Future proofing energy contracts: Clean energy change clauses (Article #3)

Found in: Blog

In this series, we explore how to future proof energy contracts, to provide maximum protection against unwanted consequences of a changing legislative and regulatory landscape. 

In this final article of the series, we will explore the potential consequences that may arise out of a clean energy scheme change, including financial and non-financial, and key considerations in addressing these consequences.

1. What are the Potential Consequences of the Change?

It is common for parties to focus on the financial consequences that may arise out of a clean energy scheme change (Change).  These may include costs of acquiring carbon credits, costs in altering operations to reduce emission productions, admin costs, regulatory penalties, and the pass through of other parties’ costs incurred as a result of the Change.

 There may also be non-financial consequences that should not be ignored when drafting a change event clause, particularly where the Change is inconsistent with the terms of the contract or will materially impact on a party’s ability to perform its obligations. 

 2. Considerations relating to pass through of financial consequences

Some common issues that parties should consider when passing through the financial consequences of a Change are: 

  • Net Financial Consequences: From a customer’s perspective, a change event clause should account for the net financial consequences of the Change, and not just gross cost increases. For example, any tax benefits and cost savings received by the supplier from the Change should be taken into account in calculating the pass through to the customer.  Financial consequences should only be passed through to the extent they have not already been passed through elsewhere under the contract. 
  • Pass through of both increases and decreases:  Customers should consider drafting change event clauses that require the supplier to pass through any reduction in costs arising from a Change.  If the scheme is later repealed, the customer will also benefit from any consequential reduction in the seller’s costs. 
  • Causation Issues: Carefully consider how the contract deals with the nexus between the Change and the net financial effect.  For example, does the clause allow the supplier to pass through costs that have been voluntarily assumed (such as costs of acquiring permits or undertaking efficiency initiatives to avoid incurring charges under the legislative scheme)?  This may also be linked to the kinds of costs that the clause permits the supplier to pass through.   
  • Minimum Thresholds: Consider including a threshold that must be exceeded before a financial consequence may be passed through.  This may reflect an agreed risk allocation between the parties, or can be used to avoid small nuisance claims. 
  • Mitigation of Costs:  Customers may wish to includeexpress mitigation obligations on the supplier, to incentivise the supplier to efficiently manage its emissions and minimise costs.  These may include obligations to adopt good industry practice, restrictions on the supplier recovering costs only where its emissions intensity is better than industry average, or the supplier making alterations to facilities or undertaking other projects (such as carbon offset projects) to reduce liability under the scheme.  A customer should also consider preventing the supplier from passing through any costs incurred as a result of failing to comply with the scheme (e.g. penalties). 
  • Transferring liability or permitting the customer to discharge liability:  If allowed under the clean energy scheme, consider catering for the possibility of transferring liability to other parties, or for the customer to provide credits or permits to the supplier to reduce the costs that would otherwise have been passed through.  While it may difficult to include detailed provisions regarding these matters until specific details of scheme are known, parties can still provide “in principle agreement” on such matters with full details to be agreed once the scheme is implemented. 
  • Apportionment between customers:  The supplier will typically need to apportion the net financial consequences of a Change amongst its customer base.  The change event clause should deal with this apportionment, by ensuring there is a nexus between the financial consequences being passed through, and the supply made to the customer under the contract.  In some circumstances, a ‘pain sharing’ arrangement may be appropriate, where the costs that may be passed through depend on the ability of the customer to in turn pass through those costs to its downstream customers. 
  • Implementation of the pass through – The supplier should be allowed some flexibility in how to pass through the change in costs.  A simple once-off fixed payment or a change in the contract price may not necessarily align with the effects of the Change.  It may also be necessary to provide for an estimated pass through to be made periodically (with a subsequent reconciliation), where the relevant costs are not known at the time invoices are issued. 
  • Confidentiality: Parties should consider their confidentiality and disclosure requirements in light of any information and mitigation obligations arising out of the introduction of any new scheme.  For example, demonstrating adequate mitigation will often require disclosure of what could constitute commercially sensitive information.  Parties will therefore need to balance competing interests between protecting confidentiality versus transparent oversight as to adequate mitigation. 
3. Considerations relating to the non-financial consequences

In some circumstances, a Change may result in a party being unable to perform its obligations under the contract.  If this is the case, it may be possible to argue force majeure, but this will be dependent on the scope of the force majeure provisions.  There also may be potential to claim that the contract has been frustrated by the Change.  The effect of frustration is that the contract is automatically terminated at the point of frustration, discharging all future obligations.  However, frustration will not be found where Change is foreseeable (such as in the case of the natural expiry of the RET in 2030).

An alternative, more proactive, approach is to include a contractual mechanism that requires the parties to amend the contract if the Change produces unintended consequences (eg the parties must attempt to agree on any amendments to the contract required to enable it to continue to have the same commercial effect as was originally intended).  Such provisions should provide for a resolution (eg determination by an independent expert) where the parties are unable to reach an agreement.

4. Conclusion

Parties should attempt to draft change event clauses in their contracts broadly and allow as much flexibility as possible for dealing with clean energy scheme changes. Even when detailed drafting is not possible, just including some basic principles that will apply may, at a minimum, provide a basis for negotiation in the future.

Don’t hesitate to contact Grondal Bruining to discuss your situation or for advice about future proofing your energy contract.

Yvonne Jansen, Principal

Grondal Bruining

Email: yvonne.jansen@grondalbruining.com.au

Phone +61 8 6500 4300