By Aminat Jegede, Senior Manager & Chidinma Egwu, Senior Consultant KPMG Professional Services Lagos
With the global sensitization on the adverse effect of climate change and the various movements to reduce it, more countries are shifting towards cleaner sources of energy including renewables and natural gas. To tackle the infrastructural challenges of utilizing natural gas, especially the huge capital outlay necessary for transporting natural gas from the producing fields to consumers, focus is now on Compressed Natural Gas (CNG). In Nigeria, the domestic gas industry is still plagued with several challenges, including lack of market-driven pricing mechanism and unclear legal framework, which has led to a deficiency of gas availability, affordability and deliverability. Nonetheless, in recent times, some factories in the country are switching to CNG, to minimize energy cost, while contributing to the global efforts to reduce global warming.
In an interesting development, the Federal Government is also mulling the possibility of switching from the conventional premium motor spirit (PMS) to CNG, with the aim of making fuel cheaper and to reduce the budgetary spend on PMS subsidy. Thus, CNG is gaining more popularity in the country as an alternative energy source, amongst other uses. Nonetheless, the existing players in the sector continue to clamour for market driven pricing and clear fiscal framework, to attract more investments. It is incontrovertible that businesses will flourish and enhance economic growth, when there is adequate return on investment, amongst other factors. Investment in CNG is no exception!
CNG- simply methane (CH4) is made by compressing natural gas to less than one percent of the volume it occupies at standard atmospheric pressure. Its combustion produces fewer carbon deposits than other forms of fuels and it can be used in place of gasoline (for cooking and power generation), diesel fuel and liquified petroleum gas. CNG is usually stored and distributed in spherical and cylindrical containers . To use CNG, the combustion engine of automobiles or other machines (such as generators) may have to be modified or manufactured for CNG use, either alone ('dedicated') with a segregated gasoline system, to extend range (dual fuel), or in conjunction with another fuel such as diesel (bi-fuel). CNG is eco-friendlier and more efficient for engines as it produces far fewer harmful emissions and hydrocarbons.
A key factor for the survival of a CNG business is the ease of access to its main raw material i.e. natural gas (because CNG requires higher volume of gas to compress/store the energy equivalent of gasoline or petrol), as well as access to the market. In a country plagued with gas pipeline/infrastructural deficit, which has also been identified as one of the impediments to the growth of the sector, CNG presents a solution as it is transported via virtual pipeline distribution models that eradicate the need for long distance pipeline constructions, with attendant cost savings. The authors have therefore highlighted some factors that could aid new investments in the CNG space under the following sub-headings:
1. Adequate Gas Supply
CNG businesses should seek to partner with existing gas producers to ensure continuous flow of gas supply for their operation. Alternatively, they could explore the possibility of “backward integration” for this purpose. Regular availability of natural gas will lead to increase in the investor traction into the sector and ensure that the much-needed competition required in every industry is achieved.
2. Enhanced Transportation Infrastructure
A robust transportation network is necessary to connect CNG players to both suppliers and customers in a cost-efficient manner. The deplorable state of some of the major highways in Nigeria, may therefore be a deterrent to the growth of the sector. In this regard, development of other modes of transportation (one of the current focus of the FGN) – for example, the rail network - may be explored as the inherent benefits of increased investments in CNG far outweighs the cost of the infrastructure to the Nigerian economy.
3. Market Driven Pricing
Gas projects are generally long term and very capital intensive. However, the current state of the Nigerian gas industry has shown that the pricing regime is not sufficiently attractive to potential investors, despite the vast opportunities. Industry players have continued to clamor for gas pricing that is based on appropriate commercial terms between a willing buyer and a willing seller. Thus, to boost gas availability for CNG purposes, a holistic approach to gas pricing that will accommodate the dynamics for gas and create a headway for businesses within the gas value chain to thrive concurrently is paramount. We are aware that the Federal Government of Nigeria is already considering a new Regulation to address it and other related matters. However, speed is of the essence. We therefore implore the government to take this as a matter of priority.
4. Fiscal incentives – the role of Government
Excessive taxation does not encourage investment because it depresses returns on investors’ funds. Investment in CNG project entails huge capital outlay on which business owners seek decent return within a reasonable period. It is probably in recognition of this that the government enacted certain incentives for production and utilization of natural gas. For instance, gas income and profit are taxed under the Companies Income Tax Act at the rate of 30% as against the rate of 85% or 65.75% under the Petroleum Profit Tax Act (PPTA) for oil production. In addition, the capital and operational expenditure from the utilization of associated gas projects that cannot be separated from those incurred on crude oil, can be taken against oil income. Downstream operations in the sector are also eligible for tax free period, accelerated capital allowance and tax-free interest on loans (where applicable).
Incidentally, the above incentives appear to have been targeted at the CNG producers themselves and their suppliers of natural gas, but not the end users, particularly, industrial consumers, without which there would be no market for CNG itself. Thus, it is suggested that similar incentives as described above should be extended to industrial users of CNG, to bolster the market and guarantee a decent return on investment. For instance, the profit of companies who solely produce CNG cylinders, and automobile companies that produce cars that run on CNG may be partially or fully exempted from tax. Alternatively, such companies could be included in the category of businesses that will pay CIT at concessionary rate of twenty percent (20%).
It is on record that the Department of Petroleum Resources (DPR) recently announced a corporate partnership with an indigenous gas company, for the immediate conversion of PMS consuming vehicles to CNG fired ones and for the building of CNG retail outlets across the country . And that a National Gas Expansion Program Committee has been set up to steer the gas sector for optimal performance and better utilisation of Nigeria’s abundant gas resources. Nonetheless, the other issues highlighted above, as impeding the growth of the sector should be addressed. Ultimately, market dynamics should be allowed to determine gas prices to ensure its continuous availability. And there should be a transparent and hitch free licensing process for proposed CNG outlet investors.
Beyond the specifics noted above, it is essential that the FGN continues to set clear strategies and policies that are geared towards increasing investment in the Nigerian gas sector. It has been previously highlighted by stakeholders that the existing legal and tax framework, were written primarily for oil, and thus, do not provide robust technical, tax and commercial framework for gas as a unique resource. Consequently, new policies should be formulated to drive sustainable investment in the sector. For instance, the implementation of the Nigerian gas flare commercialization program, launched by the FGN, should be pursued with vigor, in order to improve gas supply for CNG and other businesses whose feedstock is gas.
5. Enhanced Safety Standards/ Regulations
Countries that have adopted the extensive use of CNG have put in place high technical and safety standards for the development of CNG supply/retail stations. Thus, in Nigeria, existing and new standards need to be enforced for the design of CNG stations, the materials required for building the various components of the CNG fuel system installation and maintenance of CNG cylinders and kits. Although, CNG has less combustion properties than other forms of fuels (such as PMS or Liquefied Petroleum Gas), it is also flammable and needs to be handled with care and caution. If appropriate safety measures are not enacted and enforced, CNG operation badly managed may result in unwarranted loss of human and material resources.
1. Purchasing an existing CNG business
This has the potential of eliminating start up hurdles. It also provides such investor the instant access to the existing market and distribution network of the acquired business. However, extensive due diligence, including a tax health check of the business to be acquired, should be conducted before the acquisition, to forestall unpleasant financial loss.
2. Joint Ventures
Two or more investors can consider entering into joint venture arrangements to jointly incur costs and bear the risks in setting up a CNG company.
3. Buying a Franchise
Purchasing a franchise also has higher probabilities of business success and growth. An investor can use the brand of an already successful CNG business to create its own niche in the CNG market. Enquiries should however be made to find a good franchise that provides opportunities for growth and requires less investment to manage.
4. Direct Investment
Investors can also set up their own CNG plants and distribution channels. Given that this is highly capital intensive, it is important that proper feasibility studies on the viability of the proposed business model is carried out, to understand the dynamics of the project, projected timelines of expected returns and the risk associated with the project.
Despite the associated costs for converting plants and engines for CNG use, and the challenges faced by Nigeria in enhancing gas utilization in the country, it is undisputable that utilization of CNG will be environmentally, economically and socially beneficial to the economy and its citizenry. Additional investment in the gas sector through CNG or in any of the gas value chain will create jobs and further strengthen the Nigerian economy. This has the potential to save some of the foreign exchange being utilized for fuel importation, put an end to the fuel scarcity occasionally experienced in the country and lift people out of poverty.
Based on available records, Nigeria is primarily a gas province, with some oil reserves. Thus, if the proven gas reserves of the country are developed and complimented with a holistic development of the entire gas value chain, it will stimulate the astronomical growth of the economy. However, the achievement of this growth is largely hinged on the determination of the FGN to encourage and attract local and foreign investment to the gas sector.
For more information, please contact:
KPMG in Nigeria
KPMG in Nigeria
KPMG in Nigeria
© 2021 KPMG Professional Services, a partnership registered in Nigeria and a member firm of the KPMG global organization of independent member firms affiliated with KPMG International Limited, a private English company limited by guarantee. All rights reserved.
For more detail about the structure of the KPMG global organization please visit https://home.kpmg/governance.