Legal Definitions - deregulation clause

A deregulation clause is a specific provision within a contract that outlines what will happen to the agreement if a previously regulated industry, market, or commodity becomes deregulated. It specifically details how key terms, such as pricing, service obligations, and other responsibilities of the buyer and seller, will be calculated or adjusted in the event that government controls or oversight are removed.

This type of clause is particularly common in industries like oil and gas, where government regulation of prices, production, or transportation can change over time, potentially impacting long-term contracts.

• Example 1: Long-Term Natural Gas Supply

  Imagine a large chemical plant that has a 15-year contract to purchase natural gas from a supplier. When the contract was signed, the price of natural gas was heavily regulated by a state energy commission. To prepare for potential changes, the contract includes a deregulation clause. This clause states that if the state commission eliminates its price controls on natural gas, the contract's pricing mechanism will automatically shift from the regulated rate to a formula based on the average daily closing price of natural gas at a major trading hub (like Henry Hub), plus a pre-agreed fixed margin for the supplier. The clause also specifies that delivery schedules and quality standards will remain unchanged.

  How this illustrates the term: This example shows how the deregulation clause pre-emptively defines how the price of the commodity (natural gas) will be calculated and what the supplier's and buyer's obligations (delivery, quality) will be if the market transitions from a regulated to a deregulated environment.

• Example 2: Crude Oil Pipeline Transportation

  An independent oil exploration company enters into a 20-year agreement with a pipeline operator to transport crude oil from its new oil field to a refinery. At the time of the agreement, the fees for using the pipeline are set and approved by a federal regulatory agency. The contract contains a deregulation clause specifying that should the federal government deregulate pipeline transportation tariffs, the transportation fee will then be determined through annual negotiations between the parties, guided by prevailing market rates for similar services in the region. It also outlines a mediation process to resolve any disputes over the new pricing.

  How this illustrates the term: Here, the deregulation clause addresses how the service fee (transportation) will be calculated and how future obligations (negotiation, dispute resolution) will be managed if the regulatory framework governing pipeline tariffs is removed.

• Example 3: Electricity Purchase Agreement (tied to natural gas)

  A city utility company signs a 25-year power purchase agreement (PPA) with a power generation company that operates a natural gas-fired power plant. Part of the PPA's pricing structure is directly linked to the regulated cost of natural gas, which is the plant's primary fuel. The PPA includes a deregulation clause stating that if the wholesale natural gas market becomes fully deregulated, the fuel cost component of the electricity price will no longer be based on regulated rates. Instead, it will automatically adjust to reflect an average of three major natural gas market indices, ensuring the power generator's fuel costs are accurately passed through based on market conditions, while the utility's obligation to purchase power remains.

  How this illustrates the term: This example demonstrates how a deregulation clause can impact a related contract (electricity PPA) by specifying how a key cost component (natural gas fuel price) will be calculated and how the buyer's obligation (to purchase power) will continue, even if the underlying commodity market (natural gas) moves from a regulated to a deregulated state.