Gas Industry Regulatory Models

Agenda Status of the European gas transportation regulation Status of the European gas transportation regulation A case study of regulation in Argentina A case study of regulation in Argentina Lessons learned that can be applicable in India Lessons learned that can be applicable in India

Acceleration of the Process in Europe Second Directive Adopted in June 2003 Directive Electricity (December 1996) Minimum Opening 26%28%33% Minimum Threshold 40 GWh/y20 GWh/y9 GWh/y July 2004 Opening to non domestic clients Directive Gas (June 1998) % 28% Minimum Threshold 25 Mm 3 /y 15 Mm 3 /y July 2004 July 2007 Opening to all clients July 2007 First Directives adopted: in December 1996 : electricity in June 1998 : gas Minimum Opening Opening to non domestic clients Opening to all clients

1st Gas Directive: general principles Conditions for third party access must be transparent and non- discriminatory Conditions for third party access must be transparent and non- discriminatory Tariffs for third party access will be negotiated or regulated Tariffs for third party access will be negotiated or regulated Mandatory accounting separation of transport – distribution – storage – non-gas activities Mandatory accounting separation of transport – distribution – storage – non-gas activities Creation of independent Regulators to: Creation of independent Regulators to: guarantee non discrimination Oversee complaints and penalize abusive behaviour

2nd Gas Directive : a push to open markets Acceleration of the market opening : Acceleration of the market opening : 01/07/2004: Open to all non-residential clients (50% of French market) 01/07/2007 : Complete opening Legal separation of activities : Legal separation of activities : Legal separation of transportation and distribution from other activities Possible to operate a combined network of LNG, storage, transportation and distribution Reinforcement of Regulator role Reinforcement of Regulator role Third party access to storage Third party access to storage

Finance Law of 2001 : end of transport concessions Finance Law of 2001 : end of transport concessions Law of January transposing the 1998 EU Directive : Law of January transposing the 1998 EU Directive :  Role of Public Entities  Tariffs : the CRE (regulator) proposes, le Ministry decides  La CRE controls the separation of accounts  Waiver for international transit of gas  End of GdF import/export monopolies A draft energy law with a chapter dedicated to third party access to storage is circulating A draft energy law with a chapter dedicated to third party access to storage is circulating A future law is anticipated regarding the legal status of EDF-GDF A future law is anticipated regarding the legal status of EDF-GDF Regulation in France

Accounting Separation Exemption Legal Separation A slow evolution of separation of activities Separation of Ownership UK: total separation Italy: participation of Eni in SNAM Should be reduced to 10% in 2004 Spain: 41%participation of Gas Natural in Enagas should fall to 35% in 2004 France: proposed law for EDF and GDF in 2004 ?? Netherlands: abandoned the proposed restructuring of Gasunie Germany ? Belgium: legal separation complete

Tariff structures – many models Entry / Exit Exemption (up to 2008) Distance Postage stamp Entry / Exit system under consideration in Germany UK: long term reservation of capacity through bidding system

Modes of Regulation COST PLUS PRICE CAP Cost plus return on investment Regulated maximum price + Reduced risk for transporters + Lower rate of return necessary + Productivity gains promoted + Sharing of risks + Less intervention by regulator - Little incentive to reduce costs - Incentive to over-invest - Regulator must exercise strict control - Higher risk for transporters - Possibility that quality will suffer in favour of cost reduction France Great Britain, Italy, Spain

Remuneration of Transporters CALCULULATION OF REVENUE TARGET Modalities Asset Value Historic costs (France, Italy) Historic costs (France, Italy) Replacement value (UK) Replacement value (UK) Basis for Return On amortized asset base (France, Italy) On amortized asset base (France, Italy) On asset base before amortization (Spain) On asset base before amortization (Spain) Duration of Contract France : 50 years France : 50 years Italy : 40 years Italy : 40 years Spain : 30 years Spain : 30 years New Investments Special treatment in some cases (France, Italy, Spain)

Rates of Return EXISTING ASSETS NEW INVESTMENTS HYPOTHETICAL NEW INVEST.* FRANCE 7.75% applied to the amortized asset 7.75% applied to the amortized asset Up to 12% for 5-10 years Up to 12% for 5-10 years 9% average 9% average 9.0% 9.0% ITALY 7.94% applied to the amortized asset 7.94% applied to the amortized asset Remuneration after accounting life of asset Remuneration after accounting life of asset 12.45% for 6 years 12.45% for 6 years 10.0% 10.0% SPAIN 6.7% applied to non- amortized asset value 6.7% applied to non- amortized asset value Remuneration after accounting life of asset Remuneration after accounting life of asset Specific remuneration based on case by case Specific remuneration based on case by case 9.5% – 12.8% 9.5% – 12.8% * Based on a 60 year project life – before tax and financing

Argentina – a case study Norte Pipeline: 22 / 0.8 Centro Oeste Pipeline: 31 / 1.1 Neuba I Pipeline: 12 / 0.4 Neuba II Pipeline: 29 / 1.0 San Martín Pipeline: 19 / 0.7 Transportation Capacity 2002 (MMm3/d / Bcf/d) TGN: TGS: Total System: TGS(Petrobras/Enron) 53 / / / 4.0 TGN (Total/ Techint/Petronas/CMS/CGC)

Prior to Dec 92 Since Dec 92 YPF PRODUCTIONPRODUCERS TRANSPORTATION DISTRIBUTION REGULATORYAUTHORITY GAS DEL ESTADO ENERGY SECRETARIAT TGN and TGS 9 Distribution Companies ENERGY SECRETARIAT And ENARGAS Industry Structure Pre 1992

The Privatization Goals Government Objectives for Privatization Generate cash through sale of assets Generate cash through sale of assets Assure stable and reasonably priced gas supply Assure stable and reasonably priced gas supply Foster future investment Foster future investment Create a competitive natural gas market Create a competitive natural gas market Regulator Objectives and Functions To protect consumers To protect consumers To regulate Tariffs To regulate Tariffs To resolve conflicts To resolve conflicts To apply sanctions To apply sanctions To secure fair rates of return To secure fair rates of return To ensure non-discriminatory access To ensure non-discriminatory access

Pipeline  Free market  Deregulated prices  Export/import allowed Production Production  No geographic exclusivity  Regulated rates (“Price cap”)  Expansion are not mandatory  Free access through “Open Season”  Transporters do not buy or sell gas  Reselling Mechanism Transportation Transportation  Geographic exclusivity  Regulated rates (“Price cap”)  Profits only from distribution service  Roll through commodity and transport costs  By-pass by large users possible Distribution Distribution Gas Basin Market Industry Structure Post Privatisation

Free Market Regulated End-user Price Price Gas TransportationTariffDistribution Tariff Tariff ++  Expense recovery + reasonable profit.  Lowest end-user cost.  Promote growth compatible with security of supply Regulated Tariffs must allow: Natural Gas Price Structure

Ten Years Later How has the Argentine Gas Industry performed against the original objectives?

Evolution Evolution A HEALTHY BEGINNING……. More capacity: 65.5 to 130 MMm3/day (2,3 to 4,6 Bcf/day) More capacity: 65.5 to 130 MMm3/day (2,3 to 4,6 Bcf/day) Private investment: over 3500 MMusd in transport & distribution Private investment: over 3500 MMusd in transport & distribution More direct customers of transporters: More direct customers of transporters:  initial customers in 1992: 8 (all of them distribution companies)  present customers: 56 More new domestic users:  1,000,000 more than 1992 More new domestic users:  1,000,000 more than 1992 More dynamic transactions: More dynamic transactions:  Beginning of secondary capacity market and traders…………HOWEVER………… economic crisis has frozen all development of the industry and forced all regulated companies to default on their loans 2002 economic crisis has frozen all development of the industry and forced all regulated companies to default on their loans Consequently, the industry has fallen into crisis Consequently, the industry has fallen into crisis

(net of sales tax) Residential Gas Prices (End 2001) …as a result of the economic crisis, residential gas prices are currently under 3 USD per MMBTU – too low to sustain. Before 2001, Argentina had one of the lowest gas prices in the world….

Conclusions and Lessons Learned General agreement on privatization of transportation and distribution in a regulated environment guaranteeing transparency and equity. General agreement on privatization of transportation and distribution in a regulated environment guaranteeing transparency and equity. No consensus on regulatory model and many variations to consider. No consensus on regulatory model and many variations to consider. In Europe, a fair return for a new investment in gas transportation is seen to be between 9% and 12%. In Europe, a fair return for a new investment in gas transportation is seen to be between 9% and 12%. The Argentine model was effective and functional in generating investment and industry growth at fair prices. The Argentine model was effective and functional in generating investment and industry growth at fair prices. The Argentine economic crisis clearly demonstrates the link between country risk and investment risk. The Argentine economic crisis clearly demonstrates the link between country risk and investment risk.