Report No. 29579-LE Republic of Lebanon Hydrocarbon Strategy Study June 30, 2004 Finance, Private Sector Development and Infrastructure Group Middle East and North Africa Region FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. Abbreviations and Measures BBC Brown, Boveri & Co. IEC Israel ElectricCorporation bld barrel(s) per day KBR Kellogg,Brown, andRoot BCM billion cubic meters kWh kilowatthour BOOT build-own-operate-transfer LNG liquefiednatural gas CCGT CombinedCycle GasTurbine LPG liquefiedpetroleum gas CEPCO Chubu ElectricPower CompanyLtd. OFGEM Office for Gas and ElectricityMarkets CIF Cost, Insurance,and Freight mmbtu million Britishthermal units COZ Carbon Dioxide MMCM million cubic meters EdL Electricit6du Liban MEW Ministryof Energy and Water EL4 EnvironmentalImpact Assessment MW megawatt EMA Energy Market Authority(Singapore) MWh megawatt hours EMG Eastern MediterraneanGas NOC LibyanNational Oil Corporation FERC Federal EnergyRegulatoryCommission NOx Nitrogen Oxides FSRU Floating, Storage,and RegasificationUnit NTPA negotiatedthird-partyaccess GDP gross domesticproduct O&M operationand maintenance G.E. General Electric PSC Petroleum SyrianCompany GHG green house gas PMlO particulatematter less than 10microns GJ Gigajoul RTPA regulatedthird-partyaccess dkWh grams per kilowatthours sox Sulfur Oxides GNP grossnaturalproduct TOR Termsof Reference GWh gigawatthours TPP thermalpower plant HFO heavy fuel oil VAT value addedtax IEA InternationalEnergy Agency Vice President: ChristiaanPoortman CountryDirector: Joseph Saba SectorDirector: EmmanuelForestier TeamLeader: Anna Bjerde Table of Contents PREFACE .................................................................................................................................................................... i EXECUTIVE SUMMARY ........................................................................................................................................ i1 1.LEBANON'S ENERGYBALANCEANDPOTENTIAL GASDEMAND ........................................................ 1 SOURCES OFPRIMARY ENERGY ................................................................................................... 1 DELIVERED THEKEYROLEOFTHEPOWERSECTORAND SCOPEFORINCREASEDUSEOFNATURAL ......2 ENERGY CUSTOMERS........................................................................................... TO GAS 3 FUTURE NATURAL DEMAND GAS ................................................................................................ 7 2.GAS SUPPLY OPTIONS ...................................................................................................................................... 10 POTENTIALREGIONAL SOURCESFORPIPED NATURAL GAS...................................................... 10 POTENTIALFORLNGSUPPLY ................................................................................................... 15 SECURITYOF GASSUPPLY ......................................................................................................... 18 3.THE PETROLEUMSECTORANDIMPLICATIONS FROMINCREASEDGASDEMAND ................A. 20 THEMARKET OIL PRODUCTS FOR .............................................................................................. 20 OILMARKET STRUCTUREAND PETROLEUMPRICING ................................................................ 21 4.THE POTENTIALFORA REFINERYINLEBANON ................................................................................... 27 DEMAND FORECAST PETROLEUMPRODUCTS FOR ...................................................................... 27 SUPPLY OFPETROLEUMPRODUCTS........................................................................................... 28 FEASIBILITYOFA NEW REFINERYINLEBANON OIL .................................................................. 30 5.THE GASMARKET STRUCTURE ................................................................................................................... 32 GOVERNMENT OBJECTIVE......................................................................................................... 32 INITIALMARKET STRUCTURE .................................................................................................... 32 THENATIONAL PIPELINEAND GASMARKET REFORM .............................................................. 34 KEYPRINCIPLESFORESTABLISHINGEFFICIENTGASMARKET STRUCTURE ............................... 34 A FUTURECOMPETITIVEGASMARKET STRUCTURE ................................................................. 38 6.LEGAL AND REGULATORYFRAMEWORKFORTHE GAS SECTOR .................................................. 40 THELEGAL FRAMEWORK .......................................................................................................... 40 MODEL LAW GAS ...................................................................................................................... 40 THEREGULATORY FRAMEWORK ............................................................................................... 42 SEPARATIONOF GASPOLICY AND REGULATION ........................................................................ 42 WHOSHALL REGULATE GASINDUSTRY? THE ........................................................................... 43 HOW SHALLREGULATIONBECONDUCTED? .............................................................................. 44 7.BENEFITSOF INTRODUCINGNATURALGAS ........................................................................................... 46 BENEFITS THEPOWERSECTOR ............................................................................................. TO 46 BENEFITSTO THE ENVIRONMENT ............................................................................................... 48 Index of Figures FIGURE1.1. SOURCES OFPRIMARYENERGY. 2002 ..................................................................... 2 FIGURE1.2. DELIVEREDENERGY CONSUMERCATEGORY. 2002............................................ BY 2 FIGURE2.1. REGIONAL PROVENGASRESERVES.2002 ............................................................. 11 FIGURE2.2. IRAQIGASANDOILPIPELINEROUTES................................................................... 12 FIGURE2.3. REGIONALNATURALPIPELINE NETWORK GAS ...................................................... 14 FIGURE2.4. MEDITERRANEAN~FRASTRUCT ............................................................. LNG URE 16 FIGURE3.1. LEBANESE OILPRODUCTIMPORTS, 1998 AND2002 (IN `000 TONS) ...................... 21 FIGURE3.2. COMPARISONOFRETAILPRICESANDIMPORTCOSTSFORPETROLEUMPRODUCTS23 FIGURE3.3. COMPARISONOFIMPORTCOSTSAND GOVERNMENT TAKEONOILPRODUCTS......24 FIGURE3.4. INTERNATIONALCOMPARISONOFGOVERNMENT TAKEONOILPRODUCTS, 2003.25 FIGURE4.1. EXPORT CAPACITY OF REFINERIESINREGION AND LEBANESE DEMAND ...............30 FIGURE4.2. REFININGCAPACITY ANDDOMESTICDEMAND MIDDLE IN EAST ........................... 3 0 FIGURE5.1. GASMARKET STRUCTUREFOR THE G A S Y L E PIPELINE ........................................ FIGURE5.2. ENVISAGEDMARKET STRUCTUREWITH G A S Y L E AND NATIONAL PIPELINES ......334 4 FIGURE5.3. UNBUNDLINGOFCOMPETITIVEAND MONOPOLY 35 FIGURE5.4. SEPARATIONOFCONTRACTUALARRANGEMENTS ................................................. ACTIVITIES................................ 37 FIGURE5.5. OPTIONSFORACCESSING TRANSPORTATION NETWO........................................ RK 38 FIGURE5.6. THEFUTURE GASMARKET STRUCTURE INLEBANON ........................................... 39 Index ofTables TABLE1.1. ELECTRICITY PEAKDEMAND FORECAST (MW) ....................................................... 5 TABLE1.2. THERMALPOWERPLANTS........................................................................................ 6 TABLE1.3. DEMAND FORECASTSNATURAL (MMCM/DAY) FOR GAS ....................................... 8 TABLE1.4.RESIDENTIALAND COMMERCIALCONSUMPTIONPATTERN, 2002............................. 8 TABLE2.1. COMPARISONOFPRODUCTIONCOSTINDICATORS................................................... 15 TABLE2.3. TOTALLNGCOSTS ................................................................................................. 17 TABLE2.4. ESTIMATED PIPEDGASAND LNGIMPORTPRICES ................................................. 17 TABLE3.1. CURRENTMARKET STRUCTUREFOR OILPRODUCTSINLEBANON .......................... 22 TABLE3.2. THESTRUCTUREOFOILPRODUCTSPRICES ............................................................ TABLE3.3. PRICESTRUCTUREFORPETROLEUMPRODUCTS, NOVEMBER(INUS$/TON) ..22 2003 23 TABLE3.4. INTERNATIONAL LPGPRICES, 2001-2003 .............................................................. 26 TABLE4.1. DEMAND FORECAST PETROLEUMPRODUCTS, 2015 (IN `000 TONS) ................28 FOR TABLE4.2. REFININGANDEXPORT CAPACITY INTHEMEDITERRANEAN REGION, 2000 ...........29 TABLE6.1. KEYFUNCTIONS GASMARKET TABLE7.1. FUELCONSUMPTIONAND TYPEOFFUELUSEDBYEDLPOWERPLANTS, 2002......43 OF PARTICIPANTS ................................................... TABLE7.2. ESTIMATED ANNUAL SAVINGS USINGNATURAL FORPOWERGENERATION 47 GAS ...46 TABLE7.3. OPERATIONANDMAINTENANCE SAVINGPERPOWERPLANT, 1998 ....................... TABLE7.4. ESTIMATIONOFENVIRONMENTAL EXTERNALITIES LEBANON FOR (US$/TON) .......47 49 TABLE7.5. ASSUMPTIONS FORBASELINEAND MAXIMUMGASSCENARIO ............................... 49 TABLE9.1. ELECTRICITYPEAKDEMAND FORECAST ...................................................... (MW) 66 Annexes ANNEX1:TERMSOFREFERENCE (TOR) ........................................................................................ 52 ANNEX 2: ENERGY BALANCE ......................................................................................................... 55 ANNEX 3: FUTURE ELECTRICITY DEMAND ..................................................................................... 60 ANNEX 4: ANALYSIS OFNON-POWER SECTORDEMAND ANNEX 5: PETROLEUMREFINING CAPACITY AND DEMAND THE MEDITERRANEAN .....................................................................70 IN REGION 75 ANNEX 6: INVENTORY OF EXISTINGLAWS AFFECT THAT THE LEBANESEMARKET GAS ................76 . ANNEX 7: MODEL LAW GAS ANNEX 8: DETAILED CALCULATIONOF ENVIRONMENTAL ...............................................................................................................80 BENEFITS FROMSWITCHINGTO GAS 95 Contributors: This report was written by Anna Bjerde and Franz Gemer with contributions from ChubuElectric Power Company Ltd.o f Japan (CEPCO); Jay Park and Camille SaadC (Legal Aspects); Sam O'Brien-Kumi comments from Bent Svensson and Bill Porter. peer reviewers. (Petroleum Market and Pricing Aspects) and L i m a r a Kirchner. The report benefitedfromhelpful Preface The Republic o f Lebanon has no proven fossil fuel resources. The lack of domestic energy sources and an increasing energy demand are major contributors to Lebanon's chronic trade and current account deficit. In2002, Lebanon's trade deficit accounted for more than US$5.3 billion, or about 30 percent of annual gross domestic product (GDP) and the country's public debt stood at US$29.5 billion, equivalent to 170 percent o f GDP.' Inthat year, the oil import bill reached about US$720 million, which i s nearly 60 percent o fthe country's revenues from tourism andmerchandise exports. The Govemment o f Lebanon recognizes the significant impact energy imports have on its fiscal position. To improve its public finances, the government has decided to introduce natural gas into the Lebanese energy market, initially targeting power generation. An increased usage of natural gas and a subsequent substitution of the relatively more expensive fuel, and gas oil i s expected to have a positive impact on Lebanon's foreign exchange position, trade balance, and the financial viability of the electricity sector. The introduction o fnatural gas will also have positive effects on the environment andpromote increased competition among various sources of energy for commercialand domestic usage. The objective of this hydrocarbon strategy study i s to assist the Govemment o f Lebanon to formulate a comprehensive long-term strategy for the future development o f the hydrocarbon industry ingeneral and the introduction and utilization of natural gas inLebanoninparticular. This paper sets out a strategy that takes into account the gas potential demand, supply options, market structure to allow for efficient service delivery, and legal and regulatory framework to enable competition, and provides an overall assessment o f the potential financial and environmental benefits of using gas. While the strategy focuses on the development o f the natural gas market, it also assesses the impact from increased gas use on the demand for petroleum products, analyzes the current shortcomings in the petroleum market, and investigates whether Lebanon should consider investinginnewrefinery capacity. This hydrocarbon strategy is based on several studies carried out by a consulting consortium led by Chubu Electric Power Company Ltd. (CEPCO), a Japanese utility and consultant, and an analysis carried out by the World Bank Team.2 Local and intemational legal experts, partially funded by the Public and Private Infrastructure Advisory facility (PPIAF), provided legal assistance. The various studies and this hydrocarbon strategy have been developed in cooperation with a counterpart team within the Lebanese Ministry of Energy and Water (MEW). The Terms of Reference (TOR) for the study are attached as Annex 1. ' Ministry of Finance. Public Finance Prospects 2002-Ministry of Finance Yearly Report (January-December 2002). 'Thework Obtainedat httD:iiwww.finance.gov.lb in October 2003. ofthe consultantwas funded throughthe JapaneseTrust Fundand managedbythe WorldBank. -1- Executive Summary 1. The Government o f Lebanon has decided to introduce natural gas into the Lebanese energy market. To implementthis decision, the government has entered into strategrc discussionswith its neighbor Syria for a bilateral project, and its neighboring countries Egypt, Jordan, and S p a on the potential for a regional gas pipeline project usingEgyptian gas. These discussions have recently moved from debate to action, with the construction of a 32-kilometer pipeline from Syria to Northern Lebanon (called GASYLE) currently under way. GASYLEwill transport up to 3 million cubic meters (MMCM) per day o f S p a n gas under a 25-year contract at a price representing about two-thirds o f the current fuel cost for power prod~ction.~In January 2003, an agreement between Lebanon, Jordan, Spa, and Egypt was signed declaring the four countries' intent to develop a regional gas pipeline going from Egypt to Lebanon. Constructionof the first phase of the pipelinefrom h s hinEgypt to Aqaba (260 km)has been completed, project agreements on the second phase from Aqaba to Rehab in Amman (390 km) were signed in January 2004, and construction has recently started. Gas has started flowing fkom h s h to power plants around Aqaba, and the flow is estimated to eventually reach 10billion cubic meters per year (BCM/year). 2. The initial market for gas in Lebanon will be small and consumption will be anchored inkey power plants able to operate on gas. However, the potential demand for gas greatly exceedsthe initial 3 M M C M available fkom Syria and potentially goes beyond consumers in the power sector. This raises several opportunities to create a dynamic, private sector-led, competitive market, but also challenges inthe way o f financial sustainability, security o f supply and environmental and social mitigation. A comprehensive strategy i s neededto ensure that the gas introductionleads to a sustainablemarket, which materializes the government's cost reduction objectives and environmentalbenefits. This paper sets out such a strategy. However, it has to be noted up-front that the critical factor for successful introduction o f gas i s a turnaround o f the extremely fkagile power sector given that gas consumption will be anchored in the power sector. T h e Status of the Power Sector 3. The power sector inLebanon i s dominated by the national electric utility, Electricit6 du Liban (EdL), which is organized under the Ministryof Energyand Water (MEW). EdL's assets, humanresources, and administrative facilities were severely damaged during the period of civil war in Lebanon, and most efforts in the post-war period have been on the rehabilitation of assets, with a lesser focus on strengthening the company from an institutional, administrative, and financial perspective. As a result, the company i s characterized by lack of technical and managerial capacity, lack of systems to manage and monitor performance, and a weak financial situation, with close to US$400 million in deficit every year and a quickly deteriorating balance sheet (retained losses now exceed US$1billion). At the operational level, losses, primarily nontechnical, are approaching 50 percent and continued transmission constraints and unreliable service have resulted in a surge in self-generation. Attempts to privatize EdL have failed because of the lack o f financial performance required to attract investors. The government is very concerned about the fiscal drain EdL poses and i s seeking options to improve the company's, and the sector's, performance. 4. As an immediate priority, the Government of Lebanon should (a) put measures in place to improvethe financial and operational performanceof EdL (through, inter alia, the introductionof an interimManagement Contract); and @) in parallel,develop a long-term strategy for reforming Upto 6 million cubicmeterdday(MMCM/day) isprovisionedinthe contractwith Syria but beyond3 MMCMiday requires further negotiations. .. -11- and restructuring the sector with a view of increased level of private sector participation in the financingand operationof the sector and efficientcompetition. PotentialGas Demand 5. The existence of the Bedawwi and Zahrani Combined Cycle Gas Turbines (CCGTs), conversion of other existing power plants to natural gas, and construction of new plants operating on gas to meet electricity demand couldresult innatural gas demandreaching 12.10 MMCWday by 2020, with about 75 percent of the demand beingaccounted for by the power sector. 6. There is also potential for the industrial sector to utilize natural gas, in particular energy-intensive industries such as cement. Considering the limitedpotential for natural gas usage in the residential and commercial sectors, fbrther analysis i s required to assess the viability of a distribution network. A distributionnetwork ina highlydensely populatedarea, such as Beirut, may be financially viable. Industrial 0.00 1.80 2.40 2.87 Power sector 2.02 8.07 8.55 9.23 Total 2.02 9.87 10.95 12.10 Source: ChubuElectricPowerCompany Ltd. (CEPCO) 2004. 7. The Lebanese Government should (a) develop a least-cost conversion plan for existingthermal plants and analyzethe constructionof new gas-fired plants to meet future electricity demand; and (b) further investigatethe viability of a distribution network to supply industrial, commercial and residentialcustomersinlarge cities, includingBeirut. Gas SupplyOptions 8. Lebanon i s strategically located in a gas-rich region and i s surrounded by several supply options, including bothpipedand liquefied natural gas (LNG). 9. There are currently three main alternative sources ofpipednatural gas for Lebanon: Syria, Egypt, and Iraq. Inthe short-term, the only viable source is from Syria, where the relevant pipeline connection is beingconstructed. Inthe medium-term, gas from Egyptmay become a viable option for Lebanon once the Arab Gas Pipeline has been finalized. In the long-term, Lebanon, and indeed the whole Mediterranean region, will benefit from the rehabilitation and reconnection of the Iraqi gas network, allowing the region to tap into large Iraqi gas reserves. Furthermore, LNGpotentially can be considered as a viable option to bringgas to Lebanonshouldthe price of LNGcontinue to fall. Finally, although it i s in the early stage, should the positive leads about offshore domestic gas and oil resources prove real, Lebanoncouldpotentially achieve a certainlevelof self-sufficiency when it comes to gas sources. 10. Considering the current contractual arrangements and the limited size of the Lebanese gas market, Lebanon should (a) follow a "phased" approachin constructinggas infrastructure that is closely alignedwith gas demand growth to avoid over-investing; (b) pursue a piped gas strategy in the short- to medium-term that allows the country to maximize the benefits from utilizing gas imports from Syria under the current favorable contractual arrangements; (c) pursue regional interconnectionwith neighboring countries that enables the country to import gas from Egypt via the Arab Gas Pipeline; and (d) pursue the investigationof its own potential resources. Lebanon ... ... -111- should only considerthe introductionof LNGonce domesticgas demand outgrowsmore economic gassupply optionsfromneighboringcountriedownsources. 11. To ensure security of supply, Lebanonshould maintaindualfuel capabilityof its power plants to mitigate the risk of supply interruptions. Gas supply from several sources will also enhance securityof supply. The PetroleumSector andImplicationsfromIncreasedDemandof Gas 12. The petroleum sector faces substantial challenges in Lebanon, which result in inefficiency and uncompetitivepricingto the consumer. These challengesincludethe following: e A lackof efficient competitioninthe import and distributionofoilproducts; e The monopolization of the import and distribution of liquefiedpetroleum gas (LPG) by a single company; e The lack o f open access to oilproduct storage facilities and terminals; e The continuous involvement of the government inthe import and distribution of oil products; e Relatively low taxes on gas oil compared with middle- and higher-income countries; and e Administered pricing arrangements that provide relatively high and fixed distribution and profit margins to companies 13. To enhance efficiency, transparency, and pricing to consumers, the Government of Lebanon should (a) restructurethe oil productsmarket and reformthe pricingregime to allow for efficient competition in the importationand distributionof oil products; (b) create fair and open access to storage facilities; (c) introduce competition in the import and distribution of LPG; and (d) graduallyreduceitsrole inthe sector by focusingon regulatingquality and safety standardsfor oil productsand creatingsafety netsfor vulnerable customer groupsinthe transitionto more efficient market andpricingstructures. ThePotentialfor a RefineryinLebanon 14. The Lebanese market for refined oil products is relatively small and, with the introduction of natural gas for power generation demand for certain oil products, in particular heavy distillates such as fuel oil and gas oil, i s expected to decrease over the coming years. This study analyzes the potential for renewed refinery capacity in Lebanon (the two existing refineries ceased operation in 1989 and 1992 and are currently only used as import terminals and storage facilities for refined oil products), and concludes that the economics for buildinga newrefinery inLebanon inthe short-term would be challengingas attracting finance couldprove difficult becauseof the following: Lebanon does not have indigenous oil reserves. Without its own source o f crude oil, it will be fully dependent on the import of crude oil at prices determined on international petroleum markets. e Any new refinery inLebanonwill produce fuel oil and other oil products, which have to find a domestic and internationalmarket. The domestic demand for these products will decline with the introduction of natural gas and there i s a limitedmarket potential to export fuel oil and other oil products giventhe region's excess capacity. Internationalpetroleum product markets are highly competitive, and there are multiple sources o f supplyto cover the demand for oilproducts inLebanon. -iv- a Finally, considering the need to import crude oil, it is unlikely that the construction o f a new refinery will increase the security o f energy supply of Lebanon. The latter being the key justification expressedbythe MEW for a newrefinery. 15. Inthe longer run,however, should Lebanon be able to tap into very cheap crude oil, the economics of a domestic refinery may be more positive. This Study recommendsthat (a) the decision ofwhether or not, andwhen, to enter the refining market inLebanonbe assessedby the private sector who would be the financier and assume commercialand operationalrisk; and (b) the government acts only as a businessdeveloper to facilitateinvestment. The Gas Market Structure 16. To meet future demand, Lebanon will, within a reasonably short period, be faced with multiple sources of gas. This, therefore, naturally gives rise to competition inthe supply of gas. 17. Effective competition, however, can only evolve if there are multiple players in the market. In the initial phase, the MEW will control the gas import, shipping and supply, and consumption market in Lebanon. Inthe short term and with the limitedvolume of gas beingpurchased, a single buyer (that is gas importer) and seller (that i s supplier) may be appropriate in the Lebanese gas market considering the economies of scale and scope involved in the purchase and sale of natural gas. To improve the fbture market, it i s important that no party inthe Lebanese gas market has an exclusive right to import and sell gas that would prevent other players from entering the market and possibly providing a better deal for customers. This Study, therefore, takes a long-term view and recommends that policy and regulatory decisions be takentoday that will provide for the Lebanesegas market of tomorrow. 18. The following key principles for the development of a competitive gas market structure are recommended:(a) unbundle monopoly transportation activities from competitiveimport, shipping, and supply businesses through-at a minimum-separate accounts; (b) separate commodity gas contracts from transportation contracts; and (c) create a regulated third-party access (RTPA) regimeto transportationnetwork. Legaland Regulatory Framework for the Gas Sector 19. To assist and promote a speedy development of the downstream gas sector, the establishment of an efficient regulatory system i s crucial. Economic regulation will ensure that consumers receive good service at a reasonable price, and at the same time regulated businesses are allowed to recover their prudentlyincurred costs and make a reasonablerate of retum. Economic regulation inLebanonrequires the following: a Establishment of aregulatoryregime based onprimary gas legislation and subordinate legislation; a Separation ofregulatory functions from policy; a Creationo f wholesale competitionby allowing large gas customersto choosetheir own supplier; and a Creationo f ajoint gas and electricity regulator. 20. To establish a competitivegas market structure, the Government ofLebanonshould (a) develop and implementsprimary legislation(that is, a Model GasLaw) that will governthe downstreamgas market inLebanon; and (b) set up ajoint gas and electricityregulator(or multi-sector regulator) to regulatethe industry. -V- Benefitsfromthe IntroductionNaturalGas 21. Lebanoncan expect significant benefits from the introduction o fnatural gas. Key benefitsinclude the reduction o f power production costs and environmental benefits that are associated with switching fi-om oil to the relatively cleanernatural gas. 22. The conversion from gas and fuel oil by major power plants in Lebanon has been estimated by the MEW to generate annual savings between US$90 million (at a Brent oil price o f US$20/barrel) to US$140 million(US$3O/barrel). Inaddition, close to US$10 million annually has been estimated to be saved from reduced operation and maintenance (O&M) costs. World Bank estimates confirm the significant savings potential. Calculations carried out for Bedawwi and Zahrani, the two CCGTs, suggest savings o f up to US$150 milliodyearper plant should plant reliability be increased to industry standards and operating hours per year reach 3,500 G W y e a r . 23. The introduction of natural gas to Lebanon also is expected to have a significant positive impact on the environment, notably on air quality. The potential benefits to Lebanon have been estimated in terms of avoided damage costs (the negative externalities) from the introduction o f natural gas, and the results indicate a reduction in the environmental and health damages by between US740 million and US$1.8 billionfor the period2005-20. -vi- 1. Lebanon's EnergyBalanceandPotentialGas Demand 1.1 Lebanon's total energy demand in2002 was around 208 million Gigajoul (GJ). Given the lack of domestic energy sources, Lebanon almost entirely relies on imported oil products, and non-fossil domestic sources of energy, mainly hydropower, play a minor role. Lebanon i s unable to import crude oil for processing, given that the country's two refineries inZahrani and inTripoli have beenout o f operation for the last decade. 1.2 This chapter discusses the current Lebanese energy balance and the structure of energy supply and demand in2002.4 It also provides estimates for futureelectricity andnatural gas demand. SOURCESOF PRIMARY ENERGY 1.3 The energy balance of Lebanon primarily includes oil products, namely gas oil (that is, diesel), fuel oil, gasoline, liquefied petroleum gas (LPG), and kerosene. Non-fossil h e l s include hydro-power and alternative sources of energy, such as solar and wind. 1.4 In2002, 35 percent ofthe total energy supply was gas oil, amediumdistillate oilusedto produce diesel fuel for transportation and power generation; and 31 percent was fuel oil, a heavy distillate oil mainly used for power generation and industry. Gasoline used in the transport sector accounted for 25 percent o f energy supply. Kerosene for jet engines and LPG, mostly used in the residential sector for cooking purposes, each accounted for about 3 percent of the energy sources. Hydro, the only source of domestic energy, accounted for only 2 percent o fprimary energy supplied. Electricity imports from Syria and other fuels (such as charcoal and wood) made up the remaining share of fossil energy sources in Lebanon. 1.5 Figure 1.1 below provides an overview of the various sources of primary energy in Lebanon in 2002.5 Energy balances distinguishbetweenprimary energy and delivered energy. Primary energy focuses on the sources of supply and faces the challengethat non-fossil forms of energy (such as hydro) must be convertedto primary energy equivalentusing conversion ratios. Deliveredenergy measures all energy at the point of consumption and is usefulto show the structure of usage of final fuels. This is especially important when the focus is on fuel products, as is the case in Lebanon. Delivered energy is measured after taking into account losses in conversion(mainly electricity generation). For the energy balance presentedinthis document, considerationwas givento bothprimary energyanddeliveredenergy. The varioussourcesofprimary energy in Lebanonhaveremainedrelatively stableover the lastdecade with the exceptionof the substitution of unleadedgasoline for leaded gasoline over the last five years. To date, unleaded gasoline accounts for 23 percentof primaryenergy sources and leadedgasoline for 2 percent, respectively. -1- Figure 1.1. Sourcesof Primary Energy, 2002 25% 3% 2% Note: LPG= liquefiedpetroleumgas. Source: The PetroleumDirectorateandElectricitCdu Liban (EdL), Lebanon, 2003. DELIVERED ENERGY CUSTOMERS TO 1.6 Power generation accounted for 54 percent of delivered energy inLebanon in2002, o f which 43 percent was used by ElectricitC du Liban (EdL), the national electricity utility, and the remaining 11 percent by private generators. The relatively highrate o f self-generation by residential, commercial, and industrial customers is caused by the current lack of adequate electricity infrastructure coverage and frequent power brown- and blackouts.6 The breakdown o f delivered energy by consumer category i s presented inFigure 1.2. Figure 1.2. Delivered Energy by Consumer Category, 2002 Residential 4% Comnxcial PrivateGenwation i r 2% Source: The PetroleumDirectorateandEdL, Lebanon, 2003. A blackoutis acomplete loss ofpower.Brownoutsare characterizedby low voltageandpowerinterruptions. -2- 1.7 The transportation sector usedabout 30 percent of delivered energy in2002. Gasoline is the main fuel inthe transportation sector, accounting for about 82 percent of energy consumed. Kerosene and gas oil make upthe remaining 18percent, each accounting for about 9 percent. 1.8 The industrial sector only consumed 9 percent of total delivered energy in 2002, illustrating the country's relatively small industrial base. Lebanon has some industries, such as cement and ceramics factories, but the economy relies heavily on the service and tourism industries for economic growth. Within the industrial sector, fuel oil accounts for about 75 percent of delivered energy, followed by gas oil with 16percent, LPGwith 5 percent, and other fuels with 4 percent. 1.9 LPG i s an important fuel inthe residential sector, where it i s mostly used for cooking and heating purposes and accounts for about 49 percent of energy usage. Gas oil accounts for 44 percent o f residential usage mostly for space heating. Other fuels, such as wood and charcoal, are also used in the residential sector and account for about 7 percent of energy usage. 1.10 Finally, commercial customers and agriculture account for about 3 percent of delivered energy usage in Lebanon, mostly using gas oil (71 percent), LPG (16 percent), and other fuels (13 percent). Annex 2 provides detailed tables of the energy balance inLebanon fkom 1998 through 2002. THEKEYROLEOFTHE POWERSECTORAND SCOPEFORINCREASEDUSEOFNATURAL GAS 1.11 The power sector accounts for more than half of Lebanon's energy demand. Given the importance of this sector in the overall energy and fiscal balance o f the country, as well as inthe hture gas industry, this chapter assesses (a) the characteristics of the Lebanese power sector; (b) the electricity demand forecast; (c) the scope for power generators to switch from fuel and gas oil to gas; and (d) the potential long-termdemand for natural gas. The Characteristics of the LebanesePower Sector 1.12 The initial market for gas inLebanonwill be relatively small and consumption will be anchored inpowerplantsrunningonnaturalgas. The financial viability ofthe power sectorhasmajor implications on the long-term viability of the natural gas sector in Lebanon. A major risk to the sustainability o f a future gas market in Lebanon i s the ability of final consumers to pay for their gas consumption. The largest consumer o f natural gas will be EdL. EdL has a very weak financial position and i s the recipient of significant operating and investmentsubsidies from the government. The introduction o f gas will help reduce the operating cost of EdLto a large extent, but additional efficiency improvements are requiredto assure its financial viability. 1.13 Factors that affect EdL's operational and financial performance include the following: 0 A persistenthighlevel ofunbilledelectricity consumption, which amountedto close to 50 percent in2002, ofwhich 33 percent is estimatedto bedueto commerciallosses(for example, theft); 0 Poor customer data basepreventingproper billing and collection; 0 Substantial transmission capacity constraints due to lack o f investment in substation and transmission lines, particularly inthe Saida andBa'albeck regions; and 0 Weak institutional capacity due to understaffinginkey technical andmanagerial areas and lack of arms lengthrelationshipbetween the govemment and the company. -3- 1.14 Finally, the Lebanese electricity sector continues to be dominated by EdL, a vertically integrated monopoly that owns and operates generation, transmission, and distribution networks and acts as the sole electricity retailer. The Lebanese Government aims to restructure andreformthe power sector andpassed "The Law of Electricity Sector Organization" in September 2002. This law sets out the rules and principles governing the sector, including the role of the government in this sector, the establishment of the regulator, and the role of the private sector.' Although the provisions exist inthe law for privatization and competition, no action has been taken yet to implement the law. Having said that, the Lebanese Government envisaged to privatize EdL a few years ago but abandoned the privatization strategy recommended by its advisers based on the weak financial position of EdL and the unlikely generation of significant proceeds from the sale. 1.15 The situation has now reached crisis dimensions, with EdL losing up to US$400 million per year. This situationis further aggravatedbypoor collection performance and high oil prices. In2000 (the most recent audit report), EdL had accumulated losses close to US$1 billion. Since then, losses are reportedto have increased significantly and EdLi s considered bankrupt. 1.16 The Government of Lebanon should put in place an immediate interim Management Contract for EdL focused on an operational and financial turnaround. In parallel, a longer-term strategy for restructuring the power sector aimed at private sector participation and competition shouldbeformulated and adoptedby the government. Electricity DemandForecast 1.17 Following the cessation o f hostilities in the early 1990s and subsequent reconstruction efforts, Lebanon's electricity demand experienced a period of highaverage demand growth of around 16 percent between 1992-96.' The high concentration of the Lebanese population in urban and semi urban areas, combined with rehabilitation of crucial networks, enabled the reconnection of relatively large proportions o f the population to grid-suppliedelectricity. Since the late 1990s, electricity demand growth has slowed and averaged around 3.5 percent per year. 1.18 There is an ongoing need for rehabilitation of transmission and distribution networks in mostly rural parts of the country that are currently not connected to EdL's main grid. In addition, the system suffers from high technical and nan-technical losses, mostly caused by theft and inadequate metering. Frequent brown- and blackouts on the main grid, in particular at peak periods, have encouraged private generation to produce non-gnd-supplied electricity that tends to be more expensive because o f fuel costs and economies of scale. Currently, private generators are estimated to account for about 20 percent of total electricity production. There seems to be a significant amount o f suppressed electricity demand in Lebanon, particularly duringpeakperiods. 1.19 Table 1.1 below provides an overview of estimates of future electricity demand growth scenarios until2020. Three different scenarios for future electricity demand inLebanonwere produced, covering base, low, and highdemand scenarios. Each scenario makes different assumptions regarding future gross domestic product (GDP) growth rates, price elasticity o f demand for various sectors and consumer categories, changes to electricity prices, reduction o f electricity transmission losses, energy efficiency developments, and the return of customers to grid-suppliedelectricity. Annex 3 presents the detailed assumptions and adopted methodology for estimating future electricity demand scenarios inLebanon. '* The Law of ElectricitySector Organization (Law #462 issuedon 05/09/2002), World Bank. 1999.Energy Strategy into the Next Millennium. -4- Table 1.1. Electricity Peak Demand Forecast (inMW) I%Growth 2.4 2.4 1.9 1.8 2.3 I Low Case 2,048 2,050 2,05 1 2,225 2,401 % Growth 0.I 0.1 0.0 1.6 1.5 IHigh Case 2,362 2,528 3,412 4,398 5,110 %Growth 7.0 7.0 6.2 5.2 3.1 I Note: MW =megawatts.Growth figures until 2005 are per year andfor the period2005-20 are five-year averages. Source: ChubuElectricPowerCompanyLtd. (CEPCO), 2004. 1.20 Electricity demand is expected to grow relatively fast inthe medium to long term under the base- case and high-case scenario. However, the level o f demand growth will depend on the speed o f rehabilitationo fnetwork and reformand restructuring measures carried out inthe electricity sector. Characteristics of Existing Power Plants 1.21 The total installed thermal capacity o f EdL i s 1,963 megawatt (MW),o f which 1,243 MW are steam turbine units and 720 MW gas turbine units. Gas turbine unitsuse diesel oil to generate electricity, and steam units use fuel oil. In addition, Lebanon has approximately 280 MW o f hydroplants with seasonal productiondepending on rainfall. 1.22 Of the 1,770 MW thermal capacity available in Lebanon, 870 MW (49 percent) i s ready to receive natural gas. There are the two Combined Cycle Gas Turbine (CCGT) plants (one at Bedawwi and one at Zahrani) that have already installed dual fuel capabilities (that is, natural gas and gas oil) and can convert to natural gas at negligible additional costs.g 1.23 The power plants in Tyre and Ba'albeck have installed gas turbines that are designed to bum gas oil. To switch to natural gas, additional gas burners will have to be installed, requiring some additional capital investment. Jieh and Zouk, with a combined installed and available capacity o f 953 MW and 815 MW, respectively, use steam turbines and would have to incur substantial conversion costs to be able to receive natural gas. The existing thermal power plants (TPPs) and units are listed inTable 1.2. The table also indicates whether plants are currently able to receive natural gas at low conversioncosts. To enablethese plants to generate electricityfrom naturalgas, some adjustmentto the gas bumers is requiredto allow for optimaloperation andconversionefficiency. -5- Table 1.2. Thermal Power Plants Total insix power plants 1,963 1,770 - Potential for Conversion to Natural Gas 1.24 There are two principal methods for converting power plants to bumnatural gas. The first option i s a simple gas conversion, which i s accomplished by modifying the fuel system of the existing units. The second option i s to re-power an existing plant by converting the system to a CCGT. The first option tends to leave the plant with the same generation capacity whereas converting to combined cycle increasesthe generation capacity o f aplant. -6- 1.25 The merit for converting existing power plants to natural gas will depend on the cost of conversion and the availability o f natural gas and construction o f a pipeline network. Bedawwi and Zahrani both have installed CCGTs, but only Bedawwi will be able to receive gas fiom Syria when the GASYLE Pipeline is finished in late 2004. The supply to Zahrani will require a new transmission pipeline network, such as the constructionof the National Gas Pipeline or the construction of a liquefied natural gas (LNG) facility ifeconomically viable. 1.26 The potential to convert the Tyre and Ba'albeck gas turbine plants will depend on the construction of new gas pipeline network. The relatively small size of the two plants and associatedlow gas consumption levels, combined with the relatively remoteness o f the Ba'albeck plant, may not justify the construction o f a pipeline specifically to supply these plants. 1.27 Two o f the 65 MW units at the oil-fired power plant at Jieh were commissioned in 1970 and are now more than 34 years old. The other three 72 MW unitswere commissioned in 1980 and 1981 and are 24 years old. The plant i s well maintained and in good operational condition, but plant efficiency is relatively low by modern standards. The plant has a comparatively high reliability and a 68 percent capacity factor despite its low position inthe dispatch merit order, and normally serves as an emergency backup and peaking plant. The relatively low fuel consumption level and limited use of this plant for emergency backup and pealungperiods may notjustify the conversion to natural gas based on costs. 1.28 The Zouk TPP is the largest power plant inLebanon. Itis a base-load fuel oil-steam plant located inthe suburban area of NorthBeirut. The cost of converting the fuel system of Zouk to natural gas is estimated at US$20 million. The cost o f converting it to a CCGT, and potentially increasing its output from 520 M W to 952 MW, i s estimated to cost US430 million." 1.29 Considering the relatively old age of the Jieh power plant and the likely restricteduse of the plant as a backup and peaking plant, it should continue to operate as an oil-fired plant until its retirement. The potential for conversion of Tyre and Ba'albeck and the supply to Zahrani power station, which is ready to receive gas, will depend on the construction of the National Gas Pipeline and additional pipeline network and gas infrastructure that may be required. The conversion of Zouk will also require new pipeline development and the Government of Lebanon carefully should review the cost of the two gas conversion options taking into consideration future electricity demand forecasts. A feasibility study for the National Gas Pipeline and its routing is currently being conducted by Tractebel and the potential costs and benefits of delivering natural gas, including conversion costs, to Tyre, Ba'albeck, Zahrani, and Zouk power stations should be evaluated in detailinthis study. FUTURENATURAL DEMAND GAS 1.30 The demand for gas in Lebanon will be determined by a number o f factors, including (a) the current and future demand of the power sector; (b) non-power sector demand; (c) the pricing o f various supply options; and (d) the development of critical infrastructure required to bringgas to Lebanon. This section will deal with the potential demand in the power and non-power sectors. Supply options and infrastructure requirements will be discussedinthe next section. 1.31 The future demand for natural gas inLebanon is driven by the conversionrate of current power plants, the reduction o fprivate electricity generation and reconnectionto gnd supply, andthe construction of new CCGT plants to cover future electricity demand. Iti s estimated that the power sector will account for more than 75 percent o f future gas consumption. Table 1.3 provides estimates of future natural gas lo CEPCOestimates2004. -7- demand until 2020. Demand in Lebanon i s estimated to grow from 1.5 MMCWday in 2005 to close to 10 MMCM/day in2010 and 12.10 MMCWday in2020. 1.32 Demand will initially come from the supply to the Bedawwi power station, but the estimates indicate a large increase between 2005 and 2010 from 1.5 MMCWday to almost 10 MMCWday. This assumes supply to the Bedawwi, Zahrani, and Zouk power stations and the construction o f new CCGT plants to cover additional electricity demand. It also assumes a continuous reduction of private generators, which mostly use gas oil, and the reconnection o f these customers to the main grid supplied byelectricity generated fromnatural gas. Table 1.3. DemandForecastsfor NaturalGas (MMCWday) Note: MMCM/day = million cubic metersper day. Source: CEPCO 2004. 1.33 The future non-power gas demand has been estimated by usingthe netback methodology. This approach analyzes potential gas consumption of the residential, commercial, and industrial sectors by analyzing usage o f competing fuels for specific usage. The assumptions and methodology of the netback analysis are discussed indetail inAnnex 4. 1.34 In the residential and commercial sectors, the two main potential sources of gas demand are coohng and space heating. These sectors currently use relatively expensive bottled LPG and gas oil, and the potential for residential and commercial customers to switch to natural gas could have significant impacts on interfuel competition and eventually on fuel costs. Table 1.4 shows total energy volumes o f gas oil, LPG, and other fuels in the commercial and residential sector in 2002. Overall, both sectors consumed approximately 12 million GJ o f energy in 2002, or 6 percent o f total delivered energy to Lebanon inthat year. Table 1.4. ResidentialandCommercialConsumptionPattern,2002 -Not available. Note: GJ= Gigajoul; LPG= liquefiedpetroleumgas. Source: CEPCO2004. 1.35 The demand for natural gas for residential and commercial usage i s relatively small and space- heating requirements are limited in Lebanon because of the relatively mild and short heating season. Natural gas, however, could be used as a potential substitute for relatively expensive LPG and gas oil in these sectors. This would require the development o f a distribution network that i s capital intensive and only economically justifiable when there i s a large number o f connections and relatively high gas -8- throughput volumes. A large percentage of the populationinLebanon live inurban and semi urbanareas, and there may be a potential to construct a distribution network in densely populated areas, such as Beirut, particularly once a transmission network hasbeenbuilt. 1.36 There i s also a potential for usage of natural gas inthe industrial sector, and it has been estimated that this could account for around 1.8 MMCM/day by 2010 and 2.87 MMCWday by 2020. The Lebanese economy i s based primarily on the service and tourist industries and some intermediate light industries. However, there i s some heavy industry--including cement, fabricated metals, paper, glass, ceramics, rubber, and plastics-where fuel oil i s currently used for fumaces and boilers. Potential industrial, commercial, and domestic demandmay make the construction of a distribution network inthe Beirutarea financially viable. 1.37 The Government of Lebanon should implement a conversion strategy for the Lebanese power sector that allows for maximum use of natural gas, as well as studies the feasibility of a non- power sector gas distributionnetwork. -9- 2. Gas Supply Options 2.1 To date, there are no proven gas reserves in Lebanon. Some offshore seismic surveys were shot in 1994, and a further, more extensive, survey was carried out in 2002. According to the Ministry of Energy and Water (MEW), the seismic data has revealed some interesting leads and, in particular, the possibility that the gas fields recently discovered offshore in Egypt, Palestine, and Israel may extend to Lebanesewaters andjurisdiction." 2.2 At this stage, it is too earlyto speculate about potentialreserves. Lebanonmay have gas reserves that are economically viable, which could provide an alternative source of energy. However, considering the lead-time for developing a field and the associatedinfrastructure, domestic gas reserves would take time to develop. 2.3 Natural gas demand forecasts in Table 1.3 show that gas demand may quadruple between 2005 and 2010, requiringLebanon to import about 10 MMCM/day of natural gas to meet domestic demand by the end of this decade. The current contractual arrangements with Syria are insufficient and only cover about half of that volume; therefore, Lebanon will have to find additional supply sources to meet the demand." 2.4 InJanuary 2003, an agreementbetween Lebanon, Jordan, Syria, and Egypt was signed declaring the four countries' intent to develop a regional gas pipeline (the Arab Gas Pipeline) going from Egyptto Lebanon (via Jordan and Syria).13 The construction o f the first phase of the pipeline from h s h inEgypt to Aqaba inJordan, a 260 kmpipeline segment, has been completed. A project agreement on the second phase, a 390 kmpipeline from Aqaba to Rehab in Amman was signed inJanuary 2004 and construction has started. The LebaneseGovernment is currently inthe processof discussing a gas sales agreementwith Egypt. 2.5 This chapter (a) discussesregional gas sourcesfor pipednatural gas; (b) assessesthe potential for LNGsupply; (c) estimatesnatural gas prices from differentsources; and (d) discusses security of supply. POTENTIALREGIONAL SOURCESFORPIPED NATURAL GAS 2.6 There are four major factors that determine the viability of a potential source o f piped gas for supplyingthe Lebanesemarket, including the following: 0 Level o fprovenreservesinthe region; 0 Connection o fnatural gas reservesand the emergence of a regional pipelinenetwork; 0 Cost of gas production; and I' Further evaluation of this seismic data is currently being carried out and, assuming a positive outcome, the Lebanese Governmentis planningto start an offshore licensinground in2004/05. At the same time, the government is inthe process of developingaPetroleumLaw that regulatesthe licensingofthe offshorearea. l2 Under the 25-year contract with Syria, the PetroleumSyrian Company (PSC) shall sell the Ministry of Energy and Water (MEW) up to 6 MMCWday. Inthe early stage, PSC will deliver 1.5 MMCWday and graduallyreach 3 MMCMIday in the first stage and 6 MMCMlday in the second stage. Both parties will have to agree to determine the time schedule and contractual conditions for the first and second stages. According to the MEW, up to 3 MMCMIday is certain. Between 3 MMCM and6 MMCMIday will have to benegotiatedfurther. l3 InJune 2002, the four countries signedtwo agreements of principles for the establishmentof the Arab Gas Authority andthe founding of the Arab Company for Natural Gas Transportationand Marketing, paving the way for the execution of the Arab Gas Pipelineproject. -10- 0 Distance from consumers. Level of Proven Reserves in the Region 2.7 Natural gas reserves are classified according to their probability of production. The "proven" reserve category i s the most certain and i s basedon a 90 percent probability o fbeing pr~duced.'~Proven gas reservesinthe Mediterranean region are shown inFigure 2.1. Figure 2.1. RegionalProven Gas Reserves, 2002 5,000 I 4.520 1 4,000 2.-P 5 3,000 0 2,000 03 .-E0 E 1,000 m 0 Algeria Iraq Egypt Syria Tunisia Gaza Israel Jordan Sources:British PetroleumStatisticalReview of World Energy2003, CEPCO 2004, Cidigaz 2003, and OrganizationofArab PetroleumExportingCountries (OAPEC) 2001. 2.8 With about 4,500 billion cubic meters (BCM) of proven reserves, Algeria has the largest proven reserves in the region, followed by Iraq and Egypt. Algeria i s the largest gas producer in the Mediterranean region, with onshore gas fields that are large in size, which keeps gas production costs relatively low. Low production costs combined with the geographic proximity to Spain and Italy makes Algeria a major exporter of natural gas to Europe." The Algerian gas network i s not connected to the East Mediterranean, and considering the distance, it i s unlikely that Algeria piped gas will be a competitive supply option for Lebanoninthe near future. 2.9 Natural gas reserves in Egypt have increased rapidly over the last few years, based on large offshore discoveries and were estimated at about 1,660 BCM in 2002. Egypt i s expecting to become a major gas exporter in the near future, supplying the Mediterranean and intemational markets through piped gas and LNG. Production costs in Egypt are higher than in Algeria because of increased costs associated with offshore production. The proximity to the East Mediterranean, however, and lower transportation costs and the current construction o f the Arab Gas Pipeline may provide Lebanonwith the viable altemative of importing gas from Egyptina few years. l4 Gas (and oil) reserves only become "proven" when there is a route to a market, preferablya pipeline or a liquefaction plant with a contracted customer at the other end of the supply chain. The most frequently quoted example of known gas reserves not being counted as proven is Alaska, where large gas reserves have been identified but await a pipeline to take them to market. Fornow the reserves are notproven. Algeriaexportedabout20 BCMof pipednaturalgas to Europein2003. -11- 2.10 Iraq has proven gas reserves o f about 3,100 BCM that are currently unutilized. A large non- associatedgas field inthe Akas region o f western Iraqnear the border with Syria was discovered in2001 containingan estimated 58.8 B C M of natural gas reserves. Iraqi s currently a major associated gas flaring nation, and the World Bank estimates annual flaring volumes to reach 20 BCM. Iraq needs significant network investments and, under the current economic and political climate, it i s difficult to see Iraq as a key gas exporter in the short term. However, once the pipeline network and operation have been rehabilitated, there is a large potential for export of associated and non-associated Iraqi gas to the East Mediterranean region, including Lebanon. 2.11 Figure 2.2 shows the current gas (and oil) pipeline network in Iraq and interconnections with neighboring countries. There is a transmission gas pipeline runningfrom Port Basra inthe South o f Iraq to Baiji (via Kut and Baghdad), A1Haditha, and the Syrian border. Currently, no gas is flowing between Iraqand Syria, but this pipeline couldbecome a key source o fnatural gas inthe East Mediterraneaninthe mediumterm once the pipelineandproductionfacilities havebeenreconnectedandrehabilitated. Figure2.2. IraqiGas and Oil PipelineRoutes Source: Oil and GasJournal December2003. 2.12 Estimates of Syrian natural gas reserves in2003 varied between 240 BCMand 371 BCM.16 Syria i s also reported to have a relatively highreserve/production ratio of 59 years, suggesting that there may be additional gas quantities available to supply the Syrian and East Mediterranean market, including Lebanon. In April 2004, the Syrian Ministry of Petroleum and Mineral Resources selected three companies to negotiate production sharing contracts for the development o f 15 gas discoveries, locatedin two clusters: one east of the city of Homs andthe others south-west of Alleppo. The discovery containing 1.2 B C M o f gas made near Homs in July 2003 may be particularly relevant for Lebanon and the GASYLE Pipeline. Production is targeted to start in2007. No estimated reserve and production data are currently available. Syria will be the major gas exporter to Lebanon inthe short to mediumterm. l6 The BP Statistical Review of World Energy estimated the reserves at 240 BCM, Cidigaz at 300 BCM, and OAPEC (Organizationof Arab PetroleumExportingCountries)at 371 BCM. -12- 2.13 Proven gas reserves in Tunisia, Israel, and Jordan are relatively minor and mostly used or earmarked for the domestic market." Contingent gas reserves recently have been discovered inoffshore Gaza. These countries are unlikely to have the reserves or network to supply gas to Lebanon in the near future Connection of Natural Gas Reserves and the Emergence of a Regional Pipeline Network 2.14 The gas transmission network in the East Mediterranean i s currently underdeveloped and lacks interconnection. The major producer, Algeria, i s not connected to the East Mediterranean. A sub- regional gas pipeline network i s slowly beginning to develop with the construction of the Arab Gas Pipeline. The map in Figure 2.3 provides a graphic overview o f the existing pipeline network and planned routings o f new pipelines inthe region. l7According to GasMatters (May 2004), Israel Electric Corporation (IEC) plans to buy 1.2 BCWyear (about 3 MMCM of gas from Egypt in 2006, rising to 1.7 billion cubic meterdyear (BCM/year) in July 2007 for the subsequent 14 years. The gas will be suppliedto IECby the Israeli-Egyptian companyEasternMediterraneanGas (EMG). The 15-yeardeal is estimatedto be worth $2.5 billion. -13- Figure2.3. RegionalNaturalGas PipelineNetwork 2.15 The current gas infrastructure in the region is limited. For Lebanon, an important first step in connecting to the regional gas network will be the pipeline connection with the Syrian network. This connection couldnot only supply Lebanonwith Syrian gas but, eventually, with gas from Egypt (once the Arab Gas Pipeline network has been constructed) and Iraq (once the network has been rehabilitated and reconnectedto the Syrian network). Cost of Gas Production 2.16 Natural gas production costs can vary significantly depending on (a) size o f fields; (b) location (onshore or offshore); (c) type (gas field or associated gas);" (d) productivity of reservoir; (e) field facility costs; (f) presence o f contaminants; and (g) hydrocarbon taxation. 2.17 Regional gas suppliers have different production cost characteristics. For example, Algeria has many large onshore gas fields with highly productive wells and therefore relatively low production cost. In contrast, Egypt has smaller fields, mostly located offshore with relatively high govemment hydrocarbon taxation, making overall production costs higher. The characteristics o f gas fields in Iraq '*Associatedgas is a blend of hydrocarbons that i s releasedwhen crude oil is brought to the surface. -14- will enable the country to produce natural gas at relatively low costs once the pipeline and production facilities have been rehabilitated. A summary o f the production cost indicators in counties that are particularlyrelevant for Lebanonare shown inTable 2.1 below. Table 2.1. Comparison of Production Cost Indicators associatedgas associated gas Productivity ofReservoir Good moderate very high FieldFacility Costs High moderate low Contaminants None none none HydrocarbonTaxation High moderate not known at present Distance from Consumers 2.18 The cost o f transporting gas to importing countries is a major factor in determining the overall cost of gas to final consumers. Inthe case of Lebanon, the geographic distance to Egypt increases gas transportation costs compared with Syria. Inaddition, given that the Arab Gas Pipeline i s a cross-border pipeline, importersnormally have to pay transit fees to neighboring countries where the pipeline crosses, further increasing the overall costs of gas.lg 2.19 The cost o f transporting Iraqi gas to the East Mediterranean will depend on the location o f gas fields within Iraq, and some recent gas discoveries inWestem Iraq (near the S p a n border), which may become an attractive source. Egypt's higher transportation and production costs may implythat Egyptian gas i s less competitive inthe region than S p a n or Iraqi gas inthe longterm. 2.20 Considering, however, that Syria has limitedprovenreserves and Iraqi s unlikely to become a gas exporter inthe short term, Egyptcan play a major role insupplyinggas to the East Mediterraneanmarket once the Arab Gas Pipeline has been finalized. 2.21 Lebanon should view its potential sources of gas based on when they may become available. In the short term, the only viable source is from Syria, where a contract is inplace and the relevant pipelineconnectioni s being constructed. Inthe medium term, gas from Egypt may become a viable option for Lebanon once the Arab Gas Pipeline has been finalized. Inthe longterm, Lebanon, and the whole Mediterranean region, will benefit from the rehabilitation and reconnection of the Iraqi gas network, allowing the region to tap into large Iraqi gas reserves. In addition, in the longer term, Lebanonmay prove to have its own reservesof gas. POTENTIALFORLNGSUPPLY The Emergence of a RegionalLNGMarket 2.22 An altemative option to supply Lebanonwith natural gas wouldbe through LNG. LNGtrade has been growing rapidly inthe region and worldwide. With the introduction of newtechnologies, the cost of Robert Baconand PaulStevens. June 2003. Cross-Border Oil and Gas Pipelines: Problems and Prospects. -15- liquefaction and re-gasification has fallen over the last few years. As a result, LNG is increasingly competing with piped gas to supply markets in developing, middle-income, and industrialized countries. With the expansion of LNG, internationalgas markets have become more competitive andgas buyers can increasingly choose from alternative sources of gas supply.2o 2.23 An active LNG market has emerged in the Mediterranean region over the last few years, and there are a number of LNG suppliers, including Algeria, Qatar, Oman, and Egypt. The largest supplier in the region is Algeria followed by Qatar. Currently, Egypt i s finalizing the construction of a gas liquefaction plant that will allow the country to export natural gas from its offshore gas fields. Details o f the various LNGfacilities inthe Mediterranean are shown inFigure 2.4 below. Figure2.4. MediterraneanLNGInfrastructure LNG infrastructure OperationalLNG regasterminal LNG regas under developmentI construction 0 LNG regas promoted Operational LNG liquefaction LNG liquefaction developmentl construction Note: LNG= liquefiednatural gas. Source: BG Italia, 2004 ComparisonofLNGand PipedNaturalGas Costs for Lebanon 2.24 Lebanon has the option o f supplying the domestic market with natural gas, either through gas imported via a pipeline, LNG, or both. The potential role of LNG in the future gas import mix o f Lebanon should be driven by cost considerations. Three major cost components determine the price o f LNGinLebanon, including (a) shipping cost; (b)regasificationcosts; and (c) LNGcosts. 2.25 Shipping costs depend on the location of the LNG supply and the distance to the destination market. A likely source o f LNG would be Algeria andor Qatar and it has been estimated that the *'Franz Gemer and Bent Svensson. April 2004. "Public and Private Sector Roles in the Supply of Gas Services in Developing Countries." The World Bank. -16- transportation cost for the 2,058 nautical miles between Algeria and Lebanon would be US$O.29/million Britishthermal units(mmbtu).2' 2.26 Based on a study carried out by Kellogg, Brown, and Root (KBR) in2000, the regasification cost in Lebanon would be approximately US$0.76-0.79/mmbt~.~~LNG costs have been estimated to be US$2.62/mmbtu at an oil price of $20/banel. Table 2.2 summarizes the shipping, regasification, and import costs. Total LNG import costs in Lebanon at US$2O/barrel are estimated at around US$3.7O/mmbtu. Table 2.2. TotalLNGCosts Note; Estimatesonregasificationare basedon 2000 data. Source: CEPCO2004. 2.27 Table 2.3 provides estimates for piped natural gas and LNG in Lebanon. Under the current market arrangements, LNG seems to be substantially more expensive than piped gas from Syma, Egypt, and Iraq. However, the economics o f LNG may change in the near future, as liquefaction and regasificationcosts are expected to fall further. Additionally, new technologies arebeing developed, such as floating LNG regasification vessels.23 These technologies have not been tested in the market, and it remains to be seen whether they are economically viable for relatively small gas markets such as Lebanon. Table 2.3. EstimatedPipedGas andLNGImportPrices - Upto 3 MMCWday available - Another 3 MMCMIday (that is, '''*Dewy ShippingConsultantspublishannualliquefiednaturalgas (LNG) shippingcostsbasedona 135,000 cubic meter vessel. Various studieshavebeenundertakeninLebanonto reviewthe cost involved in importing LNGthroughthe constructionof an LNG import facility. The most recent study was carried out by Kellogg, Brown, and Root (KBR) in September 2000. The study considerstwo sourcesfor LNG: Algeria and Qatar. 23 F. Faber, A. Bliaut. 2002. Floating LNG Solutions-From the Drawing Board to Reality, Shell IntemationalE&P Inc., Shell Global SolutionsIntemationalBV, OffshoreTechnologyConference, Paper 14100. -17- Note. The above pnce estimation o f the various gas supply options IS based on crude oil pnce of US$20/barrel. Source. CEPCO 2004. 2.28 The Lebanese gas market is relatively small and the merit of the constructionof a regasification plant and the import o f LNG will depend on access to pipedgas, the relative costs o f pipedgas to LNG, and future gas demand inLebanon. 2.29 At the moment, the current price structure looks in favor of piped gas, not at least because the constructionof aregasificationterminal would add about US$O.79/mmbtu to the LNG costs. Inthe short term, LNG will not be able to compete with the current gas price contract with Spa, and despite recent cost reductions causedby improved LNG technologies, it i s unlikely that LNGwill be able to compete on a cost basis with Egyptor Iraqi gas inthe mediumterm. 2.30 Considering the current contractual arrangements with Syria, negotiations are under way with Egypt against the predicted gas demand forecasts in Lebanon. Construction of an LNG facility, today, would provide a supply that greatly exceeds demand and, therefore, substantially increasing the cost of gas supply and, thus, power production costs. In the early years, these costs could rise possibly even above the current cost ofpower production. SECURITYOF GASSUPPLY 2.31 Security of gas supply and diversification of energy sources i s crucial for any country, but in particular for economies such as Lebanonthat are entirely dependent on imports to meet its energy needs. Lebanon can mitigate against the risk o f gas supply interruptions mainly by (a) diversifying sources of supply, and (b) maintainingdual fuel capability ofpower plants andother large energy users. 2.32 Intheshortterm, LebanonwillrelyonasinglesourceofnaturalgasfromSyriaviathe GASYLE Pipeline. Inthe mediumterm, the construction of the Arab Gas Pipeline will allow Lebanon to diversify its natural gas sources by importing gas from Egypt, once the Arab Gas Pipeline has been built. Once the Iraqi gas network is interconnected with the Mediterranean, Lebanon will have an additional source of supply. Inaddition, LNGmay become a longer-term supply option, once the economics o fregasification improve andthe Lebanesemarket can absorb these additional quantities of gas. Nevertheless, for the next few years, Lebanonwill rely on single source o fgas supply from 2.33 To mitigate the risk o f supply interruptions, power generators can maintain dual fuel capability. CCGT power plants, such as Bedawwi andZahrani, already have dual fuel capability and can burnnatural 24Lebanon is no exception in this regard. Many countries around the world rely on a single source and pipeline for gas import, including many transition economies in Eastem Europe; Pakistan; some Australian jurisdictions, such as Victoria and South Australia; and others. -18- gas or gas oil. It i s important that both plants stock adequate quantities of natural gas and/or gas oil to assure continuity o fpower generation indifficult circumstances, such as gas supply interruptions. 2.34 Consideringthe current contractual arrangementsand the limitedsize of the Lebanesegas market, Lebanon should follow a phased approachfor the development of gas infrastructurethat closely aligns with the increase in gas demand. In the short to medium term, Lebanon should pursuea pipedgas strategy focusing on usingthe existing contractual arrangementwith Syria and pursuing regional interconnection with its neighboring countries. Once domestic gas demand outgrows gas supply options from neighboring countries, LNG may become an economic viable alternativesourceof supply. 2.35 To increase security of supply, CCGT power plants should keep a strategic stock of gas oil in case of gas supply interruptions. The Government of Lebanon should further investigate appropriate measures to mitigate the risk of supply interruptions, including assessing storage requirement for power generators. -19- 3. The Petroleum Sector and Implications from Increased Gas Demand 3.1 The introduction o f natural gas to Lebanonis likely to have a significant impact on the petroleum market, particularly the demand for fuel and gas oil displaced by the natural gas. Concurrently, a review o f the oil market in Lebanon reveals significant opportunity for efficiency improvements through restructuring and introducing efficient competition in the sector. This section will (a) provide an overview o f the market for oil products in Lebanon; and (b) discuss the current market and pricing structure. THEMARKET OILPRODUCTS FOR 3.2 Today, about 98 percent of Lebanese energy demand i s covered by oil products (gas oil, fuel oil, leaded and unleaded gasoline, kerosene, LPG, and other products). In 2002, Lebanon imported 4.67 milliontons o frefined oil products. 3.3 Oil product importshave amajor impact onthe Lebanesetrade and current account balances, and absorb about 60 percent of annual revenues earned from merchandise exports and tourism. In2002, fuel and gas oil purchasing costs accounted for about 67 percent o f EdL's annual expenditures. In addition, Lebanon's oil product import bill is highly volatile and subject to changes in international oil and subsequentrefined oil product prices, reaching about US$720 million in2002. 3.4 There are two non-operational crude oil pipelines crossing Lebanon, one coming from Saudi Arabia and the other from Iraq. The two existing oil refineries located in Zahrani and Tripoli are out o f operation since the late 1980s, and consequently Lebanon relies on the import of refined oil products to meet industrial, commercial, and domestic energy demand. 3.5 Figure3.1 below providesan overview of oil product imports in 1998and 2002. Gas oil, fuel oil, kerosene, and LPG volumes stayedrelatively stable over the last few years. In2002, Lebanon imported about 1.7 million tons of gas oil, 1.6 million tons of fuel oil, 1.1 million tons of unleaded gas, and about 120,000 tons of kerosene and LPG. Major changes only occurred to gasoline when the government decided to phase out leaded gasoline to reduce air pollution. In 1998, leaded gasoline imports were 1.2 million tons compared with unleaded gasoline imports o f 220 thousand tons. Today, leaded gasoline has been substituted almost fully by unleaded gasoline and coves 93 percent o f the Lebanesegasoline market. -20- Figure3.1. LebaneseOilProductImports, 1998and 2002 (in `000 tons) 1,800 , 1,600 gS u) 1,400 1,200 1998 1,000 2002 e2 1 800 600 400 200 0 Gas Oil FuelOil Gasoline Gasoline Kerosene LPG Leaded (98) Unleaded(90) Note: LPG= liquefiedpetroleumgas. Source:The PetroleumDirectorate, Lebanon, 2003. OILMARKET STRUCTURE AND PETROLEUMPRICING 3.6 Until 1987, the Lebanesegovernment was the sole importer of crude oil andrefined oilproducts. The Zahrani and Tripoli refineries, which are owned by the state-owned Oil Installation Company, continue to import gas and fuel oil for power stations and some industrial users. Inaddition, there are currently eight private companies that import oil products, including gasoline and kerosene to the local market.25 3.7 The two refineriesalso own and operate storage facilities andterminals. Someprivate companies also operate storage facilities, especially for fuel, gas oil, and gasoline. The import of LPG continues to be controlled fully by a monopoly importer who also controls all available LPG storage facilities. 3.8 Distribution of oil products within the country is handled by about 40 companies, and there are some 2,100 service stations throughout Lebanon. 3.9 Despite the relatively large number of companies operating in the import and distribution of oil products, the current market structure does not encourage efficient competition among the companies. The lack of open access to terminals and oil products storage facilities in Lebanon hinders the development o f efficient competition in the market. This i s illustrated in the LPG sector, where import, storage, and distribution are monopolizedby a single company. 3.10 Table 3.1 provides an overview o f the characteristics of the current market structure for oil products in Lebanon, an indication of the number of companies ineach market segment, the process for determination of prices, and an assessment of the efficiency of the existing arrangements. 25Privateimportersof petroleumproductsinclude Wardieh Holding Inc., Total Liban, Coral Oil Company, Medco, Gaz Orient, Hypco, Falcon,andCogico. -21- Table 3.1. CurrentMarket Structurefor OilProductsinLebanon Source. The World Bank 2004. 3.11 The MEW has the sole responsibility for setting and regulating retail prices for all oil products, which are publishedweekly by the ministry. The government's administered prices are basedon average oil product prices in the Mediterranean over the previous four-week period. MEW constantly monitors price developments inthe major markets for petroleumimports to Lebanonand carries out periodic price adjustmentsto reflect changes ininternationaloil prices, cost of importation, and distribution costs. Table 3.2 below sets out the typical retail price structure for oil products inLebanon. Table 3.2. The Structureof OilProductsPrices I +++++- I ImDortcost I Government import duty Fixeddistribution margin Transportation cost Gas station fee I 10percent value added tax Retail Pricefor OilProducts Source: The Petroleum Directorate, Lebanon, 2003. 3.12 Oil product import costs comprise Cost, Insurance, Freight (CIF);26 port handling and storage fees; quality and quantity inspections; and a profit margin for the importer. The profit margin for the importer i s about 1percent of CIF for all oil products except LPG. InNovember 2003, the total import cost was US$200/ton for fuel oil, US$299/ton for gas oil, US$347.5/ton for gasoline (98 Ron), and US$3lO/ton for kerosene. The import margin for LPG i s much higher than for other oil products and, in November 2003, total import costs for LPGwere approximately US$665/ton. 3.13 A government import duty of US$446/ton was levied on gasoline. All other imported oil products were exempt of import duty. A fixed distribution margin i s added, regardless o f actual distribution costs to ensure a minimum income level for distributors/retailers. InNovember 2003, the distribution margin was US$13.4/ton for gasoline products, US$5.6/ton for kerosene and gas oil, and US$5O/ton for LPG. There was no distribution fee levied on fuel oil. A transportation fee (that is, a trucking fee) inthe range of US$6-7.2/ton was added for fuel oil and gasoline inNovember 2003. No transportation fee was leviedon LPG. 3.14 The calculation o f gas station fees is unclear and nontransparent and appears to be negotiated between the MEW, oil importers, distributors/retailers, and industry representatives. InNovember 2003, gas station fees for gasoline were US$71.5/ton, and about US$14-16/ton for other oil products. LPG i s not subject to gas station fees and i s distributedthrough LPG filling centers. A value added tax (VAT) of 10 percent i s applicable to all oil products, levied on the total delivered cost to final consumers, and 26CIF is a trade term requiring the seller of oil products to arrange for the carriage of goods by sea to a port of destination, and provide the buyer with the documents necessary to obtain the goods fromthe carrier. -22- included in the final retail price. Table 3.3 provides the pricing structure of various oil products in Lebanon in 2003 and shows the relatively high taxes on gasoline and distribution and profit margins for LPG. Table3.3. PriceStructurefor PetroleumProducts,November2003 (in US$/ton) -Not available. Note: VAT =value added tax; EN590isjet fuel; 98 Ron, 95 Ron, and 92 Ron are unleaded gasoline. Source: The PetroleumDirectorate, Lebanon, 2003. 3.15 Figure 3.2 below provides a graphic overview of oil product retail prices compared with import costs inLebanoninNovember 2003. It shows that the retail tariff of gasoline products arerelatively high compared with total import costs, reflecting relatively high gas station fees, distribution allowances, or government duties on these products. The retail pricehmport cost ratio for LPG, fuel and gas oil, and kerosene are relatively low, indicating lower fees and taxes. Figure3.2. ComparisonofRetailPricesandImportCostsfor PetroleumProducts (As o fNovember 19,2003) Note: LPG= liquefied petroleum gas. Source: ThePetroleum Directorate, Lebanon, 2003. 3.16 In2002, the Ministryof Finance estimated that the total net revenue realized from government duty and VAT amounted to US$836million, of which the contribution from taxes leviedon gasoline was US$715 million or 85 percent. Government revenues from taxing oil products account for about 20-30 percent o ftotal annual revenues. 3.17 Figure 3.3 below gives a comparison o f the government take on oil product taxes (including government duty and VAT) with import costs for the various oil products in Lebanon. It indicates that -23- gasoline products are taxed highly compared with fuel and gas oil and LPG in Lebanon and provide a major source of income for the government. Government take (import duty and VAT) accounted for between 55 and 58 percent of the final retail price for the various gasoline products, and 9 percent for gas and fuel oil, LPG, and kerosene. Distribution margins were between 6 and 9 percent o f the final retail price inNovember 2003. Figure3.3. Comparisonof ImportCostsandGovernmentTake on OilProducts (As ofNovember 19,2003) 100% 90% 80% 70% 60% Margins & Fees 50% Import Costs 40% GoKmment Take 30% 20% 10% 0% Note: LPG = liquefied petroleum gas. Source: The Petroleum Directorate, Lebanon, 2003. 3.18 Government import duty taxes and VAT on oil products are major sources of revenue for the Lebanese Government, who i s highly dependent on revenues from taxing oil products. Lebanon has adopted the same approach as other countries to levy taxes on petroleum products, particularly gasoline, because of the relatively low responsiveness of the demand to price changes." Hightaxes on gasoline may also encourage customers to switch to gas oil in sectors where gasoline, can be substituted (for example, for automobiles). At the same time, efforts should be made to widen the sources o f government revenue to relieve the highlevels o f petroleum taxes and help the competitiveness o f Lebanese industries and services.28 3.19 By regional standards, taxes on oil products in Lebanon appear to be relatively high but are similar to other oil import-dependent middle-income countries, such as Jordan. The current level of government takehetail price ratios on oil products i s comparable with high-income countries in Western Europe. This i s indicated by Figure 3.4, which shows that government take on various oil products i s comparable with Gemany, the UnitedKingdom, and Spain. The exception is gas oil (diesel) where the 27Economic theory o f taxation states that taxes canbe increased on products and services that have no immediate substitutes, and for which the demand is relatively insensitive to price changes, or have inelastic demand. 28For a detailed discussion on intemational trends on fuel taxes and their implications refer to "Viewpoint, Petroleum Taxes, Trends in Fuel Taxes (and Subsidies) and the Implications" by Robert Bacon, Oil and Gas Policy Division, World Bank. Available at www.worldbank.or3. (September 2001, Viewpoint #240) -24- Lebanese government only charges a 10 percent VAT and no government duty. Incomparison, Western European countries tax gas oil at between 50 and 70 percent of the retail price, and Jordan taxes it at about 30 percent. Increasing taxes on diesel in line with international best practice may provide the Lebanese Government with additional sources of income without distorting the efficiency in the market (assuming a relatively low price elasticity o f diesel Figure3.4. InternationalComparisonof GovernmentTake on OilProducts,2003 4L 70- A 3 40 0 Fuel Oil Source: IntemationalEnergyAgency (IEA) 2003. 3.20 Lebanon currently has 9 importers and about 40 oil product distributors. This i s a large number of companies compared with the size o fthe oil products market. Inaddition, the government continues to be involved in all aspects of the oil products chain. Despite havingnumerous importers and distributors for oil products (except for LPG), no efficient competition exists. Prices for oil products are administered by the government and are not determined by market forces, and importers and distributors earn fixed import and distributionmargins. 3.21 Distributors are allowed to charge relatively highand fixed distribution margins, inparticular for gasoline. It is estimated that the retail margin allowance for gasoline i s approximately 30 percent, which i s muchhigher than the internationalnorm of 8 to 15 percent. The calculation o f gas station fees remains unclear and margms are relatively high, providing significant windfall gains for importers and distributors. 3.22 Under a fixed and administered pricing regime, competition cannot evolve with all its negative effects on efficiency and final prices. The shortcoming of the current pricingregime is best reflected in the case of LPG, where the government does not levy any government tax for social reasons and only charges a 10 percent VAT. However, high fixed distribution and import margins make LPG relatively expensive and less affordable for households, in particular poorer customers. InNovember 2003, LPG retail prices in Lebanonwere US$786.7/ton. As a comparison, retail prices inJordan and Egypt for LPG 29 Higher tax for petroleumproductsin Lebanon comparedwith neighboringcountriesmay encouragesmuggling of certain oil products. For a more detailed discussion refer to "Viewpoint, Abuses in Fuel Markets and How to Protect Consumers and Public Health" by Masami Kojima and Robert Bacon, Oil and Gas Policy Division, World Bank. Available on www.worldbank.org. (September2001, Viewpoint #237). -25- were US$270/ton and US$285/ton over the same time period, re~pectively.~'The main reason for the highLPGprices seemto becausedbythe extremely highimport costs, which include CIF, port handling, storage fees, and the profitmargin for importer. 3.23 Table 3.4 below provides and overview o f internationalLPG prices for 2001, 2002, and the first two quarters o f 2003. The contract and CIF prices do not include port handling and storage fees, profits margms for importers, and other fees. This will have to be added to arrive at the total import costs. In November 2003, total import costs for LPG in Lebanon were about US$665/ton. Compared with the international contracts and CIF prices for LPG, the margin for storage and handling fees and the importer margin inLebanon seeminordinatelyhigh. Table 3.4. InternationalLPGPrices, 2001-2003 Note: CIF = Cost, Insurance,Freight. The chemical compositionofLPG canvery, but it is usuallymade up ofpredominantly - - propaneandbutane. LPG sold can rangefrom virtually purepropaneto purebutane.. (1) New ContractPricemethodw.e.f. October 1994; (2) BPprices; (3) SpotlCIFiCFRquotations refer to largecargo movements to Japan, North West Europe, andU.S.Gulf Coast. Source: World LP Gas Association.2003.StatisticalReview of GlobalLP Gas. 3.24 To increase efficiency and transparency, the Government of Lebanon should restructure the oil products market and reforms the pricing regime to allow for (a) efficient competition in the importation and distribution of oil products to develop; and @) the provision of fair and open access to storage facilities, as well as the introduction of competition inthe import and distribution of LPG. In addition, the Government of Lebanon should gradually reduce its role in the sector, and focus on regulating quality and safety standards for oil products and creating safety nets for vulnerable customer groups in the transition to more efficient market and pricing structures. This would benefit customersthrough lower prices and better service, improve the allocation of energy within the economy, and allow the government to maximize tax revenues. 30 Note that Egypt and Jordan liquefied petroleum gas (LPG) retail prices do not necessarily reflect the economic costs of importing anddistributingLPGandmaybe subsidizedfor socialreasons. -26- 4. The Potential for a RefineryinLebanon 4.1 Lebanonhas two refinery installations, one located inZahrani, inthe south o f the country, with a capacity of 17,500 barrels per day (b/d) and one located inTripoli, inthe north, with a capacity of 35,000 b/d. Military conflicts caused both refineries to cease operation in 1989 and 1992, respectively, and currently bothplants are usedonly as import terminals and storage facilities for refined oil products. 4.2 A recent technical and economic feasibility study on both refineries3' concluded that the rehabilitation and modernization of the Tripoli and Zahrani refineries are not viable because o f the following: 0 Existingprocess units are too obsolete and do not meet the current specification o f petroleum products; 0 The capacity ofthe refineriesis relatively small andthe efficiency comparativelylow; and 0 Rehabilitation costs are almost the same as the construction costs for a newrefinery.32 4.3 The economics for a newrefinery inLebanonare drivenby domestic demand conditions and the characteristics of the international refinery market and, inparticular, the immediate region as a potential source o f import o f oil products. These issues will be discussed inmore detail inthe following sections. DEMAND FORECASTPETROLEUMPRODUCTS FOR 4.4 The Lebanese market for refined oil products is relatively small, and the country is entirely dependent on imports. In2002, Lebanonimportedabout 4.7 milliontons o frefined oil products (94,000 b/d).33 With the introduction of natural gas for power generation, demand for certain oil products is expected to decrease over the coming years, inparticular for heavy distillates such as fuel oil. The growth in the demand for petroleum products, particularly gasoline, is likely to be strongest in the transport sector. 4.5 Table 4.1 below provides demand forecasts for petroleum products in Lebanon for 2015 under two different scenarios. Scenario A i s based on the assumption of a full conversion o f all existing power plants to natural gas, except the Zouk plant, which will continue to run on fuel oil. Scenario B estimates future consumption on the basis o f full conversion o f all power plants to natural gas by 2015. The figures show that under scenario B demand for fuel oil will fall dramatically over the next decade because o f the replacement of this fuel by natural gas for power generation. 4.6 It is predicted that gasoline and kerosene demand will double over the same period fi-om about 1.2 and 0.12 milliontons in2000'toabout 2.5 and 0.26 milliontons in2015, respectively. Gas oil demand i s expected to increaseto about 1.5 million tons by 2015 (under both scenarios) and fuel oil consumption will either decrease from the current level o f 1.5 milliontons to 0.4 milliontons (scenario B) or remain at the same level (scenario A). 31 ChubuElectricPower CompanyLtd. (CEPCO). January 2004. "Preliminary Feasibility StudiesofRefineries." 32 Ithas beenestimatedthat the rehabilitationcosts for the same capacityand specificationof the Tripoli refinery is between US$150-200 million. Rehabilitationcosts for the 17,500 barrels per day (b/d) Zahranirefinery i s estimatedat about US$35 million (CEPCO 2004). 33 One million tons of oil per year i s equivalentto 20,000 b/d. -27- Table 4.1. DemandForecastfor PetroleumProducts,2015 (in `000 tons) -Notavailable. Note: The supply/demandfigures for 2000 are basedon the 2002 Energy Statisticsofnon-OECDcountries publishedby the IEA. Source: CEPCO2004. 4.7 Over the last few years, annual demand for petroleum products in Lebanon has been fluctuating between 4.5 and 4.8 million todyear (90,000-96,000 b/d) and reached 4.5 million tons in 2000. Total demandfor petroleumproducts is estimatedto increaseto 6.4 milliontons (128,000 b/d) under scenario A or around 5.2 million tons (104,000 b/d)under scenario Bby 2015. SUPPLYOF PETROLEUMPRODUCTS 4.8 The potential for a refinery in Lebanon also has to be evaluated considering the supply and demand conditions for petroleum products in the Mediterranean region. The market for refined oil products inthe region i s competitive, with five countries (namely Egypt, Syria, Libya, Saudi Arabia, and Turkey) located inthe geographic vicinity ofLebanonthat have substantial refiningand export capacities. Spare refining capacity in the region will ensure that Lebanon has access to oil products at competitive prices from different sources inthe mediumto long term. 4.9 An overview of refinery and export capacities in 2000 in the immediate region is outlined in Table 4.2 below. It shows that there was substantial export capacity for oil products available inthe East Mediterranean region in 2000. Since then, new refinery capacity has been planned for or constructed in the regionthat further increasedthe export capacity o fmost countries inthe region. -28- Table 4.2. Refining and Export Capacity in the Mediterranean Region, 2000 (`000 tondyear) -Notavailable. Source: CECPO 2004. 4.10 InEgypt, a new andmodem 100,000 b/drefinery(Midor refinery)34came on stream at SidiKrir inApril 2001, boosting Egypt's total refiningcapacity to 704,000 b/d (35 million tondyear). Although the seven existing refineries already had sufficient capacity to meet domestic demand, they produce a large surplus of fuel oil, earmarkedfor export. 4.11 Syria has two refineries at Homs and Banias with capacities of 107,140 b/d and 135,000 b/d, respectively. The S p a n govemment i s planning to upgrade its two existing refineries and increase their production of gas oil and other light products. At present, some 44 percent o f the total refinery output o f 242,140 b/d (12 million tondyear) consists o f fuel oil, while gas oil accounts for around 35 percent and gasoline for less than 12 percent. As a result, the refineries produce a surplus o f more than 1 million tondyear of fuel oil, gasoline, and naphtha, which i s mostly exported. 4.12 The LibyanNational Oil Corporation (NOC) operates five oilrefineries with a combined capacity o f 380,000 b/d (19 million tondyear refining capacity). NOC has a refinery development program that includes rehabilitation, revamping, and modernization. If it i s carried out as planned, the refineries will produce substantial surpluses not only o f gasoline (more than 3.1 million tondyear) and gas oil (1.9 million tons/year), but also ofjet fuel (870,000 tondyear) and fuel oil (530,000 tondyear). The refineries inLibyacanproduce a surplus ofall kindsofpetroleumproducts, andexport the same quantity as that of the domestic demand. 4.13 Saudi Arabia has eight refineries with a total capacity o f 1,820,000 b/d (91 million tondyear), including two export-oriented refineries operated by independent joint ventures in Yanbu (with Mobil) and Jubail (with Shell) that have capacities o f 365,000 b/d (18 million tondyear) and 305,000 b/d (15 million tondyear), respectively. 4.14 Turkey has five oil refineries with a combined capacity o f 688,000 b/d (34 million tondyear). Turkey PetroleumRefinery Corp., Turkey's largest refiner, is planningto invest in six projectsto produce fuels that meet European Union standards. This would mainly increase output o f premiumgasoline and other light products that are currently imported. 4.15 Figure 4.1 below compares the total export capacity o f oil products fkom refineries in Egypt, Syria, Libya, Saudi Arabia, and Turkeyin2000 with the various Lebanesedemandscenarios for 2000 and 2015 (scenario A and B). It shows that there is plenty o f spare capacity in the refinery market in the region for gasoline, fuel and gas oil, and other refinedoil products. 34The Midor refinery was the first plant inthe Middle East to comply with new EuropeanUnion environmentalstandards. This compliancehas shiftedthe Egyptianrefining industry's outputtoward the lighter end ofthe productslate. -29- Figure4.1. ExportCapacityofRefineriesinRegionandLebaneseDemand 25.0 I I 20.0 $m L 0 15.0 Region2000 OLebanon2000 c 0 .- -1 10.0 lEiLebanon2015(A) ElLebanon2015 (B) 5.0 0.0 Gasoline Gas Oil FuelOil Other Products Note: Regionincludes Egypt, Syria, Libya, Saudi Arabia, andTurkey; Other Products Includekerosene, LPG, andothers. Source: World Banktable basedondatafromCEPCO 2003. 4.16 Figure4.2 provides an overview of domestic demand and refining capacity in the Middle East since 1980. The Middle East includes Iran, Iraq, Kuwait, Qatar, Saudi Arabia, UnitedArab Emirates, and other countries in the region. It shows that there i s substantial refining capacity available in the Middle East, which has further increased inthe period 2000 to 2002. It is estimated that total export capacity of the MiddleEastern countries exceeds 100milliontondyear. Figure4.2. RefiningCapacityandDomesticDemandinMiddleEast -.z?- S y - - * - -Domestic 150 .-B' I- - c Consumption I100 s*' 500 1980 1985 1990 1995 2000 2002 Source: BritishPetroleumStatisticalReview2003. FEASIBILITY A NEWOILREFINERYINLEBANON OF 4.17 Lebanon is currently assessingthe economics for the construction of a new oil refinery. In2000, the MEW planned the construction o f a grassroots 150,000 b/d (7.5 million tondyear) refinery inTripoli underthe terms ofabuild-operate-transfer (BOT) contract, andtheseplansare still pending. 4.18 As mentioned earlier, there are currently two crude oil pipelines crossing Lebanon, one coming from Saudi Arabia and the other from Iraqvia Spa. There are plans for reopeningthe Iraqi-Syrian crude oil pipeline and for rehabilitating the 50 lan section stretching from Homs (in Syria) to Tripoli (in Lebanon). The Lebanese Government will need to examine the condition o f the pipeline from Homs in -30- Syria to Tripoli and the feasibility o f returning it to operation. The rehabilitation would provide a significant potential for crude oil export from Iraqto a potentialrefinery inLebanon.35 There seems to be an opportunity for the Lebanese government to start a dialogue with Syria and Iraq to explore that potential.36 The optimal capacity o f a modem refinery for Lebanon is estimated to be 100,000 bld and would cost approximately US$670 milli~n.~' Domestic demand forecasts for LPG, gas oil, kerosene, and gasoline inthe near future are relatively highand could be satisfied with the supply from a new refinery in Lebanon. Future demand for petroleum products has been estimated between 104,000 bld and 130,000 bldby 2015. 4.19 Although there i s a market for refined products in Lebanon, it is not obvious that a domestic refinery would be the most competitive means to meet the market demand. The economics for buildinga new refinery inLebanoninthe short term look challenging because of the following: 0 Lebanon does not have indigenous oil reserves and, without its own source of crude oil, it will be fully dependent on the import of crude oil at prices determined on international petroleum markets. This will deprive the country from any comparative advantage of supplying a local refinery withrelatively cheap crude oil. 0 Any new refinery in Lebanon will produce fuel oil and other oil products that have to find a domestic and internationalmarket. There seems to be a limitedmarket potential to export fuel oil and other oil products that are not used locally, considering the excess capacity inthe region.38 0 International petroleumproduct markets are highly competitive, and there are multiplesources of supply to cover the demand for oil products inLebanon. 0 Finally, considering the dependence on crude oil imports for operating a domestic refinery, it i s unlikely that the construction of a new refinery will increase the security of energy supply of Lebanon, the keyobjective for the MEW for constructing the refinery. 4.20 Inthelongerterm, the resumption ofexports fromIraqandthe availability ofcrude oilfromother locations in the Middle East could substantially improve the potential for a new refinery in Lebanon. Crude oil may become available at an attractive price, and the economics o f a refinery located at the export end of a crude oil export route look comparatively better than a refinery that depends on marine imports. 4.21 The decision of whether, and when, to enter the refining market in Lebanonwill have to be assessed by the private sector, which will have to finance such a construction and take on the commercial risk of operation. The Government should not engage directly in the financing, ownership, and operation of a new refinery in Lebanon, but should act as a business developer only to facilitate investment. 35This export route couldpotentiallyreplace some of the Iraqi exports throughTurkey and avoid the congestion of the Marmara Straitinthe Black Sea. 36 At the same time, the potential for Saudi crude oil exports through Zahrani via the Golan Heights on the IsraeULebanon borders is less likely and would depend on a wider political settlement inthe region. 37CEPCO2004. 38 The proposed substitution of fuel oil by gas means that the refinery has to have enhanced conversioncapability to reduce outputof fuel oil. -31- 5. The Gas Market Structure GOVERNMENT OBJECTIVE 5.1 The structure o f the gas market has major implications on the attractiveness for private investors to participate in the market and provide capital.39 The Lebanese gas market i s at an early stage o f development and the country has a unique opportunity to put inplace a market structure that will attract private investors and will allow for efficient gas and interfuel competitionto develop. 5.2 The Govemment of Lebanon set out its key objectives for the sector in a recently published document that focuses on the following:40 0 Encouragingcompetitioninthe gas sector; 0 Promoting customer choice and safeguard healthand safety; 0 Establishingan efficient legal and regulatory framework; 0 Implementing efficient pricing regimes that allow companies to charge tariffs that reflect prudentlyincurredcosts; 0 Allowing for privateparticipation inall parts of the gas chain; 0 Monitoringand encouraging performance improvements of state-owned industries; and 0 Promoting energy efficiency and environmentalissues. 5.3 The gas market inLebanon initially will be small. However, there is strong potential inLebanon for increased gas usage and supply sources, but that depends on the development o f domestic gas networks and interconnection to regional networks. 5.4 This section is structured as follows: (a) overview of initial gas market structure in Lebanon under the GASYLE Pipeline; (b) discussion on the impact o f the construction of the proposed National Pipeline; (c) detailed discussion on key principles for establishing a competitive market; and (d) overview o f envisaged future market structure. 5.5 Section 6 presents the recommended legal and regulatory framework for implementing the proposed market structure and key market principles. It i s important to stress that the recommended market structure and policies to achieve competition take a longer-term view and assume that gas demand will outgrow the supply available from the current agreement with Syria. While the proposed structure may seem sophisticated for a single pipeline runningfrom Homs to Bedawwi, the potential construction of the National Pipeline (and other future networks) will increase the number of players in the market. This increase will require the establishment of a market structure that allows competition to develop and i s in accordancewith the government's vision o f a future competitive energy market inLebanon. INITIAL MARKET STRUCTURE 5.6 The gas chain generally consists of four key activities, namely (a) domestic gas production and import, (b) transmission and distribution, (c) shippingand supply, and (d) gas consumption. 39 Inthis context: the World Bankhas recentlypublisheda paper on the "Public and Private Sector Rolesin the Supplyof Gas Services: OperationalGuidelines for WorldBank Group Staff," by FranzGemer and Bent Svensson, April 2004. 40 MEW, Lebanese Republic.October 2003. "The RoleofNaturalGas inEdLPowerPlants." -32- DomesticGas ProductionandImport 5.7 There are n o existing on- or offshore gas production facilities in Lebanon. Although primary results indicate that there may be some interesting leads, Lebanon will continue to depend heavily on natural gas imports for the foreseeable future. A gas importer is an entity that buys natural gas upstream from a producer and sells it to shippers or suppliers in the downstream market. When the GASYLE Pipeline is completed, the MEW will initially be the sole gas imp~rter.~' Transmission andDistribution 5.8 Lebanon is inthe process o f buildingits initial gas infrastructure, a 32 km transmission pipeline from S p a (GASYLE Pipeline). The pipeline is expectedto be operational inthe second halfo f 2004. 5.9 There are currently no plans to build a distribution network. However, it i s envisaged that the development o f a transmission network can potentially lead to a market that can supply residential customers through a distribution network inthe future, especially inthe Beirut area. ShippingandSupply 5.10 A gas shipper is an entity that arranges with the gas transporter for the conveyance o f gas on the transporter's pipeline network. Gas supply means activities relating to the purchase o f gas from a producer, gas importer or shipper, and sale o fthat gas to end-~sers.~~ 5.1 1 There are currently no independent shippers or suppliers operating inLebanon, but it is envisaged that those activities will emerge in a restructured and liberalized gas market. Under the current arrangements, MEW i s the sole shipper and supplier o f gas, given that initially the Bedawwi power station i s the only gas customer. To date, there is only one contractual arrangement inplace, namely the gas import agreement between MEW and the Govemment o f Syria. There are no contracts in place between the MEW and EdL (the owner of Bedawwipower station) either for the supply o f gas or between the Oil InstallationCompany and EdL for the gas transportation services. Gas Consumption 5.12 Future gas consumption in Lebanon will be driven by a few "anchor" customers, mainly the electricity generators. 5.13 Under the contractual arrangements that are inplace for the GASYLE Pipeline, the Lebanese gas market will be fully vertically integrated and government owned, with MEW acting as the single buyer (sole gas importer) and seller (sole shipper and supplier), network owner and operator (through Oil Installation Company), and consumer (through the state-owned EdL). Figure 5.1 below provides a graphic overview o f the gas market players and current structure inLebanon once the GASYLE Pipeline is operational. 41The gas supply contractwas signedbetweenPSC andthe MEW inDecember 2001. 42 Inprinciple, a supplier should be able to buy natural gas directly from a gas importer or shpper. A supplier could buy gas directly from a producer, arrange for shipment through pipeline network, and sell it to final customers. Undersucha scenario a supplier would, by definition, also bea shipper. -33- Figure 5.1. Gas Market Structure for the GASYLE Pipeline I I Gasimport II Transmission Shipping& Supply Consumption MEW Oil Installationcompany(MEW) II MEW MEW I I Note: MEW = Ministry of EnergyandWater. Source: World Bank, 2004 THENATIONAL PIPELINEAND GASMARKET REFORM 5.14 The Lebanese Government is currently considering an extension of the GASYLEPipeline from the north to the south (about 130 km) to allow for gas to be suppliedto the several power plants alongthe coast and potentially to non-power sector consumers. It i s envisaged that the construction o f this pipeline (the National Pipeline) will be carried out by a private investor on a build-own-operate-transfer (BOOT) basis.43 5.15 Figure 5.2 below provides a graphic overview of the gas market structure as it is currently envisaged by the government after both the GASYLE Pipeline and the National Pipeline have been constructed and interconnected. Figure 5.2. Envisaged Market Structure with GASYLE and National Pipelines GasTransmission Shipping& Supply Oil InstallationCompany MEWBOOT I Note: MEW = Ministryof EnergyandWater; BOOT=build-own-operate-transfer;EdL= Electricit6du Liban. Source: World Bank, 2004. 5.16 At this stage, decisions remain to be taken regarding whether the National Pipeline will be constructed, who i s going to own and operate the pipelinenetwork inLebanon, and who will be involved in the import and supply of gas. Therefore, there are no contracts in place for any of these aspects. However, it appears that the government would like to create a market structure that allows competition to develop and attracts private investors into the gas market. KEY PRINCIPLESFORESTABLISHING EFFICIENT GASMARKETSTRUCTURE 5.17 To allow for new entrants into the market, increase efficient private sector participation, and gradually develop competition, the following keyprincipleshave to be implementedinthe gas market: 0 Unbundle competitive activities from monopoly activities 0 Separate contractual arrangements 43The Govemment of Lebanonhas engaged an adviser to assist inthe technicalevaluationof this pipeline (including evaluation of on- versus offshorefacilities) and to assist in securing a private investor.No contractualarrangementshave been signed to date for the construction, operation, and management of the NationalPipeline. -34- Open accessto transportation network UnbundleCompetitiveActivitiesfromMonopolyActivities 5.18 To introduce effective competition inthe market and encourage private participation, an industry structure that allows gas importers, shippers, and suppliers to compete on a level playing field with each other has to develop. Hence, the introduction o f effective competition inthe gas sector has to ensure that competition is not undermined by anticompetitive behavior. Potentially, vertically integrated gas businesses, with the incumbent operating in both competitive import and supply businesses and transportation activities, are likely to restrict or slow the development of competition.44 5.19 Anticompetitive conduct occurs when the monopoly part of the vertically integrated business (that is, transmission and distribution) behaves in a way that gives its competitive business units (that is, supply and shippingand import) an advantage over its competitors. 5.20 Unbundling4'seeks to prevent this type of anticompetitive behavior, andcanbe achieved through the isolation o f the monopoly elements of a vertically integrated business from the competitive elements, thereby reducing bothincentives and opportunities for anticompetitive conduct (see Figure 5.3 below). Figure5.3. Unbundlingof CompetitiveandMonopolyActivities I I Source: World Bank, 2004. 5.21 Inprinciple, there are four types of separationor unbundlingmethods, includingthe following: Financial separation e Physical separation 0 Legal separation 0 Ownership separation 5.22 Financial separation is effective at the accounting level and requires separate accounts for the monopoly and competitive activities o f the gas chain. The major objective o f financial separation i s to enable the company and the regulator to identifythe costs o f each business activity and report these costs inatransparentway to avoidc~st-shifting~~amongbusiness activities inamorecompetitive market. 5.23 Physical separation i s a more stringent form of unbundling. Inaddition to providing separate accounts, physical separationrequires having separateoffices inseparate buildings, or, ifwithinthe same building, by locating offices on separate floors and providing restricted access o f staff and restricting 44A transporter operating inmonopolyand competitive supply and shipping activities is also referred to as a transporter with a "merchant" function. Incontrast, atransporterwith a"non-merchant'' function only focuses on transportationactivities. 45The term"ring-fencing" i s also often usedto describethe separationandunbundlingofmonopolyfromcompetitiveactivities. 46 In a competitive market, cost-shifting occurs where a utility attributes the cost of providing its unregulatedservice to a regulated service. The effect is that the utility is able to provide its unregulatedservice more cheaply, and consumers of the regulated service must bear higher costs. In addition, the utility gains an unfair advantage over its competitors in the unregulatedpart of its business. -35- information sharing. A business unit within a utilitythat is physically separatedi s likely to have separate management for that unit. 5.24 Legal separation incorporates all the characteristics of financial and physical separation. However, it is a stricter version of physical separation requiringthe formation of different, independent business activities. The advantage of this form of separationis that it facilitates a clear audit trail, allows for greater transparency, and promotes independentbusiness activities of the legally separatedentity. 5.25 The most stringent form o f unbundling involves "divesture" of a network business activity implying a new ownership arrangement independent of competitive gas activities. In the Lebanese context, this would require the transfer of ownership of the GASYLE Pipeline to an entity that i s prohibitedto engage inany competitive gas activity, namely gas import, shipping, and supply. 5.26 The Governmentof Lebanonshould developa gas marketthat will unbundlethe monopoly transportationactivities (namely the GASYLE Pipeline, and potentiallythe NationalPipelineand any other infrastructurebeing built in the future) from the potentially competitive gas import, shipping, and supply activities?' At a minimum, financialseparation (that is, separate accounts) is recommended. This is a prerequisite for economic regulationof monopoly networkbusinessesto work. Separate Contractual Arrangements 5.27 Vertical separation o f monopoly from competitive gas activities also requires contractual separation of the "commodity" gas from the "activity" of transporting gas on the pipelinenetwork. 5.28 Liberalized gas markets require a clear separation between commodity contracts and transportation contracts. Commodity contracts are defined as contracts between parties for the purchase and sale of the commodity natural gas. Transportation contracts are contracts for the conveyance o f gas on a pipeline network. Without separate contractual arrangements, it i s not possible to effectively unbundlethe potentiallycompetitive fromthe naturalmonopoly element ofthe gas chain. 5.29 Before introducing competition, vertically integrated gas companies around the world had a tendency to sell natural gas to final consumers at bundledprices, which incorporate the commodity gas and the transportation of gas into a single tariff. As a consequence, customers were unable to distinguish between the cost of the commodity gas and the cost o f the transportation service. Separation through contractual arrangementsnot only allows customers to gain a better understanding o f the costs involved in buying and transporting gas, but also forces network owners to operate the transportation business as a separate cost center.48 5.30 Figure 5.4 below provides a graphic overview o f a contractual separation o f commodity and transportation contracts that i s necessaryfor introducing efficient competition. 47Inthis context, the Lebanese Law on Regulationofthe Electricity Sector states inArticle 3 that generation, transmission, and distribution shall be functionally, administratively, and financially independent from one another. However, the law also states that independence should not prevent a company from carrying out more than one of the above activities. This indicates a full ownership separation (Le., divestment) o f generation, and networkingis not envisaged at this stage for the Lebanese electricity sector. This is likely to cause a conflict o f interest for a network owner, who also operates a generation plant, inthe dispatch schedules o fthe generation plant. 48Customers in competitive markets can still purchase both commodity gas and the transportation service from marketers under one contract. A marketer, in this context, is a person who offers a bundled service to a customer but contracts separately for commodity gas and transportation of gas with producers and the transporter. -36- Figure 5.4. Separation of Contractual Arrangements Source: World Bank, 2004. 5.3 1 Currently, there are no requirements in Lebanon to offer separate commodity and transportation contracts in the downstream gas market. EdL does not have a separate transportation contract with the Oil Installation Company for the transport of the gas or a separate commodity contract with MEW for the gas. 5.32 To enable a competitive market to evolve, separate contractsfor transportation and for the commodity gas are recommended. This will not only allow customers to compare gas and transportation tariffs, but will also enable new entrants (such as gas importers, shippers, and suppliers) to arrange for separatetransportationcontractsto sell gas directlyto customers. Open Access to Transportation Network 5.33 Without access to the gas transportation network, there cannot be competition in any part o f the gas chain. Therefore, open, nondiscriminatory access to the transmission (and distribution) network i s a prerequisite for the development of a dynamic downstream gas sector. 5.34 For competition to develop in the import, supply, and shipping o f gas, it i s paramount that the transporter follows clear and transparent rules of how third parties can access its network. This is of particular importance in markets where transportation i s not fully divested from other activities. To achieve competition, access to the gas transportation network has to be open and nondiscriminatory. 5.35 Openness ensures that the transportation network is open to parties other than the transporter. Nondiscrimination i s an obligation on part of the transporter not to favor any party for the usage of transportation network. 5.36 There are two ways of arranging access to the transportation network: negotiated third-party access (NTPA) and regulated third-party access (RTPA). Figure 5.5 sets out those options graphically. -37- Figure 5.5. Options for Accessing Transportation Network I I Source: World Bank, 2004. 5.37 Incase of "PA, the owner and operator o f the transportation network negotiates terms and conditions with a potential shipper(s) and/or supplier(s) to convey gas on its transportation network. Ifthe transporter is a fully unbundled company whose only responsibility i s to transport gas on its network, it has an incentive to increase usage of its pipeline by third parties to maximize its revenues. Beinga sole transportation company, the transporter does not have any conflict o f interest, and that negotiation o f access i s likelyto leadto optimal outcomes. 5.38 The situation i s different in the case of gas markets that continue to be vertically integrated (or not fully unbundled) such as the Lebanese gas market (and, in fact, most gas markets in industrial and developing countries around the world). Insuch market environments, where the gas transporter i s also involved in the upstream purchase of gas, gas import, and supply activities, NTPA does not lead to efficient outcomes. The transporter has a conflict of interest in allowing third parties to access its pipeline, as that would allow other parties to compete inthe supply o f gas to final customers. 5.39 Unless the Government of Lebanon decides to prohibit gas transportation businesses to engage in any competitiveactivity (that is, gas import, shipping, and supply), the adoption of RTPA rules is recommendedfor all existing and new pipeline developments. This will ensure that third parties (that is, gas importers, shippers, and suppliers) can enter the Lebanesemarket and sell gas to large consumers (achieving wholesale competition) and in the future, when a distribution network may have been developed, to smaller customers (achieving retail competition) at a level playingfield. A FUTURE COMPETITIVEGASMARKET STRUCTURE 5.40 Inthe short to mediumterm, it is likely that the Lebanesegas market will be dominatedby a few players. MEW (andor BOOT) as the main gas importer, the BOOT (and/or Oil Installation Company) as owner and operator of the gas network, and a few anchor customers, including Bedawwi and Zahrani power stations. 5.4 1 The Government ofLebanonenvisagesthat the demand for gas will increase substantially beyond the initial gas import contract with the Government o f Syria. Lebanon will have to identify additional sources of gas supply to meet hture demand. 5.42 To meet the need for increased infrastructure and create efficient competition, the govemment will need to engage the private sector, as planned for in the case o f the National Pipeline, to allow for supply ofgas from additional sources. 5.43 Creating efficient competition and attracting private capital will require competitive market structures (that is, separation o f contractual arrangements, creating RTPA and unbundling competitive -38- from monopoly activities) and the development o f an efficient regulatory framework that reduces regulatory risk and allows investors to recover their investment capital and make a reasonable rate o f return. 5.44 It is envisaged that in a future competitive gas market in Lebanon the following elements will exist: e Multiple importers o f natural gas fkom multiple sources (including Syria, Egypt, Iraq, Lebanon, and potentially LNG); 0 Independent gas transportation and possibly distribution business(es) that own, operate, and maintain the gas network; e Multiple shippers and suppliers that are eligible to supply customers in Lebanon and that have third-party access to the pipeline network; and 0 Industrial and possibly domestic consumers that have the freedom to choose their own gas supplier. 5.45 Figure 5.6 presents the structure and the physical gas flows envisaged to enable a hture competitive gas market in Lebanon, with multiple sources o f gas (for example, import, LNG if prices become more competitive, and domestic production if the seismic surveys prove there are gas reserves), independent transmission, and possibly distribution network business(es) and various types of final consumers. This figure also illustrates that all costumers are eligible to choose their owns suppliers. Figure 5.6. The Future Gas Market Structure in Lebanon PhysicalGas Flows ContractualArrangements Note: LNG= liquefiednaturalgas. Source: World Bank2004. -39- 6. Legal and Regulatory Framework for the Gas Sector THELEGAL FRAMEWORK 6.1 To attract private capital in the gas sector and establish a market structure that allows efficient competition to develop, a comprehensive legal and regulatory framework will need to be established. This section discusses the importance o f establishing primary legislation that sets out the general principles and guidelines that govem the gas sector inLebanon and discusses key aspects for establishing an efficient regulatory framework. A list o f existing legislation that affect the gas sector and a Model Gas Law are attached as Annex 6 and 7 o f this report, respectively. The ImportanceofEstablishinga NaturalGas Law 6.2 It is a widely accepted view that, if gas market reform and regulation are to be effective and command the confidence o f all parties, it i s imperative that they are founded on a firm legal basis, which requires the development o fprimary legislation (that is, a gas law for Lebanon). MODEL LAWGAS 6.3 The Model Gas Law (Annex 7) i s the principal recommended instrument for implementing downstream gas regulation. It is based on intemational experience and practice in downstream gas legslation, and gives effect to the recommendations contained inthis study. 6.4 The Model Gas Law uses concepts contained in laws from a number o f other nations, including Argentina, Brazil, Canada, Mexico, the United Kingdom, and the United States o f America. The laws reflect intemational best practices in terms, for example, o f the structure and functioning o f the regulator and the nature and use o f the licensing system that is the principal instrument for regulatory implementation. The Model Gas Law is an aid to acquire a better understanding o f the recommendations inthis studyand give effectto the recommendationsmadehere. 6.5 The drafting style o f the Model Gas Law conforms to the style used in some o f the jurisdictions on which it was based. No attempt was made to follow Lebanese norms for legislative drafting. It i s expected that the government will draft a gas law according to appropriate Lebanese style. In that respect, any suggested provisions are shown more as a checklist than as actual drafting suggestions to the govemment. 6.6 Economic regulation i s the focus o f the Model Gas Law (as contemplated by section 6.20), not technical regulation (such as safety, environmental matters, and so on). 6.7 The Model Gas Law is designed to separate gas policymaking from gas regulation as contemplated in section 6.10, and i s designed to implement the gas market strategy recommended in section 5.15 andrequiredfor a competitive gas market, involvingthe following: 0 Unbundlingcompetitiveactivities from monopoly activities; Separating contractual arrangements; and -40- 0 Allowing open access to the transportation network. 6.8 The Model Gas Law achievesthese objectives inthe following methods: 0 Unbundlingis achievedthrough financial separation, as describedinsection 5.20; 0 Contractual separation, as contemplated insection 5.26, i s achieved byrequiring separate transportation contracts and commodity contracts; and Openaccess is achieved through RTPA as described insection 5.34. 6.9 The Model Gas Law contemplates that the policy function of the Minister will be separate from the regulatory functions of the Regulator. The Minister will provide general policy guidance to the Regulator, which is to be taken into account by the Regulator. However, the Ministrydoes not have the right or power to intervene inany specific issue or matter that may bebroughtbeforethe Regulator. 6.10 This study contemplatesthe establishment of ajoint gas and electricity regulator, or a multisector regulator. The Model Gas Law i s consistent with this recommendation inestablishing that the Regulator be one andthe same withthe regulator established underthe Law onElectricity Sector Organization. It is recommended that the Regulator be an agency that i s independent and applies principles o f equality, openness, accountability, transparency, and nondiscrimination. The Regulator would exercise its functions by means of granting, modifying, and revoking licenses; malung directions and decrees; conducting inquiries; issuing orders requiring compliance with applicable law and licenses; assess penalties; and makingits own procedural and other rules regardingmatters within itsjurisdiction. 6.11 The Model Gas Law suggests that decisions of the Regulator are final, except for appeals on questions of law, jurisdiction, or bias on the part of a member o f the Regulator who participated in the decision, or o f compliance with the rules ofproceduralfairness. 6.12 The funding o f the Regulator i s a matter for consideration by the government. The Model Gas Law adopts an approach that i s now widely used inother jurisdictions, where all or a portion o f the costs of the Regulator are recovered through fees, levies, or charges onregulated enterprises. 6.13 The Model Gas Law adopts a licensing approach to regulation of the gas industry. This is consistent with the practice in a wide range o f jurisdictions, where the right to conduct typical industry activities (such as conducting transmission or distribution on a pipeline, or the supply o f gas) are authorized by means of a license issued by the Regulator. It is contemplated that the Regulator would create model licenses, for which an applicant would then apply, with variations from the model as appropriate to the circumstances. The Model Gas Law suggests that these model licenses would contain provisions requiring open access to pipelines in accordance with access rules established by the Regulator, and require the Regulator to establish, review, and revise transportation tariffs between pipeline enterprises and users, and supply tariffs where the pipeline enterprise is the gas supplier. 6.14 The Model Gas Law i s designed to be suitable for Lebanon's future market as contemplated by the government and this report, which involved multiple supply sources, multiple pipelines, multiple market sectors, and buyers. Inthe short term, however, there will be only one pipe, one buyer, and one seller, all of them beingthe government or government-controlled corporations such as EdL. This means that the draft law creates a rather significant regulatory structure and process for the initial situation, certainly greater than what i s requiredfor this initial period. 6.15 I t is recommendedthat the Model Gas Law nevertheless be adopted, because failure to do so will likely be a hurdle to creating the competitive structure with private participation that is contemplated by the government for the near future and recommended by this study. Private -41- investors will need to have comfort that there will be a suitable regulatory system before they invest; the draft law allows them to see this. It also reduces the risk that a more developed market structure will not be dominated by the initial monopoly participant, who would naturally seek to restrict competition and protect its vested interests inavoiding competition. Also, the complexity o f the draft law inthe short term for the single pipeline, single supplier, single shipper, and single buyer situation i s not that significant, as the four licenses that would be required under the Model Gas Law could be granted in a single instrument. The regulatory agency recommended by this report would be a joint gas and electricity or multisector regulator, whose gas functions would largely lie dormant before the expected development o f a more active gas market (with multiple suppliers, pipelines, andbuyers). 6.16 LNG has been included in the Model Gas Law as a potential supply source, but all LNG references are shown in square brackets, reflecting its tentative nature. This identifies how LNG would be included in the Model Gas Law if the government decides to include in the legislation the details required to allow for an LNG supply in Lebanon. As noted elsewhere in this report, it i s considered unlikely that LNG prices can be competitive with other gas supply prices in Lebanon in the short to medium term, so the inclusion o f LNG i s not necessarily required at this time or recommended. 6.17 The Government of Lebanon should adopt legislation similar in function to the Model Gas Law, to allow economic regulationof the downstream gas industry. THEREGULATORY FRAMEWORK The Concept of Regulation 6.18 The development o f a competitive gas market structure and private participation inthe Lebanese gas market has to be accompanied by establishing an efficient regulatory framework, often referredto as economic regu~ation.~' 6.19 Economic regulation is more than just setting technical and safety standards and guidelines for the gas industry. Economic regulation refers to ongoing price regulation o f monopoly activities (that is, transmission and distribution) and potentially competitive activities (that is, retail and supply), until effective competition has been established. 6.20 To establish a comprehensive framework for economic regulation in Lebanon the following has to be addressed, namely: 0 How to separate policy from regulation, 0 who shallregulate, and 0 How shall regulationbe conducted. SEPARATIONOF GASPOLICY AND REGULATION 6.21 A key requirement for establishing an efficient regulatory framework in Lebanon is to clearly separate powers inthe gas industrybetween agencies and institutions dealing with matters o f policy and regulation. 49Theterm economic regulation is widely used in the context of regulation of monopoly network industries (i.e., telecommunication, natural gas, electricity, and water). -42- 6.22 The gas industry is a capital-intensive industry, where companies have to make long-term investment in the network, and tariffs have to ensure that companies can recover those investments and make a reasonable rate o f return. Hence, economic regulation should be carried out independently to ensure that political considerations do not influence the operation and financial viability o f the industryin the longterm. 6.23 Inaddition, inmany emerging markets vertically integrated state-owned entities often cany out regulatory functions. Removal of all policymalung and regulatory functions from industryparticipants is crucial interms o f avoiding potential conflicts of interests and allowing a level playing field for private investment andthe introductionof competition. 6.24 Table 6.1 below summarizes separate functions and responsibilities o f the various entities that are involvedinthe downstream gas sector inLebanon. Table 6.1. Key Functions of Gas Market Participants Source: World Bank, 2004 6.25 The roles and responsibilitiesof the LebaneseGovernment and the proposedregulator for the downstreamgas sector shouldbe clearly definedinprimary legislation(that is, the gas law) that allowsfor the developmentof an efficient regulatoryregime for the gas sector. WHO SHALLREGULATE THE GASINDUSTRY? 6.26 There are a'set o f criteria that can be usedto identifythe best option for setting up a regulator in Lebanon, including the following: e Independence from political interference, e Hightransparency ofregulatoryprocesses, e Minimumregulatoryriskfor gas companies, e Attractiveness to private investors, and e Feasibility and practicality of establishing institutions. 6.27 There are basically three institutional options for setting up a gas regulator inLebanon, including the following: e As part ofan existing government institution, e As a newlycreatedinstitution, or e As ajoint energy (or multisector) regulator. -43- 6.28 Establishing the gas regulator as part of an existing government institution (such as the MEW) does not provide the necessary independence o f regulation from policy and increases regulatory risk. Most developed gas markets around the world have avoided this type of arrangement. Although the creation of a new independent regulatory institution is a widely adopted practice around the world, it mightnot be practical and economical inthe Lebanese ~ontext.~'This is mainly because of the relative small size of the gas market, the costs for setting up and running an independent gas regulator, the convergence o f gas and electricity markets in Lebanon, and the creation of National Electricity Regulatory Authority." 6.29 Consideringthe convergence of the gas and electricity market in Lebanon and the relatively small size of the gas sector, a joint gas and electricity (or a multisector) regulator should be established. HOW SHALL REGULATIONBE CONDUCTED? 6.30 The question of how regulation is conducted relates to a variety of aspects o fregulation, ranging from the nature and types of the detailed rules applied to regulated businessesto the regulatory processes andprocedures followed by the regulatory agency. 6.3 1 Economic regulation consists of the following key responsibilities, namely: 0 Grantingand enforcing licenses/concessions; 0 Tariff regulation; a Network planning and investment approval; 0 Quality of supply regulation; 0 Technical regulation; and a Handling customer complaints. 6.32 The regulatory authority must exert control over regulatedgas companies. Licenses are common instrumentsto act as a regulatory contract, setting out the regulatory rules and the relationship between the regulator and the regulated company. At the same time, a license gives the regulated company assurance that the rules ofthe regulatory game cannot easily be changed. 6.33 A key function of any regulatory regime is tariff control and supervision. The regulatory authority will have to develop detailed tariffreview policies andprocedures. 6.34 The regulatory authority must have a role in the planning and investment approval process for greenfield gas pipeline developments. Active involvement and approval procedures and regulations will provide the regulator with some control over capital investment that form the major cost component o f a gas network business. That supervisory and approval role i s crucial as regulated companies should be allowed to recover their prudently incurred investment costs through regulated transportation tariffs. It 50Joint gas and electricityregulatorsare common in energy markets around the world. One major reason for establishingjoint regulators is that gas andelectricitymarketstend to convergeas naturalgas becomes amajor fuel source for power generation. The convergenceof gas and electricity marketswas the mainreasonfor the merger of Offer (electricity) and Ofgas(gas) inthe United Kingdom in 1999 to form Ofgem (The Office for Gas and Electricity Markets). Other joint gas and electricity regulators include FERC (Federal Energy Regulatory Commission) in the United States and the EMA (Energy Market Authority) inSingaporethat hasbeen recentlyestablished. 51Refer to Article 7 andArticle 8 of Law No.462 on the creationandmanagementofthe Authority. -44- will be the responsibility o f the regulator to develop a process that determines whether new capital investments are prudentlyincurred. 6.35 Inregulating tariffs, the regulator must not only investigate the costs of providing a regulated service but also the quality o f the services provided. Service quality includes gas quality (for example, calorific value), gas pressure, number of supply interruptions, and others. 6.36 The regulator should have a key role in the technical regulation of the Lebanese gas sector. Technical regulation responsibilities include specifying and monitoring the technical principles of operating the gas network to ensure environmental, health, and safety standards. Technical principles should be set out in relevant regulations and industry codes governing the operation of the gas transportation network. 6.37 One o f the main functions of economic regulation i s to protect the interest of gas consumers. An important part o f customer protection i s overseeing the handling o f customer complaints. The regulator will want to ensure that complaints are handled effectively and resolved quickly, because it as an important aspect of service quality. 6.38 Within the role and responsibility of the designated regulatory agency, it should develop relevantregulationsfor the gas market inLebanonin consultationwith relevant stakeholders. -45- 7. Benefits of IntroducingNatural Gas 7.1 Lebanon can expect significantbenefits from the introductionofnatural gas. Keybenefits include the cost reduction of power production, which will have positive effects on the financial position o f EdL and the country's trade and current account balances and environmental benefits that are associatedwith switching from oil to the relatively cleaner fuel, natural gas. BENEFITSTO THE POWERSECTOR 7.2 In2002, power generation accounted for 54 percent of energy consumption inLebanonwith 43 percent o f energy used by EdL, the national electricity utility, and an additional 11 percent by private generators. The two main energy sources for power generation are gas oil (that is, diesel) and fuel oil. In 2002,75 percent o f fuel oil imported inLebanonwas usedby EdL.Private generatorsS2mostly runon gas oil. EdL and private power generators consume about 87 percent of imported gas and fuel oil, respectively. Table 7.1 below provides an overview of fuel consumption volumes of EdL's generators in 2002. Table 7.1. FuelConsumptionandType of FuelUsedbyEdL Power Plants,2002 Source:MEW, 2003 7.3 The conversion of power stations to natural gas from fuel and gas oil would decrease oil product consumption in near future.j3 The substitution of oil products imports by natural gas i s likely to have positive impacts on the trade and current account balance and the financial viability of the electricity sector and will facilitate the restructuring o f EdL. The MEW has identified three major categories for cost savings inthe Lebanese generation market when switching to natural gas: 0 Fuelcosts; 0 Operatingand maintenance costs; and 0 Environmental costs (negative externalities and carbon credits).j4 7.4 Fuel costs are the main cost component of power generation and switching to natural gas will substantially reduce those costs with positive effects on generation costs and final electricity tariffs. MEW estimated that, basedon differentcrude oil prices, annual fuel cost savings for power generatorsare betweenUS$90to 140million. 52 Self-generation is provided by diesel generators supplying a range o f commercial, industrial, and agricultural as well as residential customers. Lebanon has a high ownership rate for small generation sets and, although there are no accurate data available, some estimate self-generation to be around 15 percent o f the total supply. The relative large percentage o f self- generation is caused by lack o f electricity infrastructure and frequent power brown- and blackouts. The govemment expects that the share o fprivate generation will decrease as EdL becomes more efficient and as network is rehabilitated and extended. 53The transportation sector primarily relies on import o fdiesel and gasoline, which are difficult to substitute. 54MEW, Lebanese Republic. October 2003. "Role o fNaturalGasinEdLPower Plants." -46- Table 7.2. Estimated Annual SavingsUsingNatural Gas for Power Generation BrentOil Price(US$/barrel) -., AnnualSavings(US%million) ,*.. 22 96.7 24 100.0 26 106.7 28 111.5 30 139.5 steam 7.5 MEW also estimated that switching to natural gas would reduce operating and maintenance costs of power plants by about US$9 million per annum. Most savings are likely to be achieved by the two major generators in Bedawwi and Zahrani through savings in spare parts, and fuel and gas oil handling costs including operation o f storage, terminals and trucks. Table 7.3. Operation and Maintenance SavingPer Power Plant, 1998 TOTAL 9,285,000 7.6 The access to natural gas also allows for the construction of new CCGT plants, and the MEW estimated that major capital investment savings can be achieved by switching to gas-fired power plants and expected an increasedplant lifetime o f five to seven years. Another major saving potential is the fuel efficiency of CCGT plants. These plants have a relatively higher conversion efficiency than conventional TPPs producingadditional electricity from the same volume of fuel. 7.7 Estimates undertaken by the World Bank support the significant savings potential that gas could bring. The calculations are for the Bedawwi and Zahrani CCGTs, which are ready to receive gas at no conversion cost. Pipeline costs to transport gas to Zahrani have not beentaken into account. 7.8 Based on 2,500 operating hours per year, gas oil consumption i s 550,000 t~ns/year~~at eachplant. At $32O/t0n~~annual gas oil costs would be US$176 million. Under this scenario, the cost of S p a n gas would be US$66 millionper year and per plant, assuming a gas price o f $3.40/mmbtu (or about $120/ton equivalent). The net savings would be US$110 million. Ifplant reliability i s increasedto match industry standards of 3,500 GWyear, the annual savings become $150 millionper plant. "NationalElectricityRegulatoryAuthorityTariffStudy2003. 56Priceas ofApril 2004. -47- 7.9 Similarly, for gas oil at US$19O/ton (roughly US$20/barrel oil) the savings are US$58 millionat 2,500 G W y e a r and US$80 million at 3,500 GWyear. For gas oil at US$25/barre17the annual savings would be about U S 8 5 millionat 2,500 G W y r and US$115 millionat 3,500 GWyear. BENEFITSTOTHEENVIRONMENT 7.10 The introduction of natural gas to Lebanon i s expected to have significant positive effects on the environment, notably on air quality. Thermal power generators are a major source of green house gas (GHG) emissions, and usingnatural gas will substantially lower pollutant emissions with all its positive effects on the environment and health. Switching to natural gas for power generation also has positive effects on water. Power plants, as a major user o f petroleum products, have to unload and store oil products routinely. Frequent spills and accidental discharges may occur duringunloading. Most plants and storage facilities inLebanonare on the coast and oil is deliveredby tankers that may cause pollution to seawater. 7.11 At the same time, the construction of greenfield gas pipelines often raise environmental and social issues that have to be carefully addressed. The Lebanese government will have to carry out a comprehensive environmental and social assessment to ensure that any negative impacts of a greenfield gas pipeline are properly addressed and that the overall benefits o f the introduction o f natural gas to Lebanon outweigh its costs. 7.12 This section presents the potential benefits to Lebanon in terms o f avoided damage costs (the negative externalities) from the introduction of natural gas and will provide an overview o f the environmental and social aspects that have to be considered ingreenfieldpipelineprojects. Air QualityImpactsdue to Switchfrom Oilto NaturalGas 7.13 Lebanon lacks a comprehensive air quality and emissions monitoring program, including equipment, which limits the ability to undertake detailed quantitative assessmentsto analyze the potential impact from introducingnatural gas on emission levels. 7.14 Some air quality monitoring and measuring has been undertaken in places such as Beirut and Chekka and along highways. That information and data, incombination with visual observations, health statistics, and some studies carried out by the Ministry o f Environment, indicate that there i s severe pollution in the large cities (in particular Beirut and Tripoli) and close to highly polluting industrial facilities (for example, cement factories) and TPPs (for example, Zouk and Jieh). This information, along with relevant statistics from other countries, has been used to develop some estimates of potentially avoided damage costs because of the introductiono fnatural gas. 7.15 To estimate the potential benefits from reduced pollution from Sulfur Oxides (SOX), Nitrogen Oxides (NOx), PMlO (particulate matter less than 10 microns), and Carbon Dioxide (COz), the consultant (CEPCO) has quantified environmental externalities for Lebanon based on data from various sources, most notably from ExternEs7and PaceUni~ersity.'~ExternE has developed an accounting framework for 12 fuels, including natural gas. For each fuel, the accounting framework includes the application o f the methodology to that specific fuel cycle, detailed quantification o f the impacts, and their evaluation in 57 The ExtemE project is the first comprehensive attempt to use a consistent bottom-up methodology to evaluate the extemal costs associatedwith arangeofdifferentfuel cycles. The EuropeanCommissionlaunchedthe project incollaborationwith the US.DepartmentofEnergyin 1991. 58 CEPCO. November2003. "Report Task 7:Environment." -48- monetary terms. Greece, one of the countries includedinthe ExtemE work, has been used as a proxy for Lebanon inthe analysis because of similarities in size, climate, and stage o f economic development. The Pace University study i s the most comprehensive assessment of environmental externalities inthe United States, and while relatively old (issued in 1990), it remains a good source of information. While there are many differences between Lebanon and the United States, the Pace University data was as an additional indicator for selecting a range of externality values, which have been used to develop a first estimate of the environmentaldamage costs inLebanon. These ranges selectedare shown inTable 7.4 below: Table7.4. EstimationofEnvironmentalExternalitiesfor Lebanon(US$/ton) sox 2,000 5,000 NOx 1.400 3.000 PMlO 2,000 5,000 co7 5 20 Note: SO, = Sulfur Oxides; NOx =NitrogenOxides; PMlO =particulatematter less thanI10microns; I C02= CarbonDioxide. Source: CEPCO2004. 7.16 To estimate the potential benefits from the introduction o f natural gas, two scenarios were compared: First, a baseline scenario that assumes that no natural gas will be introduced in Lebanon and power plantswill continue to burnfuel and gas oil; Second, a maximum natural gas scenario that assumes that Bedawwi, Zahrani, and Zouk will operate onnaturalgas. 7.17 Detailed assumptions are outlinedinTable 7.5 below Table 7.5. Assumptions for BaselineandMaximumGas Scenario Construction Bedawwi-Zahrani in2006 NewPlantCommission I 478MW CCGT, distillateoil, in2008 I 478MW CCGT, Egyptgas, in2008 -.. - 204MW CCGT, distillateoil, in2018 204MW CCGT, Egyptgas, in2015 ExistingPower Plants Zouk, Jieh Continue to be oil fired Bedawwi: Gas conversionin2005 Bedawwi, Zahrani: Continue to be Zahrani: Gas conversionin2006 distillatefired I Zouk:Continue Gas conversionin2008 Jieh: oil fired Note: MW =megawatt;CCGT= CombinedCycle GasTurbine. Source: CECP012003. 7.18 Detailed calculations on the two scenarios are presented in Annex 8 and show that the introduction of natural gas into the power sector o f Lebanon could reduce environmental and health damages between U$743 million to US$1.8 billion for the period 2005-20. It is estimated that the majority o f the benefits are due to reduction in sulfur emissions, followed by reductions in NOx emissions. -49- Potential Impact due to Natural Gas Pipelines 7.19 Gas pipelines could have a significant impact on the environment during construction, start- up/commissioning, and operation depending on the environmental sensitivity o f the areas through which they run,their design (abovegroundunderground, pipeline size and pressure, location o fpressure stations, and so on), and operating procedures. Environmentalissues may arise because ofthe following factors: 0 Resettlement 0 Loss of land for agricultural and other use 0 Encroachment into sensitive ecological areas and interference withnavigation/fisheries(for submarine pipelines) 0 Damage of historic and cultural monuments 0 Endangerment o f speciesand blockage o f wildlife passageways 0 Gasleaks 0 Explosion and fire hazards 0 Interference with drainage patterns 0 Erosionhazard due to inadequateprovision for resurfacing o f exposedareas 7.20 Proper Environmental Impact Assessments (EIAs) will need to be undertaken in the context o f the proposed natural gas pipeline projects, but a preliminary review o f the impact o f the two most likely pipeline developments-the National Pipeline project from Bedawwi to Zahrani and Lebanon's participation inthe Arab Gas Pipeline-suggests that (a) desertification causedby deforestation, which i s usually a significant issue relatedto the construction of pipelines, needs to be given due consideration and crossing natural reserves should be avoided; and (b) the conservation of historic and cultural monuments will be of key importance inLebanon where there are several famous historic heritages: Anjar, Byblos, Ba'albeck, Tyre, and Qadisha Vally and HorshArzel-Rab. 7.21 Considering the potentialfuel and operatingand maintenance cost savings, the Government of Lebanon should promote the introduction of natural gas into the Lebanese power sector. This will encourage interfuel competition with all its positive effects on improving efficiency, costs, and finaltariffs. DetailedEIAs should be carried out to assess the environmentalcosts and benefits of a new greenfield gas pipeline development. -50- Annexes -51- Annex 1:Terms of Reference (TOR) Objectiveof the Study: Buildingon the earlier work done in the energy sector strategy study (Energy Strategy into the Next Millennium 1999), the government has requested the World Bank's assistance in formulating a comprehensive long-term strategy for the introduction and use o f natural gas, and the efficient development of the petroleumsector inLebanon. The strategy will provide a basis by which the government would seek private sector as well as Bank assistance inthe development of the hydrocarbons (oil and gas) sector inLebanon over the mediumto longterm. Scope of Services: The scope of servicesincludes the following: Task 1: PotentialFutureGasMarket andDemandForecast 0 Review and analyze the existing energy supply and demand situation, including sources o f oil supply, and the last five years of oil consumption trends by fuel type and consumer categories, including electricity generation. Prepare an energy balance for Lebanon showing supply and consumptionfor the past five years. 0 Analyze electricity consumption trends in the past five years by consumer category. Analyze supply constraints, andprovide annual estimatesof unserved energy and power demand. Prepare forecasts o f electricity demand, under unconstrained conditions, by consumer category, and for maximum demand up to year 2020. 0 Based on the electricity demand forecasts, prepare a least-cost power generation expansion programto meet the projected demand up to year 2020. 0 Analyze the potential for substitution of gas for oil for power generation in the existing power plants, including the timing. 0 Analyze the potential for gas use in sectors outside the electric power sector, including households, industry,and commercial applications, and timingo f use ineach sector. 0 Based on the gas requirements for power generation, and in non-power sectors, prepare gas demand by sector and global aggregate for eachyear untilthe year 2020. Task 2: Analysisof Supply OptionsandRecommendations 0 Review the potential for the development o f a regional gas market, and the potential benefits for Lebanonto integrate inthe regional market. 0 Review and analyze the regional sources of gas, and ongoing and proposed future gas transmission pipeline developments. 0 Identify potential sources o f natural gas supply to Lebanon, and analyze feasible options of supply and quantities, including preliminary cost estimates of pipeline routings for bulk gas delivery to power plants and large consumers, and timing o f deliveries. On the basis of analyses, providerecommendations onpreferredoptions. -52- 0 Identify potential sources o f supply of liquefied natural gas (LNG) to Lebanon, and analyze feasible options, associatedcosts of delivery, includingport infrastructure, preliminary estimates o f pipeline costs for bulk delivery to power plants and large consumers, and timing of deliveries. Based on the analyses, providerecommendations on feasible options. 0 Identify and analyze supply security issues associated with natural gas and LNG supplies to Lebanon, and provide recommendations, including the structuring o f ownership and financing o f intemational/interregional transmission pipeline developments to mitigate risk. 0 Based on the above, provide recommendations on the choice between gas supply option, and LNGsupply option. Task 3: Natural Gas and PetroleumProductsPricing, and Macrofiscal Implications 0 Analyze potential macroeconomic/fiscal impacts of gas supply to Lebanon, based on gas pricing in existing transboundary gas supply arrangementsinthe region-for example, gas supply from Egypt to Jordan-adjusted for relevant key factors, gas supply from Syria to Lebanon, and feasible alternative pricingarrangementsfor gas supply to Lebanon. 0 Review and analyze the existing structure of petroleumproduct prices, indicating the makeup by components-product cost, transportation and handling costs, taxes, and margins-and assess/comment on adequacy o f level taxes and wholesale/retail margins relative to internationally acceptedpractice for eachproduct. 0 As necessary, provide recommendations on tax adjustments, wholesale/retail margins, and price levels. The economic rationale for such adjustments shouldbe provided. 0 Review government policy on setting petroleum product prices, especially regarding periodic adjustments to at least maintain economic cost levels, and recommend changes as necessary to meet objectives o f efficient competitive market; 0 Review the current contribution o f taxes on petroleumproducts to govemment revenues, and the main product contributors. Assess the revenue implications o f the recommended taxation of petroleumproducts on the government budget. Task 4: Gas Market Structure and Private Sector Involvement 0 Analyze various forms o f gas industry structures, merchant functions, issues of exclusivity, and single-buyer, open-access linkages with the various forms o f private sector participation, while taking gas supply sources into account. Provide recommendations on preferred options for industry/market structure, in the context o f Lebanon, as well as preferred options for private sector involvement. Task 5: LegalandRegulatory Framework 0 Reviewthe existing legal andregulatory framework for oil to assess conformity with government policy objectives o f creating a liberalized competitive petroleum products market, with active private sector participation. Currently, there i s no legal framework for gas. Based on the review of the existing law for petroleum, provide assistance to government and the MEW to prepare a draft law for oil and gas in line with government policy objectives, and in conformity with international best practices for submission to the Parliament. The draft law should provide the -53- basis for establishing product standards; monitoring product quality; enforcement, includingthe basis o f establishing penalties for inhngement; and healthand safety. Task 6: Preliminary FeasibilityStudy of Tripoli and Zahrani Refineries 0 Provide a review of the existing refineries inthe region, and the relative use o f available refining capacity. Provide a comprehensive table of types of refineries, installed capacity, capacity utilization, country o f location, and year of commission. 0 Undertake a preliminary technical audit o f the state of the Zahrani and Tripoli refineries, and associated facilities. Based on the technical audits, undertake a preliminary technical and economic feasibility study of the merits ofrehabilitation and the modemization ofrefineries. The analysis should also take into account strategic locations of the refineries, the projected growth of the local oil products market and its evolution with the introduction o f natural gas/LNG, and export markets within the Mediterranean region. 0 Based on the above, provide recommendations on actions to be taken (closure/ rehabilitatiodmodemization and expansion) regardingeachrefinery. Task 7: Environment 0 Provide an assessment o f the environmental and potential health impacts of use o f oil in power generation from existing plants. This should take into account the location o f the existing plants, estimates o f emissions levels by type, disposal and leakages o f oil, and impacts on ground water, and so on. 0 Assess environmental impacts o f gas use and comparative analysis of impacts with oil use in power plants. 0 Identifypotential impacts of possible pipeline routings. This does not imply detailed EIAs but enumeratesthe potential impact issues of the routing associatedwith the preferredoption. -54- a II ! , Annex 3: Future Electricity Demand Limitationsof the Data The consultant^'^^ preferred approach to demand forecasting would have been to prepare econometric equations to obtain demand and price elasticities for each of the major demand sectors. The following factors, however, shouldbe considered: 0 EdLwas not able to provide consumption statistics by customer category. 0 EdLfaces supply constraints that create suppressed demand (so that actual demand is greater than electricity supplied). 0 There is a significant but unmeasured self-generation component to the electricity supply in Lebanon. 0 The war inLebanonledto the interruption of national data collection and many statistical records for this and the post-war period do not exist. Although more recent national accounts are being produced, they were not available intime for use inthis study. These data limitations place major constraints on the base data on which the demand forecast was made. The forecasting approach andassumptionsare set out below. Introduction The electricity demand forecast is based on sectoral demand categories: Residential, Industrial, Commercial, Agricultural, and Other. The base year for the projectionsi s 2002. The approach taken to estimating base-year demand (the starting point for the projections) begins from the supply data metered at EdL6'station fences (referred to as "sent-out"). Total EdL sent-out generation in2002 was 9,811 GWh. Thetotal EdLsupply is madeupofthe following components: 0 Actual generation at the EdL station fence, 0 Purchasesfrom concessionsinLebanon, and 0 Purchasesfrom Syria. SuppressedDemand In addition to the EdL sent-out generation, the forecast takes account of suppressed demand f?om customers who are supplied by EdL but whose supply i s interrupted at certain times because o f power plant outages, fuel shortages, or transmission constraints. EdL's data show that, on average, suppressed demand in 2002 was 8.84 percent o f total demand on the EdL interconnected system. This gives an additional equivalent sent-out demand inthe base year o f 951GWh. Addingthis to EdL's actual sent-out 59The electricity demand forecasts was undertaken by CEPCO. 6oThe systemdataincludedpurchases from concessionsand from Syria. -60- generation o f 9,811 GWh in 2002, the total EdL station fence demand in 2002 would have been 10,763 GWh, ifthere hadbeenno supply constraints. Self-Generation It is anticipated that some o f EdL's suppressed demand is, at least in part, supplied by diesel self- generators. Self-generation i s provided by small- and medium-size diesel generators supplying a range o f commercial, industrial, and agriculturalusers, as well as residential streets and single households. The grid-supplied equivalent to self-generation@from diesel generation-sets was calculated for the base case as 1,995 GWh. The 951 GWh o f EdL suppressed demand is assumed to be covered by diesel gen- sets and subtracted from 1,995 GWh. The resulting self-generation i s then 1,044 GWh. Self-generation from fuel oil-powered plants was estimated at only 2 GWh. The estimated total EdLand self-generation values were 11,808 GWhin2002. SectoralElectricity ConsumptionBreakdown There is no sectoral electricity demand breakdown available for Lebanon and the split between consumption categories was estimated usingGreece as a comparison country. Greece was selected for its similar climate and income characteristics.62 T o account for the difference in development between Lebanon and Greece, the 1994 Greek sectoral figures were used as a starting point and were adjusted to reflect variations inthe structural makeup of the economy.63 The sectoral proportions are given inTable A-6. Table A-6. Sectoral Consumption Split I Commercial I 22.5 I Industrial 37.0 Agricultural 4.0 Losses All future reductions in technical losses represent reductions inthe MWh that need to be generated by EdL. However, reductions innontechnical losses (theft, meter errors, and so on) may be converted into increased sales revenues without any change to the MWh generated by EdL. In other words, those customers who were previously not paying for their electricity become paying customers and continue to consume electricity. This makes it necessary to calculate the net reduction to the MWh demand that would results from a successful loss reduction program. Reflectingthetransmissionanddistribution losses that would occur for grid generationthat would not occur for self- generation. Although Greecehasa slightly higherper capita gross domestic product(GDP) than Lebanon, the comparisonwith Greece was thought to give abetter indicationthan with neighboringArab countries. 63Lebanonhas alowerproportionof agricultureand ahigher proportionof constructioninGDP than Greece. -61- Nontechnicallosses are assumedto apply only to EdLsupply (and not to self-generation where electricity i s assumed to be generated close to the source). For this reason, the EdL component was forecast separately from self-generation. Each case uses a different loss reduction rate. These are given in Table A-7 below. Nontechnical loss reductions were calculated on the reduction from the EdL base supply in the previous year using a conversion-to-sales rate of 50 percent. These were then apportioned among customer categories according to the proportion o f total sales inthe previous year. Technical losses intransmission and distribution inLebanon are currently estimated at around 15 percent compared with an average o f 10-12 percent inthe Middle East and much lower inWestern industrialized countries. Technical losses inLebanon can be expected to decrease as the transmission and distribution networks are rehabilitated. The factors appliedto the forecasts are also giveninTable A-7. Table A-7. Technical and Nontechnical Loss Reduction Rates I ITechnical I I Non- I Technical I Non- I Technical I Non- I technical technica2 technical Start I 15%in I25%in I115%in2002 I125% in II15%in2002 I125%in 2002 2002 2002 2002 Reduction 0.5%per 2% per year 1%per year 3% per 0.25% every 1%every rate year from from2004 from 2004 year from year from2004 year from 2004 and 0.5% in 2004 2004 2008 Stabilizing 10%in 5% in2013 9.5% in2009 4% in 10.75%in2020 8% in2020 2013 2010 Forecast Methodology Each of the major customer categories was forecasted separately, usingassumed elasticities, before being aggregatedto give total MWh sales. Technical and nontechnical losses are added to give total sent-out electricity demand. This figure i s then converted to MW maximum demand using load factors and coincidence factors. MWh Sales The generalform ofthe forecasting equations is illustratedbythe residentialdemand equation: R, = (E: x AGN4)x (E: x pl)x R,-, x a where: R,=Residential demand inperiod t E: = Residential income elasticity o f electricity AGNP,=Growth inGNP inperiodt E: = Residential price elasticity of electricity p,=Indexedelectricity price change R,-, =Residential demand inperiod t-1 a=afactor for nontechnicallossreductions netofconversions to sales -62- The methodology appliedto the residential forecast differs from that used for the remaining sectors inthat it incorporates gross national product (GNP) rather than gross domestic product (GDP). GNP takes into account total income generated within the economy plus the net income earned by Lebanon overseas. The Lebanese economy currently runs a significant trade deficit and is highly dependent on inward transfers to finance this debt. These incomes are made up of contributions from expatriate Lebanese and direct foreign investment. The income effect in residential demand i s based on GNP. The inward transfers directly affect the household budget constraint and, thus, the ability o f households to spend on consumption goods such as air conditioning unitsand home appliances. This inturn affects electricity demand. The remaining sectors are affected by GDP, which measures the total value of goods and services producedwithin the economy (that is, excluding net income from investments abroad). Implicit inthe GDP forecast i s an account o f the impact o f future direct foreign investment. Ideally, each o f the nonresidential sector's electricity demand would be based on growth inGDP for that sector (for example, service sector GDP would be used in the equation for commercial electricity demand). However, as sectoral GDP breakdowns are not available for Lebanon, total GDP i s used as a proxy under the assumption that there i s no change inthe underlying economic structure over the forecast period. The "other" sector is a residual, includinguses such as street lighting. Peak Demand (in MW) Forecast total peak demand, includinglosses, i s the aggregate of each of the sector forecasts weighted by an assumedcoincident load factora and adjusted to account for the incidence ofhigherlosses at the peak: where, D,=total forecast peak demand(MW)inyear t R,= averagehourly forecast residential demand (MW)at the station fence inyear t C,=averagehourlyforecast commercial demand (MW) at the station fence inyear t I,=averagehourlyforecastindustrialdemand(MW)atthestationfenceinyeart A,=average hourly forecast agricultural demand (MW)at the station fence inyear t 0,=averagehourly forecast "other" demand(MW)atthe stationfenceinyear t I=sector coincident loadfactor jl = adjustment for higher losses at the peak Scenarios Three forecast cases were prepared to give a wider range of the possible paths of future electricity demand inLebanon: 0 Base-case assumptions 64 The actual average EdL system load factor in2002 was around 80 percent. While this reflects Lebanon's relatively flat demand profile, it also demonstrates the peak-clipping impact o f EdL suppressed demand. The forecast load factor of 67 percent includes non-EdL (peak-meeting) generation. -63- 0 High-demand assumptions 0 Low-demand assumptions The assumptions underlyingeach scenario are givenbelow. (a) Base-Case Assumptions GDP and GNPgrowth rates-GDP forecasts for Lebanon beyond a five-year horizon are not available. The InternationalMonetary Fund(IMF) forecast o f Real GDP growth for Lebanon inthe years 2003 and 2004 is 3 per~ent.~'However, unofficial World Bank estimates are more conservative at around 1.5-2 percent and a middle rate betweenthese estimateswas chosen for the forecast. Elasticities-The lack of historic data prohibits the estimation of income and price elasticities for Lebanon. The approach here was to use generally accepted elasticities previously estimated for similar countries with adjustments made as appropriate for the Lebanese economy. These are shown inTable A- 8. Table A-8. Elasticity Assumptions I Commercial I 1.2 I Industrial PriceElasticit All Sectors -0.2 Change to Real Electricity Prices-The current tariff schedule in Lebanon i s unlikely to be a true reflection of system costs and i s likely to change in the future. Residential and consumer tariffs are anticipated to rise, but industrial tariffs are expected to fall. The model assumes that industrial prices drop in200446 and are heldconstant in2007. Prices to the remaining sectors were allowed to rise up to the year 2010. Sectoral Load and Coincident Factors-The load and coincident factors for each sector are difficult to establish because of the absence of load research data. There are also deficiencies in EdL records and uncertainties regarding suppressed demand. Residential load tends to peak in the evening, making it coincident with Lebanon's evening peak intotal load. Industrial load will follow a relatively more stable load profile with slightly higheruse duringthe day because of administrative support andcooling load. It i s likely to be less coincident with total load. Commercial and agricultural load will follow a similar profile with higher demand during the day. Their coincidence is likely to be lower than for industrial load. A similar factor will apply for the "other" category. Loss ReductionFactors-Technical and nontechnical losses for the EdL system are currently estimated at 15 and 28 percent, respectively. EdL has indicated that, with the rehabilitation o f the transmission and distribution systems, technical losses will fall to approximately 10 percent. The rate at which these losses are reducedwas assumed inthe model as described inTable A-7 above. Residential Demand-As individual wealth grows, residential electricity demand is expected to experience a high growth initial "catch-up" period. Duringthis catch-up phase, purchases o f household 65 World EconomicOutlook. 2003. "Statistical Appendix." -64- appliances, such as air conditioners, will be highas households replenishtheir stocks and shift toward an industrialized-world level of electricity consumption. The high-growth phase will eventually plateauwith the attainment of a base level of wealth. At this stage, Lebanon's income elasticity o f electricity demand will settle to a lower long-run level as i s seen in industrialized countries. The high initial growth in residentialdemand was reflectedinthe model as ahigher-income elasticity inthe early years. Industrial Consumers-The major industrial consumers of petroleum products are cement, ceramics, glass, food and beverages, fabricated metal products, furniture rubber and plastics, machinery, and pulp andpaper. O fthese, the significant users for electricity generation purposeswill be the cement industry. The Sibline cement plant generatesup to 2 MW using gas oil. The other large cement factory, Societe des Ciments Libanais, generates 2.5 MW usingfuel oil. The total generation from the fuel oil (FO) generator i s calculated on the assumption that it operates only during the four-hour night peak period66when EdL tariffs are at their highest, with an allowance for the assumed coverage o f EdL load shedding by diesel generators. Construction activities as measured by deliveries of cement fell by 4.6 percent in 2002 and remain variable in 2003.67 However, by contrast, applications for construction permits increased 36 percent in 2002, suggesting a positive outlook for fhture construction activity. With the fading of the post-war reconstruction boom activity in the construction industry i s expected to converge toward GDP growth rates. Lebanon i s currently negotiating accession to the World Trade Organization (WTO). Upon entry to the WTO, it i s likely that the country will be requiredto relax or remove the import restrictions that currently sustain the domestic cement industry.68 Improvements in fuel efficiency resulting from centralized electricity supply and the introduction of natural gas are likely to be balanced by the effects o f open competition from foreign producers. The electricity consumption o f domestic cement manufacturers is therefore expected to remain steady or to decline. Tourism Sector Growth-The passenger arrival data for Beirut International Airport over the period 1998-2002 suggest that tourist numbers have been rising at approximately 6 percent per year.69 On this basis, up to the year 2015, a 1percent premium is added to the GDP forecast used for the commercial sector to approximate the impact of higher growth from the tourism sector. EnergyEfficiency-Lebanon i s currently inthe initial stages of developing an energy efficiency policy. Early analysis suggests that the country i s well suited to the application of solar water heating and that there are opportunities for efficiency gains from building insulation, appliance efficiencies, and improvements in the power factors of industrial processes. Although at this early stage it i s not possible to incorporate accurate forecasts of the impacts o f energy efficiency gains, the model acknowledges their potential through the income elasticities o f demand for the commercial, industrial, and residential sectors. In2010, these gainsareeachdecreasedby0.05 ineachcase. 66 The night peak tariff for medium-voltage customers inthe current EdLtariff schedule is 320 Lebanese Poundper kilowatt hour (LLkWh)(i.e., $0.2lkWh, above the calculated average cost ofprivate self-generation) from 16:30 to 20:30. 67 BanqueduLiban.Quarterly Bulletin FourthQuarter 2002; Monthly Bulletin May2003. Lebanon operates an open trade policy on most goods and services but retains protective policies for cement and steel cables. 69 Ibid., 6 -65- @) High-DemandAssumptions The assumptions for the high-demand forecast case had the following differences from the base-case assumptions described above: 0 GDP was assumed to grow at 6 percent in 2003, falling to 5.25 percent in 2010, and 3.5 percent in2020; 0 GNP grew at 6.5 percent in2003, falling to 5.45 percent in2010, and 3.7 percent in2020; 0 Technical losses decrease at a lower rate; 0 Nontechnical losses decrease at a lower rate; 0 The premium for tourist sector growth was increasedby 0.5 percent inthe years 2003-15; and 0 Self-generation in the base year was calculated based on a lower fuel consumption rate o f 300gkWh. This results ina higher total initial self-generation amount o f 2267GWh. (c) Low-DemandAssumptions The assumptions for the low-demand forecast case had the following differences from the base-case assumptions described above: 0 GDP grew at 2 percent in2003, falling to 1.5 percent in2007, 1.3 percent in2011 and ending in 1.2percent in2020; 0 GNP was assumed to grow at 2.5 percent from 2003, falling to 2.0 percent from 2009, 1.8 percent from 2011 ending at 1.7 percent in2020; 0 Technical loss reductionprogressedquicker; 0 Nontechnical losses reduced quickly; 0 The premiumfor tourist sector growth was reduced to 0.5 percent inthe years 2003-10; and 0 Self-generation in the base year was calculated based on a higher fuel consumption rate o f 350gkWh. This resulted ina higher total initial self-generation figure o f 1944GWh. Results The results o f the demand forecast for each case are summarized inTable A-9 below. Growthfigures for 2002-05 are per annum and for 2010-20 are five-year averages. TableA-9. ElectricityPeakDemandForecast (inMW) 2,961 1.6 HighCase 2,362 2,528 3,412 4,398 5,110 % Growth 7.0 7.0 6.2 5.2 3.1 Note: MW=megawatts.Growthfiguresuntil2005 are per year and for the period 2005-20 are five-yearaverages. Source: CEPCO2004. The graphs below show peak demand forecasts until2020 for the various demand scenarios for each customer group. -66- EC .C cc .r Q; eE 55 Ei $ .I c .C cL zt I / I *. c 5V 6eer I I I I I III I q m 0 N 0 N i! i I z 0 N II E N I N I za I E N I s 001 II g II c a - 7 0 N z 0 N a, 8 N a 00 N 0 IC si 11/11 W 0 0 N UI 0 N 0 B 0 (v h / m 0 N 0 i3 0 0 0 0 0 0 cu % 0 m 0 0 z z $3 $3 E N 2 0 N z yc N z $3 5 0 N f 0 N E N : N F 7 0 N E N m 0 0 N z 03 IC 0 0 N W 0 0 N in 8 N 3 N m 0 0 N 8 0 0 0 0 0 0 0 0 0 0 0 0 W 0 in 0-3 0m 0 N 2 Annex 4: Analysis ofNon-Power Sector Demand Annex 4 analyzes the potential for natural gas use outside the power sector. The principle method used to estimate natural gas demand is netback analysis. This analysis was undertaken by Chubu Electric Power Company Ltd. (CEPCO). The demand for natural gas dependson its price relative to other fuels. Ifa new fuel becomes available at a lower price then users will eventually switch to that fuel. Netback analysis estimates the demand for natural gas by different types o f user over a range of prices. With this type of analysis there i s no single point estimate o f demand but, rather, different levels o f demand at different prices. The single point estimate of demand can be found when the gas price i s known. Netback values are normally calculated relative to competingfuels inspecific uses, such as electricity or liquefiedpetroleumgas (LPG) (the fuels) used for cooking (the use). It shouldbenotedthat the demand curves calculated usingnetback analysis show thepotential demand at eachprice, but the actual demand will be affected by a range of factors, including inertia by consumers in switching, lack o f information, uncertainty over the futureprices of gas and competing fuels, the age and condition o f existing energy using installations, and others. The following sections present the assumptions made for estimating potential gas demand in the residential, commercial, and industrial sectors. Residentialand CommercialSectors Lebanon enjoys a moderate climate with some air conditioning load inthe summer but limited heating in the winter. There are two main potential sources o f demand for natural gas in the residential and commercial sectors: coolung and space heating. The source o f fuel for residentialand commercial cooking is primarily bottled LPG. Fuel for residential heating i s largely gas oil. Natural gas could be substituted for these fuels, but this would require the development of a gas pipeline network to deliver the gas to users. Lebanon's mild winters mean that heating season, if any, i s rather short and the demand for gas for space heating would be small. The same i s true of the commercial sector that might use natural gas for space heating or in restaurants and hotels for cooking. Lebanon's mountainous topography would add to the cost of buildingand operating a local gas distribution system. It is therefore unlikelythat there would be a viable market for pipednatural gas for use inthe residential and commercial sectors in Lebanon. Based on delivered cost, altemative fuels are likely to be more economic. Evenifthe market i s viable, the levels of demand would be low and the net benefits would be marginal. This leavesthe industrial sector as the mostpromisingnon-power demand for natural gas. IndustrialSector The industrial sector in Lebanon currently uses gas oil and fuel oil to generate electricity in small generation-sets and in fumaces and boilers. It is assumed that self-generation load will migrate back to EdL's grid supply by 2007 when the system is fully rehabilitated. This means that demand for a large portion of the gas oil and some fuel oil currently usedby industrywill bereplacedby natural gas (used for power generation by EdL). As a result, there is little potential demand for natural gas that arises fiom direct substitution of these fuels inthe industrial sector (although there is substantial potential for indirect demand for gas through the power sector). -70- The main fuels for industrial boilers are LPG and fuel oil. The analysis of non-power sector natural gas demand therefore concentrates on substitution o f these fuels inthe Lebanese industrial sector. Traditionally, the Lebanese economy has been composed largely o f services and intermediate industries. The country does not have a significant base o f heavy industry, although some does exist in certain sectors. The industrial and agncultural sectors only contribute around 20 percent to gross domestic product (GDP). Of the heavy industry that exists in Lebanon, the most energy intensive are cement, fabricated metals, paper, glass, ceramics, andrubber and plastics. The cement industryi s a potential customer of natural gas primarily for use in furnaces. Currently, it i s sustained by protection against imports. There are four paper recycling mills usingdiesel oil and two glass plants usingheavy fuel oil (HFO).` However, boththe paper and glass industries are said to be in, or nearing, financial difficulty. The ceramics plant imports LPGat highcost for use inits furnaces. Assumptions The netback analysis is based on current and forecast price and volumes of LPG and three grades o f HFO (standard, and 1percent and 2 percent sulfur fuel oil). All fuel volumes were converted into their million cubic meters (MMCM) equivalent values to ease comparison with other parts o f the study.7o The underlying price forecasts for crude oil were based on the Energy Information Administration 2003 f~recast.~'Prices for petroleum products were obtained from the Petroleum Directorate and an annual price for 2002 derived as a time-weighted average. Forecast prices of petroleum products were linked to international crude prices. Productprices were converted to US$/million Britishthermal units (mmbtu) to enable comparison7' with natural gas prices. Other assumptions (for example, GDP) underlying the forecasts o f demand for each fuel are consistent withthose usedinthe electricity demand forecast. Results The aggregate demand relates to factors such as GDP growth. Each result gives price and quantity combinations for natural gas for the corresponding year and forecast growth scenario (base, low, and high). The price o f natural gas delivered to users inLebanonplays a role inestimating the demand for gas. The price for Syrian gas delivered to Bedawwi has been quoted as US$2.70/mmbtu.73 The bulk price of Egyptian gas i s expected to be higher than this at approximately US$2.94/mmbtu, while Iraqi gas should be cheaper and possibly as low as US$2/mmbtu. The price delivered to industrial (and other) consumers would needto include add-on costs for transmission and distribution. Indicative data from other countries suggests an average distribution margin, for a mixture o f residential and industrial customers with a relatively dense gas demand, of US$1-1.3/mmbtu; however, specific factors in Lebanon would affect the margin: Beirut would have a relatively low density o f demand, which would tend to make costs higher than US$l-I .3/mmbtu, 70To convertto millionBritishthermalunits(mmbtu)multiplythe MMCMvalue by 36.9642. "EnvironmentalImpactAssessment.2003.AnnualEnergyOutlook,Table15. 72To convertto $/MMCMmultiply the $/mmbtuvalue by 36.9642. 73This price i s based on a crude oil price of $20/barrel, which i s below the base- and high-case crude oil price forecasts used in the netbackanalysis. -71- 0 Incontrast, most customers inBeirut would be industrial, which would tend to make average costs lower than US$1-1.3/mmbtu, 0 The figure o f US$1-1.3/mmbtu excludes transmission; if transmission costs are added, then the margin to add to the bulkprice would be higher than US$1-1.3/mmbtu. Taking account of these factors, a transmission and distribution margin o f US$1-1.3/mmbtu was assumed. The indicative deliveredprice o f gas would be between US$4.5 and US$4.8/mmbtu in 2010, if gas i s fkom Egypt, and between US$3.4 and US$3.7/mmbtu, if gas i s from Iraq. The prices increase with time because o f the assumed increase in international oil prices. The resulting price ranges are given in the table below: TableA-10. Rangeof Gas PricesDeliveredto Industry(US$/mmbtu) Other Fuels: FuelOil 1%S u l h 4.3 4.4 4.6 Heavy FuelOil 3.6 3.7 3.8 LPG 12.2 12.5 12.9 Inconclusion, there is a demand for natural gas to substitute LPG. The demand for gas inthe base and highscenarios, for EgyptianandIraqigas, is showninthe table below. TableA-11. Non-Power Gas Demand(MMCWday) l%Sulfur I 0.81 I 1.08 I 1.30 I 0.81 I 1.08 1.30 I 2%Sulfin 0.13 0.17 I 0.20 0.13 0.17 0.20 HFO II 0.76 1I 1.01 1.21 II 0.76 II 1.01 I1 1.21 II Total I 1.80 I 2.40 2.87 1.80 2.40 2.87 -72- The table above suggests that the substitution of 1percent sulfur fuel oil would be attractive to users. This would give an annual demand from fuel oil substitution in the range of 0.6 to 1.3 MMCWday (base caseEgyptian gas, 2010, and highcasekaqi gas, 2020, respectively). Substitution of 2 percent sulfur fuel oil i s shown to be attractive if the price of gas i s low (for example, Iraqi gas) or if the high case is followed (except in the combination of base case and Egyptian gas). However, substitutionof 2 percent sulfur fuel oil gives rise to relatively low levels o f demand. Similarly, substitution of gas for high sulfur fuel oil would be attractive under the same circumstances but would leadto a more substantial gas demand between 0.57 and 1.21MMCWday. Overall, the non-power gas demand in 2010 is shown in the table above to range from 0.69 to 1.8 MMCWday. It is possible that gas demand may increase among industrial users if more stringent environmental regulation i s introduced, which would require greater use of expensive low sulfur content fuel oil. Conclusions: Non-Power Gas Demand The supply o f gas to households and commercial premises i s unlikely to be economical in Lebanon because of the cost of constructing a local gas distribution network to serve low-volume demands, This meansthat non-power sector natural gas demand i s likely to be limitedto industrial customers. However, Lebanon's economy has traditionally beenservice oriented with arelatively small industrial sector. Based on Egyptian gas delivered to end users at prices inthe range o f US$4.5-4.8/mmbtu in2010 rising to US$4.7-5.O/mmbtu by 2020, we estimate the demand by industrial consumers in the base case as shownintable below. Table A-12. Base-CaseAggregateDemand for Gas (MMCWday) IIIndustrial I LPGSubstitution II 0.08 II 0.09 II 0.10 II SubstitutionofFuelOil 1% Sulfur I 0.00 I 0.00 I 0.00 I SubstitutionofFuelOil2% Sulfur 0.00 0.00 0.00 SubstitutionofFuelOilHigh Sulfur 0.00 0.00 0.00 Total 0.08 0.09 0.10 Inthe highcase, with low Iraqigas prices ofUS$3.4-3.7/mmbtu in2010 risingto US$3.5-3.8/mmbtu in 2020, the demand for gas would be higher, as shown inTable A-13 below. -73- Table A-13. High-Case AggregateDemandfor Gas (MMCM/day) I Commercial I minimal i minimal i minimal I Industrial LPG Substitution 0.10 0.14 0.17 SubstitutionofFuelOil 1% IIISulfur 0.81 1.08 1.30 SubstitutionofFuelOil2% Sulfur 0.13 0.17 0.20 SubstitutionofFuelOil High sulfur 0.76 1.01 II 1.21 Total 1.80 2.40 2.87 Note: MMCM= million cubic meters; Source: CEPCO 2004. -74- r O I 0 d 'al bi 0 I'- 2c (d Q) i T ---+--- a r( T .. Ir, x O I 0 m p" 3 Annex 6: Inventory of ExistingLaws that Affect the Lebanese Gas Market ExistingLebanese Law, Decrees, and Ministerial Decisions Affecting the Gas Sector Introduction According to the Lebanese Constitution, legislation and lawmaking i s the sole responsibility o f the Lebanese Parliament, which issues what is called the "Code-Law." However, in a Code-Law, the Parliament can give the Government the authority to issue a bylaw for application o f a specific Code- Law. This is referred to as a "Decree-Law." The Parliament can give the Government the authority to issue Decree-Law in specific sector and for a limited period o f time without having recourse to the Parliament. Code-Laws issued by the Parliament, and Decree-Laws issued by the Government, as the case may be, gives the concerned sector Minister the authority to issue the secondary legislation or bylaws clarifying the manner o f implementation o f the specific Code-Law or Decree-Law. These secondary legislationhylaws are referredto as "Ministerial Decisions/Regulations." Altogether, there are 13 existing legal instruments pertaining to, or related to, the hydrocarbons sector, of which 2 have an indirect bearing on the sector. These are the Lebanese-Syria Treaty and General Privatization Law. Below is a summary of each o f the relevant Code-Laws, Decree-Laws, and Ministerial DecisionslRegulations. Most o f the Code-Laws, and some o f the Decree-Laws, are single articles giving the Government or the Minister, as the case may be, the power to issue Decree-Laws or Ministerial Decisions/Secondary Legislation dealingwith the relevant matter. Existing Legal Instruments Governing theHydrocarbons Sector I. CodeLawsPassedbvtheParliament (9 Code-Law #57 dated May 25,1991-The Lebanon-Syria Treaty The Lebanon-Syria Treaty i s a general treaty that covers political, economic, and cultural relations between Lebanon and S p a . The actual treaty was signed by the Presidents o f the two countries on M a y 22, 1991, and was ratified by this Code-Law. On the economic front, the treaty covers, among other matters, trade inoil derivatives, and the supply of natural gas to Lebanonby Syria. (io Code-Law #228 dated May 31,2000-The General Privatization Law This Code-Law defines the forms and manner o fprivate sector involvement inthe privatization o f state- owned assets inkey sectors of the economy, such as the energy sector. The Code-Law also requires that each privatization, and private sector involvement in a key sector designated as such, must receive prior approval of the Parliament. (iii) Code-Law #247 dated August 7,20O0-Merging7 Abolition, and Creation of Ministries and Counsels This Code-Law, created the Ministry o f Energy and Water (MEW), abolished the Ministry o f Oil, and merged the Directorate o f Oil into MEW. Mention o f the Ministry o f Oil will be replaced in all Laws, Decree-Laws, and Regulations by MEW. -76- (iv) Code-Law #462 dated September 2,2002-The Electricity Law This Code-Law defines, among other things, the roles o f the Govemment, the entities inthe sector, and that o f the private sector, the structure o f the sector, and the principles of private sector involvement, and creates an independent regulatory agency and the principles ofregulation. (v) Code-Law #549 dated October 22,2003-The Law on Designing, Financing, Development, Rehabilitation, and Operation of Tripoli and Zahrani Refineries; Constructionof a Terminalfor the Export and Import of liquefied natural gas (LNG); Constructionof Facilities to Store Natural Gas; and Establishment of Networks to Sell and DistributeNatural Gas This Code-Law allows the Govemment to tender for and contract on a DBOT (Design, Build, Operate, and Transfer) basis; the designing, financing, development, rehabilitation, and operation of Tripoli and Zahrani Refineries; the construction of a terminal for the export and import o f LNG; the construction of facilities to store natural gas; and establishment of a networks to sell and distribute natural gas. This Code-Law does not address technical and economic regulation o fthese facilities. 11. DECREE-LAWS ISSUEDBY THE GOVERNMENT (vi) Decree-Law # I0095 datedApril 11,1975 & Ratification Decree # I0537 dated July 31,1975 Decree-Law #lo095 gives the Ministry o f Industry and Oil (now the MEW) the right to reconsider and revise all licenses andmonopoly rights given for exploration and productiono fhydrocarbons inLebanese territory with the right to cancel the licenses and monopoly, and to enter into agreements with new specialized companies for exploration and production of hydrocarbons. Under the Ratification Decree- Law #10537, the Lebanese Company for Exploration of Oil and Gas has sole monopoly and was the only company licensedfor oil and gas exploration. (vii) Decree-Law #79 dated June 27, 1997-Fixing the Financial, Economic, and Administrative Rulesfor Oil Refineries in the Lebanese Territory This Decree-Law gives the Ministry the authority to administer and run oil refineries on the Lebanese territory inaccordancewith market and commercial rules. (viii) Decree-Law #121 dated June 30,1977-The Creation of a Joint-stock Company to Transport Oil with Pipelinesfrom Tripoli and Zahrani The Decree-Law created a public-private Joint-stock Company under the name "The LebanesePipeline Company" with an initial capitalization o f 30 million LebanesePounds to construct, own, and operate an oil transmission pipelineconnecting the two oil terminals inTripoli and Zahrani. (ix) Decree-Law #4430 dated December 03,1993-Abolition of the Monopoly License for Oil and GasExploration This Decree-Law cancelled the monopoly license o f the LebaneseCompany for Oil and Gas Exploration provided under Decree #lo537 dated July 31, 1975. This Decree-Law enabled the MEW, in August 2002, to enter into agreementwith Spectrum Energy and InformationTechnology o f the UnitedKingdom to prepare the necessary documentation for international bidding-round for offer of licenses to interested international oil companies for offshore drilling and exploration for hydrocarbons, based on the results of seismic surveys conducted by Spectrum inthe offshore territorial waters and economic zone o f Lebanon. (x) Decree-Law #5039 dated April 9, 1994-Rules for Entering into Contractual Arrangements with Companiesfor Oil and GasExploration The Decree-Law states the rules governingentering into agreementwith companies for exploration of oil and gas. It states the following: > Nature of the agreement: public-private partnership -77- 9 Territorykoncessionarea: 1000kmz; 9 Duration of concession: maximum30years; and 9 Profit sharing. (a) For oil- 9 65 percent statelpublic, 35 percent private company for productionlessthan25,000 barrelslday. 9 70percent statelpublic, 30percentcompany for productionbetween25,000 and50,000 barreldday. 9 75 percent state/public, 25 percentprivatecompany for productionbetween50,000 and75,000 barrelslday . 9 80percent statelpublic, 20percentprivatecompany for productionmorethan75,000 barrelslday (b) For ?as- 9 60percent statelpublic, and40percentprivatecompany. The Decree-Law further clarifies that all the initial capital investmentswill bemade by the private sector, and the investments will be recovered by the private sector over time through yearly compensation o f 45 percent of the value of the yearly oil produced, and 50 percent inthe case of natural gas. Incase o f no oil or natural gas production, the private sector will assume all the loss without any form o f compensation from the Government o f Lebanon. (xi) Decree-Law #5509 datedAugust 11,1994-Organization and General Rulesfor Storage Places of Oil Products, Cisterns,and GasolineStations This Decree-Law givesthe Ministryofthe Industryand Oil the exclusivity infixingthe rules for implementingand organizingofthe following: 9 Storageplaces ofoilproducts; 9 Tanktrucking; and 9 Gasoline stations. (xii) Decree-Law #5484 datedMay 18,2001-Protocol between Lebanon, Syria, Egypt, and Jordan on Exports and Marketing of Natural Gas This Decree-Law ratified the protocol of understanding between Lebanon-Syria-Egypt and Jordan for export of natural gas from Egypt and Syna to Lebanon and Jordan through two pipelines, one terrestrial and the other offshore. It also calls for the creation of two companies for the construction and operations of the pipelines: the offshore pipeline company under the name o f "Ahchark Company," and the terrestrial pipelinecompany under the name o f "Arabia Company." The Decree also states the rules for settingup the companies will be definedby the HighCommittee, which includes the energy ministers of the participating countries. 111. Ministerial Decisions/SecondarvLegislation (xiii) Minister Decision #56 dated July 25,1997-Specijkations of Oil Derivatives BythisDecision, the MinisterofOil (now the MEW) defines the technical specifications ofthe petroleum products imported and consumed in Lebanon. There i s no petroleum law, and this decision provides a basis of technical regulation. The products concerned are as follows: 9 LiquefiedPetroleumGasesCommercialPropane 9 LiquefiedPetroleumGasesDomesticButane/Propanemixture 9 AutomotiveFuel-Gasoline 92Octane -78- 9 Automotive Fuel-Gasoline 98 Octane 9 CharacteristicsOfUnleadedGasoline95 Ron 9 White Kerosene (Domestic) 9 Aviation TurbineFuel P Diesel Oil 9 Automotive FuelDieselOil 9 ResidualFuelOil 9 Asphalt Cement Grade40-50 9 Asphalt Cement Grade60-70 9 Asphalt Cement Grade80-100 > LiquefiedPetroleumGasesIndustrialButanePropane Mixture Draji!Laws Pending Parliamentary Approval There are no other draft laws pendingParliamentary approval relating to downstream gas. The MEW i s planning to develop a Code-Law that will address upstream oil and gas development. However, no draft of this law exists at this time. ConclusionsRegarding Existing Code-Laws, Decree-Laws, and Ministerial Decisions/Secondary Legislation The existing Code-Laws, Decree-Laws, and Ministerial DecisiodSecondary Legislation do not appear to address downstream gas matters in any direct manner. Code-Law #549 only contemplates a DBOT contract for the design, building,construction, and operation of certain network facilities, but it does not address economic and technical regulation of downstream gas. Accordingly, a new downstream gas law will needto be approved as a Code-Law bythe Parliament. -79- Annex 7: Model Gas Law ModelLaw Regarding the LebanonDownstreamGas Sector Chapter I General Provisions 1. Definitions InthisLawonNaturalGas: "AfJiZiated" means the relationship that exists between two individuals or organizations where one o f them controls, or i s controlled by, or i s controlled by an entity which controls, the other person, where "controll' means the ownership directly or indirectly of 50 percent or more ofthe voting rightsina company, partnership or legal entity. "Consumer" means a person who consumes gas for industrial, commercial, or residential purposes, and who may secure (and contract for) a Supply from a Pipeline Enterprise or any other source at its disposal as provided for inthis Law onNatural Gas. "Delivery Point" means the point on a Pipeline System where a user of that system nominates to have gas delivered. "Distribution" means the activity of receiving and delivering Specification Gas through an interconnected systemo f gas pipelines that- (i) has an operating pressure of less than [15] bar, (ii) i s controlled and operated as a single integrated system, and (iii) i s designed and operated solely to provide gas to consumers through pipelines [in a geographic zone to be determined from time to time by the Minister], and may include the operation of connected Storage facilities. "Gas" includes natural gas, propane-air mixture, [and regasified liquefied natural gas (LNG)I. "Gas Sector" meansthe activities of [LNG Import,] Transmission, Distribution, Shipping, Storage, and Supply. "License" means a grant o f rights and obligations for [LNG Import,] Transmission, Distribution, Shipping, or Supply issuedinaccordancewith this Law on Natural Gas. ["LNG"meansliquefied natural gas.] ["LNGImport" means the process of importingLNGinto Lebanonandregasifying it for delivery ina Pipeline System.] -80- (i) ["LNG Enterprise" means any individual or organization who carries out the function of LNGImport inaLNGSystem.] ["LNG System" includes all facilities owned by a LNG Enterprise required to cany out the functions of LNGImport.] "LPG" [liquefied petroleum gas] means propane, propylene, butane, and butylene, and small amounts of other constituents of natural gas that have been compressed and stored inhigh-pressure cylinders. "Minister" means the Minister of Energy and Water (MEW). "Ministry" means the Ministryo f Energy and Water (MEW). "Pipeline" means a line that i s usedor is to be used for the transmission or distribution o f gas. (P) "Pipeline Enterprise" means any individual or organization who carries out the functions o f Transmission or Distribution on a Pipeline System. "Pipeline System" means a pipeline and all branches, extensions, Storage facilities, compressors, loading facilities, interstation systems o f communication by telephone or radio, and real and personal property and works connected therewiththat are owned by a Pipeline Enterprise and are required to carry out the functions of Transmission or Distribution. "Propane-Air-Mixture" means LPG that has been regasified and i s distributed on a Pipeline System. "Public Service Obligations" means the obligations that the Minister or the Regulator i s empowered to impose on Suppliers and Pipeline Enterprises to supply gas to consumers inaccordancewith thisLaw onNaturalGas. "Receipt Point" means the point on a Pipeline System where a user o f that system nominates to present gas for transportation. "Regulator" has the meaning given inArticle 9. "Ship" or "Shipping" means the introduction, conveyance, and removal o f gas from a Pipeline System. "Shipper" means any person who arranges with a Pipeline Enterprise for the Shippingo f gas, and may be an importer, supplier, producer, or consumer of gas, but doesnot include a person who does not take physical title to or possessiono f gas. "Specification Gas" means gas that meets the Receipt Point quality specifications provided by a Pipeline Enterprise and that is approved by the Regulator in the relevant license. "Standard License Conditions'' means the common set of conditions established by the Regulator and approved by the Minister inaccordance with this Law on Natural Gas that -81- specify the rights and obligations o f the holders o f each type o f license that may be granted under this Law on Natural Gas. "Storage" means the activity o f receiving, holding, and delivering gas at underground facilities ingeological formations. "Supplier" means any person who provides a Supply to a Consumer, other than a Pipeline Enterprise supplyinggas to a consumer on its Pipeline System. "Supply" means the sale or commercial provision o f gas by pipeline by either a Pipeline Enterprise or a Supplier to any electricity generator, industrial or commercial concern, residential, or other gas user, for consumption by that user. "Tu@' means the price charged by the following entities: (i) a Pipeline Enterprise for providing transportation services to a Shipper for the Transmission or Distribution o f gas on its Pipeline System, and where applicable, for providing a Supply; or (ii) a Supplier for providinga Supply, and includes any toll, tariff, rate, charge, or allowance charged or made for the shipment, transportation, transmission, care, handling, or delivery o f gas that i s transmitted through a pipeline, or for storage or demurrage or the like, for the provision o f a pipeline when the pipeline i s available and ready to provide for the transportation o f gas, and inrespect o f the purchase and sale of gas that is the property o f any such enterprise and that is transmitted by the enterprise through its facilities, excluding the cost to the enterprise o f the gas at the point where it enters the facilities. "Transmission" means the activity o f receiving, transmitting, and delivering Specification Gas through highpressure pipelines, which have a normal operating pressure exceeding [151 bar, from import locations, [LNG regasification facilities,] gathering facilities, or processing facilities, to the Delivery Points o f connected Pipeline Systems, and includes connected treatment or Storage facilities andmay include Supply to consumers connected to its Pipeline System. 2. Scope of theLaw on Natural Gas This Law on Natural Gas govems the transmission, distribution, shipping and supply o f gas [and the import of LNG,]. This Law on Natural Gas regulates gas sector activities, determines the legal position o f gas sector enterprises and consumers, and provides principles and norms in gas sector activities in the Republic o f Lebanon. 3. Purposes of theLaw on Natural Gas The objectives o f this Law on Natural Gas are as follows: (a) Promote competitiveness o f markets for the supply (whether from domestic sources, imports o f pipeline gas, or LNG) and demand for gas, and to encourage investments to secure long-term supply; -82- Promote better operation, reliability and fairness, open access, nondiscrimination, and extended use o f [LNG Import and] natural gas transmission, distribution, and supply, including relatedfacilities and services; Regulate the activities o f [LNG Import and] natural gas transmission, distribution, shipping, and supply, and to ensurethat tariffs are fair and reasonable inaccordance with the provisions o fthis Law onNatural Gas; Establish a Regulator [under the authority o f the Ministry] to regulate safety, technical, and economic aspects o f the gas sector, responsible for applying regulatory principles of equality, openness, accountability, transparency, andnondiscrimination; Stimulate efficiency in the transmission, storage (where suitable), distribution, shipping, supply,anduse of gas [,and inthe import ofLNG]; Encourage the use o f natural gas as a fuel for electricity generation, for industries and in commercial and residential areas; safeguard the environment; and support the climate change initiative; Develop a competitive market for gas through the creation of a market structure that encourages private sector investment, ownership, operation, and management control of entities inthe gas sector; Ensure the supply of gas at efficient prices and appropriate standardso f quality and safety to meet consumers' requirements to improve the efficiency o f the economy and increase the welfare of all Lebanesecitizens; and Establish a licensing regime for the transmission, distribution, shipping, and supply o f gas by means ofpipeline systems [and for the import of LNG]. 4. Environment Protection in the Gas Sector All gas sector activities shall conform to regulations stipulated inlaws on environment protection [specih the currently applicable laws asfollows: "including, without limitation, .. .'q. 5. International Cooperation in GasActivities (a) The Government promotes international cooperation in gas sector activities with countries, international organizations, foreign institutions, and individuals on the basis of respect for independence, sovereignty, and mutual benefit. (b) The Government encourages, facilitates, and provides favorable conditions for domestic organizations and individuals to cooperate with foreign individuals, organizations, and internationalorganizations engaging ingas sector activities. -83- Chapter 11 Gas Sector Strategy 6. GasMarket Structure The gas market structure inLebanon initially shall involve imports of gas from Syna by a single gas supplier to a single gas buyer, and for the purpose o f displacement of oil as a fuel for power generation. However, all licenses issued under this Law on Natural Gas initially, or at a future time, shall contemplate the following attributes: (a) Competitive activities in relation to gas supply and shipping shall be separate from the naturalmonopoly transmission and distribution activities of Pipeline Systems. (b) Transportation contracts shall be separate from commodity contracts for import and supply of gas. (c) All Consumersand Suppliersshall have open accessto Pipeline Systems. (d) Gas supply to Lebanon will be for the purposes of a fuel for power generation, industrial, commercial, and residential use. Consumers in all categories eventually shall be able to choose their source of gas supply by contract with a Supplier or the Pipeline Enterprise, which delivers gas to the consumer on its Pipeline System. Consumers are free to negotiate the commodity price for their Supply from a Supplier. Transportation prices on the Pipeline Systemare regulated. 7. GasImports Untilcompetition has developed, no person may import gas into Lebanonwithout prior approval by the Regulator [the Minister]. When assessing whether to approve gas imports, the Regulator [the Minister] will determine whether the reasonably foreseeable needs o f Lebanese citizens for gas would merit the import of gas and whether the import o f gas i s on an economic purchase basis. 8. Land Usefor Gas Facilities (a) Developers o f gas sector facilities that involve land use shall establish a plan and timetable for compensation in accordance with law to be submitted to [the Ministrykhe Regulator] for approval. [The Ministrykhe Regulator] may publish [decrees taken inthe council of ministers/directions] establishmg the principles o f compensation that it intends to apply when assessing landuse compensationplans. (b) [The Ministry/the Regulator] shall be responsible for timely ensuring that individuals and organizations involved in gas sector activities have the rights of land use in accordance with law to construct andinstall gas sector facilities andprojects. (c) When gas sector projects and technical design have been approved by [the Ministryhhe Regulator], project investors shall have the right to construct and install gas equipment and facilities on or under areas used by other individuals and organizations incompliance with approved designs andrequirementsregarding safety corridors. -84- (d) Upon having designatedthe right to use land, developers of gas sector facilities shall pay compensation for the use o f land and property in accordance with the directions of the Regulator [andor decrees issuedby the Minister]. [Theprovisions of this section need to be coordinated with any existing Lebanese law relating to land use compensation in an expropriation, suflace lease, or right-of-way situation.] Chapter I11 Regulator 9. Establishment of Regulator. The [insert name of Regulator] (the "Regulator") is established by this Law on Natural Gas as the competent regulatory commission under the Ministry to regulate gas sector activities as described in this Law on Natural Gas. Inperforming its activities under this Law on Natural Gas, the Regulator shall have regardto the provisions of this Law, except where it conflicts with provisions governing the regulator established under the Law on Electricity Sector Organization (Law #462 issued on 05/09/2002). [NOTE: I f a Regulator is merged with the Regulator established under the Law on Electricity Sector Organization, then some of sections II to 24 may not be necessary to the extent that similar rules appear in the Law on Electricity Sector Organization, and those rules would apply to the Regulator.] 10. Effective Date. The Regulator shall be formed and be entitled to exercise its powers on the date specified bythe Ministry. 11, Conduct. Members and staff of the Regulator shall not engage in other employment, and shall perform their duties faithfully, impartially, honestly, and according to law. They may not take advantage o ftheir positions to seek illegitimate gains. 12. Confidentiality. When the Regulator and its members and staff perform their lawful functions, they shallbe obligated to maintain the confidentiality o f a person's or enterprise's commercial secrets of whichthey become aware where the Regulator is satisfied that- (a) Disclosure o f the information couldreasonably be expected to result ina material loss or gain to a person or enterprise directly affected by the functions o f the Regulator, or reasonably could be expected to prejudice the person's or enterprise's competitive position; or (b) The financial, commercial, scientific, or technical information is confidential information supplied to the Regulator and the information has been consistently treated as confidential information by a person or enterprise directly affectedby the functions of the Regulator, and the Regulator considers that the person's or enterprise's interest in confidentiality outweighs the public interest indisclosure. 13. Functions of Regulator. The Regulator shall perform the following functions inregulating the gas sector: (a) To regulate-through the issuance, monitoring, modification, and enforcement of licenses and the issuance o f decisions, orders, and directions under this Law on Natural Gas-the construction and operation o f [LNG Systems,] Pipeline Systems, Shipping, and Supply inaccordancewith and subject to the provisionsofthis Law onNatural Gas; -85- (b) To ensure proper qualification of [LNG Enterprises,] PipelineEnterprises, Shippers, and Suppliers, including without limitation, ensuring that such enterprises are commercially viable, credit-worthy personswith the technical capability to performtheir obligations; (c) To monitor developments in the import, export, transmission, distribution, storage, shipping,and supply of gasinLebanon; (d) To implement and ensure compliance by the relevant persons with any license, rule, decree, decision, order, or direction issuedinaccordance with this Law on Natural Gas; (e) To study and keep under review matters relating to the import, export, transmission, distribution, storage, shipping, and gas supply industry, which the Ministryrequests the Regulator to monitor, and report from time to time on such matters and recommend such measures as it considers necessary or advisable in the public interest for the control and development of that industry; and (f) To deal with regulators or government ministries and departments responsible for regulation inadjacent countries regardingcross-border pipelines. The Ministrymay confer on the Regulator such additional functions inrelation to the regulation, monitoring, and control of [LNG Import,] Transmission, Distribution, Shipping, and Supply and associated matters connected with the functions for the time being o f the Regulator as are appropriate, and may make such provisions (includingthe provision o f additional powers) as are necessary or expedient in relation to matters ancillary to or arising from the conferral on the Regulator of additional functions under this Article. 14. Immurzity. [No action or other proceedings may be taken against the Regulator or its members or staff arising from a failure to perform or to comply with any of the fimctions conferred on the Regulator.] [Consider whether this is suitable in light of applicable administrative law in Lebanon.] 15. Powers of Regulator. When performing its functions according to law, the Regulator shall have the following powers: (a) To grant licenses authorizing the Transmission, Distribution, Shipping, and, where appropriate, [LNG Import and] Supply of gas in accordance with Article 27, or to grant exemptions inaccordancewith Article 37; (b) To modify and revoke licenses authorizing the Transmission, Distribution, Shipping, and, where appropriate, [LNG Import and] Supply o f gas inaccordance with Article 35; (c) To make directions and enforce directions and decreestaken inthe council of ministers to ensure compliance with licenses authorizing the Transmission, Distribution, Shipping, and, where appropriate, [LNG Import and] Supply o f gas; (d) To inquire into, hear, and determine any matter where it appears to the Regulator that any person has failed to do any act, matter, or thing required to be done by this Law on Natural Gas or any rule, license, decision, decree, order, or direction issued pursuant thereto, or that any person has done or i s doing any act, matter, or thing contrary to or in contravention o f this Law on Natural Gas, or any such rule, license, decision, decree, order, or direction issuedpursuant thereto; -86- To order and require any person to do at any specified time and inany manner prescribed' by the Regulator, any act, matter, or thing that such person is or may be required to do under this Law on Natural Gas, or any rule, license, decision, decree, order, or direction issued pursuant thereto and to forbid the doing or continuing of any act, matter, or thing that i s contrary to this Law on Natural Gas or any such rule, license, decision, decree, order, or direction pursuant thereto; In connection with the foregoing, to gather information, including compelling the provision o f information from any license holder; To assess penalties for the breach of any rule, license, decision, decree, order, or direction issuedpursuant to this Law onNatural Gas, inaccordance with Chapter V; To work cooperatively with foreign regulators, ministries, or departmentsresponsible for regulationinadjacent countries regardingcross-border pipelines; To make rules inaccordance with Article 18 and Article 19; and Of its own motion, to inquire into, hear, and determine any other matter or thing that underthis Law onNaturalGasitmay inquireinto, hear, anddetermine. 16. Investigation of Complaints. It shall be the duty of the Regulator to investigate or cause to be investigated whether any relevant requirement or condition o f a license has been or i s beingcontravened either where such a contravention i s the subject of a representation made to the Regulator or where the Regulator i s o f the opinion that there may be such a contravention, where such purported contravention relates to a license issued under this Law on Natural Gas or is otherwise within the authority o f the Regulator. 17. Disclosure. When the Regulator and its members and staff perform their lawful functions, persons and enterprises under inspection or investigationshall cooperate ai-idprovidetruthful and relevant documents and materials. Such persons and enterprises may not refuse to cooperate, obstruct inspection or investigation, or conceal relevant documents or materials. 18. Rules. The Regulator may, following consultation with the Ministry,make suchrules as appears to it requisite or expedient having regard to its duties and functions, including rules requiring or prohibitingcertaincommercial conduct of gas industryparticipants so as to ensurethe orderly functioning of the gas sector, includingthe following: The use o f meters to record quantities o f gas supplied; The installation, inspection, and maintenance o fmeters and servicepipes; Grounds for and procedures for connection and disconnection of consumers; Misuse and theft of gas; Proceduresfor dealingwith gas escapes; and The powersto enter private property. -87- The Regulator may only make such rules after consulting with license holders and with persons or bodies appearing to it to be representative of personslikely to be affected by the rules. Rules made pursuant to this Article may not have the effect of amending or materially alteringthe provisions or conditions of any license. Amendments and material alterations to licenses may only occur pursuant to Article 35. 19. Procedural Rules. The Regulator may make rules respecting the sittings o f the Regulator; the procedure for making applications, representations, and complaints to the Regulator; the conduct of hearings before the Regulator; and the manner of conducting any business before the Regulator; and, generally, the carrying on of the work o f the Regulator, the management o f its internal affairs, and the duties o f its staff. When making these rules, the Regulator shall seek to incorporate principles of openness, transparency, accountability, and independence. 20. Annual Report. As soon as may be practicable after the end of year, but not later than six months thereafter, the Regulator shall cause a report on the performance o f its functions during that year to be providedto the Ministry. 21. Documents. The Regulator shall make available to the public: The rules established by the Regulator pursuantto Article 18 and Article 19; Decisions, orders, and directions of the Regulator; Decreestaken inthe council of ministries ifnot otherwise publicly available; Penalties imposedbythe Regulator; Annual reports of the Regulator contemplated by Article 20; The classes of Consumers as contemplatedbyArticle 6; The StandardLicense Conditions; and The licenses issuedby the Regulator. The Chairmanor other staffmember o f the Regulator designatedby the Chairman shall be responsible for maintaining the documents, files, andrecords of the Regulator. 22. Relationship of Ministry and Regulator. The Ministrymay provide general policy guidance to the Regulator in connection with the performance o f the Regulator's functions under this Law on Natural Gas. Policy guidance provided by the Ministry shall be publishedby the Ministryinthe same manner as other legislative andpolicy matters are published.When performing its duties under this Law on Natural Gas, the Regulator shall take into account the policy directives issuedby the Ministry. The Ministry does not have the right or power to intervene in any specific issue or matter that may be brought before the Regulator. 23. Appeal. Except as provided inthis Article, every decision, order, or direction o f the Regulator is final and conclusive. An appeal may be made to [Ministry][administrative court] from a decision, order, or direction of the Regulator on a question o f law, or o fjurisdiction, or bias on the part o f a member of the Regulator who participated in the decision, order, or direction, or o f compliance with the rules of procedural fairness described inArticle 24. No appeal lies from a decision of the Regulator on any other -88- grounds. An application for appeal must be made within 30 days after the release o f the decision, order, or direction sought to be appealed. 24. Procedural Fairness. Inperforming its functions under this Law on Natural Gas, the Regulator shall do the following: (a) Givenotice to interested personsof any applicationreceivedor hearingthat the Regulator i s to conduct inthe manner provided inthis Law onNatural Gas; (b) Conduct hearings with respect to the issuance, revocation, or suspension of licenses in those circumstances provided for inthis Law on Natural Gas; (c) Givewritten reasonsfor its decisions, orders, anddirections, which reasons shall be given at the time of the decision, order, or direction; and (d) Where a decision, order, or direction i s made after a hearing, render its decisions based on the evidence, argument, and informationpresentedat the hearing. 25. Levies. Subject to the approval of the Ministry, the Regulator may, for the purposes of recovering all or a portion of such costs as the Regulator determines to be attributable to its responsibilities under this Law on Natural Gas, impose fees, levies, or charges on any enterprise that holds a license issuedpursuant to this Law, and provide for the manner o f calculating the fees, levies, and charges inrespect o f the person or company and their payment to the [Ministry o f Finance] [Government of Lebanon]. The Regulator may also specify the rate of interest or the manner of calculating the rate of interest payable by an enterprise on any fee, levy, or charge not paid by the person or company on or before the date it is due. Chapter IV Licenses 26. Prohibition of Unlicensed Activities. No person may- (a) Construct or operatea Pipeline System [or LNG System]; or (b) Carry on [LNG Import,] Transmission, Distribution, Shipping, or Supply, unless authorized to do so by a license or exemption given under this Law on Natural Gas. 27. Issuance of Licenses Uponapplicationby an applicant, the Regulator may issue a license authorizing the following: (a) The construction and operation of a Pipeline System by a Pipeline Enterprise for the Transmission or Distribution of gas; (b) [The construction and operation o f a LNG System and LNG Import by a LNG Enterprise;] (c) The Shippingof gas by a Shipper; or (d) The Supplybya Supplier. -89- A separate license i s required for each connected system o f gas pipelines for the Distributionor Transmission o f gas. A license for Supply by a Supplier or the operation o f a Pipeline System by a Pipeline Enterprise may include a requirement to comply with Public Service Obligations. A Pipeline Enterprise i s not required to hold a Supply license for Supply to any consumers connected to its Pipeline System where its license establishes the terms governing Supply to such consumers. 28. License ConditionsregardingAccess and Tar@. The Standard License Conditions for licenses issued under this Chapter IV shall include the following requirements: (a) An enforceable legal right o f third parties to gain access on a fair and equal basis to existing, new, and expanded Pipeline Systems, with the details o f such access to be determined by the Regulator. (b) A requirement that the Tariffs for the transportation o f gas between Pipeline Enterprises and their respective users be established, reviewed, and revised by the Regulator, provided that suchTariffs take into account the following principles: (i) B e cost-reflective so that the costs o f transmission and/or distribution assets and their operation are allocated to users according to costs imposed by their use o f these assets, and Pipeline Enterprises should have the opportunity to earn an economic rate o freturn on the pipeline investment; (ii) [Reflect transport distance, so that Tariffs may be zonal, entry/exit or postage stamp-based, or a combination o f these;] and (iii) [Include guaranteed (firm) capacity and interruptible service components.] (c) Where the license involves Supply, the followingprinciples apply: (i) A requirement that Tariffs for Supply applied to Consumers who have not negotiated their Supply Tariffs be established, reviewed, and revised by the Regulator, provided that such Tariffs take into account the followingprinciples: (1) The price o f gas, as approved by the relevant Government authority (who may be the Minister or the Regulator), which shouldbe competitive with prices for alternative fuels; and (2) The constituent cost elements involved in providing the Supply to the Consumer, comprising the transmission tariff, the distribution tariff (as applicable), the price o f gas, and other reasonable supply-related costs. (d) requirements that: (i) An issue o f compliance with the principles inArticle 28 shall be decidedby the Regulator; and ' (ii) The Regulator may issue a direction on the interpretation o f the principles in Article 28. -90- 29. Codeof Conductfor Certain LicenseHolders (a) IfaPipelineEnterprisewishes to transport gas on itsownPipeline System, itshall apply inits license for the right to do so, and the Regulator may issue such license, provided that the Regulator shall include provisions in the license requiring such enterprise to establish separate accounts for its Transmission, Distribution, Shipping, and Supply activities and other activities, and to establish a code o f conduct goveming the appropriate behavior o f such enterprise in its dealings with other users o f the Pipeline System. (b) Where an individual or organization who has a contract for the transportation o f gas on a Pipeline System i s affiliated with the enterprise holding the license for such facilities, then the Regulator may include provisions in the license o f the Pipeline Enterprise that establish a code o f conduct goveming the appropriate behavior between the affiliates in relation to licensed activities, including separate accounts. (c) If a Pipeline Enterprise is the Supplier of gas to Consumers connected to its Pipeline System, it must establish and maintain a code o f conduct approved by the Regulator goveming the appropriate behavior between its Pipeline System and Supply businesses in relation to licensed activities, including separate accounts. 30. Evaluation of Applications (a) An applicationfor a license shall be made inthe manner prescribed by the Regulator and shall be accompanied by such application fee (if any) as may be prescribed by the Regulator. (b) Subject to the conditions o f this Article, the Regulator shall evaluate each application for a license. Before granting any license, the Regulator shall give notice to all potentially interested persons stating that it intends to consider the license application and specifying the period (not being less than days from the date o f publication o f the notice) within which representations or objections with respect to the application may be made. The Regulator shall consider any representations or objections which are duly made and not withdrawn. (c) The Regulator may notify the applicant that, on the basis o f its findings and any public inputreceived, it intends to issue the license or reject the license. Notice of the findings and reasons for those findings and the decision shall be served on the applicant concerned and any parties who provided input to the Regulator within [three] months o f the latter o f the application and any hearing, and such findings and decision shall be made available by the Regulator on request. Ifthe findings o f the public consultation and the decision results in a material variation in the application made to the Regulator by the applicant for the license, then the applicant has the right o f accepting or rejecting the license that results from the application. 31. License Term A license shall be inwriting and, unlesspreviouslyrevokedinaccordance with any term contained inthe license, shall continue inforce for such period as may be specified inor -91- determinedby or under the license. The StandardLicense Conditions may contemplate the periodic review of any Tariff establishedinthe license. 32. Form of License The Standard License Conditions for licenses related to [LNG Import,] Transmission, Distribution, Shipping, or Supply shall be established by the Regulator and approved by the Minister. The form of a particular license for [LNG Import,] Transmission, Distribution, Shipping, or Supply shall be determined by the Regulator based on the circumstances of the particular application. 33. Public Consultation To involve stakeholders and provide transparency in the decisionmaking, this Law on Natural Gas contemplates the Regulator seeking public consultation in specified circumstances. The Regulator shall give notice stating the date (being not less than 30 days from the date of giving notice) by which consultation i s sought and the manner in whichitmaybeprovided. All consultations shall be open to members of the public, and may be held before a quorum o f members o f the Regulator or any other individual or organization authorized bythe Regulator to holdsuchahearing. At a public consultation, those individuals or organizations by whom objections or representations were made shall bepermittedto be heard. The Regulator may administer oaths; issue notices in the name o f the Regulator; issue subpoenas; compel the attendance o f witnesses and the production of books, accounts, papers, records, documents, and material inany media; andtake andreceive evidence. The Regulator shall, within a reasonable time from the date o f completion of a public consultation, prepare its findings onthe basis of such consultation. 34. Compensation The Regulator may fix such amount as it deems reasonable in respect o f the actual costs reasonably incurredby any individualor organization who made representations to the Regulator at a public consultation and the amount so fixed shall be payable forthwith to that individual or organization by the applicant or license holder affected by the public consultation. 35. Modijication and Revocationof Licenses (a) Subject to the conditions o f this Article, the Regulator may modify the conditions of a license or revoke a license. (b) A license may be modifiedby the Regulator if(i)policy decision of the Minister would a require modification to any license; or (ii) any other circumstances exist or arise where the Regulator considers suchmodification to benecessaryor desirable. (c) A license may be revoked by the Regulator if (i)the license holder requests its revocation, and the Regulator considers such revocation to be appropriate; or (ii) the -92- conduct o f the license holder leads the Regulator to conclude that enforcement of the penalty provisions set forth inChapter V would be insufficient to sanction such conduct, and revocation o f the license is justifiable based on repeated noncompliance by the license holder with its obligations under the license. An application to modify or revoke a license may be made by the Regulator on its own accord, or upon the request of a license holder or an interestedparty. (d) Before modifying or revohng any license, the Regulator shall give notice of the application to modify or revoke the license and set out its potential effect, stating the reasons for the proposed modifications or revocationand specifying the period (not being less than 0 days from the date of publication of the notice) within which representations or objections with respect to the proposed modifications or revocation may be made. In all other respects, the process to be followed by the Regulator in the modification or revocation of a license shall be the same as the process for the evaluation o f an application for a license pursuant to Article 30. Breach of License TheRegulator, onbeing satisfied that alicense holder is contravening or is proposingto contravene any relevant condition of a license granted by it under this Law on Natural Gas, and where the Regulator is satisfied that immediateaction is necessaryto protect public health, safety, or the environment or to prevent the dissipationo fthe assets o f a license holder, may direct the license holder engaging inor proposingto engage insuchpractices to discontinue or refrain from such practices. Exemptions The Minister may specify individuals or organizations o f a particular class to whom exemptions from the requirement to hold a license for [LNG Import,] Transmission, Distribution, Shipping, or Supply may be granted by the Regulator. [The Minister may only specify the following classes of individuals or organizations to whom exemptions may be granted:] (i) Gas transporters whose Transmission Pipeline Systems are less than 0 kilometres; and (ii) [Insert here any other categories of activities where exemptions may be appropriate]. The Regulator may grant an exemption from the requirement to hold a license for [or LNG Import,] Transmission, Distribution, Shipping, or Supply by those classes of individuals or organizations or a particular individual or organization covered by the categories listed in such an exemption. An exemption granted by the Regulator may be revoked inaccordancewith any term contained inthe exemption. Where the Minister revises the classes of individuals or organizations to whom an exemption may be granted and the effect o f this amendment is to require individuals or organizations previously exempt to hold licenses, then an exemption granted to such individuals or organizations isrevoked. -93- 38. Transfer A transfer o fa license or any interest ina license is not effective untilauthorized bythe Regulator [and approved by the Minister]. 39. Inspection by Regulator The Regulator shall be responsible for conducting regular inspections o fperformance by any license holder o f the following: (a) Decisions, orders, and directions o fthe Regulator; (b) Decrees taken inthe council of ministers; (c) Terms and conditions o f the license; and (d) Therequirements ofthis Law onNatural Gas. Chapter V LegalLiability 40. [Penalties-to be completed by the Government of Lebanon.] Chapter VI SupplementaryProvisions 41. Regulator as Arbitrator The Regulator shallact as bindingarbitrator o fany disputes involvinga license holder where- (a) Such dispute arisespursuant to or inrelation to a license, includingwithout limitation: (i) Disputesregardingaccess to spare capacity; (ii) Tariffs;or (iii) [Others];or (b) Such dispute arises pursuant to a contract between any license holder and a third party, and such contract specifies that the Regulator i s the arbitrator in a binding arbitration contemplated under the contract. 42. Other Transitional Matters All provisions ofprior laws, regulations, anddecreesthat are inconsistent or inconflict withthe provisions of the present Law become nulland void upon coming into force of this Law. [Other transitional and miscellaneous matters-to be completed by the Government of Lebanon.] -94- vi m N