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The Natural Gas Industry Participants and their Interests

In New Brunswick, the following participants will have key roles in developing the natural gas industry

  • The Government of New Brunswick.
  • The Sable Island producers.
  • The owners of the Maritimes & Northeast Pipeline.
  • Potential New Brunswick customers for natural gas.
  • Northeastern U.S. customers for natural gas.
  • The Government of Canada.
  • Potential developers of Local Distribution Companies.

In this section of our report, we provide a general description of the respective interests of these participants.

The Government of New Brunswick

Discovery of commercial quantities of natural gas in the area of Sable Island, and the subsequent proposal to build a pipeline to deliver this gas to markets in the Northeastern U.S., offer an opportunity to develop a natural gas distribution business in New Brunswick. The government is committed to making decisions that provide the maximum overall benefit to the citizens of the province. The government wishes to achieve:

     

  • •Maximum availability of natural gas in the province.

  • •Timely development of a natural gas infrastructure.

  • •Development of an effective regulatory framework for the gas distribution business.

  • •Increased competition in the energy market.

  • •Access for indigenous natural gas.

  • •Regional price equity.

  • •Maximum economic benefits in New Brunswick.

The Sable Island Producers

The Sable Offshore Energy Project (SOEP), a consortium of Mobil Oil Canada Properties Limited, Shell Canada Limited, Imperial Oil Resources Limited, and Nova Scotia Resources Limited, invested $3.2 billion between 1980 and 1995 in exploration and related activities on the Scotian Shelf. To support these offshore activities, the Government of Canada invested an additional $1.4 billion.

The producers are investing further to construct offshore development platforms, wells, and pipelines to transport gas from the offshore platforms to the onshore gas processing facilities. Other onshore facilities will be required to remove impurities from the gas stream and extract valuable liquid petroleum products (ethane, propane, and butane) generally found in raw natural gas.

The Sable Island producers will receive no revenues from their investments until they are able to market their gas. Obviously, this will not occur until production begins and the pipeline is operating. Although they have no guarantees, the producers have assumed the risk of their investments because they expect eventually to achieve revenues from gas sales sufficient to cover their costs and generate a reasonable return for their shareholders.

The Owners of the Maritimes & Northeast Pipeline

The M&NE Pipeline owners are also willing to make a sizable investment ($1 billion Canadian) to construct a pipeline to transport the gas from the onshore facilities to the market because they, too, believe they can earn a reasonable return on their investment. To make a pipeline project economic, it is necessary to have the pipeline carry relatively large volumes of gas. The size of the market in the Maritimes is not, by itself, sufficient to justify the large cost of constructing offshore production facilities or the inter-provincial pipeline system. However, the New England markets are large enough to justify construction. Moreover, once a pipeline is built to reach the New England markets, constructing laterals to serve New Brunswick markets becomes more economical. However, revenues from operation of the laterals must support their construction and operation.

Accordingly, the M&NE Pipeline is interested in building the New Brunswick laterals based on economics. Under the lateral policy approved by the National Energy Board, the pipeline will build laterals only if revenues are sufficient to offset costs, including a return on investment. It is also possible that a contribution in aid of construction (1) may be required from the pipeline customer in order for the revenues from the project to meet the threshold toll test, which limits the extent to which U.S. shippers will subsidize the construction of the Canadian laterals. The proposed laterals are therefore contingent upon customers committing to long-term service from the pipeline and paying the pipeline's cost. Naturally, there is a limit to what proposed customers will be willing to pay for gas. This limit is determined by the market price of their alternative fuel and cost of conversion. Without the large anchor industrial loads (including power generation) participating in the lateral projects, it is very unlikely the M&NE Pipeline will be willing to construct the laterals. Thus, the lateral policy improves opportunities for enhanced market penetration throughout the province. Without laterals, a potential local distribution company (LDC) located away from the main pipeline would have to build its own facilities to connect to the main line. This would substantially increase its cost and make developing its business difficult.

Potential New Brunswick Customers for Natural Gas

Existing New Brunswick industrial companies are interested in reducing their costs of energy with a competitively priced, environmentally superior fossil fuel. But industry will convert to natural gas only if it makes economic sense. And the same is true for prospective residential and commercial customers. Therefore, natural gas cannot be considered an "essential service" in the same manner as water, sewer service, and electricity.

Industrial customers considering conversion to gas will weigh several factors. One is the cost incurred to convert their existing energy equipment to burn natural gas or the cost to install new gas-fired equipment. In addition, industrial customers need to know the cost of purchasing and transporting gas to their facility.

Industrial customers will compare these costs with the cost of their current fuel. If the savings from using gas instead of the current fuel more than offset the costs of conversion within a reasonable time period, then the industries are likely to make the change. If the gas savings do not offset the conversion costs, potential customers are unlikely to switch fuels.

Industrial customers considering natural gas are also likely to retain their oil-firing capability if they have no compelling reason to use gas exclusively. This provides them with additional flexibility. Once they have installed the gas-firing capability, they can make their short-term energy purchase decisions based on whichever fuel has the lowest operating cost. If the commodity cost of gas delivered to their facility is higher than the cost of their alternative fuel, they could simply switch over to the alternative fuel and avoid the higher cost of gas. Then, when the delivered cost of gas becomes lower than the cost of the alternative fuel, they will switch back to gas. This flexibility allows the industrial customer to minimize its fuel costs.

Customers who can switch from natural gas to alternative fuels on short notice are generally referred to as "interruptible" customers. Customers who do not have access to an alternative fuel are generally referred to as "firm" customers. Pipelines and LDCs design their systems so that they can meet all firm requirements under virtually all conditions. Natural gas companies serve interruptible customers only if they have capacity available after meeting their firm customers' requirements.

Industrial customers with dual-fuel capabilities generally do not purchase firm pipeline capacity, because firm capacity requires a customer to pay for the capacity (through a demand charge) whether or not it is used. However, New Brunswick industrial customers may be willing to sign firm pipeline contracts for the following reasons:

     

  • •M&NE might not build laterals to serve the industrial customers without firm, long-term contracts for pipeline transportation service; and

  • •The dual-fueled industrial customer may be able to sell its gas supplies on cold days as "supplemental" supplies to third parties willing to pay a premium for these supplies.

Industrial customers with access to firm gas supplies and alternative fuel capability may sell their gas to other markets at any time. Generally, they do this if the price for gas is higher than the cost of alternative fuel. Since the industrial customer would want to sell the gas to the party offering the highest price, this market could be very competitive, particularly if there are a large number of potential buyers and sellers.


On the other hand, small commercial and residential customers who convert to natural gas and are served by an LDC are unlikely to retain their alternative fuel capability because it is impractical for them to switch back and forth between fuels. Therefore, the distribution company (or the marketer that serves the distribution company's firm customers) must be able to serve these customers' full requirements. In most regulatory environments, LDCs who also have a merchant (sales) function have an obligation to serve all firm loads under virtually all situations. LDCs generally maintain a small surplus of available capacity in order to do so.

Northeastern U.S. Customers for Natural Gas

The gas market in most parts of the Northeastern U.S. is mature: a relative balance currently exists between supply and demand for the fuel. If Sable Island gas is to compete in the traditional Northeastern U.S. market, it has to be competitively priced with gas delivered to New England from existing sources.

An interesting new development is the restructuring of the electric generation market in New England. As a result, several new gas-fired electric generating facilities are expected to be constructed there. Some 3,000 MW of gas-fired capacity is already either under construction or in the process of being financed, and by 2002, a total of about 5,000 MW is expected to be in service. The new generating units are required to meet new electric load requirements, to replace old inefficient oil-fired units, and to replace nuclear generating units being retired.

Although adequate supply and capacity exist to meet current needs of the New England gas market, there is not enough to satisfy the emerging gas-fired electric generating market. It needs access to reliable and competitive gas supplies. So this is the primary market the Sable Island producers and the M&NE Pipeline are targeting in New England. They are fully aware that it would be more expensive to serve this potential market by expanding pipeline capacity from the Gulf Coast or Western Canada.

The Government of Canada

The federal regulatory authority dealing with energy-related issues is the National Energy Board (NEB). Established in 1959, it is accountable to Parliament through the Minister of Natural Resources. Among its activities, the NEB regulates construction of pipelines that cross provincial and national boundaries as well as the rates and services offered by the inter-provincial pipelines.

Over the years, the NEB has established policies that have supported development of the Canadian natural gas industry. Under NEB policies, TransCanada, the major inter-provincial pipeline that transports gas from Alberta to Eastern markets, has been able to expand its capacity and charge all customers, new and old, the same average rate based on the locations where they receive their gas. In the United States, the Federal Energy Regulatory Commission (FERC) generally requires interstate pipelines that expand their pipeline systems to charge higher incremental rates to new customers if the cost of expansion is significantly higher than the cost of the existing capacity. The NEB policies have encouraged expansion of TransCanada to serve markets in Ontario and Quebec and have encouraged development of energy resources for the export market. This has resulted in lower prices to natural gas consumers in Ontario, Quebec, and the United States, as well as greater revenues for the Alberta producers.

The NEB has adopted a lateral policy for the M&NE Pipeline project that is intended to encourage development of a gas infrastructure to serve the needs of potential natural gas customers in the Maritimes Provinces. Under the NEB policy, the cost of extending laterals from the main transmission line to the markets served by the laterals will be averaged with the costs for the main line transportation, provided this main line toll does not go above 60 cents per million British thermal units (MMBtu). This limit is called the threshold transportation toll.

In other words, if a lateral is built to Saint John, a customer (an LDC, marketer, or direct industrial customer) located in the city will pay the same transportation rate as a customer located directly on the main line. Without the lateral policy, the customer would have to pay the additional cost to transport the gas from the main line to its meter. This additional transportation charge would have to be paid to the party constructing the lateral pipeline, and would be significantly higher than under the NEB lateral policy. The policy is intended to encourage construction of more laterals, provided they can meet the threshold toll test. It does make the average cost of using the main line slightly higher than would otherwise be the case, but it provides the Maritimes Provinces with greater access to gas.

The result of the NEB lateral policy is to have export shippers absorb a significant part of the cost for construction and operation of the New Brunswick and Nova Scotia laterals, because the main line shippers include shippers transporting gas to the U.S. This is an opportunity, then, for New Brunswick and Nova Scotia to obtain greater benefits from the pipeline than they might otherwise.

Under the NEB lateral policy, if revenues from construction of one lateral exceed the cost of constructing the lateral, this additional revenue can be used to help fund construction of another lateral serving the same shipper that might not otherwise meet the threshold toll test.

Also, under the NEB lateral policy, it is possible for a large end-user to be served directly by the pipeline, without the gas being transported through a local distribution system. Under existing provincial rules, gas passing through a local distribution system would be subject to the jurisdiction of the provincial regulatory authority, which would regulate the types of services offered and the rates charged by the LDC.

The Potential Developers of Local Gas Distribution (LDC) Companies

A number of companies have indicated an interest in establishing a franchise for distributing natural gas in the province. They are, naturally, interested in making a profit from this business. The success of their ventures will depend on their ability to serve customers' requirements at rates customers are willing to pay. Most potential bidders have expressed a preference for "light-handed" government regulation that will provide the flexibility they need to respond to changes in the market, while also allowing for responsible governmental review of their activities.




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