4 Nov 2020

The challenges facing the massification of natural gas

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As of 2004, Peru began the exploitation of its most important natural gas reserves, located in the region of Cusco (Camisea), specifically in the fields located in the towns of San Martín, Cashiriari and Mipaya. These reserves, proceeding from blocks 88 and 56, are transported from the rainforest to the coast of the country (city of Lurin), where thermal power plants generate the energy required to supply the population’s demand.

 

Since that date, there has been a cheap, clean and safe energy component, which allowed the country, among other benefits, to build a diversified energy matrix that provides high reliability to the electrical system and respects the environment. The next step was to build an infrastructure that would transport the Camisea gas to the south of the country, in order to connect the distribution concessions across the different regions and the awarded energy node plants. This plan was interrupted in 2017 when the concession of the “Gasoducto Sur Peruano” project was terminated because the concessionaire did not reach the financial closure due to the Lava Jato scandal.

 

As part of the process of promotion and mass consumption of natural gas in the country, since 2010, six concessions for natural gas distribution by pipeline network have been awarded. To date, out of six, five of those concessions are in commercial operation.

 

However, the recent termination of the distribution concession contract by the company Naturgy Peru, among other events, has made it a priority for the sector to rethink the structure of these concessions and take actions that address the challenges brought about by the massification of natural gas. This, with the purpose of avoiding similar situations, specifically, regarding the inexistence of natural gas transportation infrastructure, uncompetitive prices, the lack of consistency of the regulatory framework with a real policy of natural gas massification and the uncoordinated actions that exist between State entities, which do not provide regulatory predictability and legal stability to investment.

 

Particularly in the case of Naturgy Peru, this concessionary company decided to terminate the contract with the State as a result of the significant economic losses caused by the higher costs of liquefaction and virtual transport of natural gas, this in turn, due to the non-existence of transportation infrastructure to take the gas from the center to the south of the country.  The lack of said infrastructure, makes the final tariffs less competitive with respect to substitute fuels and other distribution concessions. In addition to these circumstances, Naturgy’s disadvantages were accentuated by the lack of trading regulation of both CNG and LNG which has allowed traders to capture the large consumers within the concession area, as well as by the lack of incentives granted by the State to promote consumption in the regions different from Lima, Callao and Ica.

 

Moreover, during the quarantine, due to the decreased demand for natural gas and increased tariffs, OSINERGMIN, the agency in charge of setting natural gas transportation and distribution rates, has issued a project that intends to establish a new methodology for the transfer of natural gas supply and transportation costs incurred by the natural gas distribution concessionaires to end users.

 

According to this new proposal, the transfer will no longer be based on payments made to the producer and carrier under the agreed take or pay and ship or pay clauses, but rather on the volumes actually delivered by the producer and carrier based on a historical period. Under this scheme, distribution companies will be obliged to pay for a gas and transportation capacity according to their contracts, without the possibility of transferring these costs to the end user. According to the regulator, the unused volume of gas and capacity are inefficient costs attributable to planning errors or wrong business strategies. Therefore, the distributors are solely responsible for assuming such excess costs, otherwise, it would constitute an abuse of dominant position.

 

Undoubtedly, OSINERGMIN’s proposal  only focuses at the last link in the chain, without taking into consideration that take or pay and ship or pay clauses are essential to guarantee the long-term financing of large-scale infrastructure, and that the contracting scheme is done within a plan to expand the other links in the chain. In this sense, considering the existence of contracts in effect, the proposal of the regulator disregards the provisions agreed between the actors of the natural gas chain, puts the sector’s payment chain and the financial health of companies at risk, and eliminates the incentives for new investment. Furthermore, since we are talking about a chain, this proposal has clear repercussions on the end user, who is intended to be protected.

 

In this regard, the State must establish clear rules regarding what must be considered as efficient contracting and how those situations would be resolved when such efficiency may be lost along the way for reasons not attributable to the concessionaire or when the contracting is derived from the fulfillment of its contractual obligations. In this sense, and with the aim of providing a solution, a few days ago the Ministry of Energy and Mines, the governing body of energy policy in Peru, published a project that attempts to establish the criteria of what should be understood as efficient contracting. In particular, such project considers what is necessary to meet the current and projected demand in the regulation or promotion processes, which proposes more realistic criteria than the one the regulator intends to establish.

 

Finally, and not less important, the State has announced its plans to award the project of the Integrated System of Gas Transportation South Zone – SIT GAS before July 2021, so that it can take the gas from Camisea to the distribution concessions of the center and south of the country, increasing the competitiveness of natural gas tariffs with respect to substitute fuels. A project of this magnitude should not only have the regulatory predictability mentioned previously, but also a guaranteed demand for natural gas that justifies the execution of the Project, as it seems that the demand required for the energy node would not be sufficient and would make transportation costs high, otherwise, the problems of electricity demand could be solved with the development of renewable power plants in the south of Peru in a cost-effective manner.

 

The aforementioned is of crucial importance in order to ensure the continuity of the massification process in the regions, to consolidate the use of natural gas and to strengthen the development and completion of future projects. Therefore, given the importance of attracting investment in Peru due to the economic repercussions of the COVID-19 pandemic, situations that affect investor confidence are not required at the moment. On the contrary, a climate of legal certainty will encourage long-term infrastructure investment.

 

Consequently, in order to avoid situations like the case of Naturgy, and in the interest of contributing to the implementation of the energy policy of massification, it is important that the State provides concrete signs of predictability, adequate cost assumption and guarantees of supply for the end user. Natural gas is part of the transformation process towards a sustainable economy model based on clean energies. Thus, a balance between the costs assumed by the user and the obligations to which the distribution concessionaires are subject, can set the guidelines to attract and maintain safe and reliable investments for the benefit of the population.

 

Article publised in The Legal 500

To access, visit this link: https://lnkd.in/g7NwhnW

 

 

 

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