Transparency in Upstream Gas Contracting and its Impact on Electricity Tariffs and Inclusive Growth: The Case of the San

1. EFFECTS OF UPSTREAM GAS CONTRACTING ON ELECTRICITY TARIFFS AND INCLUSIVE GROWTH-THE CASE OF THE SANKOFA-GYE-NYAME GAS PROJECT

2. Outline • Introduction • Purpose of study • The Upstream Contracting Process-International Best Practice • Analysis and Discussions • Gas Prices and Electricity Tariffs • Effects on Inclusive Growth • Conclusions and Recommendations

3. Oil and Gas production started in 2010 Sankofa-Gye-Nyame Field 150mmbl of oil Aggregator Gas for Power 1.45TCF of gas Operators

4. Introduction cont. • Transparency is fundamental to the management of oil and gas resources. • Secure optimal share of resources for citizens • Minimize the tendency for corruption • Significant progress has been made with the implementation of the PRMA & Act 919 • Little progress made in the incorporation of transparency in the process of awarding rights

5. Introduction cont. • Gas from the SGN field is essential to improving security of fuel supply for power generation • The field is expected to supply about 180mmscfd of gas and to supply 1000MW of power • The gas price ($9.8/mmbtu) was considered high. • Limited transparency of the contracting process • Poor contracting may result in; • loss of revenue, • high cost of fuel for power generation, electricity tariffs • negative effects on social inclusion. nbb Gas from Sankofa Field 180 mmscfd Atuabo Gas Processing Plant VRA & IPP’s

6. Purpose of the Study • Assess the transparency of the upstream contracting process for natural gas (non-associated) against best practice • Draw examples and lessons from comparator countries • Assess impact on power generation costs, electricity tariffs and inclusive growth • Make recommendations

7. The contracting process Refers to all procedures relating to the award of a contract For upstream oil and gas, all actions and processes towards the allocation of rights to explore for and produce oil and gas. Culminates in the signing of an agreement which guides the operations and actions of parties within the stipulated period of time for which the contract is binding Contracting process is different from allocation methods (i.e., direct negotiation, competitive bidding) But for every allocation method, there is a defined contracting process which should incorporate transparency

8. The Case for Transparency in Natural Gas Contracting Absence of a global market for natural gas Gas is usually traded via long term contracts especially for frontier gas producers like Ghana Contracting process for these long term contracts has the capacity to remarkably influence gas price Gas price is influenced by economic factors such as cost of production. High levels of transparency in determining these economic factors are therefore required Follow best practice for transparency, obtain optimal contract terms including optimal gas price “An optimal gas price means the price of gas that enables the attainment of a country’s main objective for gas exploitation within a defined period of time” National goals-->Power Generation

9. Upstream Gas Contracting Process-International Best Practices Openness of the Contractual Process Fiscal Considerations Negotiation Process Transparency of Upstream Contracts and Contractual Process

10. Openness of the Contracting Process Early and clear communication that allocation is happening Publication of rules for the contracting process-timelines, application requirements Disclosure of who stands to benefit Disclosure of regulator engagement with prospective companies, information of consultative processes Guiding legal framework must ensure transparency: • Must specify applicable allocation rules-direct negotiation, competitive bidding • Mandate public disclosure of contracts and the contracting process-Petroleum Register etc. Examples; Equatorial Guinea, Tanzania, Sierra Leone, Sudan Petroleum laws

11. Negotiation Process Key component of oil and gas contracting Quality of negotiations central to securing interest of parties Addresses sharing of economic rent Requires a negotiations team with multidisciplinary expertise For natural gas-Pricing, Transportation, Marketing Must incorporate transparency: Disclosure of key documents related to the negotiations process-negotiation roadmap, reports on key milestones achieved, members of the negotiation team Example; British Columbia

12. Fiscal Considerations Challenging nature of commercializing natural gas Contracting must ensure direct benefits to investors Fiscal incentives, fair gas valuation, sufficient appraisal time Payment of lower royalties, cost recovery ceilings, profit sharing Terms negotiated should not unduly affect the host state’s ability to benefit from the project Example; Indonesia PSC’s

13. Analysis and Discussions

14. Contracting the Sankofa-Gye-Nyame (SGN) Field 2014 Gas Sales Agreement between government and the OCTP partners Relatively high gas price of $9.8/mmbtu obtained Key concerns raised about transparency of the process of awarding the contract and the factors that influenced the price. Policy and Pricing issues, impact on domestic consumers in the power sector Justifies the need to assess the transparency of the contracting process for the SGN

15. Openness of the Contractual Process • Competitive bidding was not employed although specified in PNDC Law 84 • Direct negotiations employed • No clear public justification for direct negotiations • Example of Iran, Rumaila field • GSA not published in Petroleum Register- Example, Sierra Leone, Sudan, Liberia, Norway, Russia • Other key documents relating to the contracting process not published • SGN contract signed before passage of Act 919 and LI2359 • PNDC LAW 84 was applicable • Act 919 and LI2359 do not apply retroactively Disclosure Competitive Bidding Guiding Legal Framework Publication of Key Documents • No obligation to publicly disclose key documents • Government not required to publicly disclose information about allocation process, beneficial owners

16. Negotiations Process Outcomes Disclosure Negotiation Team • No publicly available records of key milestones attained • No publicly verifiable reports of negotiation meetings • Terms motivated by rent-seeking • Inflated service contracts • Inflated development costs • No available information on composition of the team, example of British Columbia • No verifiable records of meeting to constitute team

17. Fiscal Considerations • Favourable fiscal incentives • Royalty rate lower than for oil • Example of Mexico Burgos Basin Fiscal Support Agreement Fiscal Incentives • State could incur significant revenue losses • Tax deductible interest, decommissioning • State exposed to significant risk • Some guarantees provided violate PRMA

18. Cont’ • The assessment of the contracting process for the SGN gas deal against best practice for contracting suggests that the contract was procured under circumstances that were not sufficiently transparent. • Some of the resultant contract terms pose potential dire future consequences and high gas price may jeopardize the attainment of national goals for which the gas is being exploited.

19. Gas Price, Electricity Tariff and Inclusive Growth Gas price formation in Ghana Impact on power generation Impact on electricity tariff Impact on inclusive growth

20. Gas Prices in Ghana Main components of gas price (non-associated gas): Gas commodity cost/wellhead gas price-function of capital and operating costs, return on investment Transmission costs-pipeline tariff, processing fees, levies, margins, taxes High enough price needed to support capital and operating costs Natural Gas Pricing Strategy-pricing and producing energy in an efficient, competitive and affordable manner Power sector is to pay the full-cost pass-through of gas costs Import parity pricing until 2018 Weighted Average Cost of Gas from 2018

21. Components of Gas Price in Ghana

22. Landed Cost of Gas from different Fields

23. Relationship between Gas Price and Electricity Tariff • The use of fossil fuels as a key input in thermal power generation connotes a direct relationship between fuel cost and the cost of generation of power/electricity • Tariffs must vary with changes in fuel cost to maintain profitability, all other things equal • Causality between gas prices and electricity tariffs is established adopting causality tests and co-integration models • The magnitude of the relationship between fuel cost and electricity tariff is established based on the proportion of a particular fuel in the fuel mix for thermal power generation • In the case of Ghana, as at 2018, total quantity of natural gas used was 92% of total fuel for thermal power generation and natural gas cost represented nearly 54% of total fuel costs

24. Total Quantities and Cost of Fuel for Power Generation

25. Critical Concern…... • Whether the causal relationship between gas price and electricity tariffs holds for the power sector of Ghana • Causality between natural gas prices and electricity tariffs has not been empirically tested for Ghana • Assessment of the technical, policy and the political economy climate for power pricing gives an indication of the extent to which natural gas prices affect electricity tariffs

26. Electricity Tariffs in Ghana PURC issues major Tariff Review decision which states applicable tariffs for the period 03 PURC requests and receives tariffs proposals from power utility companies GRICO, VRA, NEDCO, ECG/PDS, EPCL. 02 01 PURC examines tariff review proposals and may approve or reject them

27. Fuel Costs and Electricity Tariffs in Ghana Gov’t adopted AAF in 2003 to allow adjustment of tariff in response to key fundamentals AAF considers fuel costs-parameter which allows measurement of effects of changes in fuel cost on generation costs and tariffs Given growing prominence of natural gas, gas cost may be considered as main fuel cost component in AAF

28. Political Economy Issues in Electricity Tariff Determination Political Interference Political Economy Complexity & Transparency Issues Lifeline Consumers & Cross-Subsidization

29. Gas Costs as a Proportion of Electricity Tariffs

31. Gas Costs as a Proportion of Electricity Tariffs cont. All other things equal, an increase in the price of gas as more gas is used for thermal generation results in an increase in the percentage of tariff that represents gas cost It can be deduced that, if more gas is consumed, and gas price increases or remains relatively high, the PURC will not be able to maintain electricity tariffs at the 2018 average level of 14 cents per kWh. It will have to increase electricity tariffs to reflect increasing gas costs If 100% of thermal generation from gas, and gas price increases by 10%, tariffs will have to increase by at least 2-3%

32. Gas Costs as a Proportion of Electricity Tariffs cont. According to the Weighted Average Cost of Gas (WACOG) method, domestic gas is assigned a weight of 80% reflecting the influence of domestic gas price on the overall price of gas Given that a larger proportion of domestic gas is sourced from the SGN fields whose gas is priced the highest, a change in the price of SGN gas should have a greater impact on the weighted average cost of gas Increase in SGN price-->increase in WACOG-->increase in consumption of gas-->increase in electricity tariffs

33. Outlook for Gas Prices and Electricity Tariffs Factors Likely to affect Gas Price 1) Project costs All development cost savings made will be used to reduce gas price: for every $100 million saved, gas price reduces by $0.55/mmbtu Key costs: Reverse flow, oil production optimization, drilling to increase reserves production Who is financing these costs? Factors Likely to affect Gas Price 2) Taxes and Levies Regulatory levy, transportation costs etc. built into gas price An increase in any of these components will lead to significant increase in gas price

34. Outlook for Gas Prices and Electricity Tariffs Factors likely to affect electricity tariffs 1) Foreign Exchange losses affect revenue available to the power utilities, affects end-user tariffs, one key component of the tariff methodology 2)Excess Capacity charges Unused capacity, attracts capacity charges, may filter into tariff

35. Gas Prices, Electricity Tariff and Inclusive Growth High Gas Price High Electricity Tariff Socio-economic impacts Less Affordable Electricity Consumers YES NO Subsidies Government Intervention Industry High prices of goods and services High Input Cost Increased Power Sector Debt Less Competitive Industry

36. Conclusion and Recommendations In order for inclusive growth to be achieved and maintained, it is in the interest of the government of Ghana to ensure affordable gas prices for power generation. This will facilitate increased access to affordable electricity, reduced growth of government debt and industrial growth that will boost employment and national income.

37. Conclusion and Recommendations cont. • The upstream contracting process for natural gas in Ghana has not sufficiently incorporated transparency as international best practice demands. • The result of this is gas price that may jeopardize national goals for power generation and lead to high electricity tariffs • Adverse socio-economic impact on citizens; makes industry uncompetitive • Provision of subsidies to certain categories of consumers has negative impact on government debt to the power sector; citizens are taxed to pay this debt

38. Conclusion and Recommendations cont. • It is important to follow international best practice for transparency in the upstream contracting process for gas • Incorporating transparency in the contracting process holds potential for averting signing of non-beneficial contracts • Government must consider amending Act 919 and GPR LI2359 to mandate the public disclosure of key documents related to the contracting and negotiations process

39. Conclusion and Recommendations cont. • Amend provisions to include disclosure of reports on key milestones achieved in the negotiation process, of regulator engagements with companies, of consultative processes • For the initiated competitive bidding, bid parameters must be made publicly available and direct negotiations must be clearly and publicly justified and sufficiently transparent • Improvement in negotiation of fiscal incentives

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