Gas regulation leaves users fuming

Natural gas has been identified by the country's top policymakers as a key energy for the future, but new regulations designed to facilitate the switch to a gas economy immediately resulted in a court challenge by some of the country's largest gas users.

The Gas Users Group (GUG) – which includes SABMiller, Mondi, ArcelorMittal, Consol and Nampak – has challenged the National Energy Regulator of South Africa (Nersa) in the North Gauteng high court, claiming that Nersa is just rubber-stamping the wishes of supplier Sasol and exacerbating Sasol's monopoly pricing power rather than addressing it.

A spokesperson for the group, who wishes to remain anonymous, said that these companies had spent a lot of money to convert their operations to use natural gas, which Sasol brings in from Mozambique.

"We all knew this day was coming," the spokesperson said. "Sasol has been super-profitable and now it is regulated, nothing has changed. Effectively, it is now regulated to be super-profitable."

The new pricing structure for natural gas, which came into effect on March 26, has alarmed these large consumers, claiming it could raise their input costs, risk jobs, and even have dire long-term consequences for the country's future energy mix.

"More fair and transparent"
Nersa says the new price structure is more fair and transparent than the previous one, and fosters competition and an investment-friendly environment. The pricing brings little revenue change for Sasol, which says it is happy with the new arrangement.

According to Nomfundo Maseti, the regulator member on piped gas, Nersa has imposed "light-handed regulation", which sets a maximum price across the board based on consumption levels. Sasol cannot discriminate between customers, and a deal offered to one client must apply to the other.

A maximum price needs to be determined because there are no other market players in South Africa, nor are international prices particularly relevant locally, according to Nersa. Lack of competition also meant the price did not reflect of "competitive market outcomes".

The amount of gas a consumer uses means it will fall into one of six categories that each have their own price ceilings. Sasol is its own biggest customer, and purchases 60% of the gas to make fuel with its specialised gas-to-liquids technology. It will subsequently have a cheaper maximum rate than other customers that consume less and fall into other categories.

The maximum price for gas is now set with the help of a formula that uses the price of non-gas energy sources as a reference. Gas maximums will be set lower than other fossil energies such as oil and coal. Maseti said this meant the gas price would move in line with other energy sources, but still remain cheaper.

Previously, market-value pricing – in which Sasol would negotiate prices individually with each customer – was used.

This was "an extreme form of price discrimination", the regulator said, and it had received numerous complaints as a result. It was a system unique to South Africa, which priced the gas according to the cost of the customer's alternative fuel.

Reasonable return
Although this pricing mechanism was contrary to the provisions of the Gas Act of 2001, it was permitted to help Sasol to establish a gas market and receive a reasonable return in doing so.

The 10-year agreement between the South African government and Sasol concerning Mozambican gas expired on March 25, as did the regulatory agreement between the minister of energy, the minister of trade and industry and Sasol.

In SABMiller's submission to the regulator, it argued that Sasol's profit, which it benchmarked against a handful of other energy companies, was not commensurate with the profit of companies in a competitive market.

Sasol Gas's average molecule price for customers is about R42 a gigajoule, below Nersa's maximum price for gas, which is R117 a gigajoule. GUG, however, estimates the cost of gas molecules to Sasol is about R20 a gigajoule.

Bloomberg data, compiled by Sasol, shows the gas price in South Africa to be comparatively low when benchmarked against countries for which natural gas accounts for both a small and a large percentage of the energy mix.

The legal challenge of the GUG, which comprises 13 of Sasol's largest natural gas customers, questions the decision-making process and pricing methodology.

The GUG spokesperson said the group believed Sasol should be permitted to make a reasonable return, but not the 50% plus the group alleged it is making.

The group believes that a cost-plus model, which considers only the cost of the gas and transporting it to the user plus a reasonable return, would be a better option.

Sasol's interim financials to December 31 2013 show that Sasol Gas's operating profit increased by 11% to R2.2-billion compared with the previous year. "This was mainly a result of higher sales prices and a four million gigajoule, or 5%, increase in sales volume," said Sasol group media manager Alex Anderson.

The company could not comment on the projected profit margins resulting from the new pricing structure.

There is also discontent among those buying gas from distributors. MTN, for example, purchases its gas largely from a Sasol customer, Egoli Gas.

Willem Weber, senior manager for technical infrastructure at MTN, said the company uses up to 160 000 Gigajoules per annum and is currently considering further piped gas energy projects which could increase its usage of piped gas to a potential level of more than 3-million Gigajoules per annum. "The maximum gas price determinations are putting MTN in a position where the feasibility of these projects have to be considered quite carefully," he said.

Coenraad Bezuidenhout, executive director of the Manufacturing circle, which represents many of the largest gas users in the country, said the problem with regards to Sasol in the first place is that it is an "unsatisfactory situation to have a company be involved in downstream activity and reserving gas, and starving the market, to supply its own industry … then they are also the ones who bring the gas to the market."

Bezuidenhout noted that because the law allow for any recourse for the Nersa determinations other than court action, the Gas Users Group have been forced to take that route. "The system only leaves Nersa to say yes or no to an application brought by Sasol … [meanwhile] Sasol can glean profits from big gas users outside of itself to subsidise its own operations."

"Sasol have said 80% of users are going to pay less – but these only take up 51% of the gas supplied to open market. The 49% are the large users. The fear is, if they go through with increases nature of 30 or 40% could be employment impacts for about 5000 employees at companies represented by the Gas Users Group." Maseti said the new pricing structure was accepted globally, especially when it comes to gas.

Jeff Makholm, senior vice president at Nera consulting economists based in Boston, said gas prices to oil, coal, or other energy equivalents has a long history in many countries where gas is supplied by state-owned or sanctioned monopolies. "What Sasol has proposed, and Nersa has approved, is generally the state of the game for monopoly gas suppliers. The specific index may change from Europe, to China, to Australia and elsewhere, but the nature of the formula is familiar," Makholm told the Mail & Guardian.

"The only way things could be different would be if competitive gas sellers could count on unimpeded and long-term access to regulated pipelines – which is a difficult nut to crack where the incumbent pipeline owners, and incumbent gas suppliers, most often the same companies, as in Europe, have the practical ability to block competitive entry."

Bezuidenhout said the Manufacturing Circle understood the Republic of Mozambique Pipeline Investments Company (Rompco) pipeline, of which Sasol Gas owns 50% and transmits gas from Mozambique to South Africa, is underutilized at present. If more compression capacity was added, 50% more gas could be brought into the country, he said.

The regulator said lapse in the previous agreements does now mean new entrants could try to negotiate use of the Rompco pipeline.

Lack of competition
Its only in the North America, Makholm said, where the nature of pipeline regulation permits competitive gas sellers competitive access to the pipelines, has the local competitive gas price split from the world price of oil. "The lack of gas supply competition in Europe, and a continuation of oil-linked prices, is costing European consumers dearly," he said. "Pricing gas to target the price of other fuels is the litmus test of an uncompetitive gas market which will last, alas, as long as there is no real competition in supplying the fuel."

Maseti said smaller users should see a reduction in price as they were often subject to unfairly higher prices under the old pricing regime. "The maximum has been automatically set lower from about R250 per gigajoule to R117," she said.

Nersa had also tried to smooth the move. And a phase in period for customers experiencing a cost increase of 15% or more would also help the transition, Maseti said.

The new regulation also allows for a pass-through approach for some groups, like new entrants into the gas market, where they can calculate and demonstrate that the pricing structure doesn't yield reasonable return for them. Maseti said: "We looked at it to see how it can facilitate entry and investment into the gas market and some of the stakeholders and investors were quite comfortable with this gas price structure."

Anderson said Sasol believes the new pricing structure is "both workable and appropriate for the sustainable development of the South African gas industry" and enables as many customers as possible to use gas.

Under the new pricing structure, Sasol said most of its customers are experiencing price decreases and the company is confident its prices are competitive with other forms of energy in South Africa, as well as in relation to international gas prices.

Sasol said it set its prices almost one year in advance so as to give customers price certainty and has not adjusted these prices in the face of increasing cost of sales and changes in the macroeconomic environment.

Anderson said Sasol gas is in the process of advising fifteen of its customers who have elected not to conclude a new gas sales agreement yet.

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