Introduction
The Commission, in decision SA.102163, authorised State aid for the construction of a terminal for liquefied natural gas [LNG] in Brunsbüttel, Germany.1 The project consists of an LNG import, storage and distribution facility with annual capacity of about 10 billion m3.
The project is carried out by the German LNG Terminal GmbH [GLNG] which has three shareholders: the Dutch Gasunie (40%), the German RWE (10%), and the German state-owned promotional bank KfW (50%). KfW is acting on behalf of the state.
The construction of the terminal is carried out by the Spanish partnership SENER Ingeniería y sistemas and COBRA Instalaciones y Servicios [SENER/COBRA], which was selected following a tendering process.
The purpose of the project is to enable Germany to further reduce its dependency on Russian gas and strengthen its energy security by diversifying the sources energy. The terminal that is expected to start operations in 2026 will increase Germany’s capacity by about 20% and will also supply other Member States.
Form of aid
According to the Commission decision, the aid “(6) will be provided in the form of a preferential dividend distribution mechanism, whereby KfW agrees to waive parts of its dividends in favour of the other two shareholders in GLNG (proportional to their respective shares) during 15 years of LNG operation of the terminal.” KfW will exit the project after 15 years.
“(24) More specifically, the preferential dividend distribution mechanism will take the following form:
– If in a financial year the distributable profit (after tax) is more than or equal to 5% of the total contributed capital by all shareholders invested until the completion of the construction phase (‘invested capital’), the profit shall be distributed pro rata to all three shareholders. KfW, Gasunie and RWE would thus receive the same pro rata dividend in such a year.
– In financial years in which the distributable profit (after tax) is less than 5% of the total capital contributed by all shareholders, Gasunie and RWE will receive a dividend of up to 5% on the invested capital, while the remaining profit is allocated solely to KfW (and thus Germany).
– If in a financial year the distributable profit (after tax) is lower or equal to 2.5% of the invested capital, the private investors (who hold 50% of the shares in GLNG) receive pro rata all the net profits in the form of dividends and KfW does not receive any dividends.
– However, if no dividend can be distributed in a given financial year or if the dividend distributed to Gasunie and RWE is less than 5% of the invested capital, they are not entitled to any additional compensation from KfW. Moreover, all shareholders are proportionally liable for losses of GLNG with the equity they have contributed.”
“(25) The measure therefore does not guarantee a 5% annual return but provides a layer of protection against low returns to the private investors (in years when the returns are below 5% of the total invested capital by all shareholders). If, on the other hand, the annual return for shareholders is above 5% of the total initial investment, KfW does not forego any dividends to the private investors and receives 50% of the distributable dividends. Should the Project turn out to be more profitable than expected in the business plan, in particular should the yearly return be higher or equal to 5% of the total initial investment, no State aid would be paid out under the measure.”
The present value of the aid is estimated to about EUR 40 million.
Exit process
After 15 years, KfW will sell its shares at market prices. At that time Gasunie and RWE will have a right of first offer. For this purpose KfW will carry out an independent expert valuation to establish the market value of its shares. If KfW does not accept the offer, KfW will then sell its shares through a competitive bidding process. The other two shareholders will also have the right to submit bids. In addition, RWE and Gasunie will have the right to match the offer made by the highest bidder. KfW may also choose to exit earlier by making a compensatory payment to Gasunie and RWE equal to the net present value of the preferential dividend distribution for the remaining period up to the 15th year.
Risk sharing and avoidance of overcompensation
The dividend distribution mechanism is designed as a risk-sharing tool on the basis of the business plan. If dividends exceed 5%, no State aid will be paid out.
Because the residual value of the terminal after 15 years is difficult to calculate and because it is expected to be very large, ranging between EUR 250 and 750 million, there is a “(36) claw-back mechanism in case the actual residual value at the time of exit of KfW after 15 years
significantly exceeds the residual value as included in the business plan central scenario, which would only kick in if the private investors have achieved an overall IRR of at least 5% on their initial investment. The claw-back mechanism shall apply when the preferential dividend ceases to apply after 15 years of operation, regardless of whether KfW has already sold its shares or not.”
“(37) At the end of the 15 years of operation of the terminal, the actual residual value will be determined in (i) an open, competitive sale process conducted by KfW, or (ii) based on an independent expert valuation if RWE and Gasunie exert their right of first offer (see recital (28)) or if KfW divests its shares before the end of the 15 years of operation of the terminal. Also in the latter case (early divestment of KfW shares) the actual terminal value will be determined at the end of the 15 years of operation of the LNG Terminal. Extraordinary investments made by Gasunie and RWE for the green retrofitting of the terminal are deducted from the residual value. For the proper determination of the value of the extraordinary investments for the green retrofitting, the opinion of an independent expert will be obtained.”
“(38) In order to determine whether the claw-back should kick-in, the German authorities will check whether the actual residual value determined as described above is higher than the residual value which would have resulted in a 5% return to private investors (the ‘breakeven residual value’), calculated ex-post using actual historical data. If a difference between the actual residual value and breakeven residual value is positive (the “excess residual value”), the amount to be clawed-backed will be 70% of the excess residual value or the aid that was paid out to the private investors under the preferential dividend mechanism, whichever is lower.”
Performance incentive
As noted above, the two private investors will be able to keep 30% of the excess residual value. This is considered to be a performance incentive. “(39) The German authorities argue that this ensures that the amount that could be clawed-back does not exceed the aid that was paid out to the private investors under the mechanism. The German authorities argue that Gasunie and RWE should be entitled to retain 30% of the excess residual value, in view of Gasunie’s and RWE’s contributions, in particular of know-how to the implementation of the Project and to maintain an incentive to work towards a successful green retrofitting of the LNG terminal. The authorities consider that a high excess residual value would be achieved primarily if the private shareholders were to contribute to the success of the Project extraordinarily well, thus building a valuable terminal for the future energy supply of the European Union. This contribution to energy supply and climate neutrality in the European Union is particularly worthy of support and should therefore be positively incentivized.”
Financial aspects of the project
The business plan of the project is based on the following assumptions:
· The operation period is 15 years starting from the fourth quarter of 2026.
· The depreciation period for all assets is 20 years.
· The corporate tax rate is 29.125% [corporate income tax of 15.8% and corporate trade tax of 13.3%].
· The long-term inflation rate is 1.5%.
· The WACC is 5.07%.
Total investment costs of the project, excluding VAT, amount to EUR [1000 – 2000]* million, in nominal terms, and are subject to indexation. [* business secret] Refurbishment at the end of the 15th year could extend the technical life of the project up to 40 years.
Funding gap
The counterfactual scenario is that no alternative project would be built. The return on the project is close to 5%, the present value of State aid is EUR 40 million and the funding gap amounts to EUR 44 million. In this case, the funding gap exceeds the amount of aid. This means that the aid is necessary and proportional.
In the 15 years of LNG operation “(76) for Gasunie and RWE, the Project IRR […] is calculated at [2-8]% based on the central scenario in the business plan. Due to the dividend mechanism, the IRR for KfW is projected at [2-8]%.”
“(78) The German authorities have conducted an extreme scenario robustness check. The scenario assumes that the annual profit to be distributed to shareholders would in every year be equal to 2.5% of the total invested capital by all shareholders, keeping the residual value unchanged. Under this scenario, the amount of aid would be at its maximum and equivalent to EUR 125 million […], but would still not be above a hypothetical funding gap that would result from such scenario. Therefore, the preferential dividend distribution mechanism ensures by construction that the aid amount does not surpass the funding gap.”
This is important. The measure is designed in such a way so that the amount of State aid fluctuates without ever exceeding the funding gap.
Avoidance of lock-in effect of natural gas and contribution to the EU’s climate targets
An important aspect of the Commission’s assessment of the compatibility of aid is the avoidance of any lock-in effect. In this respect, under German law, the operation time of LNG terminals for the importation of liquefied natural gas is limited until the end of 2043. After the 15-year operating period and at the latest by 2043, the project will have to be converted to importation of alternative sources of energy and, in particular, green ammonia.
Compatibility of the aid
The Commission assessed the compatibility of the State aid with the internal market on the basis of the Climate, Environmental Protection and Energy Aid Guidelines [CEEAG]. “(100) The Project constitutes a gas energy infrastructure in line with recital 19, point 36(b), of the CEEAG.” The Commission based its assessment on the general compatibility provisions in section 3 of the CEEAG and the specific compatibility criteria for aid for energy infrastructure in section 4.9 of the CEEAG.
With respect to the first condition – on the positive effects of the aid – the Commission concluded that i) the aid facilitated the development of an economic activity [point 371 of the CEEAG], that ii) the aid had an incentive effect [points 27, 28 & 381 of the CEEAG] because the funding gap analysis showed that without the aid the project was not commercially viable and that iii) the aid measure did not breach any other provisions of EU law [point 33 of the CEEAG].
With respect to the second condition – on minimisation of the negative effects of the aid – the Commission confirmed, first, the necessity and appropriateness of the aid, given the failure of the market to invest in energy infrastructure [points 372 & 379-380 of the CEEAG].
Second, the aid was proportional, as it did not exceed the minimum necessary for the project to become viable [points 47-52 & 381 of the CEEAG]. This was ensured by the fact that the aid did not exceed the estimated funding gap and by the claw-back mechanism. The discount rate is an appropriate WACC. In this connection, the Commission observed that “(148) the WACC used is conservative as it reflects the permissible return on equity for investments in new assets of electricity and gas network operators set by the Federal Network Agency last year for the next regulatory period”.
Because the preferential dividend distribution mechanism “(152) could in principle result in the payment of a larger amount of aid than estimated in the central scenario presented by the German authorities, the Commission takes comfort in the fact that, by virtue of the interrelation between the dividend distribution mechanism and the funding gap explained above, the aid amount paid under the measure remains bounded, keeping the residual value of the terminal fixed.”
“(155) Furthermore, point 381 of the CEEAG on the proportionality of the aid for energy infrastructure further specifies that the introduction of monitoring and claw-back mechanisms may be necessary where there is a risk of windfall profits, e.g. when the aid is close to the maximum allowed, while keeping incentives for the beneficiaries to minimise their costs and develop their business in a more efficient manner over time.”
“(157) While the actual residual value of the terminal does not affect the amount of aid paid under the measure, it could in principle affect the size of the funding gap should the residual value ex-post turn out to be higher than estimated.” “(159) The Commission considers the claw-back mechanism included in the measure by the German authorities an acceptable tool to reduce the risk of overcompensation. The 30 % retention leaves appropriate incentives to the beneficiaries to run the business in an efficient manner.”
Third, with respect to avoidance of undue negative effects on competition and trade, the Commission carried out its standard balancing test of whether the positive effects outweighed the negative effects of the aid. “(166) In the present case, point 382(b) and (c) [of the CEEAG] are relevant for this balancing test. For infrastructure projects which are exempted, in whole or in part, from internal energy market legislation, the Commission will take into account, in particular, the degree of third party access to the aided infrastructure,
access to alternative infrastructure, crowding-out of private investment and the competitive position of the beneficiary or beneficiaries.”
“(167) As regards the competition impact, the Commission has already found that this Project enhances competition in gas supply and that the exemption is not detrimental to competition in the relevant markets, which are likely to be affected by the investment.”
“(168) In addition, it was concluded above […] that the notified measure contributes to addressing a market failure, thereby alleviating the sub-optimal provision of infrastructure. The measure is therefore not expected to crowd-out private investment.
“(174) The Commission notes that the Project is not expected to have an indirect effect on CO2 emissions in the downstream market as gas imported though the terminal will contribute to replacing the gas volumes previously imported from Russia.”
“(179) Therefore, on balance, the Commission concludes that undue negative effects on competition and trade from the measure are avoided.”
The Commission also noted that “(180) a carefully designed aid measure should ensure that the overall balance of the effects of the measure is positive in terms of avoiding adversely affecting trading conditions to an extent contrary to the common interest.” “(183) Therefore, the positive impact of the aid measure in developing the economic activity at issue outweighs any potential negative effects on competition and trade.”
