Interview with Tom Connell on Sky News Afternoon Agenda
Parliament House, Canberra
Topics: Investment risk of Federal Government’s gas market intervention
Tom Connell: Future gas and liquid natural gas projects could be in danger of having their investment removed as the government cracks down on gas companies. Up to 12 projects worth $32 billion are facing “major uncertainty”. Rinehart-backed energy company Senex has already stopped work on its coal seam expansion effecting the resources industry in Queensland. There are growing industry concerns about what the price cap might do. The government’s coal price cap also comes into effect from day. Let’s get more on this. I’m joined by Samantha McCulloch, the Chief Executive of APPEA, the gas peak industry body. Thanks very much for your time. So this figure – I’m just trying to sort of figure out how many actual projects at this point have stopped, have paused, are not going ahead or are going to actually be delayed. Can you put a figure on that in terms of the projects or the dollar value?
Samantha McCulloch: So, Tom, thanks so much for having me. There is considerable uncertainty in the market and what we have is around $20.7 billion of oil and gas investments planned on the east coast of Australia that are now facing considerable uncertainty because of the government’s reforms introduced last week. With the announcement of the Senex project being paused, we’re seeing the very immediate and very real consequences of this intervention only a week after it was introduced.
Connell: Is that the only one though? Senex have said they are pausing it and they are mulling over what the ramifications will be. The others are just “we’ll see”, it’s uncertainty?
McCulloch: Well… all of these projects will be under assessment now to understand what the impacts of these interventions will be on individual projects. And we should clarify the extent of these market interventions are unprecedented and far reaching. There is, of course, the $12 price cap that is proposed to be introduced for one year. The order was released yesterday. It comes into effect today. The second part of the reforms is a mandatory code of conduct that will allow the government to essentially regulate a rate of return on these investments. So, of course, as we work with the government through the detail of this code of conduct, these projects will be facing considerable uncertainty in terms of what that will mean for their future investments.
Connell: But as we are right now, Senex is paused. That’s the one concrete action, for want of a better word. The others we will wait to see. They are looking at things, they’re seeing how beyond 12 months will stack up. Because future projects aren’t affected by the 12-month cap…
McCulloch: Well, Tom, just to clarify, though, in terms of the price cap, it applies to any existing production licence. So there will be projects that have a production licence but are yet to start producing, are yet to bring that new supply into the market…
Connell: But are any of them going to happen in the next 12 months anyway?
McCulloch: Well, that’s a question for individual projects. Our concern as an industry is we take our obligations to our customers seriously. We want to ensure that we continue to keep the gas in the pipelines, to keep that supply to Australian households and industry. And what we are seeing is the government’s intervention is already having the opposite effect of what was intended and of course of what is needed in bringing new supply on to the market to reduce those prices.
Connell: It’s one pause in terms of concrete action. But just to clarify – you’d have oversight of this, I’m not asking you to necessarily name companies or projects – but are any of them going to actually be producing gas domestically in the next 12 months?
McCulloch: There are projects that are looking at start producing in the near term…
Connell: In 12 months?
McCulloch: Many of these projects might be looking at what the pace of bringing that new supply onto market because of the uncertainty. Of course, there is the price cap that comes into effect today but the mandatory code of conduct will be in effect from the first quarter next year.
Connell: In the next 12-month period, is there anything that realistically could produce gas in that period.
McCulloch: There are well developed projects in the pipeline that could be producing gas… but I couldn’t give you a figure in terms of what that would look like…
Connell: In the 12-months… but in that 12 months?
McCulloch: Well, potentially, yes.
Connell: Potentially, OK… And beyond that 12 months is the other thing the government is still working on. What are you looking for there? Clearly, the government is saying gas prices, they’re not being reliably provided to Australians at a reasonable price. So what would you push back and counter with? What would be acceptable intervention?
McCulloch: Let me make two points on the price cap. The ACCC itself has highlighted that wholesale gas contracts have been struck at an average of $12.34/GJ of gas in recent months. So what we were seeing was the market working. Deals were being struck at competitive rates between suppliers and producers. What we’ve now seen though is unprecedented intervention and in some ways it’s not so much about the price of the cap. It’s actually the nature of the intervention, how it was introduced, and this ongoing regulation of the rate of return that these investments can earn. We need to recognise these companies can spend tens even hundreds of millions of dollars before they earn a cent. It’s a high risk, it’s a capital intensive business and we need certainty for that investment. What we’ve seen in the last week, in the last couple of weeks, is the government intervening with no notice and no consultation and, frankly, that’s making investors very nervous.
Connell: When we talk about production costs, though, it’s important to note, from my understanding, production costs will factor in an annualised amount for that initial investment. So whilst you say companies spend a lot of money – and they do, getting things up – once we get to a production cost which might be $9 or $10, that’s not for that year, that takes into account the life of that extraction, and the annualised amount. So whilst you are pointing out there’s a cost there, as long as that production cost is still well below $12, they are recouping the money from that initial extraction and exploration.
McCulloch: Lets’ be clear. In terms of the rate of return that’s going to be imposed through a mandatory code of coduct, we’re yet to see the detail of that. We will work with the government in the course of the next month or two to iron out what that would look like. But, frankly, it is not conducive to investment for the government to be stepping in and saying this a regulated rate of return, here is what we think a particular project should be able to learn based on investments of billions of dollars.
Connell: I’m just trying to clarify that point. It is a complex thing for non-experts to understand. When we talk about rate of return on a gigajoule, that does factor in all those up front costs you were talking about, doesn’t it?
McCulloch: Well, we don’t know yet. So we are still looking at the details of this…
Connell: No, no. But I’m talking about when a gas company says, here’s our cost of production. That does factor in their initial outlay and then spread that out over the time of the extraction.
McCulloch: I think some of the concern is the rate of return that the government will impose on the industry. This is an unprecedented and far-reaching intervention into the market. It is dismantling the market entirely. What we are seeing, Tom, is the costs of production are increasing. We’re seeing higher costs of capital. We’re also looking to develop fields that will be of higher cost.
Connell: That’s a fair enough argument to mount once we get to those costs. I’m just trying to clarify. You’re the peak body. When we hear about, here’s the cost of production. You’re keen to mention the initial outlay. That is factored into the cost of production, isn’t it?
McCulloch: Well, yes. But this is actually not what the new code of conduct is driving at. It’s driving at what is the rate of return that can be earned on what is a high risk and capital intensive industry. Our concern, as an industry, we want to ensure that there is supply coming to the market. One of the reasons we are seeing higher costs in the domestic market is because we are seeing diminished supply. And we need to ensure that we’ve got the gas in the pipelines delivering to households, delivering to industry.
Connell: If there’s less supply, that doesn’t mean it’s costing more to produce. That just means you can charge more for it?
McCulloch: What I’m saying, Tom, actually is that the new fields coming online will be higher cost and it’s the tightness in the market because we still have that strong demand there. In fact, the role of gas is growing, particularly in power generation.
Connell: But the cost of production is actually nothing to do with demand. It’s whatever production is. It’s the area, it’s the development, it’s the initial exploration costs.
McCulloch: Tom, this is not an industry that’s akin to a pipeline or a road. This is a high risk capital intensive investment. And for the government to say this is the rate of return you can earn, and we won’t tell you that, and this is going to apply retrospectively to existing fields, that is creating a considerable amount of uncertainty and nervousness.
Connell: Good point, fair enough. But the cost of production isn’t actually effected by tightness. The cost of production is the cost. It’s what the exploration costs. It’s salaries… It’s all those things.
McCulloch: Prices are factor of supply and demand.
Connell: Price is different. I am saying cost of production. That’s not effected by tightness of production. Cost of production is what it costs to produce.
McCulloch: Cost of production varies across the industry. And what I am saying is that cost of production is increasing and actually because different fields are being developed, the cost of capital is increasing…
Connell: Absolutely, you got to the lowest cost first and you’re gone. That makes sense. But it’s not effected by tightness. The cost of production is not affected by the tightness of market.
McCulloch: The cost of production is actually not what is being driven at in terms of the mandatory code of conduct. The concern of the industry is that the government will step in with very little consultation and no notice to say that we are going to regulate the rate of return that you can make on investments. This is not just a concern for our industry but it’s a concern for all industries, frankly, Tom, because what we have done now is send a very strong signal to our international investors, to domestic investors, that Australia is not a safe and secure destination for that investment because at any given moment the government can step in and retrospectively determine what rate of return you can make for those investments.
Connell: On the rate of return, one of the big things that got attention from the government, was industry saying they have been charged $30, $35, $40 a gigajoule, in some cases. Is that too high a price? Is that gouging?
McCulloch: Tom, as I just indicated, the ACCC itself keeps a record and publishes the average price which is $12.
Connell: Average price. We know that. I’m talking about individual contracts that have been that high. Is that gouging?
McCulloch: If there are individual contracts that high, I would suggest to you that is in the retail market – which is not the subject of the price cap. The wholesale market – the deals are being struck at around $12/GJ.
Connell: Right but they have had to do those deals and it’s (inaudible). Is that price gouging – $35, $40? Is that gouging?
McCulloch: These gas contracts can be quite complex so it depends on what are the transport costs, where are you getting the gas from, how much, the interruptability?
Connell: You are never going to get near the costs… Come on, $35-$40. That is a massive…
McCulloch: I would suggest to you again they are not deals being struck in the wholesale market. They might be for smaller quantities, under different conditions, potentially in the retail market. But where the gas producers are selling gas into is the wholesale market and the ACCC itself regulates this, keeps an eye on prices and has published that the latest prices that those agreements being struck at is $12.34.
Connell: Which is the average. But anyway…
McCulloch: Which is the average.
Connell: Alright, we know it’s a busy time for you. Hope you get some sort of break. Samantha McCulloch, from APPEA, thanks for your time.
McCulloch: Thank you.
