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Some Negative Factors:
1. Political Decisions: A significant increase in domestic production would make LNG less profitable. If higher energy prices persist and hinder economic improvement, it could put pressures on the US government to open restricted lands.
Many communities do not want LNG facilities in their neighborhood. Losing new development decisions would cause a short term drop in valuation of certain LNG companies. Cheniere Energy watched its stock fall over 10% when the Audubon Society objected to their plans to build a new LNG project in Texas.
Stabilization of Middle Eastern crude supply and lower crude prices could also drag natural gas prices down.
2. Volatility: Not only have natural gas prices increased, but so has the volatility. This volatility makes investment in energy service companies less attractive to long term buy and hold investors. Instead, they attract hedge funds and short term traders, which only add to the volatility. This makes market timing even more important when looking to pick up shares.
3. Investing in future revenues: Cash flow from new LNG projects will not be seen until later this decade. We should not expect to see added gas supply from most proposed projects until 2006 or later. This means that gas prices and market conditions must stay favorable to make LNG investments worthwhile.
This year we could see an immediate increase in expansion of current facilities. U.S. LNG regasification capacity is 1.2 Tcf/year, which could grow 40% to 1.7 Tcf/year from expansion of existing capacity, represents 6%-7% of US demand. US LNG imports in �02 were at 252 Bcf (1% of total consumption and 21% of total regasification capacity).
Introduction to Niche LNG players
We have looked at a number of companies leveraged to the LNG space which are poised to capitalize on the forthcoming natural gas environment. There are few LNG pure-plays available to US equity investors. Many of the terminal developments worldwide are being spearheaded by large energy conglomerates and/or companies unavailable to US investors. All four US regasification sites are operated by large conglomerates. Owners are (Tractebel (Everett, MA), El Paso (Elba Island, GA), Southern Union (Lake Charles, LA) and Dominion (Cove Point, MD)).
Our first investment idea focuses on companies responsible for the development and construction of the terminals where returns are more immediate and cash flows less risky.
CBI (Chicago Bridge & Iron)
Chicago Bridge & Iron is a global engineering, procurement, and construction company providing a complete end-to-end solution from design to build. They serve customers in the hydrocarbon refining, natural gas, water, wastewater, metals/mining and the energy/power sectors. Projects include hydrocarbon processing plants, LNG terminals and peak shaving plants, water storage, treatment facilities, and maintenance.
CBI is very experienced in the LNG arena, having built over 40 LNG terminals and peak shaving plants during its lifetime. Currently six LNG projects are in the pipeline (including expansion of the Lake Charles, LA facility), totaling approximately $600M in revenues and representing roughly 40% of CBI�s business. Further supporting the strength of its current LNG backlog, CBI has identified thirty to forty LNG opportunities worldwide with revenue potential of $2.5B - $5.0B.
The majority of the company�s contracts are structured as lump sum fixed-price such that costs overrun risk. With an average of 27 years of experience among its senior management team, it is a safe bet that projects will continue to be structured profitably. CBI better control labor costs by hiring directly, rather than contracting out.
Not a pure-play on LNG, CBI represents an excellent way to gain exposure to the industry. CBI�s other businesses offer steady growth rates and risk to any one country is mitigated by the company�s geographic diversity. The steady nature of CBI�s existing business combines well with long-term LNG potential. With $1.6B in backlog on $1.5B-$1.6B in expected 2003 revenues and a history of beating its estimates, CBI deserves a premium multiple. Assigning a 20 multiple (or 1.25 PEG on expected 16% long-term growth rate), to 2004 analyst�s estimates of $1.62, gets to an achievable $32.50 in the next six to nine months.
GLNG (Golar LNG)
Norwegian-based Golar LNG is much more of a pure play when it comes to LNG exposure. Manning a fleet of seven LNG carriers (six 100% owned and one with 60% interest), GLNG is heavily focused on transport of LNG. Primary shipping routs are from Indonesia to Taiwan and from the Middle East & Atlantic Basin to ports in US and in Europe. The company has further aspirations of vertically integrating along the LNG supply chain.
Strong visibility in its business is evident in its lengthy shipping contracts, with expiration ranging from �06 to 2024. Average fleet age is 12.9 years with average capacity of 127,000 cbm. Annual charter rates range from $15.3M to $31M, with the average annual fleet rate standing at $21.5M. In addition to operating its own fleet, the company provides management services to 3rd party carrier owners. The majority its of revenue is generated from three major customers: Methane Services Limited (6% of �02 revenues, and subsidiary of BG), Pertamina (53% of �02 revenues, and a state-owned oil and gas company in Indonesia) and National Gas Shipping Company (provides LNG shipping services to state-owned Abu Dhabi National Oil Co).
Recently GLNG has made headway in its vertical integration efforts. In February of �02 the company entered a joint development arrangement headed by Marathon Oil to construct and operate a major LNG import facility in Baja Mexico. In May �02 Mexico�s Energy Regulatory commission awarded a gas-storage permit to a Marathon Subsidiary for construction of an LNG facility located in the Tijuana area. Expected start-up for the project is �06.
Golar�s build out of new LNG carriers next year and a half is another positive. Just recently they took delivery and began servicing a new 138,000 cbm vessel contracted at a $24.5M annual rate. Three vessels are scheduled for completed in �04 with two others slated for an �06 launch. None of these three carriers are chartered yet, but the expectation is that the fleet will be contracted before delivery. Assuming that these vessels are contracted at a $22M-$24M annual rate, 2004 revenues could see $200M making EPS in the $.95 range (based on our cost expectations). At only $11.74, Golar could be a steal if we assume shares can trade upwards of a 20 multiple (in-line with a realistic growth rate of 20%). Estimates could be even higher if we see the spot market develop and a favorable natural gas conditions continue.
The capital-intensive shipping business in an uncertain developing LNG market makes Golar not suitable for the risk averse, however, Golar deserves strong consideration for an investment in the LNG space.
LNG (Cheniere Energy)
Cheniere is the only pure-play publicly traded regasification terminal operator in North America. Several larger companies (e.g. Sempra, Shell and Marathon) expect to bring LNG projects online by �06/�07, however, they are not driven by heightened expectations for the LNG market since LNG opportunities only comprise a modest percent of their revenues. If strong LNG market conditions continue Cheniere Energy will reap huge rewards.
Cheniere holds a small portfolio of E&P assets as well as interest in LNG terminals. LNG has a 9.3% interest in Gryphon Exploration Company. Gryphon has 30 Bcfe of proved reserves (NPV-10 of $107M), and 30MMcf/d of production. Cheniere Exploration Company has 1.3 Bcfe (NPV-10 value of $5.1M) of proved reserves with 3 development and 8 exploratory wells expected to be drilled in �03. In addition, Cheniere holds 9.3% interest in Gryphon Exploration, which has 30Bcfe of proved reserves (NPV- 10 of $107M), and 30MMcf/d of production. While these properties will provide immediate revenues, the primary objective for Cheniere is to develop LNG terminals.
Currently, Cheniere has four terminals in development. The first three are expected to be completed in 2007 and the fourth is in preliminary planning. Of these projects, Freeport LNG (Cheniere has a 30% interest) is projected to be first in service by �07. It is expected to have 1 dock, 2 tanks, and a 1.5 Bcf/d send-out capacity. Corpus Christi LNG, of which Cheniere has a 66.7% interest, has 2 docks, 3 tanks, and a 2.6 Bcf/d send-out capacity. The Sabine Pass project is 100% owned and will have 2 docks, 3 tanks, and a 2.6 Bcf/d send-out capacity. The Brownsville LNG project is 100% owned and is currently under study.
Development costs of a new terminal typically cost between $400M and $500M and have capacity costs of $.30-$.40/MMBtu. The terminals operate as a tolling facility where tenants pay a fee per MMBtu. A variable fee structure can be arranged for spot use. Returns are expected to be in the 20% range, so once the terminals are built and contracts secured, profits will follow.
Work on the Freeport project has already started even though additional funding will be needed to complete it. Cheniere filed with FERC in March of this year and received a letter of intent with Dow Chemical for 500 MMcf/d. Construction is expected to begin at the end of 2004 and service slated to start Dec �07.