APPENDIX 20
Memorandum by Terra Nitrogen (UK) Ltd
TERRA NITROGEN
(UK) LIMITED
1. Terra Industries Inc. is a leading international
producer of nitrogen products, with annual revenues of $1.9 billion.
The company is headquartered in Sioux City, Iowa.
2. Terra Industries Inc. has invested over
£90 million of capital expenditure in its wholly owned UK
subsidiary, Terra Nitrogen (UK) Limited over the last seven years,
focusing on energy improvement and production efficiency measures.
Overall energy efficiency has improved by 20% since 1998.
3. Terra has its UK headquarters on Teesside
with factories at Billingham and Severnside, manufacturing industrial
chemicals and fertilizers. Annual turnover is £200 million
with 400 direct employees. Terra is an integral part of the Teesside
chemical industry cluster, and supplies many of the major businesses
in the area with raw materials. Without Terra's input of raw materials
a significant number of downstream production plants would find
it extremely difficult to continue to operate.
4. Terra purchases approximately 350 million
therms of natural gas per year, which is used principally as a
raw material to produce ammonia. Terra is the UK's largest manufacturer
of nitrogen fertilizers, supplying over a third of the UK's agricultural
requirements. It is also the UK's largest industrial manufacturer
of ammonia, nitric acid and carbon dioxide. These chemicals are
essential building blocks for the chemical, food and health sectors
and industry generally. For example they are used in the UK manufacture
of healthcare products, water treatment products, nylon, catalysts,
refrigerants and carbonated beverages.
THE GAS
MARKET AND
TERRA NITROGEN
(UK) LTD
5. Terra is one of the UK's largest industrial
users of gas, and a significant user of electricity. Terra's gas
purchases represent over 60% of variable costs. Natural gas is
the principle raw material in the production of ammonia, and gas
and electricity are also sources of energy to run its plants.
It is important to note that the quantity of gas used as raw material,
the majority of purchases, is fixed by the chemistry of the process
and there is no realistic alternative to natural gas.
6. Since gas represents such a significant
proportion of costs, any shift in current or forward cost prices
has an instant impact on business performance.
7. Terra competes in world markets, and
has to purchase its raw materials on a competitive and comparable
basis to the rest of Europe and the world.
8. To effectively manage business risk and
secure a level of price certainty for a period ahead Terra has
to purchase a proportion of its gas in the forward market, as
well as for immediate use in the day-ahead and within-day market.
Under normal circumstances it would fix at least 50% of its forward
requirements, in order to match some of its commitments to its
customers. High prices in the illiquid UK forward gas market prevent
Terra purchasing in this manner.
THE SUPPLY
SITUATION
9. The UK is the largest gas producer in
the EU, but has the highest gas price in the EU.
10. The UK imports a small proportion of
its gas requirements (see Chart 1), and there is no justification
for there to be any shortfall of supply against demand. The current
crisis is a direct result of insufficient planning and action
by gas producers, Government and their agencies. The UK gas market,
particularly the forward market, is not working.
Chart 1
Chart 1. (R/P is Proven Reserves divided by
current annual production)
11. The current market fails to create incentives
for UK suppliers to ensure adequate supply to their industrial
customers. Competition in the wholesale market is very limited.
12. The likelihood of further consolidation
of producers in the gas supply market gives little hope for improvement.
Indeed since the last Trade & Industry Select Committee Inquiry
into Energy Prices, BP has withdrawn from the industrial market,
and there is a continuing clear lack of competition when tendering
for new contracts. Vertical integration has lead to less competition
and higher profit margins for incumbents, even when gas consumption
by industrial users is reducing.
13. The UK, which has only limited gas storage
facilities, has apparently become the swing supplier of Europe's
gas, with continental Governments protecting supplies for their
own non-liberalised markets at the expense of UK industry.
14. Ofgem's recent NGC Winter Outlook 2005-06
(published 5 October 2005) suggests that in a one in 10 cold winter,
a 30% demand response from daily metered industrial customers
will be needed for 40 days. In other words 30% of the UK's energy
intensive manufacturing industry will be shut for 40 days. Should
there be short term or sustained restriction of gas supplies to
Terra's plants, which are designed to operate continuously at
high temperatures and pressures, then there will be significant
reductions in efficiency and increased levels of emissions.
15. The UK now has a market where industry
will be required to close in order to ensure security of supply
for the domestic consumer.
16. Increasing infrastructure capacity on
its own will not resolve the fundamental market failures. There
was plenty of capacity available during winter 2004-05, but it
was simply not fully utilised. (See Chart 2)
Chart 2
17. Terra has attempted to purchase gas
directly from the continent but has failed; due to both unwilling
sellers and gas transportation companies refusing to make pipeline
capacity available.
18. In the UK information available to consumers
is limited for both onshore and offshore activity, limiting the
effectiveness of decision making for large buyers such as Terra.
Gas suppliers continue to have real time access to key data which
are not available to purchasers. Terra fails to understand why
the UK gas market should be considered different to other traded
markets where such a situation would be considered insider trading.
19. There is no evidence of improved progress
towards liberalisation of continental EU gas markets. The Government
appears to believe that UK market problems are primarily due to
interacting with the non-liberalised mainland Europe market. To
the extent that this is the case, the UK must recognise that a
liberalised European market is many years away. In our view the
most optimistic timescale is 5-10 years.
20. Terra sees no evidence of gas suppliers
offering "new and more flexible contract options that allow
customers to manage the risks associated with high and volatile
prices"[39].
21. Continental consumers have seen gas
prices rise due to a contractual link to oil products prices.
However UK wholesale prices in the forward market are 30-50% higher
than continental prices. Therefore Terra has to pay at least 30%
more for gas than its continental competitors, when it commits
to buy in the forward market. (See Chart 3)
Chart 3
22. Uncompetitive UK gas prices are bound
to lead to reduced capital investment in the UK.
TERRA'S
VIEW OF
THE GOVERNMENT
RESPONSE
23. Terra is extremely disappointed at the
Government's failure to take tangible actions to correct the situation.
We believe the following actions are essential:
24. Interconnector capacity should be made
available to third parties including industrial consumers, using
Regulated Third Party Access (RTPA) on a cost related basis to
allow sourcing of European gas.
25. Supply side measures. There is a need
to ensure that the maximum quantity of gas is available through
all import infrastructures including the Bacton-Zeebrugge Interconnector,
Vesterled pipeline, Isle of Grain LNG terminal and the France
to England electricity interconnector. This could be achieved
by, for example:
25.1 Purchasing options for physical gas
at Zeebrugge.
25.2 Securing storage capacity in mainland
Europe.
25.3 Obligating shippers to fill storage
early in the year.
25.4 Obligating suppliers to ensure sufficient
gas is available to cover contractual commitments.
26. Interconnector upgrade and import facilities.
There is a need to ensure that new capacity, particularly the
upgrade of the interconnector is delivered as soon as possible.
27. General reforms:
27.1 Ensuring equal access to market information.
27.2 Encouraging additional supplies to the
UK market.
28. We accept that "within a liberalised
market [Government's] role is to set the regulatory framework
which allows a competitive market to flourish". A clear distinction
needs to be made between the market for gas and the rules applying
to essential infrastructure (LNG terminals, Interconnector, pipelines
and storage facilities). Government's approach must be to address
the market as fundamentally dysfunctional and take appropriate
action to manage this more directly. A "light touch"
regulatory approach is not sufficient.
25 October 2005
39 Quote taken from Page 19 HoC TIC "Fuel Prices:
Response to the Committee's twelfth report of session 2004-05"
HC363 published 21 July 2005. Back
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