Can Leviathan Be Prevented From Swallowing Israel's Gas Market?

The field's partners pivoted to the domestic market in response to market shifts, but the government is stuck in 2015 with outdated regulations - and the public will pay the price.

Offshore Leviathan natural gas drilling site.
Albatross

A year ago, the partners in the Leviathan offshore natural gas field made major changes in the plan to develop the reservoir in the wake of the collapse of world energy prices and difficulties finding export markets.

Instead of building a floating offshore platform over the wells they are drilling, capable of handling large quantities of gas for export, they decided to make do, at least in the first stage of development, with using cheaper, more limited means to transport the gas to Israel. The floating platform will wait for the project’s second stage, when the partners hope to sign export contracts with Egypt or Turkey.

As a result, the partners — Noble Energy, Delek Drilling, Avner Oil Exploration and Ratio Oil Exploration — are only budgeting $3.75 billion for the first development phase, instead of $5 billion to $6 billion. But the change means the only customers for the gas will be the Jordan, the Palestinian Authority and the domestic Israeli market.

This is not a trivial change. The government’s gas framework agreement assumed that 75 percent of the gas from Leviathan would be exported, which would create competition locally between the gas from the Tamar and the Karish-Tanin fields.

So what will happen when it turns out that Leviathan is content to be a big fish in an already too-small Israeli market? And what about the natural gas monopoly of Delek and Noble Energy, which control 64 percent of Tamar and 75 percent of Leviathan? Under the terms of the gas framework, this cross holding can stay in place for five years.

While the companies responded quickly to changes in the regional and global energy markets, recalibrating their plans, the Israeli government stood still. The framework that was relevant in 2015 no longer offers solutions for the risks of 2017.

The result will be that Leviathan can take over the entire Israeli natural gas market when the gas from Tamar runs out and further strengthen the already powerful Delek-Noble Energy monopoly; the government’s hands are tied.

Declaring the framework a success because it enabled Leviathan’s development is a dangerous bit of spin. Just as development of the field is getting under way, it is becoming clear that the industry model on which the royalty agreement was based is obsolete. As a result, a new industry dynamic that no one intended could be created.

What can be done to keep Leviathan from swallowing Israel’s natural gas market whole?

Noble Energy, the field’s operator, will over the next few months rush to draw up detailed plans for laying pipes from the field to the shore in northern Israel, near Hadera. As it did when it developed Tamar project, Noble is likely to make sure the transportation infrastructure is used exclusively by Leviathan, so that competitors are blocked out.

Blocking competition

Such a step would kill off prospects for future gas finds for two reasons. One is the very high costs for developing smaller fields because they will have to finance their own pipelines, without Leviathan’s economies of scale.

The second risk lies in preventing a mutual backup network between different gas fields. In other words, to guarantee alternative supplies of gas through a competing producer if the original producer encounters problems.

Blocking the possibility of joint infrastructure could prevent the government from creating such a mutual support mechanism to ensure continuous and safe supplies from all the fields. Such a joint infrastructure is essential for the development of smaller fields, because what power plant would agree to depend on gas from a small producer such as Karish or Shimshon, which have gas but no infrastructure to bring it to the user.

One solution that not yet been officially adopted is to construct an offshore platform for treating the gas, only a few kilometers from the coast, publicly funded. From there, Israel Natural Gas Lines, a government-owned company, would lay pipeline to the shore and take on the risks on land too.

This would require the gas producers to lay their pipelines to this access point platform, which would provide open and equal access to all suppliers — and the natural gas would flow from there to the shore and customers. But this is not as simple as it sounds, especially not when it relies on government funding, and complex legal and operational issues.

Nonetheless, the decision of whether to force Leviathan to open the use of its infrastructure — or to build a joint national infrastructure — must be made now, because the timetable requires the Leviathan partners to act very quickly.

Natural gas customers, such as the private power plants, have signed conditional contracts over the past few months to buy gas from Leviathan. But until last week, when the partners agreed to move ahead with Leviathan development, the partners offered customers “bridging” gas from Tamar to assuage customer worries that the Leviathan gas may not come at all, or may not come on time.

Restrictive trade?

In light of the cross ownership of the two fields, has anyone been supervising these contracts, which could be considered restrictive trade practices by a monopoly? Will bridging terms be offered with identical terms to customers who choose to buy gas from Karish or Tanin?

The immediate implication of switching Leviathan’s marketing efforts to the domestic market should be increasing demand for natural gas, otherwise only one field will be developed in the coming decade. The problem is that Israel’s largest gas consumer, the Israel Electric Corporation, has signed a long-term contract with the Tamar monopoly, in which it is committed to buy a fixed volume of gas for 15 years, without any exit points.

Most of the demand for natural gas in Israel is locked in for the Tamar partners, and because the gas framework did not free the large customers, first and foremost IEC, from their contractual obligations to Tamar; this leaves Leviathan along with the smaller fields with a very limited share of the market, without any large anchor customers.

It would be one thing if IEC had enjoyed preferential conditions in its Tamar contract, but under the draconian contract the IEC is paying the highest price in the Middle East for gas, so why should the Tamar partners change things?

In a world in which the price of a barrel of oil has plunged from $120 to only $50, no other country has left such an expensive long-term gas contract untouched. But so far the IEC has avoided doing so in order not to harm the framework. No business reason exists any longer not to do so, so IEC should begin pressuring to amend the contract and reduce the quantities it purchases.

In August 2015, the government approved a section of the framework in which the energy and finance ministers would present a package of economic incentives within 100 days to encourage exploration and development of smaller gas fields. The list under discussion so far includes tax breaks, financial guarantees, guarantees of customers for the gas and a safety net for the price of the gas. But after 560 days, no plan exists for such incentives.

For some reason, Delek, Noble and Isramco have avoided developing the Dalit gas field, which was reported eight years ago to be commercially viable. Why has Isramco continued to hold on to the rights to drill the Shimshon field, even though it has not done anything about it?

Even if these are not huge fields, they cannot be ignored when designing a plan for diversifying Israel’s energy resources. If the gas monopoly is sitting and waiting for a convenient time, for them, to develop these fields, because they have no reason to open up competition, then the government should not wait and take away these licenses and give them to someone who can meet the legal requirements to develop these fields.