3. Benefits of Long-Term LNG Supply Contracts
The Commission has previously determined that LNG will promote a diverse supply portfolio and price benefits to the California market. (D.04-09-022, affirmed in D.05-10-045.) However, according to the EIA, "the U.S. LNG market is expected to be tight until 2012, because of supply constraints at a number of liquefaction facilities, delays in the completion of new liquefaction projects, and rapid growth in global LNG demand." (AEO2007, p. 6.) We consider how ratepayers can best benefit from long-term LNG supply contracts. Specifically, we inquired whether the utilities can negotiate long-term LNG supply contracts to guarantee reliable gas supplies at a reasonable cost , and whether ratepayers benefit more by allowing the utilities to continue to purchase natural gas without regard to whether the supply is domestic or LNG.
The comments range from expressing cautious interest in exploring the possibility of long-term LNG supply contracts, to recommending against long-term supply contracts for any gas supply:
· The Sempra utilities believe that LNG imports have the potential to provide substantial benefits, "[b]ut we do not yet know whether long-term procurement contracts with LNG suppliers are the best approach, or even a viable one."
· PG&E believes that there are benefits to attracting LNG supplies in general to California, but does not prejudge the contractual arrangements that would create the most value for its customers.
· Edison believes that utilities should be allowed to enter into long-term procurement contracts for natural gas (regardless of supply source), but should not require them to do so.
· Clearwater Port suggests that long-term contracts in general will increase investment in natural gas infrastructure, but recommends that each long-term LNG contract be evaluated on its own merits and on a level playing field with other natural gas supplies.
· Woodside shares the position that the Commission should allow, but not require, utilities to enter into long-term LNG procurement projects, and posits that LNG supply projects can and should be economically viable without long-term utility commitments.
· Coral believes that California has sufficient overall natural gas infrastructure and supply diversity to meet demand, promote gas-on-gas competition and provide supply reliability, and suggests that further economic benefit can best be achieved by incorporating price risk management into the utilities' procurement incentive mechanisms, without regard to supply source.
· The Indicated Producers maintains that LNG supplies should compete on an equal basis with other natural gas supplies.
· GTN likewise maintains that LNG supplies should compete on an equal basis with other natural gas supplies, and questions the need for long-term supplies from any source.
· El Paso, along with CE Council and RACE, cautions against long-term LNG procurement contracts at this time, given the current and expected near-term market conditions.
· TURN and DRA maintain that long-term LNG contracts do not make sense under current market conditions and question the need for any long-term supply at this time.
· CE Council and RACE suggest that there is no established need for LNG supplies in order to meet demand.2
Against this backdrop, we address our particular areas of inquiry below.
3.1. Reliability and Cost Guarantees: Other Benefits
We sought comment on whether the utilities can negotiate long-term LNG supply contracts to guarantee reliable gas supplies at a reasonable cost. There is general consensus that the Commission should not attempt to identify or require particular reliability or price guarantees. The degree of liability that the supplier assumes for force majeure events, the definition of what constitutes a force majeure event, whether the supplier must identify and dedicate the supply source, whether the supplier has the right to divert identified supplies, the definition of the price index, the length of the contract term - all these terms, and others, will impact the contract price. As we recognized in our order instituting this rulemaking, current LNG prices substantially exceed those of domestic natural gas; to the extent that terms and conditions increase the reliability of the supply and place more risk on the supplier, this premium is likely to increase. The comments generally suggest that, rather than identifying and requiring particular reliability or cost guarantee terms, the Commission should consider the reasonableness of LNG supply contracts based on the contracts taken as a whole. Given this record, we therefore set aside the question of whether it is possible for long-term LNG supply contracts to provide reliable supply at a competitive price.
We nevertheless consider whether, all else being equal, utility contracts for long-term LNG supply might provide additional ratepayer benefits, for example, whether they will increase the likelihood or timeliness of developing the West Coast LNG market. We cannot, on this record, conclude that to be the case.
PG&E cites to its consultant Wood McKenzie's report which speculates long-term commitments by utilities and other companies representing wholesale natural gas loads are necessary in order for companies to undertake LNG infrastructure projects on the West Coast. However, we observe that there are a number of LNG projects currently being proposed on the West Coast, including those of parties to this rulemaking, as well as Sempra LNG's Costa Azul facility that has already been built, without a major California utility customer. As Edison points out, to the extent that new construction of LNG projects has been delayed, that has been due to regulatory and permitting obstacles, not to the absence of long-term contracts with California utilities. In addition, as Woodside points out, LNG projects may serve peak or seasonal demand, or serve customers other than the California utilities such as marketers and end-use customers. Given these facts, we are satisfied that California utilities need not take on the role of anchor tenants through long-term supply contracts in order to ensure the development of the West Coast LNG market.
Wood McKenzie speculates that potential offers of long-term LNG contracts by California utilities will increase the chances of attracting LNG suppliers to the West Coast gas market sooner and in greater volume than might otherwise occur, but offers no analysis supporting the premise that potential offers must be for long-term contracts, or with California utilities as opposed to wholesale marketers in order to have an enhanced effect. We expect, as TURN suggests, that LNG suppliers will be attracted to the West Coast market when the West Coast market offers attractive prices relative to other international markets, regardless of the length of the contract and regardless of whether the party to the contract is a California utility.
3.2. Scope of Supply Solicitations
We sought comment on whether the utilities' purchase of LNG supplies should be treated the same as their purchase of any other natural gas supplies, and whether utility solicitations for LNG supplies should be open to all sources of gas. Most parties who commented on these issues agree that LNG supplies to the California market should be competitive with other supplies regardless of supply source. Notably, supporters of this viewpoint include LNG project developers and marketers such as Clearwater Port, Woodside, Coral, SES and Sempra LNG. We agree.
Most of these parties likewise recommend that the utilities conduct all-source requests for proposals for offers (RFPs) for gas supply. The notable exceptions are the Sempra utilities and Sempra LNG who recommend, instead, that the utilities conduct LNG-only RFPs.3
As discussed below, under our current gas policy and procedures, the utilities have the discretion to explore supply options by any means they choose, with cost recovery subject to the gas utilities' procurement incentive mechanisms (or, in the case of the electric utilities, Energy Resource Recovery Account (ERRA) review). We do not review the gas utilities' processes and procedures for soliciting gas supply; we only review the resulting costs under the procurement incentive mechanisms for purposes of cost recovery. Having found no basis to conclude that the California utilities' entry into long-term LNG supply contracts will provide ratepayer benefits, we decline to instruct the utilities on how to solicit LNG supply or gas supply in general.
The Sempra utilities recommend conducting LNG-only RFPs so that the utilities may serve as anchor tenants to allow economic incremental LNG supplies to materialize. They maintain that the Sempra utilities' RFPs, at least, should not solicit other natural gas supplies because they already have access to enough domestic supplies to meet their core customers' needs for the foreseeable future. We do not comprehend this rationale. As we concluded above, the California utilities need not serve as anchor tenants in order to spur the development of the West Coast LNG market.
Sempra LNG recommends conducting LNG-only RFPs on the basis that LNG supply arrangements require a long lead-time for the development of infrastructure in the supply delivery chain, in contrast to domestic supply arrangements. Sempra LNG points out that LNG supply arrangements typically require time for the supplier to complete production, transmission and liquefaction facilities, make shipping arrangements, and develop receipt, storage and re-gasification facilities well in advance of the commencement of deliveries. Sempra LNG's observations raise the issue of whether and how to incorporate longer-term planning into the California gas utilities' portfolios. This issue is beyond the scope of this proceeding, which is focused on LNG supply only.
2 We decline to revisit the issue of need for LNG supplies, which CE Council and RACE raise here. The Commission has previously determined that there is a need for LNG in D.04-09-022, as affirmed in D.05-10-045 denying RACE's application for rehearing.
3 PG&E states that it does not have a strong view as to whether bilateral negotiations or an RFP is the better procedure, but recommends that, in the event of an RFP, it should be for "new" gas only.
