through the Nabucco pipeline and related interconnection projects.

By contrast, access to pipeline gas supplies in Spain is not as well developed as it is in Italy and France or indeed many other countries in continental Europe. Spain has experienced harmful shortfalls in gas supply and storage capacity in recent years, to such extent that gas-fired power plants have been idled for lack of fuel. As a result, supply constraints are a major driver for development of new LNG capacity in Spain.

National regulatory policies affecting LNG stakeholders are likewise influenced by these market drivers. For example, Italian regulations require 20% of the LNG regasification capacity at the existing Panigaglia terminal to be set aside for third-party access (TPA). However, the government has granted exemptions from TPA obligations for two new terminal projects in construction, at Rovigo and Brindisi.

Spanish regulators, on the other hand, closely regulate LNG facilities in the country, enforcing strict tariffs and capacity-allocation protocols and requiring TPA for all LNG import capacity. Specifically, 75% of terminal capacity can be contracted on a long-term basis (more than 2 years), with 25% reserved for shorter-term contracts.

Other European regions have reacted to their own unique political and market imperatives. While the UK gas market is characterized by increasingly constrained supplies, the UK enjoys large volumes of domestic gas resources and expanding pipeline access to European and Scandinavian supplies. UK regulators apply a system of TPA requirements, extending conditional exemptions that allow 100% of new terminal capacity to be subscribed with long-term contracts but prohibiting capacity hoarding and encouraging interruptible and spot-market use of facilities.5

Northern European markets present yet another set of market conditions and regulatory provisions. Northern Europe represents a crossroads for gas supplies, with major pipelines moving North Sea gas southward and Russian gas westward. Northern Europe also features the continent’s only LNG hub, the important gas hub at Zeebrugge in Belgium.

For more than 20 years Tractebel subsidiary Distrigas, under a contract with Sonatrach, had full use of the Zeebrugge facility to bring Algerian gas into Northern Europe. But when the Distrigas contract expired in late 2006, Fluxys began operating the terminal under a new tariff and TPA structure. Qatar Petroleum and ExxonMobil are now using Zeebrugge to import gas from Qatar, and Distrigas this year will begin importing LNG from RasGas II in Qatar under a 20-year agreement.

To accommodate additional users, Fluxys plans to double the capacity of the Zeebrugge terminal and add nitrogen-blending facilities to enable regasified LNG to be sold in more European markets.

Third-party access

Despite variations in market drivers and regulatory frameworks, the trade policies of the European Union affect all regions and countries in Europe. For gas, they are embodied in the EU’s Second Gas Directive, aimed at harmonizing regulation of European gas industries and creating a competitive wholesale gas market across European state borders-while also encouraging infrastructure investment.6

As energy-security tensions continue affecting Europe’s gas markets, regulators likely will seek to ensure maximum and open use of terminal and pipeline capacity. Indeed, the European Commission itself has promised to promulgate stronger regulations as a result of shortcomings identified in its recent inquiry into the state of competition in European gas and electricity markets.7

“Energy markets are not functioning properly,” said Neelie Kroes, European commissioner for competition policy, during a press conference in January. “When prices do not react to changes in actual supply and demand, security of supply and investment in alternative energy sources [are] threatened. Europe needs stronger regulators, enhanced coordination, and increased transparency.”

For LNG regasification terminals, the most pertinent elements of the Gas Directive are those involving TPA to gas facilities.

TPA requirements are intended to ensure that European gas infrastructure provides open access among suppliers, so that gas prices can more readily respond to the forces of supply and demand. Thus European LNG facilities must reserve a portion of their capacity-as much as 25% in some cases-to accommodate LNG supplies from sources other than those that have subscribed to terminal capacity on a long-term basis, including short-term deals and “spot” cargoes. Moreover, in Spain one shipper may not hold more than half of the 25% portion reserved for third parties.

Such policies stand in notable contrast to American regulation of LNG terminals. Specifically, the US Federal Energy Regulatory Commission (FERC) in 2002 adopted the “Hackberry” doctrine whereby new LNG capacity is exempt from open access requirements, tariff rates, and other economic regulation. After FERC approved several regasification terminals under the doctrine, the policy eventually was codified by the US Congress in the Energy Policy Act of 2005. This allows terminal owners to enter exclusive long-term agreements for 100% of their regasification capacity at market rates.8

But despite the comparatively stringent nature of European TPA requirements, the Gas Directive gives great latitude to member states implementing the regulations, allowing broad exemptions under certain conditions. Indeed, some project sponsors have escaped TPA obligations by conditioning their investment on securing an exemption. For example, in Portugal the network operator may refuse such TPA if it would lead to serious financial or economic difficulties.

Yet such exemptions do not permit capacity holders to lock out LNG cargoes from competing suppliers. For example, national regulators in Italy and the UK have imposed “use it or lose it” principles to prevent market-power abuse by LNG terminal owners.9

Antihoarding policies

Even for projects that have obtained exemptions from TPA requirements, EU and national access rules still can present a significant regulatory risk for terminal owners and operators-most notably via the Gas Directive’s antihoarding requirements.

For example, if capacity holders at the UK’s Isle of Grain terminal do not sell any unused capacity, the LNG terminal operator may sell that capacity to a third party. This has occurred at least twice in recent months.10 Spain’s terminals operate under a similar regime.

Beginning this year, at Belgium’s Zebrugge terminal, the capacity holder must inform the terminal operator, Fluxys LNG, about any unused capacity no less than 2 months in advance of the vacancy so Fluxys can market the capacity to third party suppliers.

In Italy, if 20% of exempted capacity is unused in a given year, the capacity holder loses the exemption right for all owned capacity the following year. Moreover, as of July 1, 2007, no single company operating in the Italian gas sector may hold more than a 20% stake in companies owning transportation networks.

These requirements can affect operational logistics and costs as shippers seek to maximize terminal usage, obtain maximum market access, and avoid antihoarding penalties. To the degree LNG terminals prevent third parties from accessing spare capacity during times of short supply, terminal capacity holders could face investigations and potentially harsh sanctions from government agencies. EU antitrust laws authorize the European Commission to impose large fines (up to 10% of global annual turnover) and far-reaching structural remedies against companies found to violate EU antitrust rules.11

Multiuser challenges

As a result of TPA and antihoarding policies, many European regasification terminals will be used by multiple shippers-some operating under long-term agreements and others carrying LNG cargoes on a spot or short-term contract basis. This reality will affect the commercial performance of many terminals. In fact, some multishipper terminals will face many issues that threaten operational and commercial viability if they are not addressed early in the development and contracting process.12

These issues include physical constraints such as the maximum capabilities of terminal berths, navigational concerns such as tides and bridge clearances, and regulatory concerns such as environmental limitations on vessel transit.

In addition to these physical constraints, capacity holders and other terminal users face contractual and operational issues that affect their ability to use the facility. For example, bringing LNG to market requires access not only to terminal berths and regasification capacity but also to other terminal services and pipeline access. Users at multiple-user terminals must consider available aggregate storage capacity because at some terminals capacity is limited to only one LNG vessel at a time. As a result, importers should ensure that their terminal use agreements (TUAs) appropriately define their access to the services they will need.

However, the most critical issue arising at multiuser terminals is the need to coordinate shipping schedules to synchronize vessel arrivals and unloading windows. Delays and failures in coordination can expose importers to burdensome financial costs and penalties.

To avoid shipping conflicts, terminal operators must impose a strict regime that establishes firm unloading windows, while also providing flexibility to accommodate uncertainties and assign unused unloading windows. TUAs likewise should specify scheduling regimes and contingencies to ensure that all importers understand their access rights, performance obligations, and financial risks.

Market access requirements

In addition to operational challenges and TPA requirements, terminal capacity holders may face downstream obligations as a condition of their participation in European gas markets. In Portugal, for example, the Sines LNG terminal operator must maintain the equivalent of 20 days’ supply in its storage tanks. Capacity holders in Italy and Spain can face penalties if they contract for import capacity and then fail to supply expected volumes of gas. And in the UK, the Office of the Gas and Electricity Markets (Ofgem), the national energy regulator, is considering implementing a rule that would require LNG terminal operators to regularly publish LNG storage data to help market participants “reach more informed commercial decisions and therefore facilitat[e] the efficient operation of the [UK] gas market.”13

Such obligations and penalties represent additional potential costs and can affect commercial arrangements between LNG suppliers, project developers, and capacity holders. Moreover, not all market participants are equally suited to manage these factors.

In European markets LNG import capacity is held largely by gas and power utilities, such as Gaz de France, E.On, Endesa, and National Grid. Such companies invest in LNG regasification capacity as a means of ensuring fuel supply for power plants and retail gas customers. This characteristic distinguishes European LNG terminals from North American terminals, which largely are subscribed by international oil and gas companies, such as Statoil, Shell, BG, ExxonMobil, and Total.

The weight of downstream burdens will vary depending on the interests of participants. Oil and gas companies, whose profitability depends on their ability to leverage their resource positions, likely will find downstream requirements more onerous than will electric and gas utilities, which can more readily manage such obligations and pass the costs along to ratepayers.

This dynamic may create an important commercial consideration for LNG stakeholders-the need to effectively disaggregate LNG suppliers from importers, marketers, and distributors. In some cases LNG suppliers investing in a terminal might allocate their capacity to a different company-a gas importer or national utility, which will accept the LNG at the terminal entrance and manage downstream obligations from that point.

Siting and permitting

Just as market-access requirements are driven by market conditions, regulatory approaches to facility siting and permitting in Europe have evolved from a combination of energy-security, competitive market, and environmental considerations. These approaches present different challenges to project sponsors in different countries, depending on the efficiency of government bureaucracies dedicated to these processes.

In general, European national governments seek to encourage the development of LNG terminals and therefore provide relatively streamlined regulatory processes. Government agencies often are directly involved in selecting project sites and encouraging development as part of national policies focused on improving energy security.

Indeed, many of the companies involved with LNG terminals are partly or wholly government-owned, which means governments have a direct stake in project development.

This situation contrasts starkly with that in the US, where federal and state agencies play no role in selecting sites or encouraging the development of individual projects but only review project applications for regulatory compliance purposes.

As a result, European permitting processes tend to be less challenging than US processes are. At the same time, however, European policies are closely focused on minimizing environmental impacts, and project reviews are exhaustive and time-consuming. Also they can be affected greatly by environmental advocacy movements. For example:

  • The Brindisi project, being developed by BG in Italy, has been set back by significant local opposition. Court battles challenging the project’s environmental permits have delayed construction by months or years, added more than €100 million to the total cost, and caused BG’s development partner Enel SPA to drop out of the project.14 Most recently, criminal allegations of bribes have brought construction to a halt.15
  • After international protests in July 2006 drew negative attention to two LNG terminals being developed near the Italian Adriatic port of Trieste, the city council rejected the applications of both projects on “environmental compatibility” grounds.16
  • At the South Hook LNG project in Wales, protestors repeatedly disrupted construction in late 2006 and early 2007. In January, for example, 13 protestors broke into the site and chained themselves together to a large pipe, requiring a brief construction delay while police arrested the demonstrators.17

Coastal Europe’s relatively high population density and sensitivity to environmental issues exposes LNG projects to intense public scrutiny. Paying careful attention to public sentiment and conducting siting and permitting processes in a transparent and forthcoming manner can help developers avoid siting difficulties and the delays and added costs that result.

Safety and security

Like permitting processes, safety and security reviews tend to be much more manageable in Europe than they are in the US.18

US safety and security processes for most industrial facilities, including LNG terminals, are based on reducing the potential consequences of adverse events. This approach frequently results in open-ended and contentious proceedings that expose developers to a great deal of negative publicity and local siting opposition-which has derailed many projects in the US.

European policies, however, generally are based on ensuring that projects do not exceed established risk criteria. This standards-based approach, drawn from British law, focuses on empirical risk assessments and limits the population’s cumulative exposure to industrial risks.19

For example, at the Zebrugge terminal in Belgium, LNG suppliers assessed the risk of larger Qflex-sized LNG carriers docking at the terminal. Belgium’s risk-standards approach showed that such carriers will not increase public risk and in fact may reduce cumulative risk when accounting for the number of smaller tankers required to achieve equivalent import volumes.

Europe’s criteria-based approach to assessing risk, combined with the European public’s greater cultural acceptance of infrastructure projects in general, has allowed LNG projects in Europe to avoid much of the strident local opposition that has hindered many US projects. However, LNG projects in Europe are subject to careful scrutiny for safety and security, and projects will proceed only if their sponsors satisfy national standards.

Gas composition

As more LNG terminals come online and new pipeline infrastructure projects are built in Europe, importers face an increasing need to ensure that diverse compositions of various LNG sources do not create unmanageable volatility in European gas supplies.

Recognizing the need for streamlined standards, the European Association for the Streamlining of Energy Exchange-gas (EASEE-gas) in February 2005 adopted harmonized gas-quality specifications. The association proposed a two-phase implementation process, with most standards becoming effective for participating countries and companies by Oct. 1, 2006. Implementation of standards for combustion-related properties (such as Wobbe Index, relative density, and oxygen content) is delayed until Oct. 1, 2010, because of anticipated technical issues.

The standards are intended to facilitate increased gas flows and ensure interoperability at designated cross-border points in Europe, including pipeline and LNG import points. Although some European countries retain national gas-quality specifications, to accommodate new supplies these standards eventually may be modified or eliminated in favor of the EASEE-gas standards.

For example, EASEE-gas harmonized standards currently apply to two cross-border points leaving Denmark-one to Germany and one to Sweden. All other gas in Denmark must meet Denmark’s existing gas-composition specifications, contained in the Rules for Gas Transport. These national standards include a narrower Wobbe Index range than the EASEE-gas standards, as well as a gross calorific value specification, which is absent in the EASEE-gas standards. Given several proposals for LNG import terminals in northern Europe, Denmark’s more restrictive gas-quality specifications could in practice restrict the free flow of new supplies and eventually may have to be modified.

Complex landscape

Opportunities for LNG development in Europe are evolving within a complex landscape of market and policy considerations. Russia in 2006 supplied 24% of Europe’s gas (Fig. 2). Countries that are more dependent on Russian gas might have greater impetus to develop LNG infrastructure to expand their supply diversity, but some of the most promising project opportunities are found in countries that today import little if any gas from Russia.

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LNG prospects likewise will depend on the fate of various major gas-pipeline projects that could change the supply-demand balance considerably, reducing market opportunities for LNG importers. And if too many LNG projects move forward in a given market, perhaps none will be fully subscribed when they enter operation. Utilization rates can vary widely, as illustrated by Fig. 3, which shows current comparative LNG utilization percentages for eight countries.

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Additionally, projects in countries with the most pressing supply constraints face potentially large compliance costs and risks, as national regulators seek to ensure maximum use of terminal capacity and prevent market-power abuse.

LNG suppliers and importers will play a critical role in helping Europe address its geopolitical and supply-adequacy challenges. As a result, European LNG development offers promising opportunities for investors who can manage a dynamic market and a complex policy landscape.


  1. “EU official says Russia is seeking gas cartel,” International Herald Tribune, Jan. 24, 2007.
  2. Bozon, Ivo, et al., “Europe and Russia: Charting an Energy Alliance,” The McKinsey Quarterly, No. 4, 2006.
  3. “Italian cabinet minister speaks in favour of nuclear,” World Nuclear News, Feb. 13, 2007.
  4. “Quiz the energy minister,” UK Prime Minister’s Office web site (http://www.number10.gov.uk/output/Page10207.asp), Oct. 18, 2006.
  5. “UK regulator threatens to revoke Isle of Grain terminal’s access exemption,” Platts LNG Daily, Nov. 29, 2005.
  6. Directive 2003/55/EC of the European Parliament and of the Council concerning common rules for the internal market in natural gas and repealing Directive 98/30/EC, June 26, 2003 (http://europa.eu.int/eur-ex/pri/en/oj/dat/2003/l_176/l_17620030715en00570078.pdf).
  7. “DG Competition report on energy sector inquiry,” European Commission, Jan. 10, 2007 (http://ec.europa.eu/comm/competition/antitrust/others/sector_inquiries/energy/#final).
  8. “Commission Signals New Regulatory Approach in Louisiana LNG Project,” Federal Energy Regulatory Commission news release, Dec. 18, 2002.
  9. “GAS Eni probed over market abuse claim,” Utility Week, Dec. 2, 2005.
  10. “No ships booked for UK’s Isle of Grain terminal,” Platt’s LNG Daily, Mar. 2, 2007.
  11. European Union Regulation No. 1/2003, Article 23(2).
  12. Sparling, Steven; Warren, Thomas, “Successful European terminal projects must run regulatory, commercial gauntlet,” LNG Observer, Vol. 4, No. 2, April-June 2007, p. 16.
  13. 3rd Party Proposal: Storage Information at LNG Importation Facilities, Impact Assessment, published Mar. 1, 2007 (http://www.ofgem.gov.uk/ofgem/work/index.jsp?section=/areasofwork/wholesalemarketmonitoring).
  14. “BG sees 2010 startup for delayed Brindisi LNG,” Global LNG Online, Feb. 8, 2007.
  15. “BG at centre of potential corruption scandal,” The Guardian Unlimited, Feb. 12, 2007.
  16. “Trieste council rejects LNG terminal applications,” Platts Oilgram News, Jan. 22, 2007.
  17. “Five charged over pipeline demo,” BBC News, Feb. 15, 2007.
  18. “Criteria regs reduce NIMBY safety fears” (OGJ, Sept. 11, 2006, p. 18).
  19. European Committee for Standardization, EN 1473, British Standards Institution: London, 1997. (http://www.bsonline.bsi-global.com).

The authors

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Jacob Dweck ([email protected]) is a founder and principal of LNG Solutions Group-an alliance between Det Norske Veritas (DNV), Sutherland Asbill & Brennan LLP, and Ziff Energy-which was formed to provide integrated services to LNG stakeholders. Dweck also is a partner at Sutherland Asbill & Brennan LLP, where he chairs the firm’s Global LNG Group, counseling major clients in Europe, the US, West Africa, and the Asia-Pacific market. Dweck has over 30 years of experience counseling clients on gas, LNG, and other energy arenas, including major transactions, commercial strategy and operations, project development, and regulatory and permitting issues, and contracting. The Global LNG Group publishes the daily LNG Law Blog (www.LNGLawBlog.com).

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Ernst Meyer ([email protected]) is director for the risk management consulting branch of DNV in Norway, responsible for its LNG projects worldwide. He served as head of the DNV LNG department in Houston during 2003-06, delivering risk management services to North American LNG import terminals. Meyer also is a principal of LNG Solutions Group.

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David Wochner ([email protected]) is a lawyer with the Global LNG Group at Sutherland Asbill & Brennan LLP. Wochner focuses his practice on regulatory, operational, siting and local law aspects of LNG. He counsels major private industry and government clients. Wochner is cofounder of LNG Law Blog, and also is a principal of LNG Solutions Group.