Oscar Wilde once observed that there are two tragedies in life:
- one is not getting what one wants;
- and the other is getting it;
Developers of new, unsanctioned US-based LNG terminal projects are in a bind. And I don’t blame you if you harbor some concern for them. The US Gulf Coast and the gas business therein have a tormented history.
Most of today’s liquefaction terminals have begun their lives as something else. They are the remains of regasification projects. Those have become redundant with the advent of shale.
Those terminals are a fitting example of the adage “When you have lemons, make lemonade”. They are also a potent symbol of how the US eclipses all other countries. It’s the sheer ability to raise new ventures out of the ashes of their prior failings that sets it apart.
But the planned new LNG projects are very different beasts. They don’t carry the baggage of the prior failure in their project DNA. Bred to be pure export ventures, they will bring US LNG to the world. No deadwood, no legacies, no hangover. Only efficiency and export power.
But those new projects come with a serious impediment.
They need to bridge some very conventional requirements. And they need to do so in the new, madhouse LNG world.
Understand: contrary to many opinions, LNG is still a very old fashioned business. A large project needs some form of financial guarantees. Otherwise, lenders would not underwrite it.
An oil project would try to determine what the market for oil is going to be in the future. This enables them to develop a business plan for the project. The planning will take those assumptions and build an economic model. Armed with that, they go and search for money to realize their idea. And the finance world is happy with this state of affairs.
Not so in LNG.
In LNG you actually need off-take agreements covering a certain term. This term is never shorter than 10 years. They also feature a pre-determinable price that must be high enough. Whats high enough? The lenders want to be sure that the project earns enough money to reimburse them for their efforts.
This means two things. You need a creditworthy buyer for the LNG. This buyer then signs a contract forcing him to take or to pay for a certain amount of LNG per year. Deliveries on that contract will start no earlier than 5 years after signature or even later.
And now you will receive LNG volumes for much longer than 10 years while you cannot refuse to take it. The cherry on top is a price that’s high enough to always cover the cost of CAPEX, OPEX and a decent Rate of Return. This is a true straightjacket for a buyer. Buyers usually went for such deals as there was not much of an alternative.
But now LNG is in copious supply. And there is a vibrant spot market giving you as much LNG as you want on a moment’s notice. Asia is still the big magnet that attracts most of the premium volumes. That said, prices are still very low and getting a buyer to pay extra is challenging at best.
Not an easy situation.
The wet dream for every LNG project developer today is China. Its the strongest growing one of the big LNG markets. Almost all LNG professionals expect the country to expand gas use by leaps and bounds. This should happen to improve its appalling air. China’s gas market is the big price that everyone covets and pins his hopes on.
In comes the Trump administration and throws the world a trade standoff. It had brewed for years in the background into its hot phase. Years of effort by project developers evaporate. No offtake contracts with China, no access to the Chinese market and as a consequence, no project FID.
US LNG project developers suffer the first part of Oscar Wildes dictum. They did not get what they had wanted.
But, imagine they would have gotten what they wanted. Let’s assume that those projects would already have contracted with China. The project itself got underway and now China rescinds the contract because of the trade war. And the LNG project is already under construction. That’s like throwing a nuke into a pretty complicated situation.
New US-based LNG projects have 3 options now:
- they can give up;
- they can do nothing and hope that things would sort themselves out;
- they could look at alternative markets;
And there is a rather sizeable consolation prize on the horizon. The US internal market and the near abroad.
The US would use LNG that it aims to export right now. It would supply it to its own home markets and replace diesel. And the crude for diesel production is still partly imported.
According to the EIA, in May 2019, the US imported about 9,8 MMbbl/day of oil and exported around 8,2 MMbbl/day. This makes the US a net oil importer to the tune of 1,6 MMbbl/day of oil. This also corresponds roughly to the total oil consumption of the United Kingdom.
This imported crude oil represents a net financial loss of value for Americans. Hard cash needs to cross the counter as this crude comes from abroad. At the same time, LNG gets exported at lower prices than the import of crude costs. This is a net loss to the US economy and hence every single American.
Oil products also fetch a much higher price on the world market than LNG does. The most important price marker for LNG in Asia is the Japanese import price. It currently stands at 4,7 USD/MMBtu. At the same time, diesel fetches approximately a hefty 14,5 USD/MMBtu.
The reason is simple. Diesel use is much more ubiquitous plus diesel is a liquid at ambient conditions and hence easier to use. It’s also much dirtier as a fuel than LNG is.
Bringing LNG to Asia is expensive. All those new projects are close to where the gas is – on the US Gulf Coast. This means they are on the wrong side of the ocean. They need to cross the Panama Canal at great cost. Then the great transverse of the Silent Ocean starts. Do you want to know how long that takes? Houston-Shanghai passing through the Panama Canal takes more than one month. And this is a one-way trip. That’s a long expensive trip and the cost of it comes down from the sales price. Not much left on the table.
But North America has already laid down the seedlings for LNG fueling. What it needs to do now is expand on it. This lowers the price for the fuel that Americans use every day. It also makes America’s air much cleaner. And it also incites the development of a technological and logistical base. A base that is unrivaled in the world. The export of technology and know-how will generate extra profits great profit.
In the meantime, it would reduce imports and one day even make the US a net oil exporter.
But, let’s not forget about LNG exports altogether quite yet. Right on the doorstep of the US is a series of large and small countries. They would all appreciate flipping at least part of their portfolio over to LNG. This includes the entire Caribbean, Mexico, and Central America. It even goes as far as the northern coast of South America.
The June price for Natural Gas in Gas Region 4 of Mexico was 4 USD/MMbtu and Gas Region 5 closer to the Gulf was 3,5 USD/MMBtu. That’s a dollar shy of Asian level without this monster transport leg that will cost as much as this already. There is no Natural Gas in the far south of Mexico. This means that prices there will compete with diesel which is way more expensive than LNG too.
Developing the near abroad and the home market makes a lot of financial sense for any US LNG project. This, of course, means a lot of legwork. And the development of an undeveloped market is never easy and carries risks. But if your alternative is no project at all because of trade conflicts with China, you might well kiss the frog. It would transform into a handsome prince in time.
A new American age is nigh. How that – read the last episode of this 3 part series next week.
Image by 139904 from Pixabay