The price of morality…

Kieran McGaughey looks at the range of issues for councils who are considering terminating their contracts with Gazprom, including the need to look at who will step in to provide the services.

(This article was originally published in the Municipal Journal (MJ) on 22^nd March 2022)

Contracts linked to Gazprom, the energy supplier partly owned by the Russian state, continue to pose a significant headache for local authorities.

According to Tussell, who provide data on public sector spending, UK local authorities paid £29m to Gazprom’s UK entity from 2016 to 2021.

Following Russia’s invasion of Ukraine, such contracts have come under increased public and political scrutiny. Councils (and indeed other public bodies) are facing pressure to terminate any such arrangements. The topic continues to make headline news, and indeed was raised in the Commons earlier this month. Darren Jones, Labour MP for Bristol North West, noted that ‘many local authorities, NHS trusts and other public bodies are locked into gas supply contracts with Gazprom’. He queried whether in order ‘to get out of them’ the Government will bring forward legislation to amend the public procurement rules. Kwasi Kwarteng, Secretary of State for Business, Energy and Industrial Strategy, responded that: ‘The position in respect of Gazprom is that the UK company is separate from the parent but, should anything happen to Gazprom, just as with any other supplier of energy, we will take the appropriate steps.’

This will have come as a disappointment to those authorities who had been canvassing the government to intervene. It would also appear that, aside from the lack of any legislative intervention, there also won’t be any sanctions against the UK entity. Some commentators had suggested that such sanctions could give rise to contractual force majeure or frustration.

What now?

So, what now then for local authorities considering termination? In light of the above, it would appear to boil down to a review of (i) what the current law permits and (ii) the contract terms in place. On the first point, local authorities will need to carefully consider the duties imposed on them under the Local Government Act 1988. This legislation requires local authorities, in deciding whether to terminate an existing contract, to disregard any ‘non-commercial matters’. Subsection 5 provides that examples of such matters includes both:

(e) the country or territory of origin of supplies to, or the location in any country or territory of the business activities or interests of, contractors;

(f) any political, industrial or sectarian affiliations or interests of contractors or their directors, partners or employees;

Whilst Kwasi Kwarteng takes the view (as above) that the UK company is separate, the duty here does also apply in the context of ‘associated bodies’. There is a potential argument then as to whether some of the above prohibitions would be invoked in this case. It is the UK company’s links to Russia, and in particular the Russian government (who part own Gazprom), that would be the cause of termination in this context.  Where an authority does consider these provisions are engaged, they may wish to consider whether some actions might fall outwith the scope of what the Act refers to as ‘termination’ (for example not taking up a renewal option).

Authorities would also do well to ensure that their stance is based on a full appreciation of the contract terms (including any variations over the years) as ultimately this will also inform their exit options. Notwithstanding the potential complications of the LGA 1988, It is important to ensure that stakeholders are aware of any risks associated with the proposed termination of any contract/s. Where a party terminates a contract without a right to do so, it leaves itself open to a claim of wrongful termination from the other party (including the prospect of a damages claim).

It also remains important to consider compliance with the council’s internal standing orders/constitution as these may prescribe certain formalities around deciding to terminate a contract. It is possible that such a decision could fall within the scope of a key decision (dependent upon the value and how the council’s rules are structured). 

What next?

For those authorities who are considering termination, they also need to be looking a little further down the line. Who will step in to provide the services? How quickly can they be procured under relevant procurement law obligations? Perhaps most importantly of all, how much will they cost?

One council reported its use of the Gazprom entity was because no other bidders had submitted a tender for its previous procurement[1]. Authorities may wish to undertake some research (and possibly even some soft-market testing) to ascertain the current market position in their area, prior to any decision to terminate. Even where there is deemed to be satisfactory appetite for a re-procurement, this will not happen overnight. It remains to be seen whether the grounds for any direct award are made out under procurement law, and thus having a new supplier in place is likely to take a procurement process of many months. The shorter the remaining duration of an existing contract, the more appealing it may be for local authorities to let those contracts simply run their course (particularly in light of the comments above regarding the LGA 1988).

Given the current market volatility and inflation, tenderers may struggle to maintain their pricing for the tender period, let alone a lengthy contract term. Realistically then authorities are likely to be facing a significant price increase in changing suppliers at the present time. All of these costs, aside from any termination costs as above, will require careful consideration. Whilst many public bodies have professed a desire to terminate their contracts, it is worth noting that one NHS Trust have resolved that it would simply be too expensive to terminate their current deal.

Comment

Local authorities find themselves in an unenviable position here, caught between the proverbial rock and hard place. Reputational and political risks on one hand, legal and financial risks on the other. Only one thing would appear certain – morality will come with a price….

[1] https://www.bbc.co.uk/news/uk-england-london-60587166

Kieran McGaughey is a Director and the National Lead for Procurement Law in Lawyers in Local Government (LLG)