How the discovery of natural gas in our coastal waters will enhance the way we live.
By EHUD ZION WALDOKSLeviathan drill 521(photo credit: Albatross)
Golda Meir once remarked that “Moses dragged us for 40 years through the desert to bring us to the one place in the Middle East where there was no oil.” Even as Arab countries discovered massive oil fields and thereby catapulted themselves onto the world stage, we were figuring out how to make a dry, dusty, seemingly mostly barren country bloom. We succeeded, mostly through back-breaking labor and bright minds.Yet the hope of discovering oil here has never completely gone away. While nearly 500 drillings on land produced little usable oil, geological surveys indicated that there were potentially large natural gas reserves off the coast. Despite 60 years of attempts, the first commercial natural gas find was a mere 11 years ago.RELATED:A new industry gets its own dictionary Enormous gas wealth can be a blessing or a curse Part of the problem was that the Arab-Israeli conflict hampered efforts at development, Delek Energy president and CEO Gideon Tadmor told The Jerusalem Post. Companies could either work with Israel or work with the Arab countries; and since the potential finds were so much greater in the Arab world, an international oil company with ultradeep water drilling experience was hard to lure here.In 1998, “We had been looking for years for a partner with the right experience. We had some leads in Houston, Texas, and I had sent an advance man there for a few months to lay the groundwork. Finally, he had narrowed the field to just a few choices, so I decided to fly over with my lawyer [to hopefully sign a deal],” Tadmor said.“We got on the plane, and suddenly there was a commotion. A black cat had snuck into the cabin. The stewards and stewardesses ran after it and eventually managed to catch it. Some of the passengers wanted to get off the plane, believing the black cat was bad luck. After they had disembarked, we taxied back out to the runway. But then I glanced out my window and saw the engine was on fire. We were towed back to the terminal, everyone disembarked and we got a new plane and new crew. I thought to myself: ‘This has to be a sign that nothing will come out of this trip,’” Tadmor recalled.But he was wrong. That trip was to be a fateful one indeed.In Texas, Tadmor inked a deal with Noble Energy, an international oil company with ultradeep water drilling expertise. Noble and Delek are the major partners in all of the country’s gas finds – from Mari- B and Noa to Tamar, Dalit and now Leviathan.So far, Noble Energy is the only company to work with Israel on developing its natural gas finds.The world began appreciating the value of natural gas only about 20 years ago. Often located with oil reserves, it was even burned off before a use was found for it, Alon Natural Gas Exploration general manager Eli Misgav says. However, it is fast catching up to oil as a major energy source.“Some 85 million barrels of oil are used a day around the world. The gas and the oil are usually found together, but most of the world didn’t know how to utilize it.As soon as they figured it out, they moved to use it – 30,000 billion cubic meters, or the equivalent of 70 million barrels of oil a day, are now in use,” he says.FINDING SUCH a significant natural resource as gas has tremendous implications for this country’s economy and society. It would not be overstating matters to call the gas finds – and potential future finds – one of the top five events in Israel’s history.While Israel’s annual use is about five billion cu.m.right now, in a few years it will likely nearly triple and replace two million to three million barrels of oil, Misgav predicts.Finding natural gas has already affected the country.Electricity production has phased out fuel oil and replaced it with natural gas. In the years to come, half of electricity will be produced from natural gas. The implications are twofold. First, the Israel Electric Corporation has saved NIS 55 billion since 2004, according to Tadmor. Moreover, electricity prices went down in last February by some 11 percent because the fuel basket became cheaper. Water prices are also affected as electricity becomes cheaper for pumping stations and desalination plants.Second, natural gas is significantly cleaner to use than fuel oil or coal. While coal will still make up a basic energy source in the years to come, fuel oil purchases for electricity production have been drastically reduced and will be eliminated altogether in the relatively near future. That represents a significant pollution reduction, especially in heavily industrial areas such as Haifa Port.Having a large domestic energy source also provides tremendous energy security. Prior to the Israeli discoveries, the sole supplier of natural gas was Egypt. Given the vicissitudes of the relationship, having to rely on it for the fuel for a significant amount of electricity production was a tricky proposition.In addition to the macroeconomic implications, the gas finds also have geopolitical ones. Tamar and Leviathan, once tapped, will turn this country into a natural gas exporter. Even should annual domestic natural gas use triple, Tamar would still be able to meet that demand for at least the next two decades. Leviathan, twice as big as Tamar, therefore would be largely given over to export. There are markets in Europe and even larger ones in the Far East, National Infrastructures Minister Uzi Landau pointed out to the Post.Given the geopolitical power Arab countries have reaped with their oil sales, the natural gas finds, while nowhere near the same magnitude, will most likely vastly improve our global standing. While environmentalists champion the switch to renewable energies, the reality is that the world will still be running on fossil fuels for the foreseeable future.Adding another aspect to the finds, Rabbi Michael Melchior has been campaigning for the creation of a fund from the state revenues from them. The interest from that fund, based on the Norwegian model, would be used to finance educational, environmental and social programs that would close the ever-widening social gaps.The likelihood is high that Tamar and Leviathan represent only a portion of the natural gas below the eastern Mediterranean. Looking ahead, the US Geological Survey reported in early 2010 that there was theoretically potential for 3.4 trillion cu.m. of gas there. Two-thirds of it would be in Israel’s economic waters, according to the final report of the Sheshinski Committee. Such numbers represent staggering amounts of gas. Tamar holds 240 billion cu.m. and Leviathan 453 billion.While not easy to reach, since it is often five kilometers below the surface of the Sea, it is relatively close to shore. Although the infrastructure investment for Tamar alone is estimated at $3 billion, the potential profits reach the hundreds of billions of dollars.Four decades after Golda Meir, her words no longer hold true.THE COUNTRY’S first oil well was drilled by the British during the Mandate period in 1947. However, the UN partition plan overtook exploration efforts, and when Israel deepened the well at the Heletz site south of Ashkelon in 1955, it discovered only a small quantity of oil. It remains the largest onshore find thus far, with 17.5 million barrels produced, mainly between 1955 and 1967. Other gas and oil fields were discovered in the 1950s, but none were commercially viable.For the next several decades, exploration efforts yielded little, although nearly 500 wells were drilled onshore and some 60 at sea. Some fields were found in Sinai, but exploration was discontinued with the peace treaty and its return to Egypt.In 1999, Delek and Noble discovered the first commercial gas field off the coast of Ashdod. The country suddenly had a domestic energy source aside from the sun. Noa is estimated to hold 7.6 billion cu.m. and has yet to be developed; Mari-B held 28 billion. While modest, it nevertheless sparked a transition to natural gas as a source of electricity in place of oil.Noble and a number of Delek subsidiaries formed the Yam Tethys consortium and began supplying primarily the Israel Electric Corporation with natural gas in 2004.In 2008, after protracted negotiations and renegotiations, an Egyptian-Israeli conglomerate – EMG – began providing Israel with gas as well.Encouraged by the Noa and Mari-B finds, Delek and Noble continued to search offshore. In January 2009, the Tamar partnership – Delek Drilling, Avner Oil & Gas Exploration (part of Delek), Noble Energy, Isramco and Alon Gas – announced it had discovered a very large gas field 90 km. off the coast of Haifa at a depth of some 4,900 meters, or 1,680 meters under the sea floor.The Tamar field was the biggest discovery of 2009 and one of the top 10 discoveries of the decade. A smaller field, Dalit, was discovered a short while later.In December 2010, the test results of the exploratory drilling at Leviathan revealed the world’s largest gas find of the decade. Leviathan is located some 130 kilometers off Haifa and 47 km.southwest of Tamar. The gas was found 5,170 meters beneath the sea, or 1,645 meters under the sea floor. Drilling will continue down to 7,200 meters to examine two more possible layers that may have natural gas or oil, though the chances are relatively slim.COGNIZANT OF the potential windfall for state revenues from the new gas finds, Finance Minister Yuval Steinitz hastened to appoint a committee to reassess the tax regime for natural resource exploration and drilling.Not content with a government take of about 30%, in April 2010 he appointed an expert committee, headed by Hebrew University economist Eitan Sheshinski, to examine the issue from an economic perspective. The government take is the total amount of profit, taxes and royalties the exploration companies must pay the state.All natural resources are considered state property by Israeli law, and companies must have licenses and leases to produce natural gas or oil.A government take of 30% is one of the lowest rates in the world. The average in the OECD is about 50%; in other places, it can reach as high as 75% and in some places be almost totally owned by the state.The committee issued two sets of recommendations – an interim set in November and a final set in January. Both times, the committee recommended significant changes to the tax regime by increasing the government take and reducing the exploration companies’ deductibles. The final recommendations, however, were far more conciliatory to the gas companies than the interim recommendations.The Gas Law was first formulated in 1952, an indication of the early awareness the state had of the potential for oil and gas, or at least its high hopes. In a sign of how little exploration reaped until recently, the law has largely remained unchanged.The mechanism created by the law generated revenue for the state through corporate income taxes, which at the time were higher than 60%.However, by 2016, corporate income tax rates will drop to 18%. As a result, the government take has dropped accordingly.The state generates revenues from gas finds in a number of ways. Royalties at 12.5%, which will likely remain unchanged, corporate income tax and a tax on profits. A tax on profits means that once the companies have recouped their investment, the profits would be split between the investors and the state.Taken together, the interim Sheshinski Committee recommendations created a mechanism that increased the government take to as much as 66%. However, by the final report, that recommendation had been reduced to 52%-62%, still a near doubling of the government take.The committee also urged the state to abolish the depletion allowance of 27.5%. A depletion allowance offsets the company’s costs and taxes by acknowledging that the gas field is not renewable and is depleting with use. However, according to an opinion solicited by the committee and provided by US analyst Daniel Johnston of Daniel Johnston & Co., Inc., depletion allowances have largely become obsolete in the gas and oil exploration and production market. They offset large chunks of potential state revenue by canceling out taxes.Another major difference between the interim and final recommendations concerns the recouping of investment before the tax on profits would kick in. In the final recommendations, the rate was increased to 200% from 150% and in some cases, such as those fields developed over the next three years, to 280%. The final recommendations also suggested a gradual implementation of the new tax regime rather than suggesting it go into effect immediately.Those measures, Sheshinski said at the press conference where he presented the report to Steinitz, are designed to prevent any threat to the gas companies’ abilities to secure financing for current projects.While designed to placate the gas companies regarding the current fields, the Sheshinski Committee also recommended that the tax regime be applied to all current fields, not just future ones. So fields like Mari-B, Tamar and Leviathan would all be taxed according to the new regime.Prime Minister Binyamin Netanyahu announced on Tuesday night that he had decided to adopt the Sheshinski Committee recommendations in their entirety. Speaking to the Directors-General Conference, he said, “We must ensure two main needs are met: The first is the need of the entrepreneurs who invested their own money and they deserve to be rewarded for their efforts. The second need is that of the citizens of Israel who are the owners of the natural resource. To balance the two, I asked that a committee of experts be created.The committee, headed by Prof. Sheshinski, presented its conclusions two weeks ago. I studied them deeply, I consulted, learned and weighed matters and now the time has come to decide – and indeed, I have decided to adopt the committee’s recommendations in their entirety.“The committee found the right balance between the needs of the citizens of Israel and the needs of the developers. The State of Israel will take part in protecting this project. I have ordered the finance minister to bring a proposal to the cabinet to advance legislation.“I have decided to create a fund from the gas proceeds that will finance four goals – education, education, education and security. Those are the two main goals that we promise to take care of,” he said.Rabbi Michael Melchior, founder of the Israel Civic Action Forum that has been pushing for the creation of just such a fund to finance education, environment and social programs, praised the prime minister’s decision.“The prime minister and the finance minister evinced bravery and determination in withstanding the intolerable pressures of the gas companies – and on a day like today, we must congratulate them. However, the work is not done. In 2002, the gas companies succeeded in canceling a similar government decision; therefore, the Israel Civic Action Forum will continue to campaign until the full legislation is adopted by the Knesset.I also want to congratulate the prime minister on his declaration concerning a national investment fund that will ensure that the vast wealth will be used to create a revolution in our education system.The Israel Civic Action Forum praises the prime minister for his decision to adopt the Sheshinski Committee recommendations in their entirety,” he said in a statement.THAT RECOMMENDATION, as well as the high government take, has generated vociferous protests by the gas companies and Landau.Delek’s Tadmor told the Post that the “committee had been born in sin.” He pointed out that its original mandate ordered it to develop recommendations solely for future finds and not retroactive to existing ones.“The committee diverted from its terms of reference.Before the committee was established, it was understood that its recommendations would not apply to existing discoveries,” he said. “It was created against the wishes of National Infrastructures Minister Uzi Landau. It looks like it was created for political reasons. They wanted a populist headline, but today it’s clear that the only real outcome of the committee’s recommendation is that Israel will lose billions of dollars of revenue from Israel Corporation’s contract [with the Egyptian conglomerate EMG instead of Tamar] and that a world precedent is being set – the government is discriminating against local gas in favor of imported gas.”Tadmor and his co-investors are furious that the recommendations include Tamar retroactively. At present, no infrastructure has been built at Tamar.Estimated at $3 billion, it will become the largest infrastructure project in the country. With those kinds of costs, Tadmor and his colleagues require heavy financing from the banks.They charge that the recommendations have put in doubt the timetable for delivery by injecting massive uncertainty as to the profit margin even before Tamar has begun production.As Alon’s Misgav says, “We are trying to open up the market for the first time against a giant competitor [Egypt]. And then they go and change the entire tax policy. Nothing has even happened here yet. They are not allowing the industry to flourish and achieve some sort of critical mass. There needs to be a market first. In principle, it’s fine for a government to adjust its tax policy. It’s necessary after speculation.The biggest problem with the committee is its timing. The oil economy is not Route 6 or a factory. They allowed us to invest and to sweat, and now we’re here.So why reassess the tax regime now? Let the market rise. The taxes would only start flowing in six to seven years, so why did we need this committee right now? The plan is to have Tamar operational by 2013 when the Yam Tethys conglomerate’s Mari-B gas field runs out so as to ensure the uninterrupted flow of gas to the country.”That concern is what has motivated Landau to come out strongly against the Sheshinski Committee’s recommendations. His ministry is responsible for ensuring the stable supply of electricity.“So far, the committee has just caused damage,” Misgav continues. “[Although] it is discussing revenue that will only begin in eight to nine years, the committee has brought about two things. First, a giant pall of uncertainty has been cast over the whole topic of connecting the Tamar gas field to Israel. There’s a growing chance that Tamar won’t be connected in time.In 2013, there’s a chance that there won’t be enough gas in Israel.”Yam Tethys will provide gas just until 2013, he explains; therefore, it’s critical to connect Tamar by then.“Second, contracts have ceased to be signed with the Tamar entrepreneurs,” he says.Shortly after the Sheshinski Committee interim recommendations were announced, Israel Corp., which owns oil refineries, chemical factories, shipping companies and other industries, signed a $4b. deal with EMG to be supplied with Egyptian natural gas over the next decade. It had been in negotiations with the Tamar partnership but broke them off after the recommendations. It is also looking to sign another contract for the decade after for another $4b.“The other damage from the committee’s recommendations is that the citizens of Israel lost out on taxes of $1.5 billion. [because Israel Corp. signed with EMG which does not pay taxes],” says Landau.Moreover, “there’s the danger of a domino effect.Because of the uncertainty, other companies will sign with the foreign gas supplier, and at the end of the day the Tamar entrepreneurs won’t have enough signed contracts to secure financing.”Echoing Alon’s Misgav, Landau also questions the timing of the committee’s formation: “Why did we need the Sheshinski Committee now? It couldn’t begin its work in two or three years?” Landau also points out that the committee focused almost exclusively on the financial aspect of the matter, while ignoring other aspects.“The committee only addressed the professional financial facet.There are other facets to the issue that the prime minister and the cabinet will have to include in their decision.There are geopolitical aspects as well. The prime minister’s immediate intervention in this matter is critical,” he says.Landau also takes issue with the committee’s high government take recommendation.“The committee’s recommendation regarding government take puts Israel in the middle in terms of OECD countries. The UK and Australia have lower government takes, for instance. Foreign investors are already hard to attract. We have security issues and other issues.Why should they invest here?” he says.“The government take should be on the low side of OECD countries,” he advises. “First the gas should come, then electricity and only afterward profits.”He states that Tamar should certainly be excluded from the committee’s recommendations. “The Tamar entrepreneurs saw a certain scheme of royalties and a state that wanted to attract investors.Agreements should be honored,” says Landau.Between the interim and final recommendations, Landau pulled the two representatives of his ministry off the committee, and they submitted a minority opinion to accompany the final report.“The majority opinion was written by the Treasury people thinking about taxes. The minority opinion was written by the National Infrastructures Ministry from a professional perspective regarding securing the country’s supply of gas,” he says.Landau also dismisses recent Lebanese claims that some of the gas fields are actually in their economic waters. He characterizes their assertions as attempted provocations and says the finds were nowhere near the northern border of the country’s economic waters. Landau recently signed an agreement with Cyprus demarcating the economic water boundaries.On the other side of the scale, environmental and social justice groups have charged Sheshinski with caving in to the gas companies’ lobby because the final recommendations were more lenient than the interim ones.The recommendations are just that – recommendations.They have no legal status at present.The eventual goal is to amend the Gas Law of 1952. Now that Netanyahu has come out in favor, the cabinet needs to vote and the recommendations need to be sent to the Knesset committees for debate.The Knesset is already fighting over which committee will debate the recommendations. Knesset Economic Affairs Committee chairman Carmel Shama-Hacohen has made it very clear that he wants to protect the public from the “aspirations of the tycoons.” However, his committee recently voted in a non-binding manner to exclude Tamar from the recommendations. The committee vote has no practical effect.Steinitz has promised to push the recommendations through as quickly as possible.But the battle is far from over. The gas companies won’t give up trying to chip away and reduce the recommendations. At each stage, they have a chance to reduce them even further after the lessening of the final recommendations.Yet the recommendations have received the support of Steinitz, 150 academics and the public, according to a Finance Ministry commissioned poll.Melchior, for one, is optimistic that the recommendations that are finally approved won’t be so watered down as to be meaningless.The gas industry in Israel is still in its infancy.In global terms, actual production has been minuscule, although domestically it has wrought significant change already. The future looks to hold many bright days for the gas exploration and production industry.
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