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Contracting challenge threatens LNG investment

02 Mar 2018 17:29 GMT
Contracting challenge threatens LNG investment

A mismatch between the duration, size and flexibility of supply contracts sought by buyers and sellers is holding back projects

London, 2 March (Argus) — Shell has used its latest LNG Outlook to sound a familiar warning about a potential supply crunch in the 2020s, if producers fail to commit to new projects soon. But the company is confident that the sector will overcome the challenges that are blocking an investment revival.

Shell thinks the barriers to investment have shifted. Many prospective LNG developments are now viable at prevailing oil and natural gas prices, because of falling costs and efficiency improvements. But a "mismatch" between the duration, size and flexibility of supply contracts sought by buyers and sellers is holding back final investment decisions, Shell says. "There are competitive projects that are not being sanctioned," executive vice-president for gas marketing and trading Steve Hill says. "What we see is a contracting challenge."

LNG producers tend to rely on high-volume, long-term contracts to secure financing for their plants. But a push towards deregulation in downstream gas and power markets has made buyers increasingly reluctant to purchase LNG on a long-term, fixed-volume basis. "This is a risk allocation challenge, which is different to what the industry faced in the past," Hill says.

The solution to the stalemate will involve compromise on both sides. And trading firms and large "portfolio players", such as Shell and Total, will have to step in and bridge the gap, Hill says. "Our expectation is that the industry will solve this problem, and new projects will be developed."

Developments in the US, Canada, Russia, Africa and Papua New Guinea are among those vying for investment. But few of them can compete on costs with Qatar, which plans to raise its LNG capacity by 30pc to 100mn t/yr. Shell, ExxonMobil and Total are interested in participating in the expansion. "Qatar is in a perfect position," Total chief executive Patrick Pouyanne says. "When you rank LNG projects by efficiency, by cost on the curve, Qatar has huge amounts of gas, and it is really easy to produce."

Shell's rallying cry for fresh investment in liquefaction capacity stems from a characteristically bullish outlook on LNG demand growth. It expects consumption to climb by 4pc/yr to 2035, with Asia-Pacific accounting for 55pc of the increase. Policy actions, including coal-to-gas switching initiatives in China, are helping to support long-term LNG demand.

But output from existing projects and developments under construction can only accommodate this rate of growth until the mid-2020s, Shell says. Two projects in Indonesia and Mozambique, with 7mn t/yr of combined capacity, secured final investment decisions in 2016-17. This compared with approvals totalling almost 60mn t/yr in 2013-14.

Going global

Global LNG trade exceeded expectations last year, rising by 29mn t to 293mn t. New US and Australian capacity came on stream as expected. But production growth was around 30pc higher than forecast at the start of 2017, as projects in Angola and Nigeria performed better than in recent years. The market "comfortably absorbed" the increase in supply, owing to higher consumption in north Asia and southern Europe, Shell says.

Widespread predictions that a wave of US and Australian projects will result in an oversupplied market have yet to materialise. This is mainly because demand growth is now "less transparent" than rises in supply, Shell says. The arrival of floating storage and regasification units, which can be brought on stream at a lower cost than onshore terminals, has reduced the "barriers to entry for new markets", Hill says.


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