February 2013 Federation of Electric Power Companies of Japan Press Conference with President Mizuno

• I will begin by discussing issues concerning LNG procurement and measures to address those issues. I will explain the issues from the following three perspectives: stability, economy, and flexibility of procurement.

[1.  Issues regarding Stability]

• First, I will discuss issues regarding the stability of LNG procurement.

(Rapidly Increasing LNG Demand)

• Global energy demand continues to increase, driven by economic growth in emerging countries such as China and India. Demand is projected to increase from approximately 12 billion tons of oil equivalent today by approximately 40% to approximately 17 billion tons of oil equivalent in 2035. In particular, demand for natural gas, which has low environmental impact, is expected to continue to have the highest growth rate.
• It is under these circumstances that the traditional LNG buyer nations of Japan, South Korea, and Taiwan will be joined by India, China, and other emerging countries, where imports are increasing rapidly. Global LNG demand is expected to double from approximately 200 million tons today to about 400 million tons by 2025. It is necessary, therefore, to secure LNG supplies that can adequately meet demand and to maintain the balance between supply and demand.

(Development of Supply Sources to Meet Rising Demand)

• To do this, it is necessary to steadily develop LNG Projects in Australia and other locations while developing new projects in regions that are expected to become new procurement sources such as North America, including the United States and Canada, as well as East Africa.
• Under these conditions, it is assumed that the shale gas revolution in the United States will push natural gas production from 400 million tons annually now to about 500 million tons in 2020, on an LNG conversion basis. There are strong expectations that some of this gas will be exported as LNG.
• It is also expected, however, that LNG exports from the United States will be limited as a result of national policies, possibly to about 50 million tons annually. This means that LNG exports from the United States alone cannot eliminate all future shortages in LNG supply capacity.
• In order to secure stable procurement, we are making efforts to diversify procurement sources, and in this way we hope as a buyer to support the development of LNG supply sources.
• Specifically, we have reached agreement on procurement from new projects in Australia including Gorgon and Ichthys, and last year, we entered into a natural gas liquefaction agreement with a subsidiary of US-based Freeport LNG Development, L.P and plan to procure LNG from those sources. We are also looking into the potential of new procurement sources in Canada and East Africa.
• In addition, as an LNG buyer, we are becoming involved through investment and business participation in projects that until now were developed primarily by sellers. Through these measures, we hope to ensure stable LNG procurement.

[2. Issues regarding Economy]

• Next, I will discuss issues regarding the economy of LNG procurement.

(LNG Prices in East Asia)

• LNG procurement prices in Japan are said to be high, but this is true not only of Japan, but is a shared issue of all LNG importing countries in East Asia.
• Unlike Europe and the United States, in East Asia, where demand for natural gas is rising rapidly, there are few natural gas sources within the region and international gas pipelines have not been constructed, and as a result, means of procurement of natural gas are limited to LNG, giving rise to structural issues. As a result, current LNG prices in East Asia are high compared to natural gas prices in Europe and the US. We are aware that eliminating this price disparity for LNG is an important issue.

(Building a Price Portfolio)

• In order to resolve the issues concerning LNG prices in East Asia, it is necessary to change LNG price structures, which are currently linked primarily to crude oil prices. We believe that in particular it is necessary to undertake diversification of pricing structures such as introducing prices that are linked to gas prices in Europe and North America and prices that reflect LNG market conditions.
• However, even if prices linked to the price of gas in Europe and North America were to be introduced, this would require the agreement of sellers, something I feel that cannot be easily accomplished.
• Because of this, under the Freeport LNG project in which we are participating, we ourselves will become an LNG producer, and we will promote the diversification of pricing structures by steadily importing into Japan LNG that is linked to the price of gas in the United States over the long term.

(Reasonable LNG Price Levels)

• At the same time, however, development of new LNG projects requires massive investment. It must also be kept in mind that in order to reliably develop supply sources in line with increases in LNG demand, price levels that will ensure project development must be maintained over the long-term. We believe that it is necessary to create LNG markets that can achieve reasonable price levels that will support the development of LNG projects while reducing disparities with prices in Europe and North America.

[3. Issues regarding Flexibility]

• Finally, I will discuss issues concerning flexibility in LNG procurement.

(Rigid LNG Contract Terms)

• In current LNG trading, negotiation transaction under long-term agreements is the norm. In FY2011, the ratio of spot procurement temporarily increased because of effects from the earthquake disaster, but during normal times, spot procurement accounts for about 10% to 20% of all trading.
• Under this trading environment with little liquidity, there is a tendency for buyers to agree to long-term contracts to ensure stable LNG procurement. Considerable effort is also put into adjusting procurement according to the varying LNG demand of individual companies according to the operating status of large-scale electric power generating facilities.
• We have been working to improve the terms of long-term LNG contracts including:

• Increasing the percentage of procurement volume that can be adjusted in advance; and

• Eliminating restrictions on landing ports.

• We have also been working to ease the physical restrictions on LNG procurement by taking measures to address facilities including:

• Easing quality restrictions on LNG that can be accepted;

• Increasing piers that can receive large LNG tankers; and

• Increasing the number of LNG tanks.

(Creating an LNG Spot Market)

• It is not possible, however, to ensure adequate flexibility through only these types of measures taken by a single company. In order to substantially increase flexibility in LNG procurement, we believe that it will be important to create an environment under which the percentage of spot procurement during normal times increases in the 20% to 30% range.
• In recent years, as so-called portfolio supply in which LNG is supplied from multiple supply sources held by oil majors is increasing, LNG sources that do not have set long-term buyers are also gradually increasing.
• In order to energize LNG spot transactions while making use of these circumstances, it is necessary to establish a trading market that can secure the certainty and transparency of LNG spot transactions. In Japan, investigation of the creation of an LNG futures market has already started under the guidance of the government, and it is our understanding that similar investigations are taking place in China and Singapore as well.
• The development of an LNG spot market will give rise to a broad range of benefits to LNG procurement, not limited to improving flexibility only. If trading on a spot market becomes active, this will lead to the establishment of transparent price indicators based on LNG market conditions. Further, if use of transparent price indicators becomes active, we look forward to substantially higher economic efficiency in LNG procurement. As a buyer, we are also committed to cooperating with achieving these results.

[4. Conclusions]

• As I have discussed, even when we focus on LNG procurement alone, there are a variety of difficult issues to be addressed, and resolving these issues for sure will achieve stability, economy, and flexibility in LNG procurement.
• It is clear that importing LNG produced in the United States made possible as a result of the shale gas revolution will be an important measure for resolving these issues. This alone, however, will not achieve stable, economical, and flexible LNG procurement. It will be necessary to implement a variety of measures including development of new supply sources and creation of an LNG spot market.
• It is to be expected that buyers will also play an active role in addressing these issues, but cooperation from sellers and the support of government will also be necessary. We believe that the cooperation of all parties involved in LNG procurement will be essential for taking measures to patiently resolve these issues over the long-term.
• Today, I have discussed issues regarding LNG procurement.
• Japan has few resources, and ensuring energy security is one of our most important national issues.
• Our core mission is to ensure stable, economic, and safe supply of electricity under all circumstances.
• To carry out this mission, we will maintain a balance of diverse electric power sources including LNG-fired power as well as nuclear power, coal-fired power, and renewable energy, and achieve supply of electric power that is resilient against various risks and can contribute to ensuring energy security.

• Next, I would like to discuss the start of operations at 300 MW at the Higashi Shimizu Frequency Converter.
• Following the Great East Japan Earthquake, we have been making every effort to start operation of the Higashi Shimizu Frequency Converter (Higashi Shimizu FC) at the earliest possible time in order to bolster reciprocal support capacity among electric power companies.
• Calibration and testing that had been conducted since December 2012 were completed, and operation at 300 MW at the frequency converter will begin today, approximately two years ahead of the original plan.
• When the start of operations is confirmed and preparations are completed, we will make another announcement later. Note: Higashi Shimizu Frequency Converter (Higashi Shimizu FC) began operating on February 15, 2013.
• The Higashi Shimizu Frequency Converter was constructed to ensure stable electric power supply and demand through reciprocal support over a wide area. Partial operation began at 100 MW in March 2006.
• Construction of one of the two 275,000-volt Suruga Higashi-Shimizu lines that run through the frequency converter was completed in November 2012, and following calibration and testing, the decision was made to begin operations at 300 MW.
• We are placing the highest priority on safety while working towards completion of the Suruga Higashi Shimizu lines in FY2013.
• We remain committed to making every possible effort from now on to ensure stable supplies of electricity.
• This concludes my remarks for today.