Government intervention in the domestic gas market – gas price cap and mandatory code of conduct

Critical changes for gas industry participants 7 min read

All participants in the gas industry, particularly gas producers and gas consumers, should take note of the Federal Government's latest measures to ensure adequate domestic supply of gas at reasonable prices and on reasonable terms, namely:

• a proposed mandatory code of conduct to guide contracting behaviour, which includes a 'reasonable price' provision; and
• an emergency cap on wholesale gas prices for 12 months, at $12/GJ (effective as of 23 December 2022). 

In this Insight, we provide background to the Government's implementation of these measures, give key details on both the price cap and proposed code of conduct, and recommend actions you can take now to ensure compliance in your contracting practices moving forward.

Key takeaways

• Wholesale gas prices are capped at $12/GJ for contracts entered into between gas producers and third parties for the 12 months from 22 December 2022.
• Given the ACCC's expected strict enforcement approach, where the price cap applies, producers and industry participants should be cautious to ensure that take-or-pay provisions, indices-linked pricing, seasonal pricing variations and transportation charges do not result in the price paid for delivered gas exceeding $12/GJ, even where the contracted price is less than $12/GJ.
• The proposed mandatory code of conduct, which will likely come into effect in early 2023, will contain a reasonable pricing provision requiring producers to supply gas at prices which reflect the cost of domestic gas production, allowing for a reasonable return on capital.
• The proposed code of conduct will apply beyond the expiry of the gas price cap, until the ACCC advises the Government that there is sufficient gas supply in the domestic market at prices which reflect the underlying costs of production.

Background: customer dissatisfaction and supply shortfalls

On 9 December 2022, the Federal Government released a Consultation Paper setting out its two proposed mechanisms to address mounting issues in the domestic gas market.

The Competition and Consumer (Gas Market Emergency Price) Order 2022 (Cth) (the Order) was then introduced on 22 December 2022 (after a six-day consultation period) pursuant to section 53M of the Competition and Consumer Act 2010, which implemented the $12/GJ price cap with immediate effect for a period of 12 months.

On 13 January 2023, the ACCC published interim guidelines on enforcement of the price cap (Interim Guidelines), which include examples of conduct the ACCC considers may contravene the Order. Consultation on the mandatory code of conduct closes on 7 February 2023, and the code is expected to come into effect soon after.

These new measures are in addition to the existing Australian Domestic Gas Security Mechanism (ADGSM) and Heads of Agreement between east coast LNG exporters, and are representative of the Government's increased willingness to intervene in the domestic market to decrease gas and energy prices. They arise in the context of customer dissatisfaction with the state of the domestic gas market, amid rapidly rising prices, gas shortages, and a perceived prioritisation by producers of profits derived from LNG exports. While the ACCC's forecast gas supply shortfall on the east coast for 2023 has been reduced to 30PJ, down from the 56PJ forecast last July, the ACCC has found that non-LNG producers alone will not produce sufficient gas in 2023 to avert a domestic shortfall, and that LNG producers have not yet committed sufficient volume under firm contracts for such a shortfall to be avoided.¹

Gas price cap

Who does the price cap apply to?

The Order prohibits producers of natural gas and their affiliates from entering into agreements to supply gas, supplying gas under such agreements, or making offers on a gas trading exchange at a price above $12/GJ. The price cap applies in all jurisdictions except for Western Australia, and to all agreements made after 23 December 2022. While agreements entered into before this date are not subject to the price cap, pre-existing agreements which are varied after 23 December 2022 will be subject to the Order where the relevant variation includes a provision determining price.

Are there exceptions to the price cap?

The Order contains a number of exceptions, with the result that the price cap does not apply to:

• agreements where the recipient of gas intends to export it as LNG;
• agreements for the storage of gas;
• subordinate contracts or transactions notices under a pre-existing master gas supply agreement, where the subordinate contract does not contain a provision determining price;
• agreements resulting from transactions on the Declared Wholesale Gas Market (DWGM) or Short Term Trading Market (STTM);
• gas trading exchange agreements that do not result from a Pre-matched Trade or Broker Pre-Matched Trade, or which result from a Pre-Matched Trade or Broker Pre-Matched Trade but are for a term of supply of less than three days;
• gas retailers that did not exist prior to 1 July 2021, or whose gas-related turnover is less than 50% attributable to production;
• gas from undeveloped fields; and
• entities to which an exemption is granted under the Order. Exemptions may be granted by the Minister after considering the volume of regulated gas produced by a person, the proportion of the business operations of the person represented by the business of producing regulated gas, any material change in the person's circumstances since the commencement of the Order, the objective of Part IVBB of the Competition and Consumer Act 2010, and any other matter the Minister considers to be relevant.

How will the ACCC enforce the price cap?

The Interim Guidelines suggest the ACCC intends to take a strict approach to enforcement of the price cap where it applies. Examples given of circumstances which may breach the price cap include:

• where take or pay payments for non-delivered gas result in the total cost per delivered GJ exceeding the price cap, even where the contracted price is $12/GJ or less;
• where the gas price is linked to indices or international pricing, such as the Brent Crude price or Japan/Korea LNG Price, or is denominated in foreign currency, such that through movements in those reference points the price exceeds $12/GJ;
• seasonal pricing (including the imposition of additional fees and charges during winter) which results in the price payable for gas exceeding the price gap during periods of seasonal peak demand; and
• agreements for the supply of gas ex-plant, where transportation charges result in the price of delivered gas exceeding the price cap, even where the contracted price is $12/GJ or less.

The Interim Guidelines also state that the ACCC, in exercising its enforcement discretion, will consider the context in which the contracting arrangement occurs, including historical contracting practices, whether the average price payable over the course of the 12-month price cap period exceeds or is likely to exceed the price cap, and whether the producer reasonably expected or believed before entering the contract that the average price payable during the price-cap period would be below the price cap.

Mandatory code of conduct

Who will the proposed code of conduct apply to?

While the proposed mandatory code of conduct (the Code) remains under consultation, the consultation paper released late last year indicates that it will set minimum standards for contracts for the supply of gas by producers. While the Code is to initially apply only to contracts between producers and third parties, the ACCC has indicated that extension to other wholesale gas contracts and participants may be considered in the future. In line with the gas price cap, the Code will not apply to Western Australia.

What will the proposed code of conduct regulate?

Proposed terms include, among others, an obligation on producers and purchasers to act in good faith, requirements for producers to disclose certain information when issuing EOIs or making offers to enter into contracts (such as the factors considered in determining price), minimum standards for some terms and conditions, and a reasonable pricing provision.

The proposed code of conduct will include a formal process for the resolution of pre-contractual disputes, ranging from mediation to binding arbitration.

What does the 'reasonable pricing' provision entail?

The bulk of the detail in the consultation paper surrounds the reasonable pricing provision, which would require producers and buyers to negotiate contracts at prices which reflect the cost of domestic gas production, allowing for a reasonable return on capital. This 'reasonable price' is to be assessed with reference to operating expenditure, depreciation, return on capital and an allowance for taxation and royalties. Where contracting parties are unable to agree on a 'reasonable price' through negotiation, a price may be determined via arbitration with reference to the reasonable pricing provision and ACCC guidance.

Unlike the gas price cap, the reasonable pricing provision of the Code will remain in effect until the ACCC advises the Government that domestic gas prices are reflective of the underlying costs of production, and that there is sufficient supply in the domestic market at these prices. It will apply in respect of gas supplied from currently undeveloped fields as soon as the Code is enacted, and to the supply of gas from developed fields once the price cap expires.

Actions you can take now

• Consultation on the mandatory code of conduct remains open until 7 February 2023. More information on the consultation process is available on the Treasury website, and submissions can be made via email to gasmarketconsultation@treasury.gov.au.
• Industry participants should familiarise themselves with the price cap and the ACCC's interim guidelines, and gas producers should ensure that their contracting practices comply with the Order while it remains in force.