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Shell (RDS.A) and Tokyo Gas LNG Deal Is Unique: Here's Why

Zacks Equity Research
The current Zacks Consensus Estimate for Royal Dutch Shell's (RDS.A) Q1 EPS is pegged at $1.05 per share on revenues of $83 billion.

Royal Dutch Shell plc RDS.A and Tokyo Gas Company Limited recently inked a long-term liquefied natural gas (‘LNG’) deal, in accordance with an innovative purchase pricing formula that is partly based on coal indexation. Per the deal, the integrated energy super major, which carries a Zacks Rank #2 (Buy), will supply 500,000 tons of LNG annually to the Japanese utility firm, Tokyo Gas,for a period of ten years starting April 2020. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Linking Gas Prices to Coal: First of its Kind

The deal is worthy of attention because of the usage of coal-index pricing for the LNG contract unlike the usual oil indexation or natural gas benchmark Henry Hub. Markedly, this move marks the first time a Japanese firm will be using a coal-based pricing formula for an LNG contract. While part of the supply will be based on coal indexation, the remaining will be priced off traditional oil and gas linked indexes.

The move of linking LNG contract to coal prices is more of a risk management strategy of Tokyo Gas. By diversifying its price exposure for LNG via coal indexation, the company will be able to better compete in its own power market that is dominated by coal. The deal allows Tokyo Gas to obtain a secured supply of LNG and stabilize the company’s cost exposure.

While LNG was historically linked to oil prices, the traditional price link to crude oil remained challenged, given rising U.S. exports and pricing against Henry Hub. However, of late, Henry-Hub based deals are getting less popular among buyers in Asia and Europe as the prices don’t reflect global LNG fundamentals and are driven by factors specific to North America.

Diversity in Pricing Options Gains Steam

The LNG2019 Shanghai meet saw increasing diversification of price indexation, with sellers coming up with novel ways to price the fuel. Notably, Tellurian Inc. TELL signed an agreement with TOTAL SA TOT to supply 1.5 million tons of LNG from its Driftwood project, at a price based on Japan-Korea as against the U.S. Henry Hub benchmark.

The growing diversity of pricing options in the LNG contract was witnessed when Shell recently inked a 20-year deal with NextDecade Corporation to buy 1.5 million tons of LNG per year, based on Brent oil benchmark as against gas indexation.

With trade negotiations progressing between the United States and China, all eyes are on the Cheniere-Sinopec deal. Cheniere LNG, being the largest LNG exporter in the United States, is in talks to ink a 20-year LNG supply deal with Sinopec, once the trade spat ends.

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TOTAL S.A. (TOT) : Free Stock Analysis Report
 
Royal Dutch Shell PLC (RDS.A) : Free Stock Analysis Report
 
Cheniere Energy, Inc. (LNG) : Free Stock Analysis Report
 
Magellan Petroleum Corporation (TELL) : Free Stock Analysis Report
 
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