COLUMN-Asian LNG buyers' club faces harsh market realities: Clyde Russell

Reuters

--Clyde Russell is a Reuters market analyst. The viewsexpressed are his own.--

By Clyde Russell

LAUNCESTON, Australia, Dec 5 (Reuters) - The Asian liquefiednatural gas buyers' meeting this week to seek ways of gettingcheaper supplies would do well to look closely at the issuesfacing Santos Ltd's Australian project.

It is perfectly normal for top buyers Japan, South Korea,China, India and Taiwan to try and secure the best possibledeals for LNG, but this desire quickly runs headlong into someuncomfortable realities.

The importers of the super-cooled fuel are holding talks inNew Delhi to look at ways of lowering Asia's natural gas costscloser to those in the United States and Europe.

This nascent buyers' club will look at pressing for an endto oil-linked pricing for LNG, scrapping destination clauses insales contracts and generally making the market more liquid andtransparent.

All this sounds reasonable, especially from buyers that arefed up paying prices that are multiples of those enjoyed inother regions.

The current spot price of LNG in Asia is $18.85 permillion British thermal units (mmBtu), while front-month naturalgas in the United States closed Dec. 4 at $3.96 per mmBtuand U.K. benchmark gas was the equivalent of $11.90per mmBtu.

Obviously the Asian price includes the cost of liquefaction,which is round $5-6 per mmBtu, and freight, but even accountingfor those gas supplies are still far cheaper in other regions.

Are the buyers' hopes of securing cheaper LNG realistic ifthey do manage to present a united front to suppliers?

The reality is that buyers only enjoy market power whenthere is a surplus of product, something that doesn't exist inLNG in Asia, or where producers are making excessive profits.

While there is the general expectation that the wave of newsupply coming on stream in the next three to four years willdrive the market to surplus, there are reasons to be scepticalthat this will be a long-term structural change.

The issues revealed by Santos at an investor briefing onDec. 4 are a case in point.

Santos, Australia's second-biggest oil and gas company, saidit would have to spend more than $1 billion in additional coststo ensure enough gas for its $18.5 billion coal-seam gas-to-LNGplant at Gladstone (GLNG) on the country's east coast.

Santos needs more gas to feed the plant, and while thecompany said it would deliver its first cargo in 2015, it alsosaid the ramp-up to full production would take longer thananticipated.

Santos owns 30 percent of the project, while Malaysia'sPetronas and Total own 27.5 percent each. GLNG hasbinding offtake agreements with both Petronas and South Korea'sKOGAS for 3.5 million tonnes per annum over 20 years.

However, the LNG costs are now going to be higher thananticipated and this will impact on the project's returns.

What the Santos project shows is that LNG which the marketthought was locked into the supply chain is perhaps not quite assecure as thought.

LNG COST ESCALATION

Santos's issues won't necessarily be replicated at the twoother coal-seam gas projects in eastern Australia, but a commontheme among the new LNG projects is that they are experiencingcost overruns.

Given that these are multi-billion ventures, with the billfor Chevron Corp's conventional project off WesternAustralia state topping $50 billion, developers will bereluctant to grant lower prices just because buyers ask forthem.

The east of Suez LNG market may move into a small surplus in2017 and stay there for several years, according to consultantsFacts Global Energy (FGE).

To remain in surplus, though, new supplies are needed fromthe United States, Canada and Mozambique, FGE data show.

Here's the problem for Asian buyers: If they are successfulin driving down prices, then the projects that would deliver newsupply to maintain the surplus likely won't be built.

This is especially true for Canada and Mozambique, wherefinancing for projects will be hard to secure if there isn't thecertainty of high prices.

It's also true for U.S. LNG exports based on shale gas asthe costs will escalate dramatically for those projects if theyhave to start from scratch. Projects underway now are convertingexisting import terminals to export facilities.

This leads to the risk that the meeting of buyers is notmuch more than a public relations campaign that will achievelittle beyond media headlines.

It's hard to see disparate companies in countries withdifferent business cultures and different energy supply/securityneeds finding enough common ground to present an effectiveunited front to sellers.

It's also hard to see a viable spot market emerging in LNG,given the nature of the fuel.

LNG is costly to store and the longer it is stored the moregas escapes through burn-off. An effective trading hub wouldlikely need to be able to capture the burn-off and re-liquefythe gas, all of which adds to complexity and costs.

It still seems that the best alternative for LNG buyers isto continue down the path of becoming junior partners indeveloping new supplies.

The only other alternative would be to stop using as muchnatural gas and rely on other energy forms, such as coal andnuclear.

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