The case against Egypt selling gas to Israel
Issandr El AmraniFor what must be the third or fourth time since the Egyptian revolution began on January 25, the Sinai gas pipeline that takes Egyptian gas to Israel has been attacked. These attacks are not particularly dramatic, but are enough of a bother that it takes several weeks to restore the flow of gas to Israel — and often Jordan, which is affected by the pipeline. The people behind the attacks are thought to be Sinai-based Islamists who oppose the sale of gas to Israel, but we don't really know for sure. The attack took place only 60km east of the Suez Canal, and it could very well be people from the Nile Valley carrying out the attacks — and they don't have to be Islamists, either, since plenty of other people oppose the gas deal.
Since the revolution, the interim government has reviewed gas prices but thus far everything indicates that the sale of gas will continue. From what I've been able to gather (and I'd like to write something longer on this one day), Egypt was selling the gas to Eastern Mediterranean Gas (EMG), the private firm that then sold the gas to the Israeli National Electricity Company, at around $3 per mbtu (that's million British thermal units — the standard measurement for these things). EMG then sold it to the Israelis for around $4.5 per mbtu, pocketing a 50% profit margin for no more than the transaction costs and some of the infrastructure between the two countries. The market price for gas (which is not as fungible as oil since it tends to rely on pipeline infrastructure unless shipped as LNG) is currently around $4.40 for futures in North America, but spot markets in recent years passed the $10 per mbtu mark. Either way, there is no doubt that the price of the gas sold by Egypt to EMG was well below market prices, and that the company made an easy profit without investment of its own (I'll leave the issue of whether EMG sold the gas to Israel at a fair price aside.)
EMG is owned in large part by an Egyptian business, Hussein Salem, who has long been known to be a frontman for the Mubarak family (and is a former security official), and Yossi Meiman, an Israeli businessman close to the Sharon clan in Israeli politics (he owns the Israeli energy company Merhav), as well as some additional minority investors from South East Asia. Incidentally, although this was not widely known until after the revolution, Salem (who has been arrested in Madrid recently and is wanted by the Egyptian authorities) also had a similar deal set up with Jordan, involving the same kind of markup, and this deal (it's not clear with who on the Jordanian side, but I'd look at the royal family or the security services) is also being reviewed by the Egyptian authorities.
In the last few years, when lawsuits were filed in Egypt against the sale of gas to Israel, the government often claimed that it was only selling gas to EMG, and has no transactional relationship with Israel. This is the ideal time to turn the argument on its head. If EMG was involved in high-level corruption under the previous regime, it is perfectly understandable if the Egyptian government, which controls the sale of natural gas, were to decide to terminate its relationship with EMG. This does not mean that EMG can't sell gas to Israel: it would just have to meet its commitment from elsewhere than Egypt. Legally, this procedure may be dicey. EMG is free to resort to international arbitration, or even sue (which would provide an opportunity to look into its accounts). But my feeling talking to energy people in Cairo from multinationals (many operate in Egypt — huge ones like BP, BG or Statoil and independents like Apache) is that they don't care if the Israeli gas contract is not honored. They want to cover their bacon first, and have assurances that their own substantial investments in Egypt will be untouched. They don't care about the Israelis and understand if the deal is cancelled, it will be an understandable political exception.
Now, it's likely that there were personal commitments from Mubarak to successive Israeli governments that the gas would continue. If these exists on paper, let the government make them public. If they don't — well, an oral contract is as good as the paper it's written on and we fall back to a relationship between Egypt and EMG. And then let's see that contract and get the details of how this massive fraud was conducted. There remains a lot of uncertainty of what the state-to-state relationship is, however, considering former FM Nabil Al-Arabi's statement that Israel should pay the difference in price for already purchased gas.
Another aspect of this story is that it is widely believed the US encouraged this deal as a peace-building measure. It was certainly true of the 1980s and 1990s, but I have no details of what role the US played in the EMG deal. That's another question worth investigating, because the US Embassy in Cairo knew who Hussein Salem was (he was previously convicted of fraud by a US court in a corrupt deal involving the Egyptian army and US military aid), so if it did pressure the Egyptian government on the deal (which initially involved no American investor) one should ask why they did so if they knew of the corruption involved. It may be involved today because a US investor in EMG is threatening to sue the Egyptian government to respect its commitments to Israel. This is something worth digging into, particularly as US pressure in favor of the EMG deal was said to be strong in 2005, precisely at the time the Bush administration was pressuring Mubarak on democracy. Was there a quid-pro-quo there, considering the democracy promotion was abandoned in 2006 as Egypt's policies generally became more explicitly pro-Israeli (of course there was the Hamas election too at the time)?
It will probably fall to the next parliament and president of Egypt to make a decision about the Israeli gas deal. But it appears right now that negotiations are underway to continue the gas flow at a renegotiated price, so the matter could soon be resolved. I am all in favor of selling gas to Israel — it makes sense as part of a coherent and transparent energy policy, if domestic needs and LNG export commitments are sufficiently covered. But not to an Israel that continues to occupy Palestine and the Golan Heights, and wages punitive wars against civilian populations as it did in Lebanon in 2006 and Gaza in 2009. Just like the boycott campaign against South Africa in the 1980s, a boycott campaign against Israel today makes moral sense. Those Egyptians who support it need to demand greater transparency on the deal (i.e. access to contracts, prices, individuals involved etc.) from their government, and help those of us from other countries (US, Israel) who want to greater clarity on their governments' involvement in what was clearly, from the very beginning, a massively corrupt endeavor.
Reader Comments (7)
One expected mark of the post revolution era is tryth; serious attitude toward facts. I trust that you are guided by this principle. It is for this reason that it is dissapointing to see you repeat, rather then check, some myth which are treated as facts only because "everyone knows". You will not be pursuaded if I tell you that the price of gas to israel is (1) the best of all Egypt's export venues, (2) better even then what Qatar recieves for gas it pipes, or (3) is in line with what is common in the international energy market. But you may agree, or check, the asertion that you erred in comparing the price of futures or of spot transactions. is comparable with long term contracts. Never. Anywhere. But let me urge you to check the following with any independent world energy consultant (no, please no Egyptian media "expert"): like so many others (mostly repeating a New York Times miscalculation), you refer to the pice in Europe of Russian gas, arguing that it is all but double what is paid for Egyptian gas for Israel. Did you notice the error here? Comparing the price to the end user with that recieved by the producer? Would you do that with any product? No transportation cost? Even if the gas would be faxed - someone should pay for the fax machine. Let alone that Russian gas reaches, say Germany, via a 4,000 km pipeline. It cost $10 billion to build, and millions every year to operate. Moreover, that pipelie transits several countries, all charging transit fees. So let your expert verify my claim that Russian gas costs $5.0 to reach Germany. It is sold there at $7.5. Thus, the netback to the producer is $2.5. How about that?! Far, far less than what EMG pays to Egypt for gas sent to Israel. Can you imagine that if I am right, those accused of wasting public money for allowing export at that price deserve not a panishment but praise? So before you post your longer item on the subject, please dont hesitate to ask, for I shall be delighted to suggest some other facts which differ with the conventional wisdom on the subject. After all, what have you got to loose? At worse you can ignore my contribution. At best, you may shed a completely new light on a project born out of a 30 years commitment to make our region a better place. And in between, if like others you are dettered from posting an unpopular perspective, you may choose to at least not to contribute to a baseless hate campaign.
Nimrod — thanks for your comment. I am quite willing to concede that I did not explain the market dynamics of long-term arrangements very well. I am not a specialist, and am happy to revisit and make comparisons. I am aware long-term deals are negotiated at a rate that is unaffected by market fluctuations, precisely to insure the buyer and seller against market instability.
I would ask you only the following, though, since you are familiar with the inner workings of the deal: do you accept that there is a major price difference between what Egypt sold the gas to EMG for and what EMG sold the gas to Israel's national electricity company for? In other words, even if Egypt pocketed $3 per mbtu, why did EMG obtain such a large profit? Was it investment in the pipeline (which I believe belongs to EGAS, i.e. the Egyptian government, at least on the Egyptian side of the border)? What costs in EMG recuperating with this markup? Why couldn't the Egyptian government, if it could get such a good deal from Israel, not deal with it directly rather than a shell company fronted by a man who was known as Mubarak's frontman?
Nowhere in my post do I allege that Israel is swindling Egypt. I allege that EMG and Hussein Salem were. The reasons not to carry out the deal are moral as explained above. And I don't see what the gas deal has done "to make the region a better place" as you put it.
Issandr - First let me express sincere appreciation for the constructive tone and serious content of your response. Allow me to address four comments which you made, in the order in which you made them: First, industry standards of long term contracts do have price flexibility. This manifest itself in two way: (1) precise terms - including schedule - of price reopener. (2) The price itself, between 'openers' is a formula which links the price to the fluctuation in a basket of fuels. Thus, there always is a temporary floor and a temporary ceiling between which the price 'moves' until it is subjected to more radical changes during the periodic reopener process. Consequently, nothing which I have seen in the Egyptian media (and I confess that I hardly see all) comes even close to what EMG presently pays EGAS for gas to Israel. It pays much more than anyone else and more than what Qatar receives for its piped gas or what Russia receives for gas sold, say, in Germany.
Second: you were misinformed: EMG owns the entire infrastructure for gas export to Israel. This includes on shore facilities (compression stations, measurement and control rooms and the like) in Egypt; on shore receiving terminal in Israel, and the offshore pipeline between them. EMG shareholders invested some $550 million in building that system and are spending millions every year in running it. By any industry standard they deserve some return on their investment and your calculation does not do them justice.
Third, the EMG margin is not only justified – given the investment & running costs, and given the huge risk assumed by the investors, but the EMG shareholders made an unprecedented concession to the Government (GOE) when they agreed to cap their margin (at a level lower than you were led to believe) and deliver to EGAS 80% of any price obtained from Israeli clients over it. [Didn’t I tell you that the hidden side of this project is more interesting (and shining) than the commonly presumed one?]
Fourth, you ask a very good question: why EMG? Why not do it on a direct, government-to-government (G2G) basis? Given that it was the government of Egypt that insisted on this procedure, I guess the question is best addressed to them. Still, like you I was wondering about it. So let me share with you my assumption on this "why"? Since the signing of the Peace Treaty, Egypt has been exporting petroleum to Israel. This was enshrined in Annex III to the Treaty. Throughout, the GOE insisted that this export be conducted exclusively by private entrepreneurs, not on a G2G basis. When the time came for gas to replace oil, the governing G2G MOU acknowledged this as a derivative of the same clause in the Peace Treaty, and the GOE maintained its position that gas too shall be exported by a private company. To this one may add three other considerations of the GOE: 1.The entrepreneurs freed the GOE of the required investment of well over half a billion dollars; 2.The entrepreneurs undertook all the associated business risks (after the third explosion one need not explain what that entails…); 3. The private nature of the venture was in line with demands made by the IMF for the GOE to privatize the gas sector.
Finally, you ask what contribution could this project have had. Well: supplying Israel with 40% of its needs for natural gas and Egypt with $1.0 billion a year (at a price higher than any other) seemed to me to represent a worthy ‘win-win’ undertaking.
My apology for the length of my comments. I hope that it does not deter you from continuing this dialog on a subject which, as you correctly detected, is close to my heart.
Looking at the numbers (back of the envelope) Egypt sells 2 million MBTU of gas a day to Israel, correct? And the markup for the middleman is $1.50, correct? And that means revenue for the middleman of $1 billion a year or thereabouts, correct? And that's double the $500 million investment, every year (yes i understand there are running costs but, well, i assume those are peanuts. Maybe i'm wrong; how much should running a pipeline of this length cost a year?). I would have thought projects like this generally carry a 5-10 year period for covering initial outlay and the financing. This appears to cover it (or close to it) in a year.
It sure smells bad. So what am i missing?
Is there a publicly available prospectus from the time this deal was given to EMG, taking into account construction costs and financing? There sure should be. I covered oil and gas (in a small way) as a reporter many years ago and i remember deals that were sweeter on the front end for the pipeline operator (to help deal with up front costs) and that then saw premiums shrink as time went on.
As for the entrepreneurs taking all the business risk, well, will they be paying for any additional security on the pipeline? (I assume no, that the Egyptian government will).
Oh, jeeze. The back of my envelope is a dumb envelope. Thinking/typing in haste. Ovbiously it's 1.50 per million btu (and i think i obviously got the daily volume wrong to boot). So completely ignore my last post. And I'll replace it with this question: What is the estimated annual revenue of the pipeline operator? What is the actual realized volume?
In terms of the 'peace building measure', I'm sure this is in your inventory of knowledge, but not mentioned in the post: Amr Moussa spoke of his role in the gas deal as a 'political trick'. Obviously, he has some damage control to do, but the al-Masry al-Youm article is informative of what was going on at the time. Do you have insight on this subject greater than conveyed in the article?
http://www.almasryalyoum.com/en/node/471708
Thanks once again for your detailed answer, Nimrod. Your comments about the Egyptian side of the deal are particularly illuminating was wondering if you agree with what the Israeli magazine Globes reported in March:
http://www.globes.co.il/serveen/globes/docview.asp?did=1000632212&fid=1725
Ampal: EMG's commission on gas sales to Israel is 30%
EMG currently delivers two billion cubic meters of gas a year, indicating that its annual EBITDA is $100 million.
22 March 11 18:41, Amiram Barkat
East Mediterranean Gas Company's (EMG) commission on sales of natural gas to Israel is 30%, EMG shareholder Ampal-American Israel Corporation (Nasdaq: AMPL; TASE:AMPL) told investors. Ampal, controlled by Yosef Maiman, owns 12.5% of EMG.
EMG resells gas to Israeli customers that it purchases from the Egyptian National Gas Company (EGAS), and collects a commission on these sales. EMG currently has contracts worth over $15 billion with Israel Electric Corporation (IEC) (TASE: ELEC.B22), Israel Corporation (TASE: ILCO), and other customers.
The price of natural gas in the IEC contract is reportedly $4-4.50 per million British Thermal Units (mmbtu), and the price in the more recent contract with Israel Corp., signed in December 2010, is reportedly $4.50-5 per mmbtu.
Last week, in a presentation to investors, Ampal said that EMG estimated revenue on seven billion cubic meters of natural gas sales per year exceeds $1 billion and its earnings before interest, taxes, depreciation and amortization (EBITDA) of $350 million. A calculation by "Globes" shows that this amounts to $50 million per billion cubic meters, or $1.40 per mmbtu. The balance of the price per mmbtu is paid to EGAS.
EMG currently delivers two billion cubic meters of gas a year, indicating that its annual EBITDA is $100 million. The EBITDA figure does not include amortization for the pipeline that EMG built or its financing expenses on loans. The figures do include current expenses, such as salaries.
Maimon's Merhav Group said, "The figure of $1.40 per mmbtu is incorrect. It is mere speculation."
Hussain Salem owns 28% of EMG, Egyptian Natural Gas Holding Company owns 10%, Thai energy giant PTT Public Co. Ltd. owns 25%, Yosef Maiman owns 20.6% through Ampal and his private company Merhav MNF Ltd., and Israeli institutional investors own 4.4%.
Published by Globes [online], Israel business news - www.globes-online.com - on March 22, 2011