Extending deadlines on power and water projects has become almost commonplace in the Gulf. The large number of schemes going ahead at the same time has left contractors and turbine suppliers overstretched. Utilities in the region have been left with no choice but to succumb to requests for more time to prepare proposals.
It is not just contracting and turbine resources that are in short supply. Rapidly growing demand for new power and water capacity has also put pressure on utilities to secure feedstock for new plants. Already, this is proving to be a challenge. National oil companies (NOCs) have been unable to meet the burgeoning demand for gas, forcing utilities to turn to more expensive liquid fuels to compensate for the shortfall. This, in turn, has had a significant impact on their finances.
The region’s utilities generally adopt the fuel conversion model for their projects. This means that even where private developers are involved in power generation and desalination, the burden of paying for feedstock is shouldered entirely by the offtaker that buys the power and water.
With expanding populations and a growing industrial base, the need for additional capacity in the region is acute. In 2007, Dubai was home to 5,448MW and 278 million gallons a day (g/d) of installed power generation and desalination capacity respectively.
Dubai Electricity & Water Authority (Dewa) expects it will need to increase this capacity by two and a half times over the next five years, and Saudi Electricity Company (SEC) recently announced it would add 35,000MW to the kingdom’s installed power generation capacity over the next nine years.
Oman Power & Water Procurement Company estimates it will need a minimum of 1,200MW of additional capacity by 2013. Consequently, the total amount of fuel consumed by the country’s power generators is expected to rise to 7,174 million cubic metres a year (cm/y) of gas from 4,854 million cm/y in 2006.
Demand for gas in the region is, of course, not exclusively driven by power generation and desalination. In Abu Dhabi, for example, overall demand for gas is growing at 15-20 per cent a year. The surge is attributable to the needs of the industrial and oil sectors as well as the power and water industries.
Insufficient gas supplies mean the power and water sectors are constantly competing with other segments of the economy for their feedstock allocations. The fact that the price at which gas is sold to utilities is heavily subsidised by the government does not act in their favour. NOCs often prefer to supply the more commercial oil and industrial sectors at the expense of power generation and desalination.
Most utilities in the region pay a long-term fixed price of $0.5 -1 a million BTUs for their gas, which does not reflect the real cost of the feedstock. The gas is priced far below the cost of production and international gas prices. By comparison, the US’ Henry Hub price exceeded $9 a million BTUs in the first week of March.
For NOCs, diverting gas to export-oriented industries is financially more attractive than supplying it to domestic utilities. Commitments to long-term overseas export agreements also mean there is less gas to go around in the region. In 2006, for example, Qatar exported 9.87 billion cubic metres of gas to Japan.
This has led to frustration among some domestic consumers, who feel that too much gas is being sold outside the region. The situation has forced utilities to diversify their feedstock to meet rising demand. The Abu Dhabi Water & Electricity Authority’s (Adwea) fuel requirements rose by almost 50 per cent between 1999 and 2006. Until 2005, gas accounted for 99 per cent of feedstock used in power generation and desalination.
In 2006, Abu Dhabi was forced to burn large quantities of liquid fuel in its power plants as gas supplies were earmarked for reinjection into the emirate’s oil fields. Adwea’s consumption of liquid fuel increased by 42,856,104 million BTUs between 2005 and 2006.
It is estimated that burning crude, gas oil and fuel oil cost Adwea five to six times more than gas-fired generation. The trend was reversed a year later, when the government decided to allocate more gas to the power and water sectors.
Burning liquid fuel has also cost Dewa dearly (see chart above). Dewa is reliant on Dubai Supply Authority (Dusup) for its gas supplies. Recent shortages in the domestic market and the consequent need to import gas have pushed the price Dewa pays for its gas up from AED4.7 ($1.3) a million BTUs in 2006 to AED5.90 ($1.60) a million BTUs in August 2007.
Since 2006, problems sourcing gas feedstock have led Dewa to use increasing volumes of fuel oils to fire its power plants. Dubai produces only 100,000 barrels a day of oil itself, and must therefore import its fuel from neighbouring Abu Dhabi or overseas. A surge in global oil prices has driven up the cost of oil-fired generation.
The rising cost of gas, coupled with the expensive practice of burning liquid fuel, has led to an overall increase in Dewa’s costs. The authority’s expenditure on fuel rose to AED1.54bn for the first seven months of 2007, from AED1.45bn over the same period the previous year.
“Because fuel oil prices (which are linked to world oil prices) are significantly higher than the locally sourced natural gas prices (which are generally based on local demand levels and local production capacity), the lack of availability of natural gas has resulted in a significant increase in Dewa’s overall fuel costs, which has had a negative impact on Dewa’s overall profitability,” the authority says in its sukuk prospectus issued in late 2007.
In the same document, Dewa estimates that the cost of producing 1kWh of electricity using diesel fuel is 10-12 times more expensive than using gas. It puts the average cost of producing 1kWh of electricity using fuel oil over the past three years at six times the cost of producing the same amount of power from natural gas.
The higher cost of production took a heavy toll on Dewa’s accounts. In the first seven months of 2007, it made a loss of AED223m compared with a profit of $423m the previous year.
Additional gas imports are likely to bring some relief. In February, Dubai began receiving 700 million cubic feet a day of gas through the Dolphin pipeline from Qatar. Dewa expects this will be sufficient to meet all its requirements for natural gas in 2008. After this, there is no guarantee it will not have to resume burning fuel oil.
Other GCC states are already reliant on liquid fuels. Crude and heavy oils accounted for 79 per cent of Kuwait’s power generation feedstock in 2005.
In April 2006, Saudi Arabia decided that all future coastal power and desalination capacity would use heavy fuel oil or crude oil rather than gas as feedstock.
All indications are that if utilities are to secure sufficient gas feedstock supplies in future, they will have to pay more for them. Adwea has traditionally paid about AED4 a million BTUs for gas from the Abu Dhabi National Oil Company (Adnoc). However, the price of gas for its Fujairah 2 independent water and power project increased to AED6.50.
The increase, however, is not entirely straightforward. “There are two components to the price for Fujairah 2 gas: the cost of the gas at Taweelah and the cost of piping it across the country from Taweelah to Fujairah,” says an Abu Dhabi-based power industry source.
“Future prices will be higher, but they will still not equal market price,” says Wim van der Veen, power generation expert at Kema. “Oil and gas companies will ask more for their gas because it is not commercial to have a low price when they can sell it for more elsewhere.”
A rise in prices will also be driven by increasing costs of gas production as incremental gas volumes are extracted from more difficult gas reserves. It is estimated that the gas price paid by governments could rise to $3-4 a million BTUs as a result.
In anticipation of continuing gas shortages, the region has begun exploring alternatives for power generation. Coal has been proposed as a solution for both Oman and Dubai. But there is uncertainty about global coal supplies and a lack of local availability.