Liquid Fuels & Gas Workshop

Meeting report

MINERALS AND ENERGY PORTFOLIO COMMITTEE
28 January 2000
LIQUID FUELS AND GAS WORKSHOP

Documents Distributed
- Developing a Programme for the Transition towards Deregulation by Hilton Trollip (EDRC)
- Developing a strategy for Black Economic Empowerment: The 25% Milestone by Sulaiman Said (IPSR)
- Restructuring of State Assets: Progress to date by Howard Roberts(CEF)
Policy Processes in the Petroleum & Gas Sectors by Rod Crompton (DME)
- Restructuring of State Assets: Towards a National Oil Company by Deyar Natha (CEF)
- Development of a Gas Regulatory Framework by Auke Lont and Anton Eberhad (EDRC)
- Developing a Gas Pipeline infrastructure

SUMMARY
Mr Trollip gave a presentation on developing a programme for the transition towards de-regulation. He presented the short and medium term policy priorities as mapped out in the White Paper. Some of the short term priorities include: improving the government's capacity to govern; improve energy formulation processes; improve the delivery of household energy services; and maintain regulatory system until re-regulated system has been planned and implemented. The medium term priorities include: re-regulate the liquid fuels industry to achieve higher levels of competition and unrestricted market access; restructure state energy assets; and establish the necessary legislative and regulatory arrangements for the development of the up and downstream natural gas industry.

Mr Trollip told the committee that de-regulation has to be seen as a tool to achieve specific goals; not an end in itself. Although a de-regulated industry is an ideal, this can only come about once certain milestones have been achieved. He warned the Members that before de-regulating any aspect it must be made certain that important goals are not compromised. To this end, there will be issues that will actually need re-regulation during the transition period. These include:
access to affordable fuels in poor rural and urban areas
jobs at service stations and economic activity attached to service stations
monopoly cartel pricing and unfair competition
protection of local fixed investments in the liquid fuels industry
pipeline natural monopolies
achievement of 25% ownership by the historically disadvantaged
excessive profits of existing players in the sector

Mr. Trollip also stressed the need for research and analysis in order for informed implementation to occur. Each issue requires a technical analysis, an institutional analysis and a plan of action.

Following this presentation, Mr Sulaiman Said presented a developing programme for Black Economic Empowerment (BEE). Mr Said told the committee that the development of BEE in the first term of democratic rule is a source of major concern for the African Minerals and Energy Forum. He pointed specifically to the concerns of organic growth; international conditions; and capital cost. Other problems Said pointed to include a lack of access to financial resources for black oil companies which is compounded by the fact that the Black oil Companies do not have a long financial track record which is imperative. Secondly, the investments in the oil industry are long term. Thirdly, there are situations where an investor could make more money through a bank deposit than investing in the oil company.

Mr Said told the committee that the Government needs to clarify in precise terms what it means by the 25% BEE clause. He claimed that unless this occurs an impasse on the implementation of the clause will continue due the different interpretations of the clause. The development of market economics would be negatively affected through the failure of BEE and this could result in Government being forced to make regulatory and other interventions into the economy in order to deliver to its constituency.

The third presenter, Mr Howard Roberts (CEF) gave a presentation on Restructuring of the State Assets: Progress to date. Mr Roberts told the committee that the purpose of CEF is to be the vehicle for the state's interests in the oil and gas sector. More specifically, the purpose of CEF is to be: the holding company of that state's commercial interests; via the SFF the custodian of the state's strategic crude oil stocks; the administrator of certain statutory funds and activities.

Mr Roberts explained CEF group origins response to the threat of international sanctions. Soekor decided that they would find their own oil. The SFF association decided to store strategic oil reserves and procure oil for RSA refineries. Finally Mossgas decided to make their own oil and become part of the synthetic fuels programme. Later in the 1990s after the oil embargo these companies shifted from self-sufficiency to growth and trade beyond South Africa.

After the release of the White Paper, CEF decided to reorganise the group in line with the White Paper on Energy and Policy and prepare the group for participation by the private sector. The objectives of the reorganisation were to separate commercial activities from strategic and regulatory developmental activities.

Rod Crompton gave a presentation on the Policy Process in the Petroleum and Gas Sectors. In accordance with this three-phase approach there have been improvements to the regulatory system including a new system of "early warning" press releases for month price adjustment and actions against discounting and promotions. In addition, issues of investigation have been identified including import parity and tariff protection; means and mechanisms to increase participation of historically disadvantaged groups to 25%; and vehicle emissions funding problem. Commencing in 2000, the following will be developed:

- Framework for phase 1 deregulation
- Regulations required in a deregulated scenario
- Regulate petroleum pipelines - Bill
- Assessment of key impacts of deregulation
- Suitable monitoring systems of post deregulation impacts
- Draft legislation to prevent vertical integration

Obstacles facing the gas industry were outlined, most important challenge being to balance "ideal" law and material conditions in a developing economy.

Mr Deyar Natha gave a presentation on Restructuring of State Assets: Towards a National Oil Company. In his presentation Mr Natha outlined the characteristics of successful national oil companies which include: clear practical and measurable objectives established at the outset; strict business principles; and a culture of continuous improvement. In addition, he told the committee that the transformation of state assets to a national oil company must have: clear objectives; measurable business processes in place to achieve characteristics of successful national oil companies; and a defined time frame for delivery and transparent processes.

Mr Auke Lont gave a presentation on the Development of a Gas Regulatory Framework. Mr Lont addressed some of the goals for developing South Africa's gas market. Some of the goals include: low cost of gas delivered to the final customer; high speed of development; and a broad scope of development. He elaborated on some of the difficult market conditions by explaining that South Africa has no supply of indigenous gas; the cost of alternative fuels is low; there are long distances and low density of population. He felt that the current condition in South Africa was plagued with difficult market conditions; many players with different agendas; and no bargaining power towards suppliers and customers.

Mr Lont told the committee that the creation of a National Gas company could be a viable option. South Africa could deal with the difficult market conditions limiting monopolies; dealing with energy policy issues; co-ordinating activities/ bargaining power; and attracting private capital. He concluded by telling the committee that the development of a national gas industry will benefit the South Africa economy, however, it will require government intervention. He thought that the current situation offers a unique opportunity to take initiative and create a national gas company with a minimum use of government funds to develop the market. Finally, Mr Lont told the committee that they were confident a fully competitive market could be created after 10 years.

The final presenter, Mr Charl Moller, gave a presentation on Petronet's Involvement in the Development of a Gas Pipeline Infrastructure for South Africa. He began by explain Petronet's background before 1995.

In 1990 Petronet entered into a discussion with the Mozambique authorities regarding Pande gas because they recognized the potential for a major pipeline. It was this potential that lead Petronet to the vision of becoming the owner and operator of a National Gas Pipeline Network interconnecting the various production sources and markets as was analysed in the SADC-study. Their vision soon extended beyond South Africa. Their goal is to be recognized as the preferred and dominant pipeline company in South Africa.

Mr Moller also outlined some of Petronet's developments since 1995. For example, Project Lilly which involved making a pipeline for gas transport from Secunda to Durban via Empangeni. Lilly also planned to take Pande/Mozambican gas to KwaZulu-Natal once that gas was available in South Africa. Currently, Mozambican gas is not available. Petronet is continuing to pursue the Pande/Mozambican initiative.

Petronet has taken in an interest in the Kudu-project. They have informed Shell of their interest in being the operator and dependent on the economics, of the main transmission pipeline from the beachhead onwards.

Mr Moller concluded by saying that Petronet is fully committed to participating in all of these gas pipelines projects, but as operators. They will secure this role in several ways including supplying some funds and equity by making available other pipelines.

Appendix 1:
Developing a Gas Pipeline infrastructure

PRESENTATION ON PETRONET'S INVOLVEMENT IN THE
DEVELOPMENT OF A GAS PIPELINE INFRASTRUCURE FOR
SOUTH AFRICA

The question from the Honourable Members may well be: Why is Petronet doing the presentation? Who is Petronet and what has been their role up to now? The answer can best be given by describing the involvement of Petronet over the past 10 years in the debate on and establishment of gas pipelines in South and Southern Africa.

1. INTRODUCTION AND BACKGROUND PRE 1995
1.1 Petronet is one of the transport businesses of Transnet Limited. Up was only involved in the transportation of liquid fuel products through of high-pressure steel pipelines. Petronet is a division of Transnet and not a legal entity.

1.2. Petronet like most companies is constantly looking for opportunities to grow and expand its business activities. It was decided back in the early 1990's that growth for Petronet should be in activities allied to pipeline transportation.

1.3 Following market surveys, it was realised that there was limited scope for the extension to and building of new pipelines for liquid fuel pipelines in South and Southern Africa. The option to diversify into Gas pipeline transport did, however, offer certain opportunities as Gas pipelines in the rest of the world were at the time growing at rates far higher than that for liquid fuels.

1.4 Realities of Petronet's network of existing pipelines at the time, also needs to be pointed out at this stage. The network as it was in place at the time (1994/95) (Annexure A) was underutilised as can be seen from the graph (Annexure B) in the initial years. The reasons for this are historic and linked to the building of Sasol's II and JJJ plants at Secunda. Petronet, as a business, was at the time driven to improve on the utilisation of its assets and our decision to finally diversify, was also linked to this aspect of our network at the time.

1.5. In 1990 Petronet entered into discussion with the Mozambique authorities regarding Pande gas because we at that early stage recognised the potential for a major pipeline. This project for numerous reasons went quiet up until about mid 1993 when announcements were made regarding the involvement of major international operators in Pande.

1.6. Petronet realised that it could not afford to sit back and allow other operators into South Africa without at least a challenge and subsequently began actively pursuing the business. During the pursuit of this Pande business and our participation in and part sponsorship of the SADC study re: "Economics of Gas Utilisation in Southern Africa" as well as our participation in the gas policy working group, it became clear to us that gas utilisation in South Africa had definite potential and that our previous questions on the viability and future possibilities had been successfully addressed in the study.

1.7. It is this potential that lead us to the formulation of Petronet's vision of becoming the owner and operator of a National Gas Pipeline Network interconnecting the various production sources and markets as was analysed in the SADC-study. Our view on what such a network could look like, was then also developed and looks like the map (Annexure C) attached.

However, in spite of the potential for gas pipelines in South Africa, Petronet was faced with two main problems, namely, (1) no experience in gas pipelining; and (2) competition from major international operators.

Although Petronet at the time had no adequate experience with Gas pipelines, we have always had experience in sufficient areas of similarity to be of relevance. These areas are:

a) Right-of-way maintenance.
b) Design, installation and operation of cathodic protection systems.
c) Control and implementation of 3^rd party crossings and servitude encroachments.
d) Design, construction and maintenance of piping systems and related appurtenances.
e) API Custody transfer metering systems.
f) General operations

It was against this background that Petronet commenced with active involvement in the gas pipelining business. Our Business Plan indicated that the market was there, the potential huge and the viability, we felt, at an acceptable risk level to proceed with investment.

1.10. In our interaction with international players at the time, it soon became clear to Petronet that there was overwhelming proof of Governments being involved in some way or another in the initial establishing of their gas pipeline networks. Out of some 26 countries only 2 had left the establishment of the initial network exclusively to the private sector. We identified many reasons for that which include sizing of pipes for future requirements (capacity) and the routing of such pipelines. Petronet was convinced that in order to oversee the establishment of such a huge network as we foresaw in Annexure C, the South African Government would have to play a role of some sort.

1.11. Petronet at the time had a specific strategy as a State Owned Enterprise (SOE) to aspire to fulfil this agent, overseer, developmental role on behalf of Government. We are in the pipeline business, have real interest to make it a
success and are closely linked to the State. This view was communicated to most role players in the State at the time.

1.12. From overseas experience, we also realised that the traditional role of Petronet, as owner, operator and maintainer of all pipelines (like it was on the fuel side all these years) was rapidly about to change. Because of the huge costs involved in the supply of such pipeline infrastructure, it was all over the world done in the form of partnerships, joint ventures and other special purpose funding vehicles -not fully funded by the State or even its agents. We were also seeing the same principles being applied in South Africa with, for example, the supply of expensive road infrastructure (such as the Maputo-corridor). These projects would have to be done in Public; Private partnership (PPP) fashion. This was the message we had proposed at the time and are still saying is the solution.

1.13. It was also clear to Petronet that it would not, even as a legal entity on its own, or even if away, to so speak, from Transnet, be able to raise funds to cover the huge investment required. We would be able to play a part, yes, mainly as the co-ordinating design-agent for the State and as the operator of such facilities but not as the sole funder. The PPP option was from this perspective the obvious route to go - with Petronet always keeping its eyes on the first prize in such partnerships : that of being the operator and maintainer.

1.14. Our vision soon extended to beyond just South Africa. Most of the projects spanned at least two countries and the international character of such projects meant that over-border co-ordination was also very important. We were (and still are) very keen on being the recognised, preferred and dominant pipeline company in Southern Africa with our primary focus on being the operator/maintainer of choice of all such pipelines in this sub-continent of ours.

2. DEVELOPMENTS SINCE 1995
2.1. Project Lilly
2.1.1. When Sasol Gas (previously known as Gascor) who are the only source of Methane Rich Gas (MRG) in South Africa, identified a MRG to KwaZulu-Natal, Petronet identified this as an opportunity into the business of transportation of gas. Petronet saw this as to:
a) Exploit a business opportunity for Petronet to expand its scope of services by diverging into the gas pipeline transportation business.

Achieve better utilisation of existing assets without negatively influencing the existing scope and levels of service and keeping additional capital expenditure to a minimum.

Create barriers to entry into a potentially major market whilst protecting our existing closely allied liquid petroleum fuel pipeline transport market.

Create an environment which will afford Petronet an early opportunity on a small scale to obtain the experience needed to participate in the proposed major expansion of the gas pipeline transportation business in South Africa.

2.1.2. A technical evaluation confirmed that it was feasible to reconfigure our existing network and make available a pipeline for gas transport from Secunda to Durban via Empangeni. This was done through an existing pipeline (old crude oil pipeline) and part of the DWP-line. (See the latest, reconfigured network shown on a map - Annexure D as well as how Lilly fitted in with the Master plan (Annexure C)). The cost of the conversion came to R35 million.

Realising our position as a natural monopoly and having had a feeling for the direction that the pending gas policy was taking at that time, a transport agreement was drawn up. The transport agreement governs the tariff based conveyance of gas through the main transmission pipeline up to the first valve at any take-off point. The transmission pipeline is owned, maintained and operated by Petronet and the agreement embodies, amongst others, the following criteria/clauses:

· Open access to all products/suppliers.
· Subservient to pending gas policy.
· Ship or pay conditions. (A guaranteed payment to recoup our investment).

A volumetric based transport tariff with pressures initially supplied by Sasol.

Gas to comply to Petronet's specification. (Based on compatibility with natural gas which was the real area of growth we saw - as indicated in the SADC-study).

2.1.3. A transport agreement was entered into with Sasol and the pumping of MRG gas to Kwazulu-Natal commenced with deliveries to Richards Bay in August 1996. Presently we supply not only an extended market in Richards Bay but also industries in Newcastle and different parts of Durban. The final extension to the network, to supply Durban South, is scheduled for completion in April of this year. Then we will be transmitting some 286 Mm³ (t 10 MCi/a) of gas to Kwazulu-Natal earning Petronet some valuable additional income from a previously under-utilised network.

2.1.4. So while other players were still talking about gas in South Africa, Petronet (and Sasol Gas) were in fact investing huge sums of money to establish a network of gas pipelines - real pioneers, we would argue!

2.1.5. Fitting in with the bigger future anticipated network Lilly was also planned to take Pande/Mozambican gas to Kwazulu-Natal once that gas was available in South Africa. The initial indications, on which Lilly was approved for funding, was that Mozambican gas would have been available in November 1999. At present Lilly is, therefore, performing below initial calculations.

2.1.6. The intention was that Lilly would be used to grow the gas market in Kwazulu-Natal to such an extent (+-25 MGJ/a) that a fully-fledged gas-line (designed as a gas line and not a converted fuels pipeline) would be built (probably in the time period of 2006 to 2008). This would have coincided with the need for pipeline capacity on the refined and crude network(s) when a further re-conversion (almost back to the original) with then a new gas line was anticipated.

2.1.7. Without Mozambican natural gas the figures of 25 MGJ/a can not be reached and this delay is causing serious problems for both Petronet and Sasol Gas at present - it in fact places the whole project under huge pressure....

2.1.8. We have, however, reached our first objective: that of entering the market, getting experience and playing a specific role. It was, however, only the start -our eyes were (and still are) on bigger things to come!

Other gas pipeline initiatives
2.2.1. The Pande/Mozambican initiative has always been our prime focus and this was further strengthened with the decision to proceed with Lilly as we explained earlier.

· This project has, however, had its problems over a period of many years and we are disappointed that there is still no Mozambican gas in South Africa, whilst it has the potential.

Petronet has been involved on an on-and-off basis with the 1990 and have seen many initiatives come and go and change.

We have even proposed ways forward to the Department of Minerals and Energy (DME) when a deadlock threatened the whole project. We did extensive studies for DME on the project and have obviously stayed close to the developments.

2.2.2. Petronet is still pursuing participation in the main transmission pipeline from Mozambique into South Africa, mainly as operator but also owner-participant.
There is still an opportunity for Petronet to become a shareholder in the proposed interconnected pipeline from the point where it crosses the border with Mozambique and Secunda and where it will tie into our existing Lilly Pipeline to Kwazulu-Natal (or the new Gas line anticipated at a later stage).

2.2.3. Petronet has real interests in the success of the Mozambican project - our project Lilly is suffering, our vision of a network of 3000 kilometres of potential gas pipelines is fast fading in the distance and in general our belief in natural gas as an additional source of primary energy in South (and Southern) Africa is clearly under pressure. Business pressures on our side (like on Sasol's) are increasing daily and we have to make it successful soon or step back

2.3. Kudu-Project (off the West Coast of Namibia)
2.3.1. Petronet has informed Shell of our interest in this project - mainly as the operator but also, dependent on the economics, a share in the ownership of the main transmission pipeline from the beachhead onwards.

2.3.2. The project has also gone through some ups and downs over many years. We have, however, always felt it to be further into the future than Mozambique.

2.3.3. As part of this project, we have also formulated a transmission proposal for the Western Cape area. It is connected to both Kudu and gas from Bredasdorp (Mossgas) with our view that Mossgas may in future get its gas from Kudu and Cape Town, fed from both south and north.

2.4. Coal Bed Methane (CBM)
2.4.1. We are at present doing a detailed report and study with Ingwe-Coal on this source of gas in the Amersfoort area (the idea being to supply into Lilly at some stage). It is early days yet with this project but CBM has huge potential for Southern Africa once the technology is established and not too expensive.

2.5. Mossgas
2.5.1. Discussions with Mossgas and Soekor on natural gas from the Bredarsdorp basin - have been ongoing for years. All our views, strategies and interest have been tabled. We are staying close to developments.

3. LATEST DEVELOPMENTS(EARLY 2000)
3.1. Lilly is still growing, albeit at much lower levels than anticipated in the original economic viability study on which Petronet elected to invest. Kwazulu-Natal is keen on gas and Sasol cannot keep up with demand. Industries are all realising the advantage of natural/MRG gas as a clean source of energy - the supply is now a problem. This is closely linked to the Mozambican issue explained earlier.

3.2. Other investigations are all ongoing and Petronet is still participating.

3.3. Whilst preparing the Master plan for the future position and restructuring of Petronet during 1999, a very important development occurred that has caused Petronet to re-look its visions and strategies with relation to gas.

a) The vision of Petronet to be the State's agent and developmental coordinator as we spelt out earlier (item 1.11 of this presentation) has turned out to be not possible.

b) As we have spelt out earlier, we were not in a position to fund such huge pipeline projects on our own. This did not meet with DME's and DTI's expectations on our ability and it was decided₁ as part of the debate on Petronet's future to look elsewhere for such a "funding agent". Initial indications were that it might be within the CEF-group of Companies.

c) Petronet's inability also ties in with its position within the Transnet Group where all cash generated by Petronet is for use by Petronet as well as Transnet who has a less than favourable cash position. (Not for any funding of other projects).

d) Petronet accepts this position and is in fact glad that the issue has been finally put in perspective. We have always felt that both DME and DTI had unrealistic expectations of Petronet as a state developmental agent with relation to the establishment of a gas pipeline network in Southern Africa. During many studies and debates on this specific issue, we were often made aware of these expectations. We knew/realised we would not be able to meet these expectations - for a whole host of reasons. We believe DME and ~ now understand this and the decision has been taken to remove Petronet from the role of funder/funding agent for gas pipelines.

e) Petronet does, however, stay fully committed to participate in all of these gas pipeline projects, but as operator as we have spelt out before. That is still our primary objective and always has been. We will secure this role in many ways such as the supplying of some funds but also by other means such as equity by making available other pipelines. We will, however, have to be the best to secure this role - we will not be able to rely on our state-links only. This is a huge challenge for us - as our vision says: to be the preferred (not by force!) operator of all high-pressure pipelines in Southern Africa....

f) We do, however, need to point out that we do not believe the State should have two pipeline companies both operating, maintaining and managing pipelines. Whilst we accept the proposed CEF role from a funding, planning and co-ordinating perspective, we cannot agree that they be allowed to expand into operations and maintenance of such pipelines - this has to be the role of Petronet - for any reason other than that we are the best!