CER15018(a) GNI Proposals on Connections Policy

8/9/2019 CER15018(a) GNI Proposals on Connections Policy

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2015

GNI PROPOSALS ON NEWCONNECTIONS POLICY JANUARY 2015


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GNI proposals on Connection Policy Dec 14 1

Contents

Background............................................................................................................................ 2

Rationale for Change............................................................................................................ 2

Proposal 1: Amendments to Financial Security Criteria ............................................ 3

Proposal 2: Inclusion of Transmission Revenue in all appraisals ............................. 8

Proposal 3: Amendment of Institutional I & C Customers .................................... 12

Proposal 4: Proposals on Existing Gas Areas ........................................................... 14

Proposal 5: Group Sites (different entities, same corridor) ..................................... 16

Proposal 6: Group Sites (same entity, different sites) ............................................... 17

Proposal 7: Treatment of CNG Connections ............................................................ 18

Summary & Conclusions .............................................................................................. 20


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Background

The Connections Policy was approved by the CER on 6th April, 2006 and is a

single connections policy dealing with connections to both the Transmissionand Distribution networks. The policy sets out the detailed criteria for theevaluation of extensions to the gas network, including extensions to towns notcurrently served by natural gas.

While there were some changes to the policy in the interim, the current policyhas been in effect since April 2006. This paper seeks to outline some proposedamendments to the connections policy to enhance the level of economicconnections to the gas network.

The context of this review is that areas of the current policy may be hamperingthe full realisation of the potential economically efficient demand and loadgrowth available for the gas network in Ireland. While the overall risk will beincreased, Gas Networks Ireland (GNI) believe that this is mitigated as theseproposed changes will facilitate additional connections, who would nototherwise connect to the Natural Gas network under the existing ConnectionsPolicy. The addition of the extra load to the system will have the effect ofreducing tariffs for existing customers in the long term.

Separate to this review of the Connections Policy, GNI is working on the roll-outof a range of initiatives aimed at furthering public awareness of the availabilityand benefits of natural gas versus other fuels. Initiatives to promote the use ofnatural gas as a clean, efficient and cost competitive fuel for transport, alongwith integration of biogas in the network are also currently being implemented.

Rationale for Change

There are significant benefits associated with increasing the load on the gasnetwork. A key benefit is the ability to spread the cost of running the network

over a larger customer base, thus achieving economies of scale and a lowertariff rate for customers. New incremental load also offsets decreases inconsumption arising from the loss of existing gas sites (e.g. disconnected sites)and/or lower gas usage by existing gas sites.

“Encouraging the connection of new customer load where it is efficient whichshould in the medium and long term increase throughput and reduce unittariffs for all gas customers”

--- Current Connection Policy


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GNI proposed changes

Proposed amendments to the FS for new connections are outlined below:

i. Increase the FS threshold

ii. Introduce a tiered threshold for FS that recognises the relative paybackperiod for alternative projects

iii. Adjust the credit rating applied to Letters of Credit for Financial Securityassociated with new connections

Proposal 1.1: FS Threshold

GNI believe it is appropriate the raise threshold at which Financial Security

applies. A base threshold of €500k is proposed as GNI’s view is that the currentthreshold of €250k is too low.

Proposal 1.2: Tiered Threshold

GNI believe it is appropriate to introduce a tiered threshold to moreappropriately reflect the relative payback periods of alternative connections. IfProject A has a quicker payback period than Project B then all else being equal,the relative financial risk of Project A is lower and this should be reflected bythe requirement for Financial Security.

The GNI proposals are as follows:If the project becomes NPV positive in 7 years or more, and/or a supplementalcontribution is required, the proposed threshold for Financial Security is €500k.

If the project becomes NPV positive in years 4, 5 or 6, the proposed thresholdfor Financ ial Security is €750k.

If the project becomes NPV positive in 3 years or less, the proposed thresholdwhereby Financial Security is required, is €1m.

NPV Positivein Threshold LNCA Required FS Required

>= 7 years €500K Above Threshold only Above Threshold only4-6 years €750K Above Threshold only Above Threshold only


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The proposal is that a Large Network Customer Agreement is only requiredwhen the FS threshold is met, an NPV amount under the appropriate thresholdis covered by using the standard I&C Agreement. The benefit of thisamendment is that the FS requirement is more closely based on the risk profileof the new connection regarding the speed of payback for investment in the gasnetwork i.e. recognising the relative risk of different projects with differentpayback periods. If Project A has a quicker payback period than Project B thenall else being equal, the relative financial risk of Project A is lower and thisshould be reflected by the requirement for Financial Security.

In this way, connections that cover their costs and contribute downwardpressure to tariffs in a relatively short period are facilitated and incentivised toconnect to the gas network through the removal of the requirement for

financial security.

Proposal 1.3 Financial Security Credit Ratings

Under the current financial security policy, if the connecting entity is rated BBBor higher by S & P and/or BBB or higher by Fitch and/or Baa2 or higher byMoody’s the customer will be exempt from providing financial security.Connections by such entities are not considered the norm however. Financialsecurity is required in the majority of cases.

The most popular (and practical) form of financial security for new connectionsis a letter of credit. Under the current financial security policy, the letter ofcredit must be issued by either:

(a) a Bank with long term unguaranteed unsubordinated debt rated at leastAA by S&P and/or AA2 by Moody’s and/or AA by Fitch. OR

(b) a subsidiary of a Bank which has total balance sheet assets of not lessthan €1,000 million (or equivalent in other currencies) and the long termunguaranteed unsubordinated debt that is rated at least A by S&P or A2by Moody’s or A by Fitch.

Whilst many banking institutions would have met this criteria when the policywas initially written, the benchmark needs to be reviewed to allow connectingcustomers procure a letter of credit from robust financial institutions that theyregularly transact with.

To achieve this, GNI ’s view is that the financial security approach applied toshippers’ financial security (which is typically of a much larger scale than newconnections) should be differentiated from that applied to new connections.


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GNI proposed changes

Taking account of the current financial circumstance along with customerfeedback during discussions with potential new customers as part of the

connection process has highlighted difficulties for new customers (e.g. I&Csector) in putting the required provisions of the current financial security policyin place such that they are unable to use the banks they regularly transact with.

GNI therefore propose the addition of the following text within clause 3.2.1 ofthe Financial Security Policy:

In respect specifically of new connections, and with the prior writtenapproval of the Transporter and where the Financial Security Amount isless than or equal to €1,000,000, an irrevocable standby letter of creditin or substantially in the form attached at Appendix 1, or in such other

form as may be acceptable to the Transporter (a “Letter of Credit”)issued for the account of the Counterparty in favour of the Transporterwhich Letter of Credit shall allow for partial drawings, if necessary, andshall provide for payment to the Transporter forthwith on demand andshall be issued by a Bank with long-term unguaranteed unsubordinateddebt rated at least BBB by S&P and/or Baa2 by Moody’s and/or BBB byFitch and which has total balance sheet assets of not less than €1,000million (or equivalent in other currencies)


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A summary of the initiatives on financial security is outlined below:

InitiativeNumber

Outline of Initiative Rationale

1 Increase the base thresholdfor both the Financial Securityand Large NetworkConnection Agreement from€250k to €500k

GNI’s view is that the value/thresholdof FS was set too low initially

In addition, the threshold needs to beadjusted to reflect time value ofmoney changes since the policy waslast updated.

2 Introduce a tiered threshold(ranging from €500k to €1m) for financial security thatreflects the relative paybackperiod

This change provides a “risk -adjusted”approach to financial security underwhich connections that involve lowerfinancial security should have moreflexibility

3 Adjust the minimum creditratings requirement where theFinancial Security amount is


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Proposal 2: Inclusion of Transmission Revenue in all

appraisals

Each new connection provides incremental revenue for both the transmissionand distribution networks. However, under the current policy, only thefollowing sectors recognise transmission revenue in the appraisal exercise:

1. New Towns

2. Loads with consumption greater than 57.5 GWh/annum

3. Connections that involve investment in transmission assets

2.1 Transmission Exit Capacity Revenue:

At the time of the last policy change, there was extensive flexibility for shippersto optimise their transmission exit capacity bookings through internal transfersin their portfolio and trading with other shippers. Therefore it was very difficultto determine the incremental benefit of a new connection on transmission exitrevenue.

A recent key change in the market has seen the removal of trading transmissionexit capacity on a secondary basis. In the new market structure, shippers needto book peak capacity pertaining to each gas point and cannot rely on a“portfolio” effect to transfer transmission exit between points (or trade withshippers). It is therefore appropriate to recognise the incremental transmissionexit revenue benefit from each connection, and amend the Connection Policyaccordingly to reflect this.

With this in mind, it is proposed that transmission exit revenue be extended tothe appraisal of all categories of connection (i.e. Transmission exit revenueshould be included in the appraisal for all sectors). This would be based on acommitment by the customer on de minimis transmission exit bookings for therequired period which ensures that the Transmission Exit Capacity revenuedoes indeed materialise. Even though the fact that no Large Network

Connection Agreement would be applied, a contract is still put in place and thecustomer would have an obligation to book the de minimis level of capacity asper the Connections Policy. Under the current Connections Policy, only 80% ofDistribution revenues are generally included in the appraisal, therefore the deminimis level of capacity only applies to Distribution Supply Point Capacity.However, if Transmission revenues were included in the appraisals, it isproposed that Transmission Exit Capacity would also be included in the deminimis level of capacity required and the customer would be obliged to bookboth the de minimis level of Distribution Supply Point Capacity andTransmission Exit Capacity until the cost of the connection was paid off.


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2.2 Transmission Entry Capacity Revenue:

In terms of transmission entry, shippers book this on a portfolio basis and areable to trade transmission entry with other shippers. It is assumed each

connection will always offer incremental entry bookings to the network as theshipper must increase entry bookings to accommodate the new load.

To establish what level of entry revenue is appropriate to include in theappraisal, GNI have undertaken a study to review the relative ratio of totaltransmission entry capacity bookings versus total exit bookings in recent yearsto assess the incremental value of new connections in terms of increased totaltransmission entry bookings. The findings are outlined in the chart below.

Before the removal of secondary transmission exit capacity, there was generallya 1:1 ratio between entry and exit bookings, as shippers optimised theiraggregate entry and exit portfolios.

The impact of the removal of secondary exit capacity trading outlined above isclearly evident, where the ratio falls from c. 1:1 to 0.8:1 in Gas Year 13/14. Thefall in the ratio is due to the following:

Exit: Since the removal of secondary exit capacity trading, shippers need tobook specific firm bookings prevailing to each exit gas point and can no longerspread its exit capacity portfolio across its sites. Therefore the outcome is morefirm bookings on the exit side versus the previous regime which allowed a

“portfolio” approach .Entry: In contrast, the market conditions for transmission entry remainunchanged and therefore the ratio of entry bookings (which were not affectedby the market change) to exit bookings (which increased due to the marketchange) has therefore decreased.

On this basis, GNI propose that a factor of 80% (0.8) be applied to peak daybookings of each new connection entry revenue calculation. For example, ifpeak = 100 KWh, then 80% * 100 KWh = 80KWh is the volume included forincremental transmission entry revenue.


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Ratio of Total Entry Bookings to Total Exit Bookings

Source: GNI Analysis

The key benefits of these changes would be evident in the Medium and Small ICcategory of the connection policy, where currently the transmission revenue(both entry and exit) are not considered in appraisals. However Transmissionrevenue is received from these customers through shipper bookings, andtherefore should be reflected in the appraisals.

The overall benefit that this will bring will vary depending on the requirements

of the specific connection: For connections which pay the 30% contribution charge and also pay a

supplemental charge, there should be a decrease (if not removal) of thesupplemental charge as the commercial appraisal will be improved bythe inclusion of the transmission revenues. There should also be adecrease in the time for which Financial Security is required.

For connections which pay the 30% contribution and are not required topay a supplemental charge, the benefit will be that the length of timethat Financial Security is required should decrease.

All appraisals that currently don’t recognise transmission revenue will benefit toa greater or lesser extent from this change, but the inclusion of thetransmission revenue is reflective of the incremental value the new site offersin contributing to the remuneration of the network. The inclusion of suchrevenues should lead to a reduced upfront contribution by the customer and/orreduced financial security obligations which will make the connection to gasmore commercially attractive to the prospective customer.


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For the avoidance of doubt, this proposed amendment is only applicable toconnections where transmission revenue is not recognised – where it is alreadyaccounted for in appraisals (e.g. new towns) the appraisal continues as is.

InitiativeNumber


1 Include TX Exit Revenue (100%) toall appraisals which currently don’trecognise transmission revenue

Recent market changes whichremoved secondary exit supportthe inclusion of TX exit to allsectors.

2 Include TX Entry Revenue (80%) toall appraisals which currently do notrecognise transmission revenue.

Each new connection providessome level of incremental entrycapacity to the network. Based onhistoric data, a factor of 80% (0.8)is proposed.


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Proposal 4: Proposals on Existing Gas Areas

The purpose of this proposal is to develop a policy to allow for infill projects inareas close to or including the existing gas network. The Connection Policy as itstands does not specifically address opportunities for “infill” in urban orsuburban areas i.e. industrial zones/streets/regions that could be connectedwith a minimal incremental increase to the existing infrastructure. There istherefore the risk of missing opportunities for new connections and loadgrowth, as the existing gas infrastructure is not utilised to its fullest extent onan economic basis. The existing Connections Policy does not facilitate theefficient extension of the network into an area within an already connectedcity/town. In practice, there are some areas within cities that could potentiallybe the equivalent of a small town, however, there are limited methods of

connecting the areas outside of connecting a single customer (using a 7 or 20year appraisal or appraise as a non-gas estate). This has resulted in potentialmissed opportunities to grow the network in existing gas areas.

On this basis, GNI have two key proposals:

4.1 Introduction of a “Suburb” Policy

GNI would advocate the introduction of an infill suburb policy under thefollowing criteria:

(i) Use the mechanics of the new towns model(see description below)to appraise these projects

(ii) Where the o verall investment


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4.2 Removal of Domestic Connection Fee in certain circumstances

At present new domestic connections pay a fee of €250. GNI believe there ismerit in waiving the domestic connection fee in certain circumstances to

increase/accelerate the rate of new domestic connections in new towns ortargeted suburbs/regions. To compete in the energy source market GNI need toentice new customers to join the gas network. A removal of the domesticconnection fee in these circumstances will assist in the take up during variouscampaigns.

Natural Gas is clean, convenient and cheap. Natural gas is always available, noordering or storage is required; it is compatible with contemporary appliancesand is the most environmentally friendly of all fossil fuels. The removal of theconnection fee in certain circumstances will encourage growth in the domestic

sector.

InitiativeNumber


1 Apply new infill “Suburb”

policy as outlined above.The new towns model couldeasily be adapted tostreets/zones/regions

(“suburbs”) and would provideconsistency of application ingrowing out the network.Previous I&C infill appraisalsdidn’t include take up ofdomestic connections arising asa result of the infill project

2 Domestic Housingcontribution for targetedsuburb/urban areas andnew towns – allow thedomestic housingconnection fee to bewaived under certaincircumstances

Will increase/accelerate the rateof connection in new towns andensures that no opportunitiesare missed


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Proposal 5: Group Sites (different entities, same corridor)

This proposal will only come into effect when the total investment of theproject is greater than €1m. If the project is less than €1m, Proposal 4 (InfillSuburb Proposals on Existing Gas Areas) will apply.

The current connections policy is silent on circumstances where GNI areapproached by a number of companies or entities simultaneously on acorridor/route who collectively want to connect to the network. The currentpolicy appraises each connection query on a case-by-case basis and GNI wouldlike to formalise the approach for multi-clients on the same corridor. Theprinciple would remain that GNI are remunerated for the aggregate cost of theconnection, but a pro-forma share of costs would be proposed to the clients buton a case by case basis, an alternative cost sharing mechanism could bedeveloped/agreed.

To reflect this into the policy, GNI propose that the following wording would beadded to the opening section of the Connections Policy which outlines theobjectives/principles of the policy:

“Joint cost sharing mechanisms for simultaneous multiple connections from oneaggregate project should be encouraged (e.g. a joint proposal from multiplepotential customers on the same corridor). The key component is that theaggregate cost of the connection is fully paid through an appropriate cost

sharing mechanism funded by the various clients. This cost sharing mechanismcan be r eviewed on a case by case basis”

InitiativeNumber


1 Apply multi-client model ona case-by-case basis whilst

retaining the principles ofthe Connections Policy.

The sharing mechanismshould be flexible (includinginput from the clientsinvolved), with the key issuebeing that the aggregatecost of connection isremunerated.

This provides clarity tosituations where multi-clients

simultaneously want toconnect to the grid.


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Proposal 6: Group Sites (same entity, different sites)

The current connections policy is silent on circumstances where GNI areapproached by a company/entity to connect a number of their locations e.g.chain of retail outlets. The current policy appraises each connection query on acase-by-case basis and GNI would like to formalise the approach for multi-sitesfor the same client, recognising the “portfolio” benefit of getting all the sitesrather than potentially none.

If we consider the different sites as one entity rather than a number of differentsites and look at the NPV as a whole, GNI feel that this would encourage moreconnections. If an entity is looking to set up or standardise multiple locations inIreland, being able to apply for new connections for all of their sites with oneenquiry could act as an incentive and it also offers economies of scale inprogressing the multiple connections under one aggregate project.

The risk in not considering this approach is that potential multi-nationalcompanies and existing indigenous companies may not decide to expand / setup in Ireland as they may take an ‘all or nothing’ approach with their sites.

Therefore GNI feels that multiple sites from the same company/entity shouldbe group-appraised, with net contribution calculated in aggregate as this will

encourage new connections overall.

InitiativeNumber


1 Multiple sites from thesame company/entitywould be group-appraised,with net contributioncalculated in aggregate.

Recognises portfolio benefit ofmultiple sites simultaneouslyunder one connection/onecontribution.

This initiative would assist in the rollout of CNG infrastructure particularly in theevent that an existing forecourt operator was interested in building a networkof filling stations to adopt the fuel.


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Proposal 7: Treatment of CNG Connections

The current connections policy is silent on the treatment of CNG connections asthis in itself is a new technology. GNI proposes to have a clear outline in thepolicy regarding CNG connections. This will not preclude end users frominstalling their own equipment once all safety requirements have beensatisfied, but where GNI build the compression and multi-storage equipment,the investment must be remunerated under the principles of the connectionspolicy.

One of the critical elements of the market for natural gas in transport is theavailability of vehicles. Without a strategic network of refuelling infrastructure

the manufacturers will not commit vehicles to the market. Without GNI ’sinvolvement, refuelling ‘islands’ may appear without any unified n ationalnetwork overview. GNI are of the opinion that the provision of CNG refuellingstations at this early stage of the market will require the support andinvolvement of the natural gas system operator.

The benefits of this approach are:

High quality refuelling infrastructure in the market; Long-term view taken; Market introduction supported; Application of gas technical experience; National infrastructure support; Lower financial burden on end user; Consistent technical application across the market; and Higher probability of market adoption.

In line with the current Connections Policy, customers will make a contributionof 30% towards the cost of the connection. An economic test will be

undertaken (in line with existing policy), which will dictate that if the customer’scapacity charges over a seven year period do not meet the cost of theremaining 70% of the cost of connection, the customer must pay the difference


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InitiativeNumber

Outline ofInitiative

Rationale

1 Includecompressionand multi-stagestorage in theconnection.

Reduce costs for the gas user throughincreased use of gas network assets andlong term reductions in tariffs

30% contribution from the customer andeconomic test to protect the gas user frominefficient investments

Maintains consistency of service andquality

GNI responsible for maintenance and careof the compression and storage

The inclusion of CNG in the connection willallow GNI to provide necessary support tothe market development of CNG in Ireland.Vehicle manufacturers and after salesconverters will not serve the Irish marketuntil sufficient refuelling infrastructure is inplace. To date private industry has failed to

provide the necessary refuellinginfrastructure and so the CNG in transportmarket for Ireland has failed to develop.


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Summary & Conclusions

To summarise, GNI propose to amend the Connections Policy in the followingways:

(i) Amend the FS provisions to include tiered thresholds

(ii) Recognise transmission revenue in all appraisals

(iii) Extend the list of I&C institutional customers

(iv) Formalise the development of infill suburb/urban projects

(v) Clarify treatment of group sites (different entities, same corridor)

(vi) Clarify treatment of group sites (same entity, different sites)

(vii)

Clarify the treatment of CNG connections

Many of the changes are to provide clarity on the treatment of certainconnection types and to apply consistency (e.g. recognising transmissionrevenue in all appraisals).

GNI believe the incorporation of these proposals are aligned with the overallprinciples of the policy and will assist in economically and efficiently extendingthe level of connections to the network, helping to spread the cost of the

network across a larger number of users.

CER15018(a) GNI Proposals on Connections Policy

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