These days, investment in the energy sector involves more
than the basics of project financing such as the
creditworthiness of involved investors, securing long-term cash
flow, guarantees of shareholders, securing a lien or other
types of security on the investment itself.
Energy project financing requires at least in Europe
the accurate knowledge of the limits, constraints and
pitfalls set by the European energy liberalisation process,
combined with European competition law.
This applies mainly to infrastructure projects such as the
construction or enhancement of electricity lines, gas
pipelines, storage facilities for gas and Liquid Natural Gas
(LNG) terminals. As essential facilities, these installations
are regulated. The basic principles are laid down in two EC
directives from 2003. These directives, and their corresponding
transcription into the law of each member state, provide for
compulsory third party access to these installations and the
obligation to non-discriminatory behaviour, including the equal
treatment of affiliates with third parties. In most cases,
newly installed regulatory authorities have (as well as a
general right of supervision) under specific circumstances the
possibility or even the obligation to control or set the
tariffs to be charged by the respective operator of such
installation. These tariffs have to be cost-based and should
take into account the risks of the project.
The overall aim of this regulation and the task of the
regulatory authorities is to provide an environment that
enables the development of a fully functioning market with
equal, fair and easy access to such essential facilities for
any interested third party, especially competing traders,
suppliers and end consumers of energy.
In order to ensure the unbiased approach of the respective
operator, the directives provide for the obligation of legal
unbundling of transmission system operators (TSO) and large
distribution system operators (DSO). Thus, the formerly fully
integrated companies were forced to demerge the grid operations
from the rest of the companies' activities, especially the
trading and production of energy. Until now, ownership
unbundling has not been necessary under the directives.
However, some member states had already enforced the separation
in terms of ownership of the grid operations from trading and
production activities. Therefore, special purpose companies
The production of electricity or hydrocarbons, as well as
the trading of energy, is not regulated. Nevertheless,
investments in these sectors have also to take into account
this new legal environment. In particular, investors in new
power generation facilities have to be aware that an
enhancement of the electricity grid or of the pipeline system
(in the case of natural gas-fired thermal power stations) are
no longer subject only to a decision of the same perhaps
vertically integrated company or subject to bilateral
negotiations between a potential transport customer (shipper)
and a pipeline company on the terms and conditions of a
long-term contract ensuring the investment in new
transportation capacities, but that any such investment in the
regulated grid or pipeline network has to be approved by the
regulatory authorities and will be strongly influenced by the
concrete methods of tariff calculation applied by the
The European energy infrastructure has to cope with many
different new challenges. The existing grid (electricity and
gas) was not built to satisfy the requirements of electricity
and gas transportation in a liberalised market, where more and
more interconnector capacities are needed and energy flows are
subject to market developments and opportunities and no longer
follow long-term supply contracts with energy flows predictable
well in advance.
Due to discussions on liberalisation and the unbundling
issue and in particular the uncertainty about future
tariff-setting principles, many investments in new
infrastructure projects were stalled.
This was done despite the fact that energy consumption in
Europe is still growing and, as far as natural gas is
concerned, reserves within Europe are reduced (in particular in
the UK) and the dependence upon supply from outside Europe
In this situation, much investment in energy infrastructure,
as well as in electricity production, is needed. Project
financing is one way to realise such ambitious projects.
Project financing is the financing of a project in which the
lenders look principally to the cash flow generated by the
operation of the project for the source of funds from which the
loans will be repaid. Investors therefore have to look to the
creditworthiness and the merits of a project rather than to the
project sponsors. Few projects, however, are financed purely on
a non-recourse basis, because lenders will inevitably require
some support from project sponsors. The degree of involvement
of the sponsors depends largely on the security of the cash
flow to be generated.
The most common way to ensure such stable income and cash
flow is to have sponsors or interested parties commit to
certain off-take obligations, thus indirectly guaranteeing that
the project will generate sufficient cash flow to meet its debt
Investments in energy normally take many years to pay out.
Therefore the revenue stream also has to be secured for a long
time period (amortisation period).
Before the liberalisation of the energy sector, investors
and lenders alike looked for the conclusion of long-term
contracts with reliable contract partners who were obligated to
pay a certain fixed tariff on a "take or pay", "ship or pay" or
"store and pay" basis, which covered the fixed costs and also
ensured a reliable cash flow to guarantee earnings to cover
repayment of debts and interest payments, as well as
Under the legal framework established under the new rules
governing the energy sector, this kind of security is difficult
but not impossible to achieve.
The Austrian legal framework
In 2001 (Electricity) and 2002 (Gas), Austria introduced
full market opening and third party access to the national
electricity and gas grid, taking into account the then-known
status of the draft directives.
Any discrepancies between the Austrian legislation and the
directives 2003/54 and 55/EC were corrected by amending the
respective Austrian legislation in 2006, taking into account
regulation (EC) 1228/2003 on network access conditions for
cross-border electricity trade and regulation (EC) 1775/2003 on
the conditions for access to gas transmission networks.
As far as power generation from renewable energy sources is
concerned, Austria's legislation provides a system whereby
certain power generation projects that use renewable primary
energy sources are guaranteed for a certain period after
start-up of the installation and subsidised feed-in tariffs for
the electricity produced for a fixed period (largely for 13
years), dependent on the used primary energy source. The
provisions regulating the detailed tariffs and terms and
conditions, as well as the various eligible power generation
installations, are amended almost twice a year, taking into
account the ability to finance these subsidies and the
continuing discussion on the promotion of different renewable
energy sources, in particular biomass or water power.
The latest amendments were passed in the national assembly
in July 2008. The aim of this legislation is to further
increase the share of renewable sources of energy in Austria.
Also in July 2008, a new law was enacted regulating the
subsidisation of certain cogeneration plants and, under a
separate law, the subsidisation of certain district heating
lines was introduced.
Restrictions due to competition law
Energy supply is often based on exclusive long-term
purchasing and supplier relationships. Classic exclusivity
arrangements are non-compete obligations, requiring the buyer
to purchase practically all its requirements from a particular
The Vertical Block Exemption Regulation treats direct and
indirect obligations of a buyer to purchase more than 80% of
its total requirements of the contract goods or services in
question as a non-compete obligation. Foreclosure of new
competition and the strengthening of pre-existing collective
market power are the two significant competition concerns of
non-compete obligations. The exclusive relationship must have a
significant duration to cause an appreciable foreclosure
effect. Short-term exclusivity obligations are normally not
likely to exclude competition.
For the European Commission, short-term means in general and
across all industries one year.
The Vertical Block Exemption Regulation presumes the
legality of non-compete obligations if they are imposed by a
supplier with a market share not exceeding the limit of 30% and
if the duration of non-compete obligation does not exceed five
years. Energy contracts with a longer duration, an indefinite
duration or providing for tacit renewals beyond a period of
five years are not covered by the safe harbour.
When examining whether the economic benefits of a
non-compete obligation compensate for its anti-competitive
effects, the following aspects are relevant (efficiency
- Does the non-compete obligation contribute to
ameliorating the production or distribution of energy
products or help to bring forward technical or economic
- Do consumers get a fair rate of the economic benefits
resulting from the non-compete obligation?
- Does the non-compete obligation strengthen the
possibility of excluding competition in respect of a
considerable part of the energy products in question?
- Is the non-compete obligation indispensable to the
obtaining of the efficiency profits?
One of the efficiency defences most likely to be accepted is
when the non-compete obligation is indispensable to justify
investments by the energy provider or energy buyer. It has to
be shown that the investment is relationship-specific,
asymmetric and can only recoup within the time period for which
the non-compete clause applies. The European Commission states
in its guidelines that most investments do not require
exclusivity for more than five years. Only high
relationship-specific investments are able to justify long-term
exclusivity. Non-compete obligations thus need to be on the
basis of exact and verifiable calculations in direct connection
with specific investments in order to show the beneficial
effect for the duration of the non-compete obligation. The
construction of new power plants, for example, might be used as
an argument to justify long-term non-compete obligations. In
this context, exceptionally, the European Commission tolerates
contracts of around 15 years.
The legal consequences of an infringement of EC competition
law are nullity of the contract, the imposition of fines and
compensation for damages.
Third party access rules for energy infrastructure
Access to the natural gas transportation systems is dealt
with differently in the case of access for domestic consumption
or transportation to and from the storage and production sites
(domestic transportation) as compared with access for
cross-border transportation. Both access regimes are organised
as regulated third-party access. Access to cross-border
transportation is organised by OMV Gas GmbH as a one-stop-shop
if more than one transmission system operator is involved.
Access to the domestic grid is organised by the local
distribution system operator in the case of access for
endconsumers and changes of supplier together with the
independent system operator and for other transportation by the
independent system operator.
Tariffs for domestic transportation are determined by the
regulatory authority (ECK) and are paid fully by the
endconsumer (exit fee). With regard to cross-border
transportation, TSOs have to apply for approval of their
methods of tariff calculation and have to publish tariffs
calculated in accordance with the methods approved by the
regulatory authority (the Energy Control Commission).
Storage entities have to provide non-discriminatory
negotiated third-party access to gas storage on the basis of
published general terms and conditions.
Tariffs for the use of the Austrian network for domestic
consumption are set by the ECK in an ordinance, the
Section 23a (2) GWG (Austrian Gas Act) provides that tariffs
have to be computed with a focus on costs and will comply with
the principles of causation. The revenues obtained from the
grid provision charge will be considered in computing the grid
utilisation rate. It will be permissible to calculate the
prices using an average based on the cost of a rationally
managed comparable enterprise. In addition, pricing may be
based on objectives focussing on the savings potential of
enterprises (productivity discounts). The rate structure
underlying the prices will be made uniform and will enable a
comparison between all system operators offering equivalent
These provisions enable the Austrian Regulatory Authority to
set a tariff for domestic transportation that is not sufficient
to cover all costs incurred within a specific period.
Similar regulations are in place for the electricity grid
There is very little room for individual agreements between
the DSO and its customers. The GSNT is renewed regularly by the
ECK. Until 2007, this has been done nearly every year. As of
2008, there exists an informal agreement between the network
operators and the Austrian Regulatory Authority that tariffs
are set yearly but on the basis of a fixed formula, where the
costs of the network operator are only calculated and checked
by the regulatory authority every four years and the rate of
return granted by the regulatory authority is fixed on a
sliding scale for this period. Any cost saving generated by the
network operator above the anticipated amount stays with the
network operator. In a case where the income deriving from the
regulated tariff no longer covers the costs of a DSO, the DSO
can apply for a change of the GSNT. (This applies also to any
TSO.) This might happen if, for example, the network operator
incurs significant costs due to new investments.
Under the network access provisions for domestic third party
access, network access agreements (transportation contracts)
are concluded for an indefinite time period, allowing for
termination with one month's prior notice.
The methods for tariff calculation for the cross-border
transportation of gas have to comply with the specifications
laid down in Section 31h (1) of the Austrian Gas Act.
In accordance with Section 31h (1) of the Austrian Gas Act,
TSOs are obliged to grant system users access on the basis of
grid utilisation charges that comply with the principle of
non-discrimination and cost-orientation. The methods for the
calculation of tariffs are subject to the prior approval of the
Austrian Regulatory Authority and will refer to the cost base,
consisting of the full costs for operation, fuel gas, line pack
management, maintenance, extension, administration and
marketing. The return on investment (ROI) to be foreseen will
be adequate compared to international ROIs and suitable for the
long-term capital structure of the transmission undertaking or
holder of the transport rights and will make provision for
Underlying the tariffs will be the capacity utilisation at
the time of calculation.
The methods may provide that grid utilisation charges be
determined in part or, in specific cases, also by
market-orientated methods such as auctions. The methods will
facilitate the efficient trade in gas and competition and avoid
cross-subsidies between system users. At the same time they
will provide incentives for investment and for maintaining or
establishing interoperability. Further, methods will be
designed so that necessary investments in the systems can be
made so that the system's viability is ensured.
This reads as being more favourable to the investor than the
provisions regulating the domestic tariff-setting principles.
In practice, however, the regulatory authority tends to apply
the same standards for domestic and cross-border
transportation. In addition, in accordance with Section 31h (2)
of the Austrian Gas Act, the Austrian Regulatory Authority can
ask for changes to the authorised methods at any time. This
leads to a high level of uncertainty for the network operator
and any investor in or sponsor of a project.
For storage projects, the regulatory authority is only
allowed to determine which costs may be taken into account in
calculating the storage tariffs if the published storage
service tariff level is 20% higher than the average tariffs for
comparable services in the European Union.
The duration of transportation contracts to be concluded for
cross-border transports or storage service contracts can be
determined without any specific restriction other than general
principles of competition law (see above).
There is no regulation for LNG terminals in place in Austria
because Austria has no direct connection to a possible LNG
How can we secure long-term, stable cash flow?
Exemptions from standard third party
Article 22 of directive 2003/55/EC (gas) was transformed
into Austrian national law as Section 20 a) of the Austrian Gas
Act. Article 7 of EC Regulation 1228/2003/EC (electricity) is
Under these regulations, large new infrastructures, meaning
cross-border transmission lines in both gas and electricity
(interconnectors) and storage facilities may, upon application,
be exempted from certain provisions governing third party
access and tariff setting for a certain period of time and
subject to certain conditions. Any exemption may only be
- the investment in the large new infrastructure concerned
will improve competition in gas/electricity supply and
security of supply;
- the risk associated with the investment is so high that
the investment in the large new infrastructure would not be
made if no exception were granted;
- the infrastructure is owned by a natural or legal person
that is separate, at least in its legal form, from the system
operators in whose systems the infrastructure is built;
- a charge for system use or storage is levied from the
users of this large new infrastructure;
- the exemption above negatively affects neither
competition nor the effective functioning of the single
market in natural gas/electricity; or
- contracts in connection with the large new infrastructure
are consistent with the competition regulations.
Usually, exemptions granted under these provisions provide
for an exemption of up to 50% to 80% of the total capacity from
obligatory third party access, enabling the investors to use
this capacity for their own business purposes and from the
application of the general tariff-setting provisions for the
The exemption is usually granted for the payback period for
the initial investment (15 to 25 years). Such applications for
exemption have to be filed and granted before the final
investment decision is taken. The procedure with the Austrian
Regulatory Authority takes about half a year, but only if all
preparatory work (documentation and, if appropriate, external
expertise on the competition aspects and financing risks of the
The European Commission may take up to three months to
review and alter any decision taken by the national regulatory
As far as the assessment of the risk of the projects and the
projected demand is concerned, regulatory authorities often
demand to organise a separate market review, including an
open-season procedure for allocation of possible future
capacities created by the investment.
This adds to the normal lead time of energy projects and
must be considered.
The procedure is lengthy and complicated and the outcome and
extent of exemption is subject to an evaluation of the national
regulatory authority and the European Commission and is not
predictable, but it is the only chance to legally secure the
application of fixed tariffs for the payback period and a
stable contractual environment for the project, thus
guaranteeing a stable cash flow. Otherwise, under the current
legal framework, the regulatory authorities may alter the
financially sensitive cornerstones of a project due to
regulatory requirements at any time.
Dr Thomas Starlinger
Fiebinger, Polak, Leon & Partner
Dr Thomas Starlinger was born in 1960 in Vienna and
was awarded his JD at the University of Vienna in 1982.
He joined Fiebinger, Polak, Leon & Partner in 2007.
His practice areas include energy, oil and gas,
administrative, general contract and corporate law.
Thomas has been active in the Administrative Court
(1983 to1984), was Procurator Fiscal (1984 to1986),
in-house counsel for OMV AG (1986 to 2001), the head of
the legal department of OMV Erdgas GmbH (2001 to 2002),
CEO of AGGM Austrian Gas Grid Management AG (2003 to
2007) and the head of the legal committee of the
Association of Gas and District Heating Supply
Companies (2004 to 2007).
Thomas is the author of numerous publications in the
area of energy law and speaks German and English.