Next Wave Of U.S. LNG Projects Lurks But Market Fistfight Is Inevitable

No matter which liquefied natural gas (LNG) market data source you rely on, an indisputable common fact is likely to stand out – the incremental volume of U.S. cargoes heading overseas. Much of the flow is in the general direction of Asia as the Henry Hub price languishes around $3 per million British thermal units (btu); a fourth of the two-month high price of $11.40 per million btu noted in August by industry contacts in Singapore.

In 2017, U.S. LNG exports quadrupled to 1.94 billion cubic feet per day (bcf/d) from 0.5 bcf/d in 2016, a figure that information aggregator S&P Global Platt's expects would be "comfortably beaten" this year when the full-year data is with us.

That's despite the fact that a possible trade war between the U.S. and China could see Beijing slapping 25% tariffs on American LNG cargoes. Exporters won't comment on their negotiations with Asian buyers in light of the development, but few industry insiders in Houston, Texas appear overtly concerned.

Most Asian markets, including Japan, currently the world's largest importer of LNG, have ditched their restrictive destination clauses that would enable swap and exchange of cargoes, which could be deployed to mitigate tariffs and keep the lawyers busy.

While China remains the big prize, U.S. LNG shipments have left for nearly 30 destinations this year from the industry's poster export facility – the Sabine Pass liquefaction terminal on the Texas/Louisiana border, owned by Cheniere Energy (NYSEAMERICAN:LNG). Until April, it was the only U.S. LNG export facility in the country, before Dominion Energy's Cove Point LNG Terminal, in Maryland, entered commercial service that month.

With gazing at Sabine Pass – which dispatched its first cargo to India's lucrative market in March – well and truly over, the rush is apparent for the next wave of LNG export terminal projects. A staggering 15 proposed projects are awaiting FERC approval, with most in pre-application phase and a couple in pre-filing stage.

Giving an indication of the scale of ambition of these aspirants is the 3.6 bcf/d capacity Rio Grande LNG project in Brownsville, Texas, being fronted by NextDecade (NASDAQ:NEXT) and Tellurian's 4 bcf/d project in Calcasieu Parish, Louisiana(see map below).

Away from the aspirants, five projects, including Cheniere Energy's own 2.14 bcf/d Corpus Christi LNG project in Texas, approved by FERC are under construction, and another four have been approved but are not yet at construction stage. Add it all up and the sheer number of American terminal projects hoping to find their place in the LNG market appears stupendous on paper.

David Lang, law firm Baker McKenzie's Global Head of LNG, says several of these early stage projects may never get built because FERC permit applications aren't going to be the drivers of what is going to be built nor should they be interpreted as an "accurate barometer" of market direction.

"The determination is going to be who gets the market, who gets offtake agreement and that is the challenge right now."

In simple terms, an offtake agreement is inked between a resource producer (i.e. natural gas in this case) and a buyer to purchase (or sell) agreed portions of the producer's future production.

Lang adds: "The entry of the U.S. as a marginal producer has changed the game. But it's easy to get caught up in the market euphoria and forget that U.S. exporters are not the only game in town. American exports are (and will be) toughing it out with Australian and Qatari exports. It's extremely challenging to get long-term high volume offtake agreements to support the construction of these facilities.

"You get little pieces here and there. Buyers aren't as willing to sign-up to long-term deals right now [compared to the past], and sellers cannot support their projects on short-term deals. Additionally, while timely offtake agreements remains the key driver, other factors also come into play."

For instance, LNG projects in Louisiana and Texas don't generally face the same level of regulatory risks as those planned other states do, Land notes. The additional legal burden beyond the two prominent coastal oil and gas states could result in higher project lead time and capital costs if globally competitive exports is what we are talking about.

Merely five years ago, Japan, South Korea and China collectively made up two-thirds of global LNG demand. Exporters Qatar, Australia and Malaysia, collectively met around two-thirds of global demand. In the main, the importers mix hasn't altered much, except that China has overtaken South Korea as the world's second-largest LNG importer, and will in all likelihood overtake Japan as well in the not too distant future.

But U.S. cargoes are now aggressively competing with Qatari and Australian ones, and with S&P Global Platts Analytics opining that 75% of the world's LNG demand growth to 2040 will come from Asia, that is the market where LNG battles would be won and lost. The fact is not lost U.S. terminal project sponsors and financiers.

Andy Steinhubl, Principal (Corporate Strategy) at KPMG, says even if all the proposed projects are permitted, the U.S. will reach on the order of one-third of the export market in the early to mid 2020s time-frame.

"The cost basis of additional U.S. exports will likely be above existing export leaders such as Qatar and Russia. But the question is competitiveness versus other marginal/new sources of LNG supply such as in offshore Africa, as well as whether the globally widespread availability of low cost natural gas accelerates the displacement of higher carbon emission coal-fired power, and hence expands the market."

Sufficiency of U.S. reserves to support existing and additional liquefaction projects is not under dispute, but the wider picture is much more complicated, the KPMG expert adds.

"On the supply side, pipeline infrastructure will need to be put in place to move gas from the wellhead to liquefaction and export facilities. So while permitting time-frames have reduced on the liquefaction side under the current White House, questions remain as to whether pipelines, which involve more local constituencies, will fare as well.

"There is also the continuing question as to whether fracking and the associated demands on water, roads, power and other infrastructure will be allowed to continue to expand."

But the exuberance of project drivers is not to be trifled with, and many remain upbeat about their prospects. Patrick Hughes, Head of Investor Relations at NextDecade, which is fronting Rio Grande LNG, says his team is actively engaging with potential Asian clients.

"We remain on track for our Final Investment Decision in 2019 to meet commercial deliveries by 2023. To this effect we have opened offices in Singapore and Beijing as hubs to serve Asian buyers."

Hughes also subtly points out that NextDecade, like many of its peers, is hoping to build a "new generation" of LNG export facility predicated on process efficiencies and technology. At early development stage, specifics are hard to come by, but NextDecade has partnered with automation giant ABB's Oil & Gas division to build an "ecosystem to take advantage of unprecedented amounts of data and information."

ABB Americas President Greg Scheu says its platform that is being adopted by project partners will turn raw data into analytical insights and direct action from a site control perspective. "At [Next Decade's] Rio Grande LNG facility we will be applying our solution [ABB Ability] from the project into operational phase for improved commissioning time, costs savings and long-term operational savings.

"Control room technology is at the heart of our ability to "close the loop," turning data drawn from numerous sources into immediate process decisions that can generate significant value and improved efficiencies on a real-time basis. Leveraging digital technologies would bring demonstrable 20-30% savings on both capital and operating expenditure."

Rival vendors such as Honeywell, Yokogawa and Emerson say they are in on the competitive act too, with multiple project sponsors and Engineering, Procurement and Construction (EPC) contractors, to optimize project design and improve project execution efficiencies across LNG facilities.

Lang of Baker McKenzie says efficiency gains will ultimately come into view. "But not when projects are in their infancy and planning stage. Innovation is going to drive project costs down but it has certainly not been as dramatic as most would hope.

"Furthermore, if you are seeking changes in technologies that are really step changes, the question is [how] can you get that tech financed, unless you are equity financing. Of course, costs are getting pushed down as there is lower demand for EPC contractors' services stateside compared to five years ago."

As for the market, given its recent uptick in natural gas projects, Australia will be overtaking Qatar as the world's largest LNG exporter fairly soon, with more than 80 million tons per anum (mtpa) of liquefaction capacity down under. With U.S. exporters in the mix, Qatar has vowed to increase production capacity from 77 mtpa to over 100 mpta by 2022-23.

Ultimately, whichever way you look at it – the fistfight for offtake agreements, both within and beyond North America, would determine which U.S. LNG project makes it or not. Its highly likely many will not.