Natural Gas Release Programme

February 2012 Author: Rafal Hajduk

Contacts

Introduction

PGNiG S.A. (PGNiG), which has a monopoly position in the Polish natural gas market, has just published its view of the Natural Gas Release Programme (NGRP).

The concept of the NGRP presented by PGNiG discusses two issues: the functioning of the natural gas market and the implementation of the NGRP.

Functional model of the natural gas market

The main assumptions of PGNiG’s model require (inter alia) the following necessary modifications to the mechanisms currently used to regulate natural gas prices in Poland:

  • (A) a proposal that PGNiG conclude a voluntary agreement with the President of the Energy Regulatory Office (ERO) which would require the parties to comply with the principles set out in such agreement until 31 December 2015 (Regulatory Agreement). The Regulatory Agreement would govern, among other matters:
    • the methodology to be used in the calculation of natural gas prices offered by PGNiG under the NGRP;
    • the indexation method to be applied to natural gas prices offered by PGNiG under the NGRP in consecutive quarters up to 31 December 2015;
  • (B) a system of auctions in which PGNiG would sell its natural gas for a price calculated for the NGRP in accordance with the method set out in the Regulatory Agreement;
  • (C) an administrative decision by the President of the ERO exempting PGNiG and other sellers of natural gas from the obligation to submit tariffs for approval in relation to non-domestic (institutional) users;
  • (D) maintenance of the obligation to submit tariffs for approval in relation to domestic end-users, with the assumption that the wholesale price applicable to such users will be in accord with the Regulatory Agreement.

The provisions of the Regulatory Agreement would be fully consistent with the provisions of the detailed model for the implementation of the NGRP.

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NGRP implementation model

The implementation model contemplated by the NGRP provides that PGNiG would auction off up to 70 per cent of the total volume of its natural gas (based on data for 2011, this would amount to up to 9.4 billion m3/year). Auctions would guarantee public and equal access to all interested parties. PGNiG would not participate in the auctions, but they would be open to PGNiG’s subsidiaries, including the DSOs (Distribution System Operators), the SSO (Storage System Operator), energy producers and trading companies. Natural gas would be available at the Virtual Point located in the transmission system of the TSO (Transmission System Operator), i.e. OGP Gaz-System S.A. Gas auctions would be available in the form of annual contracts for delivery in 2013, 2014 and 2015. PGNIG proposes that the contracts be structured as follows: flat deliveries of annual tranches of 10 000 MWh (approx. 1 million m3) of natural gas, deliverable in 2013, 2014 and 2015 respectively, delivery commencement date to be 1st January of each year; supply would be continuous; the delivery price - in the first quarter of 2013 - would be determined by the relevant auction, whereas in subsequent quarters the price would be indexed in accordance with the method defined in the Regulatory Agreement.

Contracts would provide not only for a physical delivery obligation, but also a physical receipt obligation, thus requiring the delivery or receipt (as appropriate) of 100 per cent of natural gas volumes contracted for. PGNiG’s proposal is based on the same method as is used in the trading of electricity on commodity exchanges.

Auctions would be organized with the help of the relevant commodity exchange. In accordance with guidelines issued by the President of the ERO, natural gas would be offered in five auctions, to be held at regular intervals of 2 weeks. Up to 1.9 billion cubic meters of natural gas (approx. 14 per cent of market share) would be made available in each auction. A secondary market, on which participants in the auctions would be able to trade natural gas freely, would be operated by the relevant commodity exchange after each auction. Parties would be able to enter into bilateral over-the-counter (OTC) contracts on the secondary market, as is the case in all developed natural gas markets (although conclusion of such contracts would be possible only after the receipt of a decision from the President of the ERO exempting the relevant parties from the trading tariff approval regime).

The initial asking price in an auction would be determined based on a wholesale price reflecting PGNiG’s average cost of acquiring natural gas from all sources, i.e. costs of import, costs of producing domestic natural gas (extraction, along with a due return on capital employed), costs of maintaining compulsory stocks in accordance with applicable laws, fees collected by the TSO for pumping natural gas into the transmission system, and PGNiG’s wholesale margin). PGNiG would like to introduce discounts on the wholesale price in order to encourage potential bidders to buy natural gas at auction. The discount available would be equal to PGNiG’s wholesale margin.

The initial asking price in the auction system would be modified to reflect the level of demand. PGNiG’s proposal foresees a system of periodic adjustments to the asking price of gas offered at auction, which is intended to help PGNiG avoid losses (i.e. to cover the actual costs of acquiring gas) but also to avoid a situation in which PGNiG would otherwise generate an unwarranted profit on wholesale trading operations.

In PGNiG’s opinion, the date for implementation of the NGRP will depend on the degree to which the market is ready for such a solution from a legal and organizational perspective; however the program should be implemented within two to three months from the signing of the Regulatory Agreement with the President of the ERO. This transition period would be required to allow the parties participating in the NGRP to make appropriate preparations, especially to sign any agreements that are required with the TSO and the commodity exchange. PGNiG assumes that the necessary organizational changes and changes in law will be made within a time frame permitting the delivery of gas offered under the NGRP to commence on 1 January 2013.

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