chen herzog - natural gas delek

8/10/2019 Chen Herzog - Natural Gas Delek

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Bond Offering Procedure

Tel Aviv, April 28, 2014. Delek Group (TASE: DLEKG, OTCQX: DGRLY) (theCompany) Further to Section 1.7.21(A)(3) of the Company's annual report whichwas published on March 31, 2014 (Ref. 2014-01-030843), an immediate report waspublished by the Companys gas subsidiaries - Delek Drilling Limited Partnership and

Avner Oil Exploration Limited Partnership (together "the Partnerships"). This report iswith regard to the Partnerships process of issuing bonds.

Further to section 7.22.3(e) of the periodic report of the Partnerships which werepublished on March 18, 2014 (hereinafter the " Periodic Report "), the Partnershipshereby respectfully notify as follows:

1. The Partnerships are currently in advance stages of a bond offering procedure("the New Financing"), mainly intended to replace the Project Financing and theBridge Loan, as detailed in sections 7.22.3(c) (d) of the Periodic Report(together, the " Existing Financing ") and for the financing of the ongoingoperation of the Partnerships, including the continuation of the expectedinvestments in the Partnerships petroleum assets located in Israel, based on itsshare of the cash flow that will result of the sale of natural gas and condensate

from the Tamar project. The procedure for the raising of the financing isscheduled to end during the coming weeks.

2. For the obtaining of the New Financing, the Partnerships have established aspecial purpose company (SPC) by the name of Delek and Avner (Tamar Bond)Ltd. (hereinafter the " SPC ") jointly held by them in equal shares. In accordancewith the proposed structure for the New Financing, the SPC will issue Dollarbonds (hereinafter the " Bonds ") to categorized investors in the United States, inIsrael and in additional countries. The Bonds will be traded in the framework of a"TACT-Institutional System" in the Tel-Aviv Stock Exchange Ltd. The raisedamount will be provided as separate loans to the Partnerships in equal shares, interms identical to the terms of the Bonds (back to back) 1 . To guarantee therepayment of the Bonds, the Partnerships will each pledge, separately, its sharein the Tamar project, the project facilities, the agreement for the granting ofusage rights in the Yam Tethys facilities (see section 7.28.11 of the PeriodicReport), bank accounts (mainly the account in which the revenues from the saleof gas from the Tamar project are deposited) etc., such that all the securities forthe repayment of the Bonds are from the Tamar project without there being anyguarantees or securities external to the Tamar project 2. It should be emphasized

1 It should be noted that the Partnerships may sell up to 20% together of their holdings in theTamar project without an early repayment of the bonds and without obtaining the approval ofthe Trustee and / or debentures holders. 2 Until the fulfillment of certain conditions the owners of the Bonds shall have a right of recourseto other assets of the Partnership in relation to half of the monies to be withdrawn by the


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that the Partnerships are not guaranteeing each other and each is responsible forthe repayment of the loan taken by it.

3. The Bonds will be issued in 5 different series which their date of repayment shallbe in the years- 2016, 2018, 2020, 2023 and 2025. It should be noted that thefinal amount of the raising has not yet been determined and may be lower thanthe aforementioned amounts. It should be emphasized that there is no certaintythat the raising will be successfully completed or the full amount aforementionedwill be raised.

4. The proposed scope of the Bonds of the SPC is in a total amount (gross) of up to2 billion US Dollars, in fixed interest (each series in a different interest).

5. The consideration of the issuance (after covering the costs of the raising) ismainly dedicated to the repayment of the Existing Financing of the Partnershipsin the scope of approximately US Dollars 507 million each, the deposit of "SafetyCushions" in accordance with the note of the Bonds and the balance mainly forthe financing the ongoing operation of the Partnerships, including the continuingof expected investments in the Partnerships petroleum assets in Israel.

6. In connection with the New Financing, the Bonds will be rated by twointernational rating companies Moody's and Standard and Poor's and an Israelirating company Maalot. It is expected that the rating will be Baa3 by Moody'sand BBB- by Standard and Poor's and AA by Maalot (the " Expected Rating "). Itshould be emphasized that the aforementioned is an expected rating and not thefinal rating.

7. In connection with the raising procedure the Partnerships received, inter alia, anopinion by Economic Models Ltd. (hereinafter " Economic Models ") a copy ofwhich is attached to this report, that includes, the evaluation of Economic Modelsin relation to the consumption of gas in Israel in the coming years. EconomicModels has given its consent to include its opinion in this report.

8. It should be emphasized that this report or the reports of the Rating Companiesmay not be construed as an offer or an invitation to purchase securities and thatthe Bonds will not be offered or sold in the U.S. other than with the approval andauthorization of the authorities in the U.S. or with an exemption from an approvaland authorization in accordance with U.S. laws, and every offer to the public inthe U.S. shall only be made by a prospectus which includes information inaccordance with the requirements of U.S. law.

Forward Looking Information Warning :

The information mentioned above, including in relation to the final amount to be

raised/the consideration for the issuance, the successful execution of the raising ofthe financing and in relation to the final rating of the Bonds, constitutes ForwardLooking Information as such term is defined in section 32A of the Securities Law, andthere is no certainty that such information will be realized, partially or fully, in theabovementioned manner or in any other manner, and may be realized in a materiallydifferent manner and in particular there is no certainty that the raising will besuccessfully completed or that the full amount as specified above will be raised.

Partnership out of the pledged accounts. The right or recourse of the Bonds owners shall belimited to assets which were not pledged by the Partnership in the pledge (Limited Recourse)


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- 3 -

This is a convenience translation of the original HEBREW immediate reportissued to the Tel Aviv Stock Exchange by the Company on April 28, 2014.

About The Delek GroupThe Delek Group, Israel's dominant integrated energy company, is the pioneeringleader of the natural gas exploration and production activities that are

transforming the Eastern Mediterranean's Levant Basin into one of the energyindustry's most promising emerging regions. Having discovered Tamar andLeviathan, two of the world's largest natural gas finds since 2000, Delek and itspartners are now developing a balanced, world-class portfolio of exploration,development and production assets with total gross natural gas resourcesdiscovered since 2009 of approximately 37 TCF.

In addition, Delek Group has a number of assets in downstream energy, in waterdesalination, and in the finance sector.

For more information on Delek Group please visit www.delek-group.com

ContactDalia Black / Dina VinceInvestor RelationsDelek GroupTel: +972 9 863 8444Email: [email protected]
http://www.delek-group.com/http://www.delek-group.com/http://www.delek-group.com/http://www.delek-group.com/


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January 26, 2014


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This report is provided for information purposes only, and does not constitute anyrecommendation or advice for any purpose .

This report relies on publicly available information and other sources of information, includinginformation provided by Noble Energy Inc, Delek Drilling LP (Delek Drilling), Avner OilExploration LP (Avner Oil, and together with Delek Drilling and each of their respective affiliates,the Delek Parties) and/or Isramco and/or Dor (collectively, the Project Co -Sponsors), andwhich Economic Models Ltd. believes is reliable, without any independent verification of saidreliability, unless specifically noted otherwise. The information provided in this report does notpurport to include all elements that a prospective investor may desire and thus does not replacethe need for a full analysis of all the facts and details appearing herein .

With regard to any use or reliance on this document by any party, Economic Models Ltd., nor anypersons acting on our behalf: (a) makes any warranty, expressed or implied, with respect to theuse of any information or methods disclosed in this report; or (b) assumes any liability withrespect to any information or methods disclosed in this report, except to the extent resulting fromany fraud or willful misconduct of Economic Models Ltd. or any persons acting on its behalf .

Any recipient of this document, by acceptance or use of this document, releases Economic ModelLtd. and anyone acting on its behalf from any and all liability for damage and/or loss that may becaused by use of this report, if any, and Economic Models Ltd. similarly disclaim any and allguarantee of, or liability for, the reliability of the information contained herein, except in all cases,to the extent resulting from any fraud or willful misconduct of Economic Models Ltd. or anypersons acting on its behalf .

In no event will Economic Models Ltds directors, officers or employees be liable to the recipientshereof for any liability, damages, expenses and losses of any nature caused by or resulting fromthe services of Economic Modesl Ltd. or the report. The Delek Parties have indemnified EconomicModels Ltd. for certain claims regarding this report .

The economic forecast herein represents our understanding only and includes our forecasts ofthe Israeli economy and electricity and gas markets therein. Different methods of estimating anddifferent assumptions are liable to lead to different results. The information contained herein issubject to change and may be rendered irrelevant at any time .

Capital Market Models Ltd., an investment management company under the control of theshareholders of Economic Models Ltd., is a portfolio manager and as such may hold, or currentlyholds, or may purchase, publicly traded securities issued by the Project Co-Sponsors and/orparent companies for various clients and/or mutual funds managed by it.

Prepared by Dr. Yacov Sheinin and Chen Herzog


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,%- (. /(0)#0)1

1 METHODOLOGY 6

2 EXECUTIVE SUMMARY 12 !"# % &' ( )*&+( , -.)/&'0 ' 1**&.2 #3 !"! + &01.&4 %&' ( )*&+( / -*5)06067) ) +76.-+*)+0 !! !"3 ( )*&+( , -.)/&'0 82 ' )/0-. !9

3 ELECTRICITY DEMAND FORECAST 43 3"# 6+0.-(1/06-+ :: 3"! 6+0).+&06-+&4 / -*5&.6'-+ :; 3"3 ) 4)/0.6/602 ( )*&+( ,-. ( )'&46+&06-+ :"< ) 4)/0.6/602 ' 15542 82 / -%)+).&06-+ A# :"9 . )+)B&84) ) +).%2 ' 15542 A! :"A , 101.) + 1/4)&. ) +).%2 A<

5 ISRAEL NATURAL GAS DEMAND FOR ELECTRICITY FORECAST 77 # 6.10 %&' 0- 46G16(' E%04F #>!

7 GAS DEMAND FOR EXPORT 104 A"# ?-.(&+6&+ + &01.&4 %&' ( )*&+( #>< A"! 6'.&)4 H' 4+% ) I5-.0 &40).+&067)' #>@ A"3 4+% )I5-.0 0=.-1%= ) %250H' )I6'06+% 5.-?)/0' ##!

8 COMPETITIVE ENVIRONMENT 115 ;"# 6'.&)4 %&' . )').7)' ##9 ;"! %&' ' 15542 &+( ( )*&+( ##;

9. FORECAST TABLES 122


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5

Abbreviations used throughout this document:

IEC Israel Electric Corp.

IPP Independent Power Producers

LDC Low pressure gas distribution companies (distribution to small

commercial and industrial gas customers)Cogen Cogeneration

Desal Desalination

PUA Public Utility Authority

FO Fuel Oil


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1 Methodology


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Economic Models is a leading Israel macroeconomic research and economicconsulting firm. It is best known for its exclusive macroeconomic model and its

forecasts of fundamental economic indicators such as: GDP, employment,

foreign trade, investment and inflation.

The firm develops and maintains comprehensive models for various Israeli

industries, and provides detailed demand forecasts such as: energy, electricity,

communication services, cargo shipping, housing, and cement.

Projects include:

1. Over 20 years of providing long-term electricity demand model.

2. Long-term demand for fuels.

3. Economic analysis of IPP projects.

4. Analysis of desalination projects, and demand for desalination.

This analysis is based on Economic Models' long-term macroeconomic model

of the Israeli economy. In preparing this analysis we have incorporated only

official data and plans which were publicly published by IEC, the PUA and theMinistry of Energy and Water Resources and the Central Bureau of Statistics

(CBS).


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Our detailed macro-economic forecast assumption is presented in a separatepresentation document. The following tables summarized the main

characteristics of our forecast.

Macro-Economic Forecast Summary

201 3 2015 2020 2030 2040 CAGR2013-40

Gross domestic product(2012 NIS bills.)

1,026 1,074 1,300 1,906 2,782 3.8%

GDP per capita (2012 kNIS) 127.3 128.7 143.2 180.5 229.4 2.2%

Population (thousands) 8,056 8,348 9,076 10,560 12,125 1.5%

Households (thousands) 2,339 2,428 2,672 3,231 3,881 1.9%

Participation rate 63% 63% 63% 64% 64% 0.1%

Civilian labor force

(thousands)3,654 3,761 4,080 4,901 5,758 1.7%

Average annual growth rate Cumulative

201 3 -

2015

2016-

2020

2021-

2025

2026-

2030

2031-

2035

2036-

2040

2013-2040

Gross domestic

product2.3% 3.9% 3.9% 3.9% 3.8% 3.9% 171.2%

Government

consumption**2.9% 3.4% 3.5% 3.9% 3.8% 3.8% 161.0%

Private

consumption3.0% 3.9% 4.0% 4.1% 4.0% 4.0% 181.0%

Fixed investment 3.4% 6.1% 3.6% 3.5% 3.3% 3.2% 180.4%

GDP per capita 0.5% 2.2% 2.3% 2.4% 2.4% 2.4% 80.2%


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The charts below illustrate our methodology. Our demand model is based onthe bottom-up approach, including several main demand components:

a) Residential demand for electricity (private consumption), based on

demand models for main appliances, factoring penetration rates, usage

intensity and energy efficiency.

b) Demand by the government sectors, commerce and services, based on

our Israel macro-economic model.

c) Demand by the industry, based on our macro-economic model, factoring

in the relative energy intensity of various industries.

d) Demand for desalination and water pumping based on our

macroeconomic forecast and demand for water forecast

e) Palestinian demand currently included within Israel demand. We

assume that the Palestinians will shift to self-generation of electricity in

10 years (assuming normalization of the defense situation).

Our electricity demand model is based on a bottom-up approach, whichincludes the effect of energy efficiency improvement, along with the effect of

increased penetration rates and usage of household appliance. The results

indicate convergence to demand levels in regions with comparable weather

such as the US "Sun Belt" States (see detail in chapter 3).

For natural gas demand estimate purpose, in this study we see the electricity

generation sector (IEC and IPP's) as a single demand source. Assuming similar

generation technologies, the demand for gas is not sensitive to the potential

market share of new entrants to the electricity generation sector (see chapter 4below).

The explicit assumption is that all the increase in Israel's electricity supply

throughout 2040 will be generated by natural gas (except from renewable


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energies that may reach 10% of Israel's electricity supply, and nuclear powerstations that could be built in 2031 and beyond).

The main assumptions are outlined in the corresponding chapters through our

report.

Electricity Demand Model Methodology


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Natural Gas Demand Model Methodology


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2 Executive Summary


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2.1 Gas Demand Forecast Summary

A. Background

The discovery of the Tamar and Leviathan natural gas fields provides Israel with

a unique opportunity to increase the use of natural gas as a relatively

inexpensive and ecologically sound energy source, while increasing Israel's

energy independence.

Israel's first gas discovery, Yam Tethys, started producing gas in 2004 andinitiated, together with gas that was imported by pipeline from Egypt, the

transformation of the Israeli electric sector from coal and oil to coal and natural

gas.

However, until the Tamar and Leviathan discoveries, Israel's gas supplies were

limited and Israel was dependent on gas import from Egypt for about 40% of its

supply. Since the Egyptian revolution in January 2011, Egypt has practically

stopped supplying gas to Israel. In April 2012, Egypt has announced the

cancellation of its gas export contracts to Israel.

Consequently, in 2011-12 Israel was in a temporary situation of gas shortage

which forced some of the electricity power units to move back to oil as a backup

fuel, at considerable cost. In April 2013, as the Tamar field began operation,

Israel shifted all its electricity oil production back to gas. The further discovery of

Leviathan along with Tamar provide the Israeli market with surplus gas supply

from local sources, without dependence on import.

The increased supply of natural gas worldwide, through the discovery of

unconventional shale gas reserves is expected to accelerate the development

of additional applications for natural gas, and Israel is well positioned to take

part in this revolution.


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Hence, according to our analysis, while the Tamar and Leviathan discoveriesincrease the gas supply to the Israeli market, they also facilitate and promote

increased gas demand in Israel for applications that require a long and secure

horizon of gas supply.

Up to now, Israel's gas consumption was limited to fuel-oil and diesel

replacement in electricity generation and cogeneration facilities. As our analysis

shows, the availability of natural gas is expected to promote further demand for

Israeli gas, which includes:

1. Conversion of the coal based power units to use gas in normal time

2. Electrification of Israel's railway system

3. Increased water desalination by 1 billion cubic meters

4. Gas usage for transportation (CNG and methanol)

5. Development of methane based chemical and petrochemical industries


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B. Key Natural Gas Demand Drivers

We estimate that Israel's energy sector transformation to natural gas is still in its

first phase. Therefore, current demand quantities do not represent Israel's full

demand potential at the current level of GDP.

In 2012, Israel's national gas pipeline grid has finally reached all the major

industrial areas, which enabled Israel Electric Corp. (IEC) to complete the shift

of its last oil based power units from diesel and fuel-oil to natural gas.

Israel's largest manufacturers are currently in the process of converting and

upgrading their cogeneration facilities from oil to gas. This process was delayed

due to delays in pipeline connection and the lack of natural gas. Most large

industrial manufacturers are expected to complete the switch to gas by 2015.

Israel's electricity demand per capita is very low compared to developed

countries when accounting for weather conditions (the demand in Israel is 50%

less than the U.S. "Sun Belt" states, which have comparable weather). As

Israel's standard of living increases, demand for electricity is expected to

increase (see below Economic Models Ltd, - EML forecast).

Electricity Consumption Indicators

US "SunBelt" States,

2013

Israel,

2013

Israel,2040 EMLforecast

Cooling DegreeDays (>22C)

990 840

GDP / Capita(US $)

$50,000 $34,000 $55,000

Electricityper capita:kWH/ capitaRelative to US"Sun Belt"

13,900 KwH

100%

6,800 KwH

51%

11,700 KwH

84%


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We predict that all the increase in Israel's electricity demand throughout 2040will be supplied by natural gas, except from renewable energies that may reach

8% of Israel's electricity supply, and nuclear power stations that could be built in

2031 and beyond. The new planned coal unit ("Project D" of 1,400 MW) that is

planned to be built by 2022 will be a dual-fuel (coal/gas) unit and is expected be

fueled by natural gas with coal used as a backup fuel only.

Furthermore, we believe that there are strong economic and environmental

incentives to convert all Israel's coal based power units to dual-fuel units thatwill be run on gas as a primary fuel, with coal as a backup fuel only, assuming

long term gas contracts ensuring a competitive gas prices for these units

relative to coal, based on the relative costs. Full conversion of Israel's coal

units to gas (beyond Rabin A) will increase the gas demand by 6 BCM per year.

Based on a decision of the Minister of Infrastructure, starting 2015 gas will be

used as a replacement for coal in 4 of the Orot Rabin coal units units

(1,400MW). We believe that conversion of the other coal units to gas(3,400MW), based on coal competitive price of gas for these units, makes

economic sense from a macro-economic viewpoint. Practically, it can follow the

same logic and occur along with Leviathan's entry to the market.

The availability of natural gas is expected to enable increased gas usage for

transportation applications in Israel. Israel's railway system in currently running

on expensive diesel fuel and most parts of it are planned to be electrified from

2017 (an increase of about 0.5 BCM of natural gas demand per year).

Israel's transportation sector can also benefit from the availability of local supply

of natural gas. CNG is expected to replace about 10% of Israel's diesel based

fleet by 2020, corresponding to 0.4 BCM of natural gas demand in 2020.


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Experience worldwide shows that countries with natural gas surplus usuallydevelop, parallel to an industry of LNG export, also a large and profitable

petrochemical industry exploiting the availability of local methane gas sources.

Unlike most other gas producing countries, which also have local supply of oil,

coal, hydroelectric power and/or nuclear energy, Israel is a unique position in

which its only local source of energy is natural gas. Therefore, from an

economic point of view, it is expected that Israel will have higher usage of gas

compared to other sources of energy, to utilize its relative advantage.

Therefore, we see potential for development of additional applications for

natural gas based industries in Israel (such as ammonia, methanol, olefin

production, etc.), which can increase gas demand by at least 10% (1.3 BCM in

2020).


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C. Natural Gas Demand Forecast Summary

Economic Models natural gas demand forecast for Israel is based on a

proprietary multi-factor macro-economic model, electricity demand and supply

models, and an economic dispatch model based on a forecasted load-duration

curve. Economic Models has been providing its customers with the long-term

electricity demand model for over 20 years.

Based on the assumptions detailed in this report and under average weather

conditions, we forecast that the demand for natural gas in Israel, without any

further coal to gas conversion, will increase from 7 BCM in 2013 to 17.4 BCM in

2020 and 27 BCM in 2040. This forecast includes the demand for natural gas by

IEC, IPPs, cogeneration, transportation, chemical industry, low pressure

industries (LDC) and desalination.

Further conversion of existing coal units to gas (beyond Orot Rabin A) may

increase annual gas demand by additional 6 BCM in 2020.

Aggregate gas demand in the Israel until 2040 is expected to reach 562 BCM

without further coal to gas conversion, 694 BCM with full coal conversion to gas.

Additional regional captive markets include the Palestinian (which currently

purchase electricity from Israel) and Jordan. Since Egypt has gas supply

constraints, it is unlikely that these markets will be able to purchase gas from

Egypt. It is also unlikely that the Gaza Marine Field (30 BCM offshore Gaza) will

be developed in the coming years.

Total regional potential demand throughout 2040 is estimated at 875 BCM,which includes Israeli and Palestinian demand of 747 BCM (85% of the regional

demand) and export to Jordan of additional 128 BCM (15% of demand).

We define all these markets (Israel, Palestinians and Jordan) as the " Narrow

Path " alternative.


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small player in the global LNG market. The Israeli Parliament approved toexport 40% of total gas discoveries. Hence, we believe that there will be more

incentives to explore gas and that the entire limited export quota will be sold in

the global markets.

Our demand forecasts in both paths do not take into account long term supply

side constraints and capacity limitations. But in case of short term supply

constraints, Israel may either import LNG, reduce export, and/or use more oil

products (as was the case in 2011-12). The underlying assumption in the BroadPath forecast is that additional gas resources are discovered, to meet the 40%

export allowance (see discussion in Section D competitive environment

below).

We believe that the Broad Path forecast is the likely path the Israeli Market is

expected to follow in the coming decades. It should be emphasized the due to

Israel's oil and gas tax reform (the Sheshinksy I Committee), the Israeligovernment is effectively the "senior partner" in Israel's gas fields, since the

government receives 60% of the profits of the gas operators. Therefore, we

believe that even though there are still uncertainties as to the location of Israel's

export facilities, it is unreasonable to assume that the government will adopt a

policy that will not enable the gas producers to reach the export quantities which

were approved by the Israeli parliament (40% of reserves). Hence we believe

that the Broad Path forecast is a highly likely path, and that the Narrow Path

represents a conservative alternative.


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Natural Gas Demand Forecast , in BCM*

NarrowPath /1

BroadPath / 2

Timeline2010 5.4 5.42011 5.2 5.2 Temporary gas

shortage2012 2.9 2.92013 7.0 7.0 Tamar gas Q22014 8.6 8.6 Full Tamar2015 12.2 12.2 Rabin A

conversion togas (1400MW)2016 13.0 13.0

2017 15.3 15.3Further coalconversion togas (3400MW)

2018 21.5 28.52019 24.6 31.62020 27.5 34.52021 28.6 35.62022 29.6 36.62023 30.7 42.7

Palestinian** shiftto self-supply2024 31.9 43.9

2025 33.0 45.02026 34.2 46.22027 35.5 47.52028 36.8 48.82029 37.9 49.9

2030 35.1 53.12031 36.0 54.0 1 s nuclear unit2032 37.2 55.22033 38.4 56.42034 39.7 57.72035 40.8 66.82036 42.0 68.02037 43.2 69.22038 44.4 71.92039 45.7 73.22040 44.8 72.3 2 nd nuclear unitTotal

2013-40 875 1,245

% export 15% 40%

"# ssuming no supply side constraints from 2013 onwards./1 Israel, Palestinians and export to Jordan/2 Narrow Path with additional LNG export


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2.2 Natural Gas Demand Competitive Environment

Proved and prospective gas resources in Israel are currently estimated at about

1,050 BCM. According to the US Geological Survey, the potential undiscovered

gas resources in Israel may reach additional 1400-1800BCM. Realization of this

further gas potential is very important for Israel for both economic and strategic

reasons. However, gas exploration projects must face attractive gas

marketability options in order to continue exploration at an acceptable rate.

The current government policy limits export of gas to about 40% of production.Local demand throughout 2040 can reach about 70% the existing gas

discoveries. Therefore, large scale investment in the development of further

large gas production capacity beyond the current discoveries is not likely unless

further export is viable and approved by the government.

Israel Gas Resources Estimate

(BCM) Category

Tamar 282 2PLeviathan 535 2C

Karish 36 2C

Dalit 8 2C

Tanin 22 2C

Total Discovered 883

Ruth / Alon / Others* 175 Prospective

Total Prospective (mean) 175

Total Resources 1,058

Our gas demand analysis shows the Tamar and Leviathan fields are expected

to face significant gas demand from the local and regional markets. The local

demand will allow a wide range of flexibility (subject to government regulation


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and technical limitations) to allocate gas sales either to local or export markets,based on the relative netback in each market.

The smaller gas producers, if proven economic, are expected to compete in the

local market, since their alternative is to keep the gas in the ground for a long

period. We expect that the pipelines and landing facilities for the small gas fields

will be developed jointly, as a national infrastructure with government backing.

Hence, we assume that all gas fields will have access to the local market,

regardless of their size.

Analysis of the existing discoveries and potential regional demand, show that

the entire local demand can be supplied using the existing proven and

prospective resources at least until 2040. The following tables illustrate a

synthetic allocation of the demand among the suppliers.

We assume that any further large scale gas discovery will only be developed if it

has an identified potential export market (such as an LNG export facility and/or

pipeline to Turkey) and additional export quotas are allocated by the Israeligovernment. Accordingly, our Narrow Path alternative (15% export) is based on

current proved and prospective discoveries only. The Broad Path alternative

(40% export) is analyzed under the assumption that additional 200 BCM of new

reserves are gradually discovered by other suppliers to facilitate the additional

export.

The experience in Israel from the Tamar and Leviathan projects show that it

takes at least 10 years from the decision to start the exploration drilling to activeproduction. Tamar was developed in record time, which was facilitated because

it was developed in a period of shortage of gas supply to the local market.

Therefore, it is unlikely that further large scale gas fields will be explored and

developed before 2025-2030.


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Narrow Path AlternativeSynthetic /1 Demand Forecast By Supplier, in BCM

Total Supplier TamarMarketShareDemand Tamar* Leviathan** Others /LNG import

Reserves 282 535 200

2013 7.0

2014 8.6 8.6 0.0 100%2015 12.2 12.0 0.2 99%2016 13.0 12.0 1.0 93%2017 15.3 12.0 1.5 1.8 78%2018 21.5 12.0 9.5 0.0 56%2019 24.6 12.0 12.0 0.6 49%2020 27.5 12.0 11.7 3.8 44%2021 28.6 12.0 12.0 4.6 42%2022 29.6 11.6 13.1 4.9 39%2023 30.7 11.4 14.1 5.3 37%2024 31.9 11.7 14.7 5.5 37%2025 33.0 11.9 15.3 5.7 36%2026 34.2 10.6 17.2 6.4 31%2027 35.5 9.8 18.7 7.0 28%

2028 36.8 10.2 19.3 7.2 28%2029 37.9 10.5 20.0 7.5 28%2030 35.1 9.7 18.4 6.9 28%2031 36.0 10.0 18.9 7.1 28%2032 37.2 10.3 19.6 7.3 28%2033 38.4 10.7 20.2 7.6 28%2034 39.7 11.0 20.9 7.8 28%2035 40.8 11.3 21.4 8.0 28%2036 42.0 11.6 22.1 8.3 28%2037 43.2 12.0 22.7 8.5 28%2038 44.4 8.0 23.4 13.1 18%

2039 45.7 0.0 24.0 21.7 0%2040 44.8 0.0 23.6 21.2 0%Total 875 282 414 179 32%

1/ Assuming Market share proportional to reserves beyond Tamar's existing contracts and no supply side constraints

* Tamar's current pipeline capacity limitations is 12 BCM per year** Leviathan's capacity constraint to the regional market assumed at 12 BCM (6 BCM stage I capacity plus 6 BCM expansionfor the coal to gas conversion contract) until 2022. Conservatively assumed unrestricted after 2022.


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Broad Path AlternativeSynthetic /1 Demand Forecast By Supplier, in BCM

Total Supplier TamarMarketShareDemand Tamar* Leviathan** Others / LNGimport

Reserves 282 535 300-400

2013 7.0

2014 8.6 8.6 0.0 100%2015 12.2 12.0 0.2 99%2016 13.0 12.0 1.0 93%

2017 15.3 12.0 1.5 1.8 78%2018 28.5 12.0 16.5 0.0 56%2019 31.6 12.0 19.0 0.6 49%2020 34.5 12.0 15.1 7.5 44%2021 35.6 12.0 15.6 8.0 42%2022 36.6 12.0 15.6 9.0 39%2023 42.7 12.0 19.8 10.9 37%2024 43.9 12.0 20.7 11.2 37%2025 45.0 12.0 21.4 11.6 36%2026 46.2 11.5 21.7 13.0 31%2027 47.5 11.8 22.4 13.4 28%2028 48.8 12.0 23.0 13.7 28%2029 49.9 12.0 23.9 14.1 28%2030 53.1 12.0 26.1 14.9 28%2031 54.0 12.0 26.8 15.2 28%2032 55.2 12.0 27.6 15.5 28%2033 56.4 12.0 28.5 15.9 28%2034 57.7 12.0 27.4 18.2 28%2035 66.8 12.0 31.7 23.0 28%2036 68.0 12.0 32.3 23.7 28%2037 69.2 3.0 32.6 33.6 28%2038 71.9 0.0 33.8 38.1 18%2039 73.2 0.0 32.0 41.2 0%2040 72.3 0.0 0.0 72.3 0%Total 1,245 282 535 428 23%

1/ Assuming Market share proportional to reserves beyond Tamar's existing contracts and no supply side constraints

* Tamar's current pipeline capacity limitations is 12 BCM per year** Leviathan's capacity constraint to the regional market assumed at 12 BCM (6 BCM stage I capacity plus 6 BCM expansionfor the coal to gas conversion contract) until 2022. Conservatively assumed unrestricted after 2022. Export capacity 8 BCMfrom 2017, unrestricted after 2022.


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2.3 Demand Forecast by SectorA. Demand for Gas for Electricity

As opposed to most high income OECD countries, which have reached a

saturation level in terms of electricity demand per capita, the demand for

electricity in Israel continues to grow along with the growth in income and

Israel's electricity consumption per capita is about 50% less than developed

countries with comparable weather (see discussion in chapter 3 below) such as

the US "Sun Belt" States. Our forecast that is based on the assumption that by

2040, electricity demand per capita in Israel will converge to a level about 15%

less than the demand in the US "Sun Belt" States today.

As we have shown in section 3.2 below, there is no significant "cultural gap" in

terms of electricity consumption between high income countries with similar

weather conditions. The electricity consumption per capita in the North Eastern

USA is similar to European countries with similar weather conditions

Queensland Australia's 10% lower electricity consumption per capita relative to

the US "Sun Belt" States, is primarily due to climate differences. Queensland

has 50% less cooling degree days than the US "Sun Belt" States and Israel,

which leads to both lower air-conditioning penetration rates (70% in Queensland

vs. 95% in the US "Sun Belt" States) and significantly lower air-conditioning

usage intensity. Therefore, our forecast is also consistent with the Queensland

Australia benchmark, when appropriate adjustments are applied for Australia's

weather as compared to Israel's.

According to our forecast, assuming average weather, local demand for

electricity will grow at an average rate of 3.6% per annum, reaching some 159

million MWh by 2040. This growth rate represents about a 2.0% annual

increase in electricity consumption per capita. Due to the expected growth in


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labor participation rate, and the decrease in household size, these growth raterepresent 1.8% annual increase in electricity consumption per household and

per employee.

The increase is mainly due to an expected increase in the standard of living,

increase in air-conditioner penetration and usage, increased water desalination

and electrification of the Israeli railway system.

Electricity demand constitutes the major local market for natural gas, as we

expect that all the increase in Israel's electricity demand throughout 2040 will be

supplied by natural gas, except a limited supply of renewable energy (see

below), potential nuclear power after 2013 (see below).


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B. Sensitivity of Gas Demand for Electricity Production

Electricity demand sensitivity to changes in GDP growth indicate that a 0.6%

points permanent decrease (or increase) in GDP growth rate, results in 0.4%

decrease (or increase) in average electricity demand growth rate, as illustrated

in the table below.

Electricity Natural Gas Demand Sensitivity to GDP Growth

VeryLow

Low Base High

GDP/EmployeeGrowth Rate

1.4% 1.6% 2.0% 2.5%

GDP/CapitaGrowth Rate

1.6% 1.8% 2. 2% 2.7%

GDP growth rate 3.2% 3.4% 3.8% 4.3%

Electricitydemand GrowthRate

3.3% 3.4% 3.6% 3.9%

ElectricityDemand in 2040,Bil. KwH

131 134 142 154

Natural GasDemand 2013-2040 in BCM

368 461 499 539

% change in gasdemand vs. basecase, 2040

-7.9% - 5.5% 0% 8.0%

The demand for gas for electricity production is not sensitive to policy changes

and to the extent the current electricity market reform proposal would beadopted. If IEC's market share will be reduced, gas demand will not be affected

since private producers will increase demand accordingly (assuming similar

generation technologies). The same is true if IPPs will have difficulties to

compete in the market. From the natural gas demand viewpoint, it is irrelevant if

the additional demand will come from IPPs or from IEC.


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Furthermore, the goal of the proposed electricity market reform is to promotecompetition in the generation sector in order to reduce electricity prices. If the

reform is successful, the reduction in electricity prices is expected to result in an

increase electricity of and natural gas demand.

Demand elasticity sensitivity to changes in electricity rates is estimated at 0.3,

so that a permanent 10% increase (or decrease) in electricity prices, results a

3% decrease (or increase) in the electricity demand levels.

C. Renewable Energy

The Israeli government decided to encourage renewable energy sources, and

declared a target of 10% renewable energy by 2020. This is despite the fact that

Israel's CO 2 emissions today (per capita) are 20% below the OECD average. In

order to support this goal, the government subsidizes solar energy producers.

Our forecast for renewable energy production in Israel is based according to the

EU renewable generation target for 2020, without hydro-electric power.

Our forecast is made under the assumption that the Israeli policy will follow the

pattern of the EU policy, so that by 2030, 20% of the generation capacity in

Israel will be based on renewable (solar and wind) energy, accounting for about

8% of electricity production. However, we believe that our forecast is based on

a conservative assumption, and due to the high cost of subsidizing solar

energy, in practice it is likely less than 5% of the electricity production will be

produced by renewable energy.

In our view, full conversion of Israel's coal units to natural gas (with coal as a

backup fuel) can achieve the same goal of reduction of CO 2 emissions without

the added cost associated with renewable energy.


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D. Nuclear Energy

Israel's long term electricity sector development plans includes a nuclear power

plant, and IEC has declared that it wishes to start the long term planning

process for a future nuclear power station. Israel's Prime Minister Netanyahu

also adopted the vision of a nuclear power plant, as a viable alternative to

increase Israel's energy independence and flexibility.

There are several obstacles to building a nuclear power plant in Israel, including

the small size of the country which increases the risk in case of emergency, and

the fact that Israel did not sign the Nuclear Non-Proliferation Treaty.

Our forecast is based on the assumption that the first two 1,200 MW nuclear

power plants in Israel will be completed in 2031, with an additional unit built in

2040.

Each year of delay in the operation of Israel's nuclear plants is expected to

increase gas demand by 4 BCM. Therefore, a 10 year delay (from 2031 to

2040), in the operation of Israel's first nuclear units will result in an increase of

40BCM in natural gas demand.


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There has been a formal decision to convert 4 coal units with a total capacity of1,400 MW from coal to gas. Although no formal decision has yet been made for

the conversion of the other 6 coal units (3,400 MW) to gas, we are fully

convinced that this a must! The strong economic incentives to all the relevant

parties to make the conversion from coal to gas will force the parties (and

especially the government) to find a "saddle point" gas price within the range so

that each side will be better off. We estimate the full government's direct profit

from coal to gas conversion is above $ 3 per MMBTU.

It is easy to show that conversion of all the existing coal units to dual fuel

(gas/coal) gas has significant benefits to the gas providers and to the Israeli

economy. But the most important part of this conversion is the benefit of the

government that receives (as direct taxes) 60% of the profit from the additional

gas sales and 0% revenues from import of coal. Because Israel has excess gas

supply we are fully convinced that long term gas contracts, for all the coal units,

ensuring a competitive gas prices relative to coal will be reached.

Therefore, due to these economic advantages, our forecast is based on the

conversion of Israel's 10 coal units to gas in 2018-2020, along with Leviathan

entrance to the market.


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F. Project D

Israel, as an isolated and small economy which faces security threats, has

made a strategic decision to prevent dependence on a single source of energy

for electricity production. Therefore, despite the government's efforts to restrict

Israel Electric's capacity expansion, the government reform plan includes

authorization for Israel Electric to build its next dual fuel coal/gas unit "Project

D" (under the condition of 51% investor in the unit). Project D is planned for

2022 as a dual fuel coal/gas unit that will be fueled on gas, with coal as a

backup fuel for emergency periods. Project D's strategic importance is that it

will allow Israel to continue to have coal backup capacity for its entire baseload

electricity demand.

Based on government decisions, the new planned coal unit that is expected to

be built by 2022 ("project D") will be built as a dual-fuel (coal/gas) unit, which

will be fueled on natural gas, with coal for backup based on economic criteria.

According to the decision, the unit's operating regime will be determined in

cooperation with the finance ministry. Our assumption is that project D will befueled by natural gas, under a competitive price of gas for the conversion

project.

According to the proposed electricity market reform, project D is planned to be

built by IEC jointly with a strategic investor which will hold 51% share in the

project. Any delay in building project D is expected to reduce gas demand after

2022 by 0.4 BCM per year as a result of substituting combined cycle gas units

which have 20% higher thermal efficiency.


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G. Demand for Gas for Cogeneration

Our forecast shows an increase in demand for gas by cogeneration and

industry from 1.5 BCM in 2013 to 3.4 BCM in 2015

This increase is primarily due to conversion from fuel oil and diesel of existing

large industrial plants, due to mandatory regulation and economic profitability.

In 2013, the Israeli industry consumed about 1.0 million tons of fuels (primarily

fuel oil) for industrial uses (mainly steam production), which are about 1.3 BCM

of natural gas in equivalent gas units. In addition, the industry used about 1.5

BCM of gas by units which were already converted from fuel to gas.

By 2015, fuel demand by the industry in gas equivalent terms is expected to

reach about 3.2 BCM.

We estimate that all the existing heavy industry fuel, and about 25% of the light

industry (low pressure consumers) will complete the transition from fuels to gas

in the next 2 years. Accordingly, gas demand by the heavy industry

(cogeneration and desalination) is expected to reach 3.2 BCM by 2015, withadditional 0.2 BCM of gas by low pressure light industry (LDC).

The conversion from fuel oil and diesel to gas will create incremental gas

demand beyond the demand for gas for electricity.

Some of the units are converted to gas due to regulatory requirement (like ORL

in Haifa), and therefore the conversion is mandatory. For the others, there is a

clear economic incentive to invest in the conversion, since the price of gas is

currently about 1/4 of the price of fuel oil or diesel.


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H. Gas demand for transportation

The Israeli government recently decided to invest more than 2 billion shekels in

the coming decade to increase Israel's energy independence and reduce air

pollution. From Israel's perspective, the transition to energy independence is of

strategic importance beyond the environmental implications.

CNG based vehicles provide potential for natural gas based transportation, for

specialty niche applications, such as urban transportation fleet including buses,

taxis, delivery trucks etc.

CNG provides a good solution to fleet vehicles which visit every day a central

hub that can provide CNG refueling services, without a need to develop a costly

network of refueling stations.

We believe that CNG may replace about 10% of Israel's diesel based fleet fuel

consumption by 2020, corresponding to 0.4 BCM of natural gas demand in

2020, gradually reaching a 20% market share by 2040.

Demand Forecast of CNG for TransportationTotal Israel

TransportationDiesel*

Demand(m. tons)

DieselDemandGrowth

Rate

CNGPenetrationin DieselFleet

CNGdemand inm. tonsequivalent**

CNGdemandin BCM*

201 3 2,350 1.1% 0.0% 0 0.02015 2,412 1.3% 2.0% 57 0.12020 2,667 2.4% 11.0% 345 0.42025 3,021 2.6% 15.5% 551 0.62030 3,429 2.5% 18.0% 726 0.82035 3,823 2.0% 19.6% 882 1.02040 4,172 1.7% 20.0% 982 1.1

*Excluding Palestinian diesel demand for transportation

In addition to CNG demand, based on our analysis Israel has an exceptional

opportunity to create a methanol production industry that will enable it to


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gradually move all its passenger cars to flex-fuel vehicles powered by 85%methanol and 15% Gasoline (M85). Our analysis indicates that due to the

home-advantage methanol for local consumption can be produced at

competitive prices relative to the price of Gasoline without any subsidy for the

methanol. However, our forecast conservatively, does not include the potential

demand for M85 fuels.

In our view, Israel is a unique case in which the transition to methanol-powered

vehicles is strategically beneficial for the national economy:

1. Energy independence - ending the dependence on oil imports.

2. Exploiting the economic potential inherent in Israel's gas reserves.

3. A small market, which facilitates the dispersion of a national

infrastructure for refueling the methanol vehicles.

4. An isolated market, facilitating the transition to vehicles matched to

methanol, and exploiting the advantage of the energetic efficiency.

5. No alternative local production of ethanol, due to lack of land and water.6. A market with surplus natural gas and no oil reserves (no oil

cannibalization problem).

7. Safeguard from an Arab boycott of Israel (as was in 1974)


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I. Demand for Gas for Chemical Industry

Experience worldwide shows that in most countries that have a surplus of

natural gas, a large chemical and petrochemical industry are developed, which

enables the economic potential inherent in the availability of energy sources to

be realized.

We believe that the discovery of large natural-gas fields along Israel's shores

constitutes significant potential for the development of a chemical and

petrochemical industry in Israel, and to enter new fields of producing methane-

based chemical products.

Our forecast assumes natural gas for chemical industry uses (beyond ORL's

existing demand) will increase local gas demand by about 10%. This forecast is

based on existing development plans for ammonia and methanol plants, with

growth rates of 3%-5%, based on global growth rates for these products.

Chemical Industry Natural Gas Demand Forecast

In BCM

2015 2017 2020 2030 2040 Total2013-2040

Ammonia 0 0.5 0.5 0.7 1.0 15

Methanol 0 0.5 0.5 0.8 1.3 19

Others 0 0.3 0.3 0.5 0.7 11

Total ChemicalIndustryPotential

0 1. 3 1. 3 2.0 3.0 45

*Excluding existing ORL demand which is included in the general Industry Sector Demand


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We believe there is considerable potential beyond this forecast for additionalgrowth in these sectors, which is dependent on higher adoption rates of

methanol fuel and development in GTL production technologies.

J. Demand for gas from Jordan

The discovery of Leviathan is expected to transform Israel from a gas importing

country to a gas exporter. Due to the high costs of liquefactions, we believethat in the long-term, export of gas to Israel's neighboring countries is expected

to be more profitable than other export markets. In addition, export to Jordan

has strategic importance to Israel, as it strengthens the ties between the two

countries which signed a peace agreement in 1994.

The recent agreement of gas sales from Leviathan to the Palestinians is of

strategic significance, since it provides full political legitimacy for other

neighboring Arab countries such as Jordan and Egypt to purchase gas from

Israel.

Jordan, unlike its immediate neighbors, does not have significant energy

resources. As a result, Jordan relies heavily on imports of crude oil, petroleum

products, and natural gas to meet domestic energy demand.

The Arab Gas Pipeline (AGP) which runs from Egypt through the Sinai desert

to Jordan and north to Syria was the principal source of Jordanian natural gas

imports until 2011. Gas supply was based on a contract with Egypt for annualimports of about 3 BCM per year.


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Jordan Electricity and Gas Demand Forecast2010 2020 2030 2040

Population(millions)

6.4 8.1 9.4 10.5

GDP per capita $4,060 $4,700 $6,060 $7,800

ElectricityCapacity

3,140 MW 5,900 MW 8,000 MW 10,000 MW

ElectricityConsumptionper Capita

2,100 kWh 3,000 kWh 3,600 kWh 4,600 kWh

Gas Demand(BCM) 2.7 4.1 5.6 7.5Source: Economic Model estimates

Like Israel, however, Jordan saw its gas supply cut off by sabotage starting in

February 2011, which created long supply disruptions. As a result, Jordan, like

Israel, was forced to burn more expensive fuels at its power stations.

Since Egypt is facing gas shortage in the local market, gas exports from Egypt

are unlikely to resume on a substantial ongoing basis. Jordan is nowconsidering alternative gas supply sources. We believe that supply of gas from

Israel has economic and strategic benefits for both Israel and Jordan.

Israel's gas pipeline already reaches the Dead Sea at Sdom. Possible

extension of the Israeli gas pipeline to reach the Jordanian Potash Industries

requires an extension of the pipeline by about 10 km. The Tamar partners and

the Jordanian Potash Corp. are now discussing the supply of gas (0.1 0.3

BCM) to the Jordanian Potash industry.


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K. LNG Export

The global LNG trade is estimated at 320 BCM (236 mpta) in 2012 and is

expected according to Wood Mackenzie's forecasts to reach 730 BCM (514

mpta) by 2030, representing a 4.4% growth rate. According to this forecast, on

average, each year 3 more 4.5 mmpta LNG trains will need to be built

worldwide.

Israel is expected to be a small producer in the global LNG market. Exportquantities have been administratively limited by the Israeli government's

regulation, and we believe that in a commodity market a small player can export

its entire quantities, since it has more flexibility to lower prices if needed, than

the large players in the market.

Although currently there is no approved location for a liquefaction plant, several

options exist for LNG export out of Israel, including the existing underutilized

LNG plants in Egypt, Floating LNG, an offshore liquefaction platform, or aliquefaction plant in Israel.

Israel's crowded coastal shore has limited available locations for liquefaction

plants. Therefore, we believe that if a liquefaction plant is built in Israel, it will

most likely be off-shore, either as floating LNG project, or s stationary offshore

liquefaction platform.

From an economic point of view, the existing LNG plants in Egypt provides aneconomically attractive immediate outlet for Israel's gas export, taking

advantage of underutilized existing liquefaction capacity.


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Egypt's population is 10 times as large as Israel, while Egypt's gas reserves areonly twice as large as Israel. Therefore, in the long term, Egypt needs its gas for

self-consumption, and is not expected to have surplus gas for export.

As a result of Egypt's new policy to prioritize local consumption of gas over

export, the LNG liquefaction plants in Egypt are now operating at partial

utilization rates (less than 30% on average). These plant are co-owned by

international oil majors (BG, Petronas and Eni), and although there is strong

economic interest to utilize them fully, Egypt does not have natural gas supplyfor it.

Egypt's LNG Plants Utilization Rate

ELNG 1 ELNG 2 Damietta(SegasLNG)

Total

Plant Capacity(mmtpa)

3.6 3.6 5.0 12.2

Number ofTrains 1 1 1 3

ForeignShareholder*

BG (36%)Petronas

(36%)

BG (38%)Petronas

(38%)

Eni (40%)Fenosa(40%)

Start-up 2005 2005 2005

StorageCapacity (m3)

140,000 140,000 300,000

Production in2013

1.5 -2 1.5 -2 0 3 -4

2013 utilization

rate

50% 50% 0% 30%

Gas Shortage in2013, BCM

1.2-1.5 1.2-1.5 3.7 6.1 6.7

*Egyptian government companies hold 20% - 24% shares in the liquefaction plants.


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In contrast to the situation in Egypt, Israel has today surplus gas authorized bythe government for export (according to the Tzemach committee

recommendation and the government's decision) without any existing LNG

export facilities. From an economic point, in a situation where Egypt has 3 LNG

trains which lack gas supply, selling gas to these LNG facilities has many

economic benefits to all parties.

There already exists a gas pipeline connection between Israel and Egypt (the

EMG pipeline) which could be used to export Israeli gas to Egypt's liquefactionplants. However, past experience shows that the gas pipeline between Egypt

and Israel is prone to terrorist attacks which have seriously disrupted supply in

the past. Although gas sale to Egypt may be somewhat less politically sensitive

than selling Egyptian gas to Israel, we cannot rule out the possibility that gas

Israeli gas export will be similarly disrupted. Additionally, according to the

information we received from the Tamar partners, capacity limitations in the

existing gas pipelines limits Israel export ability to Egypt at about 2.5 BCM

(mostly at off peak hours).

Thus in any case, in the longer term, building a dedicated sub-marine pipeline

between the Yam Tethys platform and the Egyptian LNG terminals at the Nile

Delta will be required. This pipeline can both substantially reduce the political

risk of terrorist attacks, and facilitate exports at the full quantities demanded by

the LNG plants.

Our forecast is based on the assumption of LNG export potential of 2.5 BCM,increasing to 7 BCM in 2018, based on the assumption that an export pipeline

to Egypt or an offshore liquefaction plant will be built by 2018. Provided that

additional gas resources are developed in Israel, export can increase to 18

BCM in 2030 and 26 BCM in 2035, while still meeting the 40% export quota.


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3 Electricity Demand Forecast


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3.1 Introduction

Our forecast is based on a disaggregated long-term demand model for

electricity, which is based on our macroeconomic model for the Israeli economy.

The demand for electricity in various economic sectors is dependent on various

economic variables, such as income growth, penetration of electrical

appliances, the price of electricity, demographic variables, (i.e. population

composition, growth rate, household size, etc.), and on weather conditions.

The relatively high growth is a result of a 1.5% population growth rate, a 1.9%

growth rate in the number of households, and an increase in ownership of

household electrical appliances especially air conditioners for heating/cooling.

High growth is also expected in the commercial and industrial sectors due to an

increase in the intensity of usage per production unit, increased desalination

and the electrification of Israel's railway network.

Electricity Supply and Demand Forecast by Gas Purchasing SectorIn billions of kwh

2013 2017 2020 2030 2040 CAGR

ElectricityProduction 55.5 58.8 68.3 105.5 134.5 3.3%

Palestinian 5.0 6.4 7.5 11.9 18.0 4.9%

Industry self-production 3.4 13.3 14.0 16.3 18.9 6.5%

Total Supply 63.9 78.5 89.8 133.7 171.4 3.7%

-losses(generation, T&D) 4.8 5.9 6.8 10.0 12.8Total Demand 59.1 72.6 83.0 123.7 158.6 3.7%


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Accelerated growth in electricity demand in Israel is expected to continue, asIsrael continues to increase its standard of living (see appendix for our macro-

economic forecast).

Assuming average weather, local demand for electricity will grow at an average

rate of 3.7% per annum, reaching some 159 million MWh by 2040. This growth

rate represents about a 2.2% annual increase in electricity consumption per

capita and 1.8% annual increase in electricity consumption per household. The

increase is mainly due to an expected increase in the standard of living,

increase in A/C penetration, increased water desalination and electrification of

the Israeli railway system.

The principal factors expected to affect growth are an increase in disposable

income, a decline in unemployment, an increase in real wages, continuing

growth in electrical appliance use, primarily air conditioners for heating and

cooling, and the continuing introduction of additional electrical appliances.


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It should be noted, that the decline in electricity demand in 2013 was primarilydue to the effect of unusual weather conditions, both in 2012 and 2013.

The summer of 2012 in Israel was about 20% warmer than average. Our

analysis shows that in the short term, elasticity of demand to substantial

changes in climate is about 0.15. As a result, the demand for electricity in 2012

increased in an accelerated rate of about 7.7%, which includes growth of about

3% above the trend to the effect of the extreme weather conditions that year.

On the other hand, in 2013, the summer was less hot than average and the

winter less cold than average. Overall, the climate in 2013 was about 30%

more comfortable than on average. As a result, the demand for electricity in

2013 decreased by 3.5% (instead of increasing from 2012's high levels by 1%

as expected). Therefore, the electricity demand in 2013, represents a level that

is about 4% below the "normal" level which would be expected under normal

weather conditions. As a result, assuming average weather in 2014, demand is

expected to increase by about 7.5%, which includes organic growth, and theeffect of the return to normal weather conditions.


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3.2 International Comparison

By international comparison, per capita electricity consumption in Israel is

similar to developed countries. Per capita electricity consumption to Israel is

similar to that of Germany, 23% higher than that of the UK, 15% lower than that

of Japan and Switzerland. It is still substantially lower compared with the US,

constituting only 60% of the US electricity consumption per capita.

However, because of weather conditions in Israel, higher electricity

consumption is expected, and the comparison the countries which have little

use for air conditioning is irrelevant.

Electricity Consumption

KWh per Capita, 2012

According to our forecast, per capita electricity consumption in Israel should rise

by some 2.5% in the coming decade and by some 2% in the next two decades

until 2030. These growth rates are higher than growth rates in various other


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industrialized countries. In the U.S. for example, per capita electricityconsumption has grows at a rate of 1.2% per annum and the Department of

Energy forecasts growth of less than 1% in the coming decade. However, the

intensity level of electricity use in Israel is still substantially lower than

customary in western countries, due to a gap in per capita income and

consumption (in addition to climatic differences).

Electricity Consumption per Capita

International Comparison, 2012

Average Temp.

(degree C)Electricity Demand per Capita

JulyJanuaryCommercialPublic & otherIndustryResidentialTotal

4.23.14.411.7USA

21.011.03.21.22.46.8California

29.57.05.13.65.314.0Texas

4.83.55.613.9US "SunBelt"

Avg.24.0-4.13.93.23.510.6Michigan

28.012.02.51.51.96.8Israel

2013

4.22.34.111.7Israel

2040

International comparison of electricity consumption per capita indicates that the

two main factors that determine electricity demand are income (gdp/capita) and

weather conditions. Electricity demand in the US "Sun-Belt" states such as

Texas, where weather conditions are similar to Israel, is more than twice as

high compared to Israel. This gap is a result of Israel's economy lower income

levels, which cause lower penetration levels and usage intensity of electricity

appliances like air conditioners, cloth dryers, dishwashers, etc.


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Comparison of the consumption in Texas to other US states with hot climate(the "Sun Belt" States) clearly indicates that the usage level in Texas is

representative of other states with similar climate. All the hot climate US

continental states (except Nevada) have Air Conditioning penetration of above

90% and residential electricity consumption of 5,000 KwH or more. Nevada's

residential electricity consumption is 21% less than the average US states, but

Air Conditioning penetration there is also 25% lower.

Electricity Consumption in US "Sun Belt" States

ResidentialKwH/Capita

TotalKwH/Capita

AirCon HHPenetration

Georgia 5,409 13,204 97%

Arkansas 6,073 15,889 98%

South Carolina 6,005 16,466 94%

Alabama 6,353 17,873 98%

Oklahoma 5,979 15,555 98%

Nevada 4,394 12,751 71%Mississippi 6,028 16,211 98%

Louisiana 6,525 18,412 98%

Texas 5,273 14,024 96%

Arizona 5,024 11,454 91%

Florida 5,804 11,423 96%

Total US "Sun Belt"States

5,604 13,905 94%

Israel clearly shows similar usage patterns to the US "Sun Belt" states, althoughdue to the currently lower standard of leaving, a saturation level has not been

reached yet. In 2013, air conditioning penetration in Israeli households was 81%

(compared to 76% in 2010). We forecast both penetration and usage levels to

increase to levels similar to the US hot states, along with the increase in


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standard of living. Electricity consumption per capita in Israel in 2040 is forecastto be 15% below the average consumption in US Sun Belt states.

Our analysis indicates that the main factors that affect electricity consumption

are standard of living and climate. In cold countries, electricity consumption

tends to be lower, because of low air-conditioner penetration and usage rates,

and usage of other energy sources (natural gas or fuels) for heating rather than

electricity.

The weather in Israel is similar to the weather in the US "Sun Belt" states.

Compared to Houston Texas, Tel Aviv has 15% less cooling degree days and

7% less heating degree days. When comparing to the US "Sun Belt" States we

have accounted for the effect of weather differences on cooling and heating

electricity demand, as well as for the effect of Israel's smaller houses but larger

households.

Based on these adjustment factors, electricity demand per capita in Israel in

2040 is expected to be 15% less than the average US "Sun-Belt" states today.


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Similarity between the weather in Israel and Texas

Tel Aviv, Israel Houston, Texas


2040 forecast: 11,700 14,024

Cooling Degree Days (CDD >22 OC)

841 990

Heating Degree Days (HDD


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Comparison of electricity demand per capita in Northeast USA and WesternEuropean countries with similar weather clearly indicates that there is no

substantial "cultural gap" between the US and Europe in terms of electricity

consumption per capita.

Electricity Consumption per capita (kWh per capita per year)

Western Europe vs. North Eastern USA

W. Europe, 2011 North Eastern US, 2012

Austria 8,356 New Jersey 8,482

Belgium 8,021 Massachusetts 8,323

Switzerland 7,928 New Hampshire 8,230

France 7,289 Connecticut 8,226

Germany 7,081 Rhode Island 7,339

Netherlands 7,036 New York 7,315

Average 7,619 Average 7,986

The table on the next page compares the weather conditions in Vienna and

Boston. It clearly illustrates that both cities have similar weather conditions, and

similar electricity consumption.

Therefore we believe that weather conditions, along with standard of living, are

the main factors that determine electricity consumption.

Therefore, the US "Sun Belt" states, which have weather conditions similar to

Israel, are the most relevant benchmark for Israel's long term electricity

demand potential for 2040, when Israel's standard of living is forecast to be

beyond the level in the US and Europe today.


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Similarity between the weather in Austria and Massachusetts

Austria (Vienna) Massachusetts (Boston)


8,356 8,323

Cooling Degree Days (CDD >22 OC)

144 212



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Although the average temperature in Queensland, Australia is similar to Israel,analysis of the variance in weather conditions, indicates that the weather in

Queensland in considerably less hot than Israel (and the US Sun-Belt states).

Queensland has almost 50% less cooling degree days than Tel Aviv, and 8%

less heating degree days. As the chart below clearly shows, while in Israel on

August on average 29% of the hours are considered hot climate (29 C or

above) in Queensland's hottest month less than 3% of the hours are hot (29 C

or above).

As a result, despite the fact that the standard of living in Queensland is much

higher than Israel today, air conditioner penetration in households in

Queensland is about 10% lower.

Thus we believe that in order to use the electricity demand in Queensland

Australia as a benchmark for Israel's electricity demand potential, the demand

has to be adjusted to reflect the fact that Israel has more than twice as muchcooling degree days. The result would be similar to the demand in the US "Sun

Belt" States.

Electricity Demand Indicators

US "SunBelt" States,

2013

QueenslandAustralia,

2013

Israel,

2013

Israel,2040

forecastCooling DegreeDays (>22C)

990 440 840

Air Conditioner

Penetration inhouseholds,

95% 72% 81% 95%

GDP / Capita(US $)

$50,000 $65,000 $34,000 $55,000

ElectricityConsumptionper capita(kWH/ capita)

13,900 KwH 12,700 KwH 6,800 KwH 11,700 KwH


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Queensland Australia has significantly less hot weather than Israel

Tel Aviv, Israel Queensland, Australia


2040 forecast: 11,700 12,700

Cooling Degree Days (CDD >22C)

841 442



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According to our forecast, electricity consumption per capita in Israel isexpected to increase from 6.8 mWh in 2013 to 11.7 mWh in 2040, which

represent convergence to demand levels in the US "Sun Belt" States, adjusted

to Israeli household size and Israeli weather conditions. Based on our forecast,

GDP/capita in Israel is expected to reach $57,000 per capita in 2040 (in real

terms), 18% higher than the GDP/capita in the US today.

Electricity Consumption per Capita, Israel vs. USA

The rise of electricity intensity in Israel is due to lower GDP per capita, and is

characteristic of countries with lower income levels. As the economy grows,

electricity demand reaches saturation, and a further growth does not yield

proportional increase in electricity demand.


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3.3 Electricity Demand for Desalination

In recent years the water problem in Israel has intensified and at present all

water pumped from wells and natural sources is being fully (but not efficiently)

utilized. Demand for water is expected to increase in the coming decade, with

total supply of potable water remaining steady (1.4 billion m 3), requiring further

increase in desalination capacity.

According to the Economic Models water demand model, a growing deficit will

develop in Israel between water demand and supply. In 2020, excess demand

(including the Palestinian demand) is expected to require 750 million m 3 of

desalination capacity and 1,500m m 3 by 2040.

This forecast is made under the assumption that Israel will agree to allot some

500m m 3 potable water to the Palestinians as part of future arrangement.

Israel can obtain unlimited water supply, available at a marginal cost of some

$0.55 per m 3, by desalinating seawater. Since residential consumers are

already paying a marginal price of around $2 to $3 per m 3 (including distribution

costs within the municipal pipeline network), then there is no limitation to supply

all the residential demand (see table below).

The demand for electricity for seawater desalination is about 0.8 billion kWh in

2012, and is expected to increase to 5 billion kWh in 2040 (at 3.5kWh per m 3 of

desalinated water, based on reverse osmosis technology). It is assumed that

private producers will produce all the electricity for desalination, except for the

140m 3 desalination plant in Hadera which will purchase electricity (0.3 billion

kWh per year) from IEC.


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Israel Water Demand and SupplyIn million m3

Demand* Supply IsraeliResidential

demandper capita

NaturalSources

Desalination

2013 1,704 1,334 410 92

2015 1,790 1,357 590 99

2020 2,018 1,357 740 115

2025 2,315 1,357 960 1152030 2,665 1,357 1,305 115

2035 2,770 1,357 1,415 115

2040 2,882 1,357 1,522 115

*Israeli demand plus allocation of 50 million m3 to Jordan, and 50-500 m3 to the Palestinians

Electricity Demand for Seawater Desalination

Mil. CubicMeters of

Desalination

Electricityfor

Desalination( Bil. KWh)*

GasDemand for

Desalination(BCM)*2010 288 0.54 0.1

2011 300 0.8 0.1

2012 300 0.8 0.2

2013 410 1.0 0.3

2015 590 1.7 0.3

2020 740 2.3 0.5

2025 960 3.1 0.7

2030 1,305 4.3 0.9

2040 1,520 5.0 1.0

*Excludes desalination in Hadera (300 mil kWh/year which is supplied by IEC).


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3.4 Demand for Electricity in the Palestinian Economy

Electricity consumption by the Palestinian economy has risen in the past

decade at an annual rate of about 5%. The growth stemmed from a rising

standard of living and electrification of the Palestinian economy

In the longer term, assuming that the peace process between Israel and the

Palestinian Authority will continue and in the positive path the parties will reach

a partial agreement, accelerated economic development can be expected in the

Palestinian Authority.

In these circumstances continued accelerated growth is expected in electricity

demand in the coming two decades at annual rates of 6% to 5%. Per capita

electricity consumption in the Palestinian economy in will reach in 2030 only

20% of the consumption in the Israeli economy.

We estimate that with the utilization of natural gas in Israel, the Palestinian

economy will act to separate its electricity generation from that of Israel. Thus,

we assume that within 10 years, the Palestinian Authority may generate all its

electricity needs by means of natural gas from Gaza or Israel.


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Therefore, if the price changes are only temporary, the effect on demand isrelatively small.

Electricity Price Elasticity Estimate

Demand reduction in response to a permanent 10% increase in electricity prices

Cumulative Electricity

demand changeYear 1 -0.8%

Year 2 -1.6%

Year 3 -2.3%

Year 4 onwards -3.7%

The following table illustrates the effect of a permanent 10% increase in

electricity prices in 2012 over the years. The longer the price increase is

maintained, the higher the effect on gas demand, due to gradual adjustmentperiod in the demand response on the one hand, and the increased share of

gas in the electricity generation on the other hand.


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Gas Demand Sensitivity to

Electricity Prices

Low Prices

Base HighPrices

Increase inelectricity prices

-10% 0% 10%

Average annualincrease inelectricity demand

3.7% 3.6% 3.5%

Electricity Demandin 2040, Bil. KwH

146 14 2 138

% change inelectricity demandvs. base case, 2040

+3.0% 0% -2.8%

Natural GasDemand 2013-2040in BCM

518 499 479

% change in gasdemand vs. basecase, 2040

3.8% 0% -4.0%

In case of a permanent increase in electricity prices of 10% in real terms,

electricity demand is expected to decrease by 3%, causing the overall gas

demand to decrease by about 3%.

The gas demand sensitivity to increase in prices, is less sensitive than the

overall electricity demand sensitivity, because the demand for gas as a

replacement for coal is not sensitive to electricity price changes.


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4 Electricity Supply Forecast


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4.1 Introduction

Generation capacity forecast is based on existing policy, to maintain an excess

production capacity margin of 10%-20% (of gross generation capacity). On the

average, this excess capacity is not used, thus it is clear that it is economically

efficient to build this reserve capacity using a technology that is characterized

by low investment costs and fast startup time, without sensitivity to energy

costs. Reserve capacity will therefore be maintained using Open Cycle units

(typically older units which have even lower thermal efficiency).

Israel Electricity Generation Capacity Forecast by Fuel

In MW

2013 2017 2020 2030 2040 CAGR

Coal / dual gas-coal 4,840 4,840 4,840 6,100 6,100 0.8%

Gas 7,520 11,778 13,003 16,523 21,717 3.9%FO/Diesel

1,170 1,170 1,170 1,170 1,170 0.0%Renewables 250 514 1,381 5,541 7,608Nuclear - - - 3,600Total Capacity 13,788 18,302 20,411 29,334 40,200 4.0%

Our long term electricity generation capacity forecast is based on an

assumption of economic efficient optimal construction plan. This is a synthetic

assumption, based on yearly optimization of electricity generation capacity. In

practice, investments in generation capacity are done in discrete steps, andmay be postponed for technical, financial or administrative reasons.


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Plant operating decisions are made based on variable costs, which aredominated by fuel costs. Plants are generally dispatched (started and run) to

serve loads based on production costs in what is called merit order, i.e., lowest

production costs first. That way the least expensive plants run the most,

minimizing production costs and thus minimizing total electricity costs.

Our baseline assumption is that existing coal units (either fulled with coal, or

gas at coal replacement prices) are used as baseload units, and are dispatched

before any other gas-fuelled units.

4.2 Coal to gas conversion

The Minister of National Infrastructures announced on August 1st, 2011, his

decision to convert four of the six coal-driven turbines at the Orot Rabin Power

Station to natural gas turbines with coal as back-up.

The conversion of coal units to dual fired gas/coal has several advantages to

the Israeli economy:

It allows Israel to utilize its local gas resources as an alternative to

imported coal.

Backup coal generation capacity avoids the strategic risk of

reliance solely on gas for electricity generation

It enables the reduction of emissions (SOX, NOX and CO 2) at

reduced costs


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Potential Electricity Generation CO 2 Emission Reduction

Through coal to gas conversion

Millions of tons Existing Full Coal to Gas

Conversion

Reduction

Coal Units 30.2 17.3 -43%

Gas Units 6.6 6.6 -

Other units 3.4 3.4 -

Total 40.2 27.3 -32%

Potential Electricity Generation SO X Emission Reduction

Through coal to gas conversion

Millions of tons Existing Full Coal to Gas

Conversion

Reduction

Coal Units 85.8 0.7 -99%Gas Units 0.3 0.3 -

Other units 2.6 2.6 -

Total 88.7 3.6 -95%

There has been a formal decision to convert 4 coal units with a total capacity of

1,400 MW from coal to gas. Although no formal decision has yet been made for

the conversion of the other 6 coal units (3,400 MW) to gas, we are fully

convinced that this a must! The strong economic incentives to all the relevant

parties to make the conversion from coal to gas will force the parties (and

especially the government) to find a "saddle point" gas price within the range so

that each side will be better off. We estimate the full government's direct profit

from coal to gas conversion is above $ 3 per MMBTU.


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It is easy to show that conversion of all the existing coal units to dual fuel(gas/coal) gas has significant benefits to the gas providers and to the Israeli

economy. But the most important part of this conversion is the benefit of the

government that receives (as direct taxes) 60% of the profit from the additional

gas sales and 0% revenues from import of coal. Because Israel has excess gas

supply we are fully convinced that long term gas contracts, for all the coal units,

ensuring a competitive gas prices relative to coal will be reached.

Therefore, due to these economic advantages, we assume that the conversionof Israel's 10 coal units to gas in 2018-2020, along with Leviathan entrance to

the market.

4.3 Project D

Israel, as an isolated and small economy which faces security threats, has

made a strategic decision to prevent dependence on a single source of energy

for electricity production. Therefore, despite the government's efforts to restrict

Israel Electric's capacity expansion, the government reform plan includes

authorization for Israel Electric to build its next dual fuel coal/gas unit "Project

D" (under the condition of 51% investor in the unit). Project D is planned for

2022 as a dual fuel coal/gas unit that will be fueled on gas, with coal as a

backup fuel for emergency periods. Project D's strategic importance is that it

will allow Israel to cont

chen herzog - natural gas delek

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